Can Semiconductor Companies Operate With Debt?
Some semiconductor companies are operating in uncharted waters as they seek to borrow money to keep going. This is something new for the semiconductor industry which has traditionally been able to fund itself through recessions on the cash surpluses accumulated during booms.
The semiconductor business model has been a debt-free model. Now, thanks to the idiocy of private equity companies which bought NXP and Freescale, companies have been loaded up with gratuitous debt which has purchased no benefit for the companies in terms of new facilities or extra capabilities, but has been simply imposed on them as a huge additional burden and a massive extra cost of doing business.
Infineon has been looking to borrow Euros 600 million to help it pay off a Euros 900 million bond redemption payment which falls due later this year, while Freescale, which according to Fitch Ratings already has $10 billion of debt, is looking to borrow another $1 billion.
Under the new Freescale loan scheme, if no one wants to lend the money, then existing bondholders will be allowed to transfer into a new loan maturing in 2014. The new loan pays a hefty 12.5 per cent interest which is a measure of its perceived riskiness.
Existing Freescale bonds due to mature in 2014 carry interest at 8.875 % interest. But, if you were to buy these bonds today, which you can for 22 cents on the dollar, you will actually be collecting a massive 53% interest on your investment.
That’s at a time when a US Treasury bonds maturing in 2014 deliver 2 per cent interest.
So the market is saying that the chances of Freescale defaulting on these bonds is pretty high.
This is such an unusual situation for a semiconductor company to be in, that there’s no knowing whether it’s possible to keep going in these circumstances.
Freescale CEO Rich Beyer says he has a plan to trade his way through even if the market is very bad.
NXP’s new CEO, Richard Clemmer, is facing similar problems. He is almost universally seen as the break-up guy – a financial expert brought in to sell the company off in bits.
This will be difficult while the company suffers under a $6 billion debt burden imposed by private equity owners KKR but, if the break-up is done under a ‘pre-pack’ administration, the profitable bits of the business can be sold off to new owners debt-free, while the unprofitable parts, on which all the debts can be secured, can be allowed to sink beneath the waves.
This, of course, would see the bondholders and creditors royally screwed but, since these are mostly banks which are being bailed out by governments, this may be seen as an acceptable tactic.
With all of us, the taxpayers, paying for these follies and watching the bankers who bought these dodgy debts collecting their bonuses.
The wild card in all this is the EC. Having invested billions in the microelectronics industry since 1984, the European authorities are unlikely to sit idly by and watch it destroyed by blundering Wall Street financiers.
At some stage, one suspects, the EC will promote a consolidation of the European microelectronics industry from what remains of it.