Why ON Semiconductor Could Be The Big Loser If NXP Sells Standard Products Division

FBR said that a potential sale of NXP Semiconductors NV NXPI's standard products unit to a Chinese entity is bad for ON Semiconductor Corp ON.

A Bloomberg report said NXP Semiconductors is weighing a sale of its standard products business, and may seek at least $2 billion for the unit, which makes diodes, transistors and other standard chip products.

The report added that the unit has drawn interest from Chinese suitors including Jianguang Asset Management Co., the Beijing-based investment firm known as JAC Capital.

"While this sale would be a net positive for NXP, it should be seen as a net negative for ON Semi whose products often compete," analyst Christopher Rolland wrote in a note to clients.

Related Link: NXP Semiconductors Gains 2%, Co. Said To Be Exploring $2 Billion Asset Sale

Rating And Justification

The analyst, who has an Outperform rating on NXP, said relations between NXP and JAC Capital are already strong, as NXP recently sold its RF division to JAC for $1.8 billion and has said in the past that it plans to form a Chinese JV with them.

"Additionally, as the division is not US based, it should receive less regulatory scrutiny around the transfer of key technologies," Rolland added.

Commenting on the potential Chinese buyout of the unit, Rolland noted, "A scenario exists in which a Chinese entity purchases a semiconductor company with a large catalog of standard products. Additionally, this entity may be driven by the agenda of the State, which may include increasing employment over profit. If this entity were to reduce margins and prices, in order to increase sales, it would also result in higher wafer starts and employment."

Rolland continued, "Flooding the market with inexpensive parts would be a net negative for ON Semi, whose catalog (which will also soon include the catalog of Fairchild) has some overlap with NXP."

Rolland believes the potential sale would result in about $0.60 of dilution (assuming they pay down 4 percent debt with the capital) and would increase company gross margins to about 52 percent from about 49 percent as standard products is NXP's least profitable segment.

Additionally, the analyst noted that the potential deal would allow management to focus on more profitable, higher growth, and less capital intensive products (increasingly fabless).

Shares of NXP, which merged with Freescale Semiconductor last year, rose 1.53 percent to $82.50, while ON Semi fell 0.26 percent to $9.49.