December 03, 2012 - 10:02am EST by
2012 2013
Price: 11.72 EPS $0.98 $1.41
Shares Out. (in M): 64 P/E 12.0x 8.3x
Market Cap (in $M): 744 P/FCF 8.6% 12.0%
Net Debt (in $M): 89 EBIT 103 130
TEV ($): 833 TEV/EBIT 8.1x 6.4x

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  • Semiconductor
  • Manufacturer
  • Competitive Advantage
  • High Barriers to Entry, Moat
  • NOLs


Thesis: Spansion Inc. (CODE) is an undervalued company with a stable core business, significant growth opportunities, strong FCF conversion, and a management team focused on generating shareholder value. CODE trades at 4.2x EV / 2013 EBITDA, and after adjusting for NOLs and the sale of its headquarters, trades at 3.0x despite its strong FCF conversion, leading position in a stable market, and diversified customer base across geographies and end markets. We believe CODE offers an attractive risk-return, with 39% - 92% upside to the current share price.

Business Description: CODE is the market leader in embedded NOR applications, with a 37% market share, and is beginning to move into the embedded NAND market. CODE produces specialty memory products, which are generally higher performance, lower volume, and have longer life cycles (at least 5 years) relative to commodity memory products. CODE is able to differentiate on service, features and capabilities, and product quality with an asset-light business model.

CODE has a diffuse and diversified customer base across various geographies and end markets including consumer, communications and gaming, and transportation and industrial. No single customer represents more than 3% of sales.

Revenue by End Market and Geography    
$240mm in Q3-12        
Consumer 39%   Asia Pacific 36%
Communications & Gaming 32%   Japan 31%
Transportation & Industrial 23%   Europe 17%
Wireless 3%   Americas 9%
Royalty 3%   Korea 4%
      Royalty 3%
Total 100%   Total 100%
IP Portfolio: CODE’s strong IP portfolio is an undervalued and misunderstood competitive advantage. CODE spent more than $1Bn in R&D pre-bankruptcy to build up IP, which is a significant barrier to entry for prospective competitors. CODE plans to monetize this portfolio through not only creating new and innovative products within its core businesses but also through licensing its IP to third parties. CODE’s CEO disclosed at its recent analyst day that it is currently in discussions with multiple parties to license its IP for royalty fees. Given CODE’s NOLs, these royalty fees would flow through at nearly 100% to earnings and FCF, and incremental royalty agreements are not currently included in management’s guidance or consensus numbers. Announcements of royalty agreements, which could come in 2013, are near-term potential catalysts in the stock. In June 2011, CODE announced a settlement and licensing agreement with Samsung, under which Samsung agreed to pay $25mm to CODE up front and $25mm annually for the 5 following years, for a total of $150mm.

Competitive Environment: CODE’s main competitors are not currently focused on its core segment in embedded NOR. Micron Technology (MU) is focused on acquiring Elpida Memory, a DRAM company, out of bankruptcy rather than building its high-end embedded NOR business, which competes directly with CODE. The two lower end players, Macronix and Winbond (both based in Taiwan), are trying to improve their embedded NOR density, but are still far behind CODE, and CODE continues to innovate with higher density products.

CODE trades at a discount due to the perception that the NOR market is declining. While this is true for the market as a whole, the decline has been driven by the wireless segment. Conversely, the embedded NOR sub-segment of the market, that CODE focuses on, is growing in the mid to high single digits (page 63 from 2012 analyst day presentation).CODE no longer has material exposure to the declining wireless NOR market. In 2011, chipset suppliers for mobile phones in China and other parts of Asia transitioned away from embedded NOR, creating a rapid decline in the wireless NOR end market. CODE was forced to exit and restructure the wireless business as a result of this. In response to the wireless exit management aggressively reduced costs, resulting in manufacturing expense declining in Q3-12 year over year by 27% on a 7% revenue decline. The wireless transition is now behind CODE and is fully baked in to current and projected financials. Embedded NOR ex wireless, which is now the vast majority of CODE’s business, has not declined and remains a steady grower with higher gross margins than legacy wireless.

Growth Opportunities:

CODE identifies a $6.5Bn addressable market in its core embedded NOR market, embedded NAND, and Programmable System Solutions (PSS). CODE is planning to roll out new products in its core parallel and serial NOR markets, as well as SLC NAND and PSS. In the past 20 months, CODE has introduced 20 new products.

Although the entire NOR market is declining, CODE’s embedded NOR segment is growing steadily in the mid to high single digits, across a variety of end markets and geographies. CODE’s remaining NOR business has higher and more stable gross margins than the legacy wireless business, with opportunities for additional margin expansion and growth:

-       Technology Improvements in Core NOR market: CODE is shifting from 110nm technology to 65nm and below over the next several years, providing a tailwind for gross margins, opportunities to gain share, and increased internal capacity. As the density increases and the physical size of the embedded memory declines, margins naturally expand as physical input costs fall more quickly than pricing. CODE has current capacity to grow 30% in 65nm or below technology

-       Embedded NAND market: Embedded NAND is inferior in quality to NOR but for many applications this is “good enough” at lower price points. CODE is ramping up in 2013 as they receive accreditation from customers (current pipeline of 200 customers). This segment represents $25mm of revenues in 2012 and is expected to generate $75mm - $100mm of revenues in 2013 (per recent analyst day presentation). This is a niche market that CODE has identified that others are not likely to focus on

