When the news of the private equity takeover of NXP was unveiled in 2006, there were a number of people with a sneaking suspicion that it could end in tears. The initial plan did sound like something conjured in dastardly Dr Evil's lair: “Hmm, let's buy a top semiconductor company, load it with debts, then make a few quick bucks by selling it on through an IPO.” The backup plan, I guess, was to either merge NXP with another semiconductor firm, like Freescale, to create efficiencies, or to break the company up into smaller fragments to 'release value', hence the sale of NXP's stake in ST-NXP Wireless a short time ago.
Whatever the rights or wrongs of the plan, it has gone far from smoothly with the latest news being that KKR Private Equity Investors LP has been forced to wipe 80 percent off the value of its holding in NXP. If it wasn't for the fact that companies such as these derive some of their investments from pension funds, I personally would admit to being somewhat relieved that the grand plan hadn't quite worked out. Am I being ungenerous? I don't think so. After all, whilst such deals may be good for the acquired company in the long term, essentially private equity is about making as big a pile of bucks for your investors, ideally in the shortest possible timeframe – precisely the opposite of the long-term value model aspired to by the semiconductor industry. At least that's how I see it.
But as much as I personally might question the intentions of the guys and gals at firms like Kohlberg Kravis Roberts & Co., and wonder whether any of them fully appreciate the skill and engineering effort that goes into growing a company of the size, strength and ingenuity of NXP – the fact is that this industry greedily sucks up big private investments enabled by the likes of KKR & friends. After all, Philips accepted KKR's offer – so just who are the bad guys really?
In its fury to develop new products, egged on by shareholders who historically had come to expect double digit growth rates, this industry has developed the ability to consume cash like an alcoholic let loose in a brewery. Whilst the successes that have resulted from the industry's vigorous pursuit of innovation are unquestionable, the cash that has made it possible is now running dry. Notably, Moshe Gavrielov, president and ceo of Xilinx, said recently that venture capital funding won't return to the semiconductor industry even after the recession.
Novelty abounds in this sector, but really breakthrough products have become harder to come by. Interestingly, one of the much cited investment draws to the analog sector is that whilst product innovations come along a little less often compared to other sectors, those products tend to have a longer shelf life and are thus, more profitable in the long term. Arguably, the inherent challenges within analog technology have created more sustainable business models.
So is now an opportunity for the wider electronics market to follow suit, to alter the mind set away from the quick churn approach to product development and focus on creating longer lasting innovations? It is a little like encouraging the financial sector away from the Anglo-Saxon short termist view of returns on capital invested towards adopting the longer investment timeframes of Japanese and continental European businesses.
The electronics industry may not have a choice as to whether or not it follows such a path. With credit markets effectively dry, and with capital hedging towards proven financial safe havens instead of riskier innovations, persuading investors to look beyond the next quarter to the next quarter century is going to be an uphill struggle.