Freescale May Hit the Selling Block

NEW YORK ( TheStreet) - After a big May 2011 IPO, majority private-equity owned Freescale Semiconductor ( FSL) and its battered shares may be a takeover target for a larger chip maker like Intel ( INTC), Qualcomm ( QCOM) and Texas Instruments ( TXI).

In a Monday note, RBC Capital Markets analyst Doug Freedman raised his price target for Freescale Semiconductor from $15 to $20 on a "speculative risk rating" for the chip-maker on an eventual end to the company's earnings underperformance by 2013 and the possibility that an acquirer could look to buy the company outright.
Freescale Semiconductor may draw M&A interest from Intel, Qualcomm and Texas Instruments

"Freescale possesses attractive assets either in whole or in parts, which we see providing valuation support," writes Freedman in his Mar. 12 note. While Freescale's lossmaking ways, giant debt burden and falling revenue from mobile customers like Research In Motion ( RIMM) make it an industry underperformer, the company's net operating loss carry forwards could be attractive to an acquirer like Intel or Qualcomm. "Larger credit worthy suitors could hypothetically absorb debt while leveraging Freescale NOLs for future tax advantages," adds Freedman though he notes no present M&A discussions.

The maker of embedded processors like microcontrollers and semiconductor products, Freescale was taken private by a consortium of private equity firms The Blackstone Group ( BX), The Carlyle Group, Permira Advisers and TPG Capital in a 2006 leveraged buyout worth $17.6 billion. That buyout piled nearly $10 billion in debt onthe company, which it since pared to below $7 billion and is expected to further reduce be $150 million a quarter through 2013. That debt reduction and a turn to revenue growth could put Freescale into positive earnings territory of $2 a share by 2013.

Those prospective earnings and tax benefits embedded in a deal may pull a larger player into the deals market for Freescale's radio frequency or microcontroller products. Still risks remain. "At the end of the day, the magnitude of Freescale's debt makes our call heavily predicated on the health of the macro," notes Freedman. He expects growing earnings will minimize the debt drain that Freescale faces, causing EBITDA to expand 20% in 2013 to $1.1 billion, boosting free cash flow by 80%.

Another intrigue in a prospective deal would be the impact for Freescale's large minority investors, who didn't cash out on their stake in the company's May IPO, which raised over $1 billion to pay down debt. Currently, Blackstone, The Carlyle Group and TPG are Freescale's larest three shareholders with holdings worth roughly $3 billion each, according to Bloomberg compilations of filings with the Securities and Exchange Commission.

If a bid were to emerge, Freescale could be a leading indicator of private equity exits from still giant pre-crisis buyout investments. A potential hitch would be the markdown on a sale. In May, Freescale went public at a market value that represented a big prospective loss for private equity investors. A share swoon since the offering has done little to stem a souring private equity investment.

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Since its IPO Freescale shares are off nearly 20%, even after a near 17% year-to-date share surge. In Monday trading, Freescale shares over 1% to $14.82.

Currently, the private equity world is gripped by talk of firms exiting investments as near-decade old buyout funds come close to expiry with still giant holdings that may be tough to exit in the lukewarm IPO and M&A markets.

"The savviest firms are aggressively working to control their destinies - rather than face the prospect of seeking fund extensions from LPs or the near unthinkable: liquidating the fund with fire sales or distributing shares of private companies to LPs," said Alvarez & Marsal private equity service group managing director Mike Tamulis in an emailed note about the industry's bulk of unrealized investments.

" Private equity firms now find themselves in a box," noted Bain & Company in a private equity report released in March. While investments like Freescale may have stabilized in the aftermath of the credit crunch, they still are held at values well below cost, making an exit potentially unprofitable for investors. "Those companies were acquired at high earnings multiples during the cyclical peak of 2005 through 2008; but since the downturn, multiples have been compressed," writes Bain & Company in the report.

For more on private equity, see why an IPO stall may push dealmaking. For more on semiconductor shares, see how Intel is chasing cloud sales with a high end server chip.

-- Written by Antoine Gara in New York