Last month, Broadcom Ltd (NASDAQ:AVGO) shocked the tech world by making a formal offer to purchase Qualcomm, Inc. (NASDAQ:QCOM) for $70 per share, $60 of which would be cash and $10 of which would be AVGO stock.
QCOM stock shot up on the news, but it’s traded largely sideways since.
Here’s the problem: QCOM management thinks $70 per share undervalues the company, while QCOM investors want an $80 bid. But Broadcom Chief Executive Officer Hock Tan has developed a reputation for not budging on his acquisition offers. Tan has dramatically altered the $300 billion chip industry over the past two years through three huge acquisitions.
And he did so without ever paying more than 7% above his original offer.
Granted, Qualcomm is an entirely different beast, but that only strengthens the thesis Tan won’t come back with an $80 offer. The original $130 billion cash-and-stock deal was the biggest buyout offer in tech. Ever. The likelihood that Tan ups that record offer by more than 7% given his track record is very, very small.
But the likelihood that Tan and Broadcom up the offer to $75 — a 7% premium — is very, very high.
Here’s why:
The Right Price to Buy QCOM Stock
Broadcom really wants to buy Qualcomm. But Qualcomm really doesn’t want to get bought at $70 per share.
Broadcom is seeking to elect 11 independent directors to Qualcomm’s board ahead of the company’s next annual meeting in March. The thinking is that those 11 independent directors would more willingly to work with Broadcom to strike a deal that makes sense for both parties. Qualcomm doesn’t like the move, calling it a “blatant attempt to seize control of the Qualcomm Board in order to advance Broadcom’s acquisition agenda.”
It will be interesting to see how this plays out, but the writing on the wall is pretty clear: AVGO will not buy QCOM for $70.
But because Tan wants to create this mega-chip company, AVGO is apparently willing to increase its bid for QCOM. That increased offer likely won’t be on the table until next year, closer towards Qualcomm’s annual meeting.
Most sources point to that upped offer being $75. That would make sense given Tan’s track record. A $75 takeover price would be a 7% premium to the initial takeover price, and 7% is as big a premium as Tan has been willing to pay in such acquisitions.
Meanwhile, if a deal doesn’t go through, I continue to peg the fair value of QCOM stock at $52.
The company is doing the right thing in expanding its business through multiple strategic partnerships. New Microsoft Corporation (NASDAQ:MSFT) laptops are based on QCOM chips — they have historically been built on Intel Corporation (NASDAQ:INTC) chips. Advanced Micro Devices, Inc. (NASDAQ:AMD) is working with QCOM on Always Connected PCs. NetEase Inc (ADR) (NASDAQ:NTES) is working with QCOM to optimize NetEase’s Messiah game engine for Qualcomm’s 800 series Snapdragon platforms. BlackBerry Ltd (NYSE:BB) has extended its connected car partnership with QCOM. And Baidu Inc (ADR) (NYSE:BIDU) recently announced an atificial intelligence/Internet of Things collaboration with QCOM.
But Apple Inc. (NASDAQ:AAPL) headwinds remain. Those headwinds will remain without an AVGO acquisition, and consequently, will keep QCOM’s standalone value depressed.
Bottom Line on QCOM Stock
Now, we just have to do some math.
I think it’s safe to say that there is a 75% chance of a deal going through for QCOM stock at $75 per share. That means there is a 25% chance shares fall back to $52.
That implies a fair value on QCOM stock of just over $69.
QCOM stock is hovering in the $65 range. At that price, it looks like the market isn’t pricing in a high enough probability that QCOM stock gets taken out at $75.
Consequently, the risk-reward asymmetry on QCOM stock skews slightly towards the upside.
At this point in time, I feel good owning this name below $69.
As of this writing, Luke Lango was long QCOM, INTC, and BIDU.
