Google Transforms ARRIS

By Stephen D. Simpson, CFA | December 19, 2012 AAA

It's not often that a company buys its way into becoming three times bigger overnight, but that's basically what ARRIS (Nasdaq:ARRS) has done by becoming the winning bidder in Google's (Nasdaq:GOOG) sale of the Motorola Home business. While it's a bold and transformative deal for ARRIS, the ultimate value to Google is still to be determined.

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The Deal
It was no great surprise that Google sold the Motorola Home business. When Google bought Motorola, it did so for the company's patents and its smartphone business (likely in that order). Motorola's set-top box and cable TV equipment business was never of all that much interest to Google, though it was valuable enough not to just be shut down.

Google basically put the business up for auction, attracting bids from ARRIS and Pace PLC (a large set-top box company) and possibly a few other players as well (companies like Technicolor (OTC:TCLRY) haven't yet commented one way or the other). While analysts had generally been guessing that Google would get about $1.5 billion to $2 billion (with a couple of lonely estimates up to $2.5 billion), ARRIS came in with a winning bid of $2.35 billion.

ARRIS will be paying Google in a combination of cash and stock; $2.05 billion in cash (for which the company has already secured commitments from Bank Of America (NYSE:BAC) and RBC (NYSE:RY)) and $300 million of newly-issued stock. That stock component will make Google the owner of nearly 16% of ARRIS.

SEE: Analyzing An Acquisition Announcement

A One-Time Opportunity for ARRIS?
With just $1.3 billion in trailing revenue, $1.4 billion in total assets and about $930 million in shareholders' equity, this is a hugely bold deal for ARRIS. At the same time, unless Cisco (Nasdaq:CSCO) wants to get out of the cable TV equipment business and put Scientific Atlanta up for sale, it was pretty much a one-time opportunity.

Motorola Home will add about $3.4 billion to ARRIS' revenue base (though there will be some overlap), offer up over $100 million in cost synergies, add several patents to the company's collection and lend considerably more diversity to the company's business model (which had been relatively dependent upon Comcast (Nasdaq:CMCSA) and Time Warner Cable (NYSE:TWC)).

It also significantly expands the technology and product offerings of the company, and it's worth mentioning that all of this comes for about 0.7 times trailing revenue. Though that's well below the premium Cisco offered for Scientific Atlanta so long ago, industry premiums have definitely contracted in the intervening years. Still, it looks like a pretty good deal for ARRIS.

SEE: A Peek Into The Business Model Of The Future

The Final Value to Google Still up in the Air
While Google got more than $2 billion for an asset it really didn't want, the final value to the company has yet to be determined. A key detail in the transaction is that Google indemnifies ARRIS from future litigation.

That's a potentially big deal, as TiVo (Nasdaq:TIVO) has been suing pretty much everybody in the industry, and in some cases winning rather large judgments/settlements. I'm not an IP litigation expert, so I'm not sure of the likelihood of TiVO prevailing against ARRIS/Motorola Home, nor the amount it could it win, but suffice it to say that Google's net take from this deal won't necessarily be $2 billion-plus.

The Bottom Line
Even still, it was a solid move for the company. What's more, if you look at the value of the Nortel patent auctions, it suggests that Google ultimately only paid about $3 billion for the Motorola smartphone business - while I don't think that will really encourage those who think Google made a major error in going into hardware, it does at least mitigate the risk.

At the time of writing, Stephen D. Simpson did not own any shares in any company mentioned in this article.

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