When MOTOROLA Inc. moved to spin off its $5.7 billion semiconductor business the newly launched company, Freeseale Semiconductor Inc., got no respect. Freescale shares made their debut at a limp $13, trading at less than 50% of the valuation accorded larger rival Texas Instruments Inc.
Investors had lots of reasons to be skeptical. Freescale's business under Motorola had piled up hundreds of millions in losses in the early 2000s. Despite a massive restructuring, the unit was operating on razor-thin margins in hyper-competitive chip markets where it seemed to have lost its innovation edge.
But those who didn't pay up for the stock were dead wrong. Just 15 months later, Freescale, which supplies embedded chips and software for wireless handsets and automobiles, is one hot tech company. Earnings jumped threefold in the latest quarter to $164 million on sales of $1.4 billion. Its stock, at $23, is up more than 70% from its starting point.
How did the smart-money folks so badly underestimate Freescale? Given Motorola's troubled history, investors expected little from the spin-off. They also failed to appreciate the talents of Freescale's new CEO, Michel Mayer. And perhaps most important, they discounted the value that a properly executed spin-off can create. Of the 17 deals last year, 13 have beaten the Standard & Poor's 500-stock index by a wide margin.
While disastrous spin-offs such as Delphi Corp. and Visteon Corp. may grab big headlines, many of the deals often result in far stronger businesses. That fact, in tandem with Wall Street's distaste for conglomerates, has a lot of CEOs becoming believers in the magic of spin-offs. American Express Co.'s Kenneth I. Chenault just set loose Ameriprise Financial Inc., its financial advisory business. Henry R. Silverman plans to divide Cendant Corp. into four companies next summer. And Sumner M. Redstone is working on a scheme to split CBS and Viacom Inc. by the end of this year. "Spin-offs usually create huge value because a business goes from being the redheaded stepchild in a large company to a business being run for its own interests," says Cornell.
The decision to send a division off on its own isn't an easy one for most companies, and it wasn't for Motorola. The unit had been part of the company for 50 years, and its 22,000 employees were "family," recalls one insider. Then there was the matter of a customer-supplier relationship—Motorola accounts for about 25% of Freescale's revenues. Some execs worried that it would be a mistake to give up an integral part of the parent's innovation pipeline. Yet pressure grew from Wall Street and the board to delink so that Motorola could focus on its core markets.
A team of top managers and directors considered the options, including the outright sale of its subsidiary or a carve-out that would sell just part of Freescale to the public. The final decision - probably the most critical to Freescale's ability to prosper - was to make a clean ownership break by distributing all Freescale shares to Motorola stockholders.
That was key, because it meant Motorola was strongly motivated to craft a deal that would make Freescale totally independent and give it the resources to be a muscular player in its markets. Motorola needed Freescale to be strong so it could continue as a strategic supplier of parts for handsets and networking products. "This was about creating value by making Freescale a sustainable, independent company," says Donald F. McLellan, Motorola's vice-president of mergers and acquisitions. As a freestanding company, Freescale should be able to win new customers - especially in the wireless arena, where giants like Nokia Corp. and Samsung Electronics could be reluctant to do business with a supplier owned by a rival.
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