Can Freescale Swim Out Of Debt?
by Justin Dove, Investment U Research
Monday, August 29, 2011
Not many tech companies can live up to the storied history of Freescale Semiconductor (NYSE: FSL).
Freescale started in 1949 as a division of Motorola and is the grandfather of the semiconductor. Its semiconductors have been in everything from cars and computers to NASA spaceships and smartphones. Heck, it even had a hand in the Guitar Hero video games.
But when Freescale had an IPO in May it bombed. The underwriters anticipated a stock price of $22-$24. But just before the offering, Freescale lowered the value to $18 per share. It eventually fell to $14 a share two weeks after its IPO.
So why couldn't such a storied business generate more buzz? It has something to do with that nasty four-letter word… debt.
But to understand where Freescale is going, it's important to know where it's been...
Freescale Set Free, Then Gobbled Back Up
Motorola set Freescale free in 2004 to save on capital costs. For two years, Freescale had a successful run as a public company trading as high as $40 per share.
Freescale was generating about $1 billion a year in annual cash flow without much debt. Freescale's largest customers were Motorola, Apple (Nasdaq: AAPL) and the automobile industry. Motorola and the popular RAZR phone were doing well. Apple was using Freescale's PowerPC platform in its desktops and laptops and cars were selling like hotcakes.
So in 2006, a syndicate of private equity firms led by Blackstone Group performed what was hailed as the largest buyout of a technology company… ever.
The equity firms put up $7 billion and Freescale raised $10 billion through selling bonds to buy back all of Freescale's shares at a 36-percent premium.
"If you look back at 2006, that was the business model," Freescale CFO Alan Campbell said. "They could raise debt with fairly cheap interest rates, get a return and then take the company public at a later date."
Everything seemed to be going well for Freescale until late 2007. A confluence of events hit Freescale hard.
- The U.S. economy started to tumble into a recession.
- Demand for electronics and automobiles slumped.
- Adding to that, Motorola was losing a significant market share to Apple's iPhone.
Sales fell by 10 percent. The company's annual cash flow fell by $400 million and was barely enough to cover interest on the massive debt...
Freescale Digs Out of Debt
In early 2008, Freescale hired Rich Beyer as CEO. Since then, Freescale has taken giant steps to repay the debt:
- It began buying back some of their debt obligations. Within three months they eliminated $85 million.
- It lowered capital expenditures by 27 percent,
- It cut 10 percent of its workforce and closed a plant.
- In 2009, it shuttered its mobile division as Motorola was hit hard by declining sales.
- It converted $2.85 billion of debt into a priority loan of $924 million.
- Finally it raised $783 million in its May IPO.
The debt, which was well over $10 billion, is currently down to about $5 billion...
Strong Products, Sound Plan
The debt, despite being much more manageable, still keeps Freescale in the red each quarter, but revenues are on the upswing. The lack of profits is mostly why its IPO and stock haven't received much love.
And the debt is certainly a concern, but it looks like Beyer and Freescale are maneuvering quite well under pressure. Freescale was ranked 17 overall in terms of semiconductor supplier revenue in 2010. It topped names such as NXP Semiconductor (Nasdaq: NXPI) and Nvidia (Nasdaq: NVDA).
According to Gartner Research, Freescale is dominating the competition in wireless communications processors with 53 percent of the market. That's 40 percent more than anyone else.
Freescale also recently announced that it intends to spend more on research and development now that much of the debt has been lifted. Beyer recently stressed that Freescale "will continue to target the automotive, medical, smart grid, wireless and smart mobile devices markets."
Freescale may be a company to watch out for in the semiconductor market. The high debt is something to keep an eye on, but its stock is trading at almost half its high. If Freescale can put together another year or so of increasing revenue and decreasing debt, more people may hop on board.