Qualcomm Inc. (QCOM, Financial) and NXP Semiconductors NV (NXPI, Financial) announced a merger agreement in an Oct. 26, 2016 press release. The third edition of “The Forum Update” will break down this merger using John Paulson (Trades, Portfolio)’s Merger Arbitrage Checklist.
Checklist overview
Paulson’s merger arbitrage checklist looks at seven characteristics of a strong merger agreement: definitive agreement, strategic rationale, no financing condition, due diligence, solidly performing target, reasonable valuation and limited regulatory risk. We can grade each of the characteristics on a scale of 1 to 5 to determine how likely the Qualcomm – NXP merger will go through. For example, we can rate a 5 for the following characteristics as these are explicitly mentioned in the merger agreement:
- Definitive agreement: explicitly mentioned in agreement.
- Strategic rationale: the agreement mentioned the merger would “create a semiconductor engine for the connected world” and “enhance global leadership in integrated semiconductor solutions.”
- No financing condition: explicitly mentioned in agreement.
Unfortunately, the other checklist items question the strength of the merger:
- Due Diligence: I rated this characteristic 3 out of 5. Although both companies’ boards of directors expressed “unanimous approval” for the merger, Qualcomm still extended the tender offer, suggesting a potential delay of the merger close.
- Solidly performing target: I rated this characteristic 2 out of 5 as NXP reported a 7% year-over-year decrease in revenues for the second quarter, including a 9% year-over-year decrease in product revenues and a 97% drop in GAAP operating income from the prior quarter.
- Reasonable valuation: I rated this characteristic 2 out of 5. Although Goldman Sachs Group Inc. (GS, Financial) rendered “fairness opinions” in the merger announcement, Investor Place columnist D. Blakenhorn said Elliott Management investor Paul Singer (Trades, Portfolio) “is backing a move to renegotiate Qualcomm’s pending merger,” seeking a higher price per NXP share.
- Limited regulatory risk: I rated this characteristic 1 out of 5. According to the Forum thread, the European Commission has suspended review of Qualcomm’s merger as the San Diego-based semiconductor company might “raise prices and reduce innovation in the semiconductor industry” with its NXP merger.
Overall, I rated the merger a 3.3 out of 5.
The “GuruFocus Forum” checklist
I plan to generate a checklist that combines investing criteria from famous investors like Peter Lynch and Warren Buffett (Trades, Portfolio) with my investing criteria. You can help by posting your thoughts on what you think a good company should have in the “Your Investment Checklist” thread. I will share this checklist in the next edition of “The Forum Update.”
Disclosure: I do not have positions in the stocks mentioned.