-       Royalties: CODE is currently in discussions with third parties that they believe are infringing on their IP. In the past, CODE did not have the financial resources to defend its IP, after spending more than $1Bn pre-bankruptcy in R&D. Licensing revenue will have close to 100% flow through to FCF and earnings, given NOLs, and should drive increased revenues and margins in 2013 and beyond

Management: Management is focused on creating shareholder value and provides significant transparency on its historical financial and operating results and detailed forward-looking guidance. CODE announced on Nov. 20th the sale of its headquarters and surrounding land for $65mm to Prometheus Real Estate Group, who will lease back the space starting in 2013 to CODE, with the first 6 months rent-free. Assuming $25mm of the sale was for the 24.5k acres, this implies $40mm sale price for the headquarters. A 7% cap rate implies annual rent expense of $2.8mm, following the initial 6 month rent-free period.

Valuation / Price Target: CODE trades at a substantial discount to peers, at EV / 2013 EBITDA of 4.2x and a 2013 FCF Yield of 12.0%. CODE’s asset-light business model and $1Bn of NOLs enable it to efficiently convert EBITDA into FCF, and provides substantial cash flow leverage on its revenue growth. Management low-end guidance of 8% revenue growth in 2013 would lead to Adj EBITDA growth of 18%, FCF growth of 40%, and Adj EPS growth of 44%. We are comfortable with management’s guidance for the core business, however we believe the IP licensing discussions currently in progress could provide incremental upside to these projections.

CODE Trading Summary                    
Ticker     CODE                  
Date     11/30/2012                  
Diluted Shares O/S   63.500   Midpoint of Diluted Shares Q412 guidance from Q312 earnings presentation    
Share Price     $11.72                  
Equity Value   744                  
Less: Cash and equivalents (280)   Q312              
Less: Short-term investments (49)   Q312              
Plus: Preferred   0   Q312              
Plus: Total Debt   417   Q312              
Enterprise Value   833                  
Less: NOLs NPV   (170)   Projected tax shield from $1.2Bn of Federal and State NOLs discounted back at 12% cost of equity
Less: Headquarters Sale   (65)                  
Adj Enterprise Value   598                  

Please see below for annual projected financials based on CODE’s long-term guidance provided at the 2012 analyst day, which excludes the impact from any additional royalty agreements.

CODE Projections Summary          
      2012 2013 Growth 2014 Growth
Revenue     926 1,000 8.0% 1,090 9.0%
Adj EBITDA Margin %   18.4% 20.0% 1.6% 20.0% 0.0%
Adj EBITDA     170 200 17.7% 218 9.0%
Interest Expense   (28) (28) 0.0% (30) 7.1%
Cash Taxes     (13) (13) (3.8%) (13) 0.0%
Cap Ex     (45) (50) 11.1% (55) 10.0%
Changes in Working Capital (20) (20) 0.0% (20) 0.0%
FCF     64 90 39.9% 101 12.3%
Adj EBITDA Less Rent   167 197   215  
FCF Less Rent   61 87   98  
Adj EBITDA     170 200   218  
D&A     (67) (70)   (80)  
EBIT     103 130   138  
Interest     (28) (28)   (30)  
Profits Before Tax   75 102   108  
Taxes     (13) (13)   (13)  
Net Income     62 90   96  
Adj EPS     $0.98 $1.41 44.4% $1.50 6.7%


CODE Valuation Summary        
      2012 2013   2014
EV / EBITDA     4.9x 4.2x   3.8x
Adj EV / EBITDA   3.6x 3.0x   2.8x
EV / FCF     13.0x 9.3x   8.3x
Adj EV / FCF   9.8x 6.9x   6.1x
P / E     12.0x 8.3x   7.8x
FCF Yield %   8.6% 12.0%   13.5%


CODE Valuation vs. Comps


2013 Metrics






Comps Avg.



















Adj EV / FCF




P / E







FCF Yield %








Source: Bloomberg estimates


Comps Avg. is the average of FCS, ONNN, IDTI, and CY, selected by management for their similarity to CODE's financial / business model

CODE trades in line with its closest competitor, MU, despite its superior cash flow profile, which is more similar to its financial competitors.

Valuation Matrix


Adj EV / EBITDA Multiple


2013 Metric










Adj EV









Share Price








% Upside / (Downside)








Adj FCF Yield








A valuation range of 4.5x – 6.5x Adj EV / EBITDA implies 39% - 92% upside to the closing share price on 11/30/12. Adj EV includes $170mm of present value for the NOLs and includes the sale of its headquarters and the surrounding land for $65mm, as previously announced. EBITDA and FCF are adjusted for estimated annual rent expense of $2.8mm for the corporate headquarters.


  1. Consumer electronics, automotive or other end markets slowing growth or opting for lower cost/quality solutions
  2. Uptake of embedded NAND in 200 customers in pipeline
  3. IP infringement risks if licensing negotiations are not successful
  4. Liquidity overhang / concentrated ownership (Silver Lake owns 11.4mm shares)
  5. Competitors narrowing the technology / quality / service gaps
I do not hold a position of employment, directorship, or consultancy with the issuer.
Neither I nor others I advise hold a material investment in the issuer's securities.


1. Additional licensing agreements announced
2. Growth in embedded NAND
3. Gross margin expansion
4. Continued strong FCF
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