When former STMicroelectronics R&D director Jo Borel tried to convince the French government that it should try to convince Europe's three largest chipmakers to merge, he almost certainly didn't have in mind what ST and NXP Semiconductors plan to do. They are not merging the entire companies but taking the wireless business units and glueing them together.
The argument used for the merger is not all that dissimilar to Borel's: it's all about scale. Borel wanted Infineon, NXP and ST to team up to be big enough to build and operate a leading-edge fab - it is something that is only worth doing if you are selling billions of dollars' worth of chips every year out of that facility. Not able to do that on their own, the three companies expect to buy wafers made using the latest processors from foundries such as TSMC.
The availability of foundry-made silicon is one reason why Infineon chief Wolfgang Ziebart has said that there is not all that much point in trying to be big for the sake of being able to keep building fabs. His view is that companies will specialise and do whatever they can to be in the top three of their chosen market. Infineon has been bulking up in wireless recently, thanks to its purchase of a business unit that was only briefly part of LSI when that company bought Agere Systems.
The move by NXP and ST is on a larger scale, creating an as-yet unnamed joint venture that is comfortably in the top-three wireless silicon makers and around twice as big as the next largest supplier. According to iSuppli, that will be Infineon once the deal is done. The German company is at the head of a line of $500m to $1bn suppliers. The ranking switches a little if you look at it from the perspective of baseband processors - the single most important segment in cellular wireless silicon. ST lies at number three, NXP at five.
According to Francis Sideco, senior analyst for wireless communications at iSuppli, Mediatek is currently number three behind Qualcomm and TI. ST is at four and NXP at sixth: separated by Freescale Semiconductor.
Sideco agrees with the bosses of NXP and ST that scale matters in this business. For Sideco, the turnover for a long-term survivor in the wireless space is in the $3bn to $4bn range. JV had sales of a little under $3bn in 2007, according to ST president Carlo Bozotti. TI and Qualcomm are turning over more than $5bn, according to figures from iSuppli quoted by ST in its analyst call. The merger will put some distance between JV and Infineon, according to iSuppli's number.
Just glueing business units together is not necessarily going to keep JV at number three -all too often these deals are less than the parts, let alone the sum of the parts. But the overlap between NXP and ST's wireless units is surprisingly low. NXP is good at standard products and basebands; ST has specialised in doing custom jobs for major handset makers.
Assuming the merger is successful, the deal could be the catalyst for a wave of similar deals in this business. Or it could presage a wave of price cutting as the mid-sized players try to make sure they can maintain a toehold in the market while the big fish attempt to tie up all-you-can-eat deals with the handset makers?
One thing that counts against there being a series of consolidation deals is the credit crunch. Private equity's foray into the chip business did not last as long as the private equity firms expected. And the few that are in the hands of the financiers are too heavily loaded with debt for comfort. That helps explain why the deal between ST and NXP looks a little odd.
If you just took the two wireless groups and put them together, you would expect ST to have the larger share, but not by much. Instead, ST is going to own 80 per cent of the JV and will pay $1.5bn for the privilege, all out of the company's own cash reserves. The company does not seem keen to repeat the Numonyx experience of trying to raise loans to fund the deal.
It begs the question of why NXP did not just sell the whole wireless business to to ST: it would raise more cash, and cut NXP's heavy debt burden. But, NXP chief Frans van Houten claims the company is in the deal for the long run, even though it has a piece of paper that explains how NXP might cash-out of the JV. NXP is presumably hoping that the value of its investment will rise as the supplier count in the wireless-silicon business falls. Margins in the wireless segment are lower than the rest of NXP's operations, so the company may feel that it can make a better return by hanging onto a small part of that business rather than selling it all now.
It may be that, without the pressure of the debt, NXP would have soldiered on alone -and try to stay in the top five by continuing with the kinds of small deals the company did with Silicon Labs and Glonav.
Most of the other companies in the top ten are not in that position. The wildcard is Freescale, which is saddled with the same kind of debt-heavy position as NXP. But who would try to buy Freescale's handset silicon group? The company is not in the position to do the reverse. It might take the kind of chaos that has forced the memory makers to consider shotgun weddings to sort out what happens in the remainder of the top ten.