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Why Micron's Numonyx Acquisition Could Be a Steal

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As is always the case with an acquirement, execution will be key.

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Well after the close last night, Micron (MU) announced that it will acquire privately held Numonyx for approximately $1.27 billion. The all-stock deal will require Micron to issue approximately 140 million common shares with the possibility of up to another 10 million shares if Micron's stock price is between $7-$9 at closing. Dilution should be approximately 15% but adds 30% to revenue with the deal being accretive on a cash-flow basis in FY11 (starts September 2010).

Numonyx was formed in March 2008 by combining the NOR flash assets from Intel (INTC) along with the flash assets of ST Microelectronics as well as an investment from private equity firm Francisco Partners. Few details were available on Numonyx's product breakdown, but we do know it manufactures NOR flash, a non-volatile memory frequently used for storing executable code; NAND flash, a non-volatile memory used for the storage of data; and Phase Change Memory (PCM), a new type of non-volatile memory said to combine the best attributes of NOR, NAND and RAM (random access memory). Numonyx also brings quite a bit of expertise in multi-chip packages (MCP).

The stock is selling off as one would expect. However, from a Micron perspective it's a lot to chew on, but it can turn into one of those "steals" management has been known for during past downturns.

First off, the deal isn't what you'd call expensive, particularly for the assets and expertise coming on board. At $1.27 billion, that's about 0.55-times Numonyx's revenue run-rate based on their fourth-quarter revenue. There will be no debt and the company currently generates cash from operations. Gross margins are said to be comparable with Micron's in the recent periods, but over a longer timeframe they're actually better. NOR flash tends to carry a higher ASP due to higher levels of customization.

Because NOR flash uses manufacturing process technologies that are one to two generations behind that of DRAM and NAND, the deal will create a unique leverage situation for Micron. The company will be able to utilize its older and, in many cases fully depreciated, tools on the NOR flash lines, thereby enhancing the cash generation potential and adding new efficiency to capital spending.

From a strategic perspective, Numonyx adds to Micron's scale as well as broadens its product portfolio. This should lead to a broadening of its customer base. About two-thirds of NOR flash goes into the mobile market which is an end-market where Micron has had limited success thus far. Clearly, the mobile market is going to be one of the biggest drivers of memory demand in coming years.

There are issues to be concerned with. The NOR market is only one-quarter of the overall flash market. The demand from users of embedded NOR is quite stable but the mobile end-market is in transition. Demand for low-density NOR used in mid-tier and entry-level phones remains quite solid. However, the high-density demand is shifting away from NOR. Micron needs to insure that when those shifts take place a Micron MCP is the beneficiary.

As is always the case with acquisitions, execution will be the key. This is something Micron's management has been through before so there's plenty of experience to fall back upon.

My basic premise on the stock hasn't changed because there's been no alteration in the supply-demand imbalance for the memory industry. Acquiring Numonyx doesn't change that equation.
Position in MU.
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