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Google Acquires Motorola Mobility

On Monday, August 15, 2011, Google and Motorola Mobility Holdings announced that they have entered into a definitive agreement under which Google will acquire Motorola Mobility Holdings for U$40.00 per share in cash, representing a total of about U$12.5 billion. The price corresponds to a premium of 63% to the U$24.47 closing price of Motorola Mobility shares on Friday, August 12, 2011. The premium paid by Google is high enough to discourage any serious counter offer.

The transaction, subject to customary closing conditions including regulatory approvals in the US, the EU and other jurisdictions, has been unanimously approved by the boards of directors of both companies, and is expected to close by the end of 2011 or early 2012.

During a joint conference call, Google executives reaffirmed that Motorola Mobility will remain a licensee of Android and Android will remain open. Google will also run Motorola Mobility as a separate business.

Our vision for Android is unchanged and Google remains firmly committed to Android as an open platform and a vibrant open source community. We will continue to work with all of our valued Android partners to develop and distribute innovative Android-powered devices.” — Andy Rubin, Senior Vice President of Mobile at Google [Aug 15, 2011]

The official reason for this surprising acquisition has been clearly laid out by the recently re-appointed CEO and co-founder of Google, Larry Page: patents acquisition to defend Android.

Our acquisition of Motorola will increase competition by strengthening Google’s patent portfolio, which will enable us to better protect Android from anti-competitive threats from Microsoft, Apple and other companies.” — Larry Page, Google CEO [Aug 15, 2011]

Under the terms of the transaction, Google has been rumored to be forced to pay Motorola Mobility an unusual U$2.5 billion in reverse break-up fee if it fails to close the purchase, representing 20% of the transaction (more than the median 4% last year). On the other side, if Motorola were to decide not to go through with the deal, it would have to pay Google a U$375 million in a break-up fee, or 3% of the deal valuation (industry standard).

The biggest acquisition so far in its 12-year existence and 100-plus acquisitions will cost Google about a third of its U$39.1 billion cash reserves (as of June 30, 2011). The transaction price is equivalent to 3.2 quarters of Google net income with 2011 Q2 financial results as reference [(U$12.5 billion – U$3.2 billion = U$9.3 billion) / U$2.9 billion = 3.2 Quarters], if you remove the U$3.2 billion in cash, cash equivalents and cash deposits on the balance sheet from Motorola Mobility's latest financial release [2011 Q2].

Most of the major Android partners have officially endorsed the deal, and welcomed Google to their side in the fierce handset-maker patent battle that is happening in the world currently. Until now, no telecom company besides France Telecom have mentioned anything regarding the acquisition.

Upon the announcement, Google stock price fell 1.2% and Motorola Mobility was up by 56%. More surprisingly, other players in the industry such as InterDigital Inc. (down 14%), Microsoft (up 1.6%), Nokia (up 10%) and RIM (up 10.3%) were also moving dramatically, indicating that the story is far from over, and is much bigger than it seems.

What Is Motorola Mobility Holdings Anyway?

Motorola was created in 1928 with its first product being a battery eliminator. The name Motorola ("Motor" and "Victrola") was adopted in 1930, and has been used as a trademark since the 1930s.

Motorola Logo in 1947
Source: Etiziano.com

Considered to be one of the oldest brands in the US technology industry, Motorola has been most recently in financial trouble and seen as past its prime. Once considered the Apple of the 90's, Motorola was dominating the wireless market in the mid-90's (StarTAC’s flip phone) and mid-2000s (RAZR). In 1994, Motorola claimed 60% of the US market in wireless phones [Herschel Shosteck Associates], today the company has 14.5% of the US market [comServe Aug 2011].

In the last quarter of 2007, Motorola's handset division recorded an operating loss of U$1.2 billion. After many rounds of lay offs in 2008, cost cutting measures during the economic downturn and a spin-off plan for a later divestment, Motorola has managed by mid-2010 to stabilize the device division.

On February 11, 2010, Motorola finally announced a split into two independent, publicly traded companies. The two new companies were called Motorola Mobility Holdings (NYSE: MMI; cell phone and cable television equipment company) and Motorola Solutions (NYSE: MSI; government and enterprise business). Motorola Solutions is considered to be the successor to the previous Motorola.

Since the beginning of 2011, shareholders, led by billionaire activist Carl Icahn, were desperately looking for buyers. Motivated by Nortel’s recent patent sale, the largest-ever patent auction in recent history (U$4.5 billion), Icahn urged Motorola to explore alternatives for its own patent portfolio.

Monday's Google-Motorola deal will net Icahn a considerable return. His 26.8 million shares are now worth over U$1 billion, up from U$655.8 million last Friday.

