In what may be considered a defensive move, Google Inc (GOOG) agreed to acquire Motorola Mobility Holdings (MMI) for $12.5 billion ($40 a share), a 63% premium to its closing price on August 15, when the deal was announced.
The deal was the biggest in Google’s 13-year history, with the 136 acquisitions it has made since it went public in 2004 costing the company just $9.1 billion in total.
Google has stated that Motorola would continue to be run as a separate unit, with its phones based on the Android OS.
A Strategic Move
However, we consider it a strategic move, given Motorola’s 17,000 existing and 7,500 pending patents. In fact, this is the main reason Google decided to go for the purchase, denting its $39 billion cash balance.
The deal also shores up Google’s patent portfolio in the mobile space, which has lagged peers such as Apple Inc (AAPL). We think this would lend stability to the Android ecosystem and encourage hardware partners Samsung, HTC and Sony Corp (SNE) among others who have been fearing increased payouts to companies claiming patent infringement and therefore, getting restless. In fact, HTC recently announced that it would be making phones based on Microsoft Corp’s (MSFT) Mango.
We do not think that Google would be interested in going for a software-hardware integrated approach, since this is likely to pull down its margins. We think it very likely that it would instead sell or spin off the hardware business some time in the future.
Google’s announcement surprised many on Wall Street, although it was always expected that the tech giant would do something to defend its position in the mobile segment. Especially so, after Oracle Corp’s (ORCL) claim for billions of dollars (see our analysis here – Oracle Aiming to Cash In on Android) and the purchase of Nortel patents by the consortium comprising Apple, Microsoftand others (see our comments here – Nortel Assets Go to Consortium).
Regulatory Hurdles Will Likely Be Cleared
Although approved by the boards of both companies, the deal is pending regulatory approval. While there could be significant scrutiny, we think approval is likely because Google is not a dominant player in the smartphone market, it just offers an OS that works for multiple hardware makers.
Android is the only OS providing significant competition to Apple right now, so if Google is unable to protect Android, it would in fact reduce competition and make life easier for Apple. At least that is what Larry Page and company are saying.
Is It Too Expensive?
Also, the 63% premium that Google is paying may be somewhat less expensive than meets the eye. That is if we consider Motorola’s significant deferred tax assets that could be utilized by Google.
Additionally, the company also has other amortizable items that could possibly be utilized by Google. The acquisition is expected to be accretive to Google’s 2011 earnings, after excluding intangible amortization charges.
Looking at it from another angle, the consortium buying the Nortel assets is also paying a significant premium, so Google needed to be aggressive in its offer to ensure that the deal went through.
Recommendation
We reiterate our long-term Neutral recommendation on Google shares although our short term rating has shifted to Buy, as implied by the Zacks Rank of #2.
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