Texas Instruments Inc. (TXN or “TI”) has announced its intention to acquire National Semiconductor Corp (NSM - Free Report) for $6.5 billion in cash. Counter-bids look unlikely, given the 78% premium TI is willing to pay that most prospective buyers would shy away from.
The transaction is subject to the usual regulatory approvals (in this case across 10 countries). Therefore, it may not close for another six to nine months. We therefore do not expect much variation in estimates for the next few quarters, although estimates for 2012 are likely to go up. There is significant fragmentation in the market and competition is stiff, so regulatory approval is unlikely to be denied.
TI intends to operate National as a separate unit under its analog segment, which would then comprise high performance analog (HPA), high volume analog and logic (HVAL), power management and National Semiconductor. As a result of the acquisition, analog would account for around 50% of TI’s business.
The acquisition is expected to be accretive to TI’s earnings in the first full year of operation.
Rationale for the acquisition
We think the deal makes sense for TI for a number of reasons.
First, it gives TI a larger share of the analog market. TI was already one of the largest players with its 14% share and the addition of National brings another 3% for a combined share of around 17%.
Second, TI has for long been focused on the wireless side of the business and its analog chips are primarily focused on the communications and computing markets. With the acquisition of National Semiconductor, TI would be able to boast a well-rounded portfolio, since the industrial market (mostly power management devices) accounts for almost half of National’s revenue.
Also, while a significant portion of National’s business comes from mobile and communications markets, management of both companies were of the opinion that product overlap was minimal. The addition of the industrial business to TI’s portfolio is also a positive in terms of profits, because industrial applications typically generate higher margins.
Third, National’s sales force is much smaller than TI’s and the company’s innovative products have not been marketed effectively. The combined sales force is better equipped to carry out the function, so growth rates at National’s business should accelerate. This would mean higher growth rates for the combined entity, possibly enabling TI to replace the baseband business, which will be completely phased out by the end of 2012.
Fourth, National’s fabs (none of which are located in tsunami-affected Japan) are currently running at a 60%+ utilization rate, so there is sufficient capacity to generate additional revenue if the marketing effort is fruitful. TI has stated that there will be no requalification or obsolescence of parts, or part number changes, or even changes to National’s product roadmaps. This should be heartening for customers.
Fifth, identified cost synergies are around $100 million (annualized). While this is not a significant amount, it is something. Moreover, integration costs will be low, as TI will run National as a separate unit.
There is a flip side as well.
The greatest “negative” that immediately comes to mind is indebtedness. TI has so far had a pristine balance sheet. However, in order to fund the acquisition, TI would need to raise some debt (it has over $3 billion in cash and short-term investments and some available funds under a revolving facility). National also had a net debt position of $165.6 million at the end of its fiscal third quarter ended February. However, we are not overly concerned, since we expect the company to continue generating solid cash flows that would easily allow interest charges.
TI intends to focus on growth for the National business and for this reason it might decide to slash prices. National’s growth has been dwindling in the recent past, as the company stuck to its higher prices. However, if TI decides to take down prices to help growth, there would naturally be a negative impact on margins.
It will take 3-4 years for the return on capital invested to exceed the cost of capital. This is quite some time. Also, TI is banking on the National business growing at the same rate as TI’s, based on the belief that the TI sales force is now extremely effective at marketing analog products. If results fall short of these expectations, the payback period could stretch out. Given TI’s track record, we are not overly concerned about this.
TI’s intention to acquire rival analog company, National Semiconductor in an all-cash deal is likely to be beneficial for both companies, although synergies will largely be on the revenue side. Given the premium that TI has offered to pay, we expect the shares to be under some pressure in the near term. National’s share prices on the other hand will hover around the $25 mark that TI will be paying.
TI shares currently bear a Zacks #3 Rank, similar to analog peers Linear Technology Corp , Semtech Corp (SMTC - Free Report) and Analog Devices (ADI - Free Report) .