|Shares Out. (in M):||312||P/E||0||0|
|Market Cap (in $M):||3,600||P/FCF||0||0|
|Net Debt (in $M):||630||EBIT||0||0|
Cypress Semiconductor (Ticker: CY) – Long, $18.00
Mkt Cap: ~$3.6Bn
EV: ~$4.4Bn (Debt: $820MM | Cash: $190MM)
ADV: ~$111MM (11.5MM shrs)
Shrs o/s | Float: 311.8MM / 297.8MM
Edge: ~$14.00 – $16.00/shr LBO // ~$17.00 – $22.00/shr Sale to Strategic
Situation Overview / Entry Catalyst:
Cypress Semiconductor provides high performance mixed signal semiconductor solutions and memory products for the automotive, industrial, mobile, consumer, computing, communications, and military verticals. The company has completed numerous deals over the last 10 years, most recently Spansion and Broadcom’s IoT business. Activist investor Three Bays Capital filed a 13-D back in March. Although we are not clear as to what their intentions are, the founder used to work at Highfields Capital Management, which has historically been a successful activist and change agent. In April of this year, long-time CEO and founder T.J. Rodgers finally succumbed to investor pressure and announced his departure from the company, potentially paving the way for a sale.
Semiconductor M&A activity remains elevated, and there continues to be clear strategic as well as private equity interest (Chinese quasi PE too) within the space. We believe several recent events appear to pave the way for a potential transaction:
Three Bays Capital disclosure in March and June indicating a significant stake in the company (see link to 13-D filings below) and the potential for Three Bays to advocate for a sale of the company and / or shift to less capital intensive business
The exit of long-time CEO and Cypress founder T.J. Rodgers in April of this year and the opportunity for fresh management to create value for shareholders
Change of control severance agreements put in place in June, aligning management incentives with shareholders in the event of a sale of the company (see link to 8-k below)
Perhaps most importantly, the sale / disposal of the company’s Minnesota fab operations which is expected to close imminently according to commentary on the latest earnings call (see below). This opens the door for potential Chinese takeover interest as a disposal would remove the potential for a long and drawn out CFIUS (Committee on Foreign Investment in the United States) regulatory approval process given the Minnesota fab manufactures chips used in the defense industry
Relevant Management Quotes / Links:
Three Bays Capital 13-D filings:
Change of Control Severance Agreements:
Minnesota Fab Sale / Disposal:
“On the Minnesota fab, what we found as we go through this process is the equipment set is in very high demand from our Minnesota fab based on today's tool market. We're in very advanced discussions with interested parties to dispose of the fab, and we expect to make an announcement in the near future” - Joe Rauschmayer, VP of Manufacturing, July 28th Earnings Call
Three Bays Capital 13-D filing on March 9, 2016
Long-time CEO / Founder, T.J. Rodgers announced his departure on April 28, 2016
Change of control severance agreements filed on June 1, 2016
Three Bays Capital amended 13-D filing on June 21, 2016
2Q’16 Earnings Release on July 28, 2016
Pacific Crest Global Technology Leadership Forum on August 8, 2016
Oppenheimer Technology Conference on August 10, 2016
Deutsche Bank Technology Conference on September 13, 2016
The probability of an acquisition by a strategic or financial buyer is currently being under estimated by the street given the company’s imminent sale / disposal of its Minnesota fabrication facility. The Minnesota facility manufactures chips used in the defense industry and as a result, would make a takeover by a Chinese buyer unlikely given CFIUS regulation (could be carved out in the merger agreement as a condition to close). Additionally, the market is underestimating the positive margin impact of disposing of this facility, which makes Cypress a more attractive stand-alone business with a smoother free cash flow profile.
LBO Math: We assume $14-16 per share in the event of a LBO which implies ~22% returns to a sponsor (30% return for investors) assuming a ~20% EBITDA CAGR, 5.0x leverage and a 11.5x exit multiple (in-line with historical peer average)
In the event of a strategic sale, we assume a wider valuation range of $15-22 per share. Given the recent M&A activity in the space, we believe there are several possible strategic buyers in the U.S. and Europe including Intel, Microsemi and Microchip Technology in the U.S. and Infineon in Europe among others. Infineon recently announced the acquisition of Wolfspeed power from Cree and would fit strategically with Cypress. Additionally, the sale of Cypress’ Minnesota Fab operations, we believe opens the door for a Chinese buyer like SummitView Capital. SummitView recently acquired Integrated Silicon Solutions, outbidding none other than Cypress, which implies a strategic fit between the two businesses.
Cypress risks (order of magnitude):
1.) Takeover offer fails to materialize (however, fundamentals are improving)
2.) Secular headwinds intensify impacting gross margin and leverage profile
3.) Spansion and IoT synergy / integration efforts miss expectations
4.) Company fails to dispose of Minnesota Fab (We believe this is unlikely, as the company would “pay” to dispose of this asset)
Fab sale leads to margin improvement
Broadcomm IoT and Spansion synergy acceleration
New CEO focused on FCF generation
Sale of the company
|Entry||08/08/2016 02:42 PM|
nice write up. set up looks interesting. a few questions
in the LBO math you mention 20% ebitda growth per year for the next 5 years. how did you come up with this? is this consensus view?
on the risks/downside - you said $9.50. the stock hit $7 in feb 2016 - has value increased that much that the stock downside has moved up in 6 months?
the set up is interesting though - but trying to understand how the math on various take out plays out. thank you.
|Entry||08/08/2016 03:11 PM|
Thanks for the idea.
Can you describe what the core business is (i.e. what do we own while we wait for the business to get bought out) and whether this is a good/high quality biz?
What are the secular headwinds you describe in your risks section?
Who do you think the new CEO will be? Or who are the candidates?
|Entry||08/09/2016 08:52 AM|
Thank you for the very interesting write-up and idea. The set-up sounds very interesting given the current tech M&A boom, but after spending some time on the name yesterday I noticed a few items that give me concern regarding a near term event.
I noticed the company raised an additional $450m of secured debt on 7/5/2016, two days after their Q2 reporting period ended. It appears your cap structure does not take this recent capital raise into account. Additionally, how do you think this impacts the acquisition thesis? I find it unusual for a company that is trying to sell itself to suddenly take on so much debt.
Presumably, this debt raise was used to fund the cash purchase of Broadcom's Internet of Things business, but still I find it unusual for a company that is looking to sell themselves to make such a large debt funded acquisition. Assuming the debt raise is for the IoT business acquisition, I believe this puts an LBO out of the question as the company will have $1,069MM of secured debt outstanding and an additional ~$300MM+ of other financial obligations (including the $287.5MM out of the money convert, capital leases, equipment loans, underfunded pensions but not including the in the money $150MM 2% Spansion Notes) with less than $215MM in cash (after accounting for the IoT acquisition, the recent Deca preferred share sale of $20.6MM, and assuming options exercise). How did you account for these developments/concerns in your thesis?
Does the recent $488m impairment of goodwill make you nervous that management is finding it more difficult to achieve synergies and realize scale benefits from the Spansion merger? Perhaps this is management admitting that it will be significantly more challenging to achieve the EBITDA CAGR you have suggested?
Assuming an acquisition of CY does not go through, there is still an opportunity for share price appreciation (or loss mitigation) if management is able to execute on the pro forma projections for the combined Spansion and Cypress entity? In an effort to understand a potential downside scenario, do you have any confidence in management’s projections of 47% sales growth off LTM numbers and EBIT margin expansion from 11% to 17%? Management’s projections seem to be a bit aggressive.
|Subject||Re: CY Update|
|Entry||08/11/2016 10:23 AM|
thank you for the answers and the update.