Ikanos Communications Inc (NASDAQ:IKAN) has acquired the assets of the Broadband Access product line from Conexant Systems, Inc. (NASDAQ: CNXT) for $54M partially funded by a sale of $42M in common stock at $1.75 per share to Tallwood Venture Capital. Upon completion of the transaction, Tallwood Venture Capital will own approximately 45% of IKAN, which means that the possibility of any catalytic event occurring is now remote. While IKAN is still trading at a discount to our calculation of its liquidation and net cash values, without a catalyst our investment thesis is gone, so we’re exiting the position.
We opened the IKAN position at $1.14 and it closed Friday at $1.37, which means we’re up 20.2% on an absolute basis. The S&P500 Index was at 836.57 when we opened the position and closed yesterday at 866.23, which means we’re up 16.6% on a relative basis.
Post mortem
We started following IKAN (see our post archive here) because it was trading at a discount to its net cash and had retained a financial adviser to “assist it in exploring and evaluating strategic alternatives to maximize shareholder value.” IKAN disclosed in its September 10Q that it had retained investment bankers to advise the board about IKAN’s strategic options:
We recently decided to retain Barclays Capital (formerly Lehman Brothers) to provide financial advice regarding potential strategic options for the Company. Such options include, without limitation, financing transactions, acquisitions, strategic partnerships, corporate restructuring and other activities. There can be no assurance that the evaluation of our options will result in the identification, announcement or consummation of any transaction. If the Board of Directors does decide to authorize a transaction, that decision could cause significant volatility in the price of the Company’s outstanding common stock. Moreover, any transactions we do sign may not be acceptable to our stockholders. In addition, our investigation of strategic options may result in added costs, potential loss of customers and key employees as well as management’s distraction from ordinary-course business operations.
We said at the time that there seemed to be some appetite for acquisitions in this industry giving the example of IKAN’s competitor Centillium Communications Inc (NASDAQ: CTLM), which was acquired in October last year. We were hoping that IKAN was to be the vendor, but it seems the “strategic option” favored by IKAN and its investment bankers is to be the acquisition of Conexant’s Broadband Access product line. Here’s the press release:
Ikanos Communications Announces Plans to Acquire Conexant’s Broadband Access Product Line
Tallwood Venture Capital Invests $42 Million
Webcast and Conference Call Details Included for this Event and for
First Quarter 2009 Financial Results
FREMONT, Calif., April 22, 2009, Ikanos Communications, Inc. (NASDAQ: IKAN), a leading provider of broadband semiconductor and software products for the digital home, today announced the signing of a definitive agreement to purchase the Broadband Access product line from Conexant Systems, Inc. (NASDAQ: CNXT). The combined organization will have the expertise and resources required to satisfy the demand for powerful broadband network products around the world.
Under the terms of the agreement, which was unanimously approved by the boards of directors of both companies, Ikanos will purchase Conexant’s Broadband Access product line for $54 million in cash and the assumption of certain employee and facility related liabilities. In connection with this transaction, Tallwood Venture Capital, a leading investment firm focused on the semiconductor industry, has agreed to purchase 24 million shares of Ikanos common stock for $42 million, or $1.75 per share. Tallwood will also receive warrants to purchase an additional 7.8 million shares of common stock at $1.75 per share. The warrants will have a term of five years. Upon completion of the transactions, Tallwood Venture Capital will own approximately 45 percent of the outstanding shares of Ikanos (excluding the warrants). In addition, following the transaction, George Pavlov, general partner, and Dado Banatao, managing partner, will join Ikanos’ Board of Directors.
Ikanos’ purchase of Conexant’s Broadband Access product line is subject to customary closing conditions, including stockholder and regulatory approvals, and is expected to be completed in the third quarter of calendar year 2009.
Ikanos expects that the transaction will more than double the Company’s revenue, while providing significant leverage in its cost and spending structure. Ikanos also expects that the transaction will be accretive to its non-GAAP earnings per share within the first year after the close of the transaction.
“With the number of home networks doubling to more than 400 million by 2013 according to analysts, there’s a substantial opportunity for Ikanos to address the need for delivering bandwidth to and throughout the home,” said Michael Gulett, president and CEO of Ikanos. “We’ll use our strengthened leadership in broadband access as a platform on which to build new offerings that extend multi-play services seamlessly everywhere they are needed.”
Today, Ikanos and Conexant account for a cumulative 330 million broadband access ports shipped, bringing the power of the Internet to millions of people around the world. Conexant’s Broadband Access product line has traditionally been strong in North America and China while Ikanos has led in Japan, Korea and Europe. The combined company will be well positioned to address the global market for broadband semiconductors, and better serve customers in all geographies.
“Customers should not be concerned about product transitions. Once the acquisition is complete, the combined company will continue to make available and support the products acquired from Conexant along with the products of Ikanos,” added Gulett.
The combination of Ikanos and Conexant’s Broadband Access product line brings together the industry’s most comprehensive portfolio of broadband access products. Ikanos will build on its status as the VDSL market share leader, will add substantial ADSL market share, and will have a broad product portfolio that includes SHDSL, 802.11 b/g wireless networking, Ethernet switching, and passive optical networking (PON). In addition, the combined company will have both MIPS- and ARM-based processors that are powering broadband access networks around the world.
The combined company will also have the expertise to enable service providers and network equipment manufacturers to effectively build advanced networks, and deploy multi-play services including high-speed Internet, Internet protocol television (IPTV), voice-over Internet protocol (VoIP) and fixed-mobile convergence (FMC) offerings. The combined organization’s customers will include a vast array of industry leading network equipment manufacturers and service providers from around the world.
“The combined company brings together a talented team of employees that pioneered and set the standards for the broadband market,” said Craig Garen, senior vice president and general manager of Conexant’s Broadband Access business. “Going forward, we’ll continue to innovate and create new broadband access and home networking products that deliver enhanced value to the marketplace.”
Both Ikanos and Conexant have been strong, active proponents of industry standards, and are advancing the development of next-generation technologies like ITU-T G.hn for whole-home networking, retransmission and the dynamic spectrum management. The combined company will have a portfolio of intellectual property that will include well over 400 patents and applications.
“This transaction brings together a powerful combination of leading products, strong customer relationships, and deep technical expertise, all dedicated to the broadband market,” said George Pavlov, general partner at Tallwood Venture Capital. “The new company that emerges will be able to compete more effectively in existing and emerging markets, develop exciting new products, and provide greater value for its most important stakeholders – its customers, investors and employees.”
IKAN is still trading at a discount to both its net cash and liquidation valuations, so it’s difficult to exit when the possibility of additional upside is good. IKAN is still burning cash, so that value will deteriorate, and our investment thesis was based on some catalytic event occurring before the value was dissipated. Tallwood Venture Capital’s 45% holding (excluding the 7.8M warrants) means that Tallwood has control, which in turn means the chance of a catalytic event occurring that could realize that value is now low. For those reasons, we’re out.
Hat tip to JM.
[Full Disclosure: We have a holding in IKAN. This is neither a recommendation to buy or sell any securities. All information provided believed to be reliable and presented for information purposes only. Do your own research before investing in any security.]
The absolute total return across the current and former positions as at February 28, 2009 was -3.7%, which was +7.0% higher than the S&P500’s return over the same periods. A negative return for the first period is disappointing, but we are heartened by the fact that we outperformed the market by a small margin.
Greenbackd 