After listening to Motorola Solutions’ 2015 Financial Analyst presentation this morning and thinking about the actions the company has completed in the past year, I am even more convinced the company is ripe for a takeover by private equity or by a larger company in the defense industry. Even if a takeover does not materialize, Motorola is in an excellent position to continue delivering good returns to public shareholders. Here’s an outline of my thoughts.
Actions Taken Over the Last Year
- Pure Play Company
- Sold Enterprise division to Zebra Technologies for $3.45 billion and is now a pure-play company focused on providing mission critical communications devices and services to public safety and commercial markets.
- Expense Reduction
- Operating expenses as a % of sales reduced from 38% in 2012 to an estimated 26% for 2015.
- Pension Obligation Reduction
- Took $1.9 billion pension charge this year to reduce liabilities. The need for cash contributions over the next 5–6 years will be minimal or non-existent.
- Shift in Sales Focus
- Company has shifted its focus from selling products to selling solutions, services, and software. This process is ongoing, but the result will be a company with more predictable and recurring—i.e., more valuable—revenue streams.
Why Would Private Equity Be Interested?
Private equity ought to be interested in Motorola given its excellent balance sheet, market leading position, limited competition, sticky customer relationships, and high barriers to entry.
- Financial Reasons
- A pure-play company is more attractive than a company whose attention and resources are divided.
- The pension obligation reduction has eliminated a potential sticking point in takeover negotiations. A buyer no longer has to worry about contributing to the pension in the short- and medium-term.
- Motorola still has a net debt position of approximately zero.
- The amount of predictable revenue streams is growing, which means the owner of the business can use a greater amount of debt and leverage.
- Competitive Advantage Reasons
- Customers need 100% reliability in their products and services. Motorola can charge a large premium for this. This also means switching costs can be high.
- Customer relationships are decades old in some cases, highlighting sticky customer relationships and more evidence of high switching costs.
- Sales growth is in line with GDP growth. It’s not so high that it will attract new competitors and not so low that Motorola is a bad business to own.
- Lead times to completing a sale or winning a contract are very long, sometimes years. This favors the large, incumbent company with the resources to endure the expensive sales process.
What If There Is No Takeover?
Generating a good return by owning Motorola shares is not dependent upon a takeover bid from private equity. Everything Motorola has done makes the company attractive on a stand-alone basis as well. It actually could be more attractive for the company to remain public and thus allow its current shareholder to compound their returns tax-free for a longer period of time.
In the short-term:
- There is still some room for margin improvement;
- The company will be repurchasing ~$600 million of shares each quarter this year, which would take out roughly 16.5% of shares at current prices; and
- The dividend yield of 1.95% ($1.36 per share) is not too shabby.
The biggest risk I see is another year or two of stagnant sales, but I see this as a short-term risk. Over the long-term, I see Motorola as a highly-dependable business whose products and services for public safety employees around the world will always be in demand.
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