The hostile bid by semiconductor manufacturer Broadcom Ltd. (AVGO) for rival Qualcomm Inc. (QCOM) makes tremendous business sense, yet is unlikely to succeed, according to CNBC's Jim Cramer. "The odds of this deal actually being completed seem pretty long," Cramer said. He added, "Qualcomm's stock has been held back by its squabble with Apple. Its board of directors knows that the share price would probably be worth more than where it's currently trading and they don't want to give the company away," said Cramer per CNBC.

Qualcomm is suing Apple Inc. (AAPL) over patent infringement, while Apple is suing Qualcomm, alleging that the chipmaker is charging royalties for technologies that it does not own, per another CNBC report. By contrast, Broadcom has a good relationship with Apple as the principal supplier of components for the iPhone line of smartphones, CNBC indicates.

Unwelcome Bid

Cramer called the proposed deal a "bombshell" largely based on the fact that Broadcom is making an unsolicited, hostile bid for its rival. This is unusual among technology companies, he indicated. Among other things, hostile takeovers of tech firms often result in the exodus of key employees, the Wall Street Journal reports, adding to the risks.

Broadcom's bid has angered Qualcomm's board, per reporting by the Financial Times cited by Barron's. Adding to the hostility, Broadcom appears to have sounded out the proposed deal with their mutual customers, such as smartphone makers Apple and Samsung Electronics Co. Ltd. (SSNLF). This is according to Tim Long, a managing director at BMO Capital Markets, a division of the Bank of Montreal (BMO), as reported by Barron's.

Valuing The Deal

One anonymous source denounced the deal as "opportunistic," given the decline in Qualcomm's stock price this year (down 2.3% through Friday) per Barron's. The cash plus stock deal, announced on Monday morning, offers $70 per Qualcomm share, per Barron's, a 13.3% premium above its closing price on Friday. The deal also would cause Broadcom to assume about $25 billion of Qualcomm debt, making the total price tag about $130 billion, making it by far the most expensive technology acquisition ever, Barron's adds.

However, if one analyst's projections are correct, Broadcom's bid nonetheless values Qualcomm at a mere 10 times its estimated 2019 earnings power, which clearly is too low for Qualcomm's board. This is per a research note by T. Michael Walkley, senior equity analyst at Toronto-based investment banking firm Canaccord Genuity Group Inc., as quoted by Barron's. Walkely indicates that settling royalty disputes will have a large impact on Qualcomm's earnings and valuation. He assumes that Apple will end up paying Qualcomm $5 per iPhone, down 50% from the pre-dispute figure of $10, and that another unnamed licensee, which he assumes to be Samsung, will return to paying Qualcomm. The current forward P/E ratio on Qualcomm is 18.35, and that for Broadcom is 15.36, per Thomson Reuters data reported by Yahoo Finance.

Big Long-Term Value

CNBC's Cramer also argues the merger makes sense strategically and might position the two companies for growth longterm. Cramer indicated that chipmaking is one of many industries ripe for consolidation, with "too many semiconductor companies and they're competing for too little business." He added, "But if you can combine companies, you end up saving money while building up more bargaining power with your customers." While acknowledging that earnings multiples on semiconductor stocks, like stocks in general, have "come too far," Cramer suggested that their values as takeover targets should indeed be even higher to forward-thinking CEOs and entrepreneurs. In particular, the growing need for semiconductors in rapidly expanding applications such as machine learning and industrial automation is being underestimated by many investors and analysts, in his opinion. (For more, see also: How Artificial Intelligence Will Boost These 8 Stocks.)

 

Want to learn how to invest?

Get a free 10 week email series that will teach you how to start investing.

Delivered twice a week, straight to your inbox.