Under Motorola's Hood
The Bull Argument
By
Chris Rugaber (TMF Chris)
As those following the mobile phone business know, this may not be the best time to write a bull argument for Motorola <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MOT)") else Response.Write("(NYSE: MOT)") end if %>. After all, isn't this the company that just issued its second earnings warning of the quarter last week? Haven't the shares of this company fallen some 70% so far this year?
Well, yes. But, the bearish headlines have gotten carried away. Like its competitor Ericsson <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ERICY)") else Response.Write("(Nasdaq: ERICY)") end if %>, Motorola is largely judged by the success (or lack thereof) of its mobile phone business, even though that division only accounts for about a third of revenues. Nevertheless, there are plenty of other things going on at the company, such as its rapidly growing networking and broadband equipment divisions.
In addition, Motorola is taking the right steps to increase the profitability of its Personal Communications Segment (as the mobile phone division is called). As a result, while things may look difficult now, a better future is not that hard to discern.
What's more, all this comes at a decent price: Motorola's shares are currently valued much more cheaply than Ericsson's and those of other wireless equipment companies.
Last week's earnings warning
Before we get to all that, let's quickly address last week's earnings warning. Certainly, the numbers weren't good: Revenue for the fourth quarter of this year is now projected to come in at $10 billion, rather than $10.5 billion, while earnings per share (EPS) will be about $0.15, rather than $0.27.
However, as Motorola made clear in a conference call, these numbers were the result of temporary factors affecting the personal communications and semiconductor businesses. In the personal communications division, cost-cutting measures are simply taking longer than expected. The semiconductor business has slowed because of inventory buildup among customers -- the same problem experienced by other chipmakers such as Intel <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: INTC)") else Response.Write("(Nasdaq: INTC)") end if %> and National Semiconductor <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NSM)") else Response.Write("(NYSE: NSM)") end if %>. The company expects both of these problems to be resolved by the middle of next year.
So, what cost-cutting measures is the company referring to? Let's take a look.
Cost cutting and streamlining
To begin with, Motorola is outsourcing more of its manufacturing, as many other high-tech equipment companies have done, to cut costs and increase profitability. Last May, the company signed an agreement with electronic manufacturing services (EMS) provider Flextronics <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: FLEX)") else Response.Write("(Nasdaq: FLEX)") end if %> to outsource $30 billion of manufacturing over the next five years. In addition, the company contracted out another $1 billion of manufacturing over three years to Celestica <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CLS)") else Response.Write("(NYSE: CLS)") end if %> last week. Overall, the company plans to outsource 50% of its manufacturing by next year.
In addition, until recently Motorola used more than 10 different platforms for its various handset models, requiring a wide range of components. The company learned its lesson, however, and began consolidating its various platforms earlier this year. This should enable Motorola to buy more parts from fewer suppliers and achieve some economies of scale.
This last measure, in particular, will take time, as the company works off accumulated inventories. Both initiatives should yield significant cost savings, however.
New phones
As I argued in a news article last week, cost cuts may not be enough. The company does need to increase its mobile phone sales.
I may not have given the company enough credit, though. Last week Motorola introduced eight new products at a trade show, including a second Bluetooth-enabled phone (the company's first Bluetooth phone was one of the first commercially available in the world). Bluetooth is a short-range wireless technology that enables electronic devices to connect and communicate. With Motorola's Bluetooth phone, for example, you could keep your mobile phone in your pocket and carry on a conversation using a wireless headset.
In addition, the company's new, colorful V-Series phones include an Internet browser and address book, as well as short-messaging service (SMS) capability. SMS has proved wildly popular in Europe. These new products demonstrate that innovation is alive and well at Motorola.
Other high-growth areas
As I indicated earlier, there's a lot more to Motorola than mobile phones. The company's network systems segment -- now referred to as the "Global Telecom Solutions Segment" -- is building next-generation wireless systems around the world, and increasing sales and profits smartly as a result. For example, during the third quarter the company was selected to participate in trials of NTT DoCoMo's 3G network. Sales for the division were up 23% in the third quarter, and operating profits jumped 33%.
In addition, thanks to the company's purchase of General Instrument earlier this year, Motorola's Broadband Communications Segment is growing by leaps and bounds. The division, which sells digital set-top boxes and cable modems, grew revenue 47% in the third quarter this year, and doubled operating profits.
And all at a great price, too!
Finally, there's the company's valuation, which reflects most of the short-term doubts surrounding the company.
Currently, Motorola's estimated EPS for 2001 is $1.15, though the company indicated it would probably reduce guidance for next year at the end of this quarter. Even if the company's earnings for 2001 end up as low as $0.85 per share, as one analyst guesstimated, last Friday's closing price of $19.25 is only 22.5x that estimate. Meanwhile, Ericsson, which is in worse shape than Motorola in my opinion, trades at 39x estimated year 2001 earnings, as of Friday.
As a result, Motorola should pique the interest of an investor with a long-term horizon. There's no guarantee that the company's ongoing restructuring will succeed. But if it does, it may be a long time before the company's shares are this low again.
Bear Argument »