What Does Motorola Mobility Sell?

As of December 31, 2010, Motorola Mobility and its subsidiaries had approximately 19,000 employees worldwide. Motorola Mobility divides its business in two distinct categories:
  1. Mobile Devices segment: smartphones, feature phones, voice-centric phones, and media tablet devices. Mobile Devices net revenues represented 68% of Motorola Mobility’s combined net revenues in 2010.
  2. Home segment: interactive set-top boxes, IPTV systems, and customer premises equipment (CPE). Home net revenues represented 32% of Motorola Mobility’s combined net revenues in 2010.

Motorola Mobility Holdings Financials
: MMI Form 10K (Dec 31, 2010)

Motorola Mobility’s products are primarily sold through wireless carriers, network and cable operators, distributors and to end consumers. In 2010, aggregate net revenues from their five largest customers represented approximately 49% of the company net revenues. During 2010, approximately 28% of net revenues were from Verizon Communications. In 2010, the largest markets by locale of end customer were: North America (65% of market revenues), Latin America (14% of market revenues), followed by China, Europe and Other Markets (7% each).

Motorola’s Revenue and Operating Income (in U$ Millions)
Source: Silicon Alley Insider (
Aug 15, 2011)

Motorola Mobility has approximately 24,500 patents and patent applications, worldwide. The Mobile Devices business segment alone has approximately 15,200 granted patents and 6,200 pending patent applications worldwide related to various industry standards, including 2G, 3G, 4G, H.264, MPEG-4, 802.11, open mobile alliance (“OMA”) and near field communication (“NFC”).

The Home segment has approximately 1,900 granted patents and 1,300 pending patent applications worldwide, including MPEG video compression, ATSC for digital TV transmission and DOCSIS for data transmission over cable systems.

In its latest financial quarter of 2011 Q2, Motorola Mobility announced that the Mobile Devices division sold 4.4 million smartphones, 440,000 tablets and 6.2 million feature phones, a 40% year-over-year growth; saw U$3.3 billion in revenue, up 28% from 2010 Q2. The second quarter gross margin percentage for Motorola Mobility was 25.9%, compared to 25.5% in the second quarter of 2010. For the full year, the company expects shipments of smartphones and tablets to be between 21 and 23 million units, including 1.3 to 1.5 million tablets. In the Home segment, Q2 revenues were U$907 million, up 2% year-over-year.

Despite announcing a first time in 3 years U$0.22 a share dividend, a share repurchase program of U$2 billion through the end of 2012, and a U$1 billion year-to-date of foreign cash repatriation to the US in their 2011 Q2 quarterly earnings call, the Motorola Mobility stock price stayed flat.

Worldwide Mobile Device Sales to End Users in 2010 (Thousands of Units)
Source: Gartner (Feb 2011)

Simply put, Motorola Mobility is a troubled handset manufacturer trying to resurrect itself after a 3-year long and difficult restructuring, in a low margin and competitive business, centered mostly in the US with a strong brand name and a large patent portfolio in the mobile industry. The company has been cleaned up, trimmed down and was up for sale.

Meanwhile, What’s Been Happening in the Mobile Industry?

Since the introduction of the iPhone in June 2007, the mobile industry has shifted to more innovation and more functionality stuffed in the small handset. This shift imposed on telecommunications companies by Apple, initially in the US and subsequently around the world, created a new category in the mobile industry called smartphones. Essentially driven by consumer demand, the industry is following Apple's footsteps with large touch screen interface, more features and higher price.

The Smartphone Landscape Worldwide, 2011 Q2
The New York Times, Gartner (Aug 15, 2011)

In just four years, Apple managed to create a large ecosystem with its closed, proprietary solution of hardware and software, forcing telecommunications companies around the world to accept their sale conditions and coercing leading content providers to accept the iPhone (and now iPad) device as the device of choice in the "post-PC" digital world. In 2010 Apple sold almost 40 million iPhones, and had recently, albeit briefly, topped Exxon as the most valuable public company in the world at U$350 billion in market capitalization. With a most-wanted and now available everywhere device, Apple has captured 66% of the profit of the smartphone category in 2011 Q2 around the world, among the top eight manufacturers.

With its magic operating formula and high quality devices strategy, Apple has managed to save U$76.2 billion in cash and marketable securities [June 30, 2011]. Apple has become the world’s largest smartphone vendor by revenue, profit and by volume with 18% market share worldwide [Strategy Analytics, July 29, 2011]

Operating Profit from Mobile Phone (U$ billion)
Source: BGR (Jul 29, 2011)

Google entered the mobile industry from a different angle. Google wanted their OS on all the mobile handsets but did not want to build any devices.

We’re not making hardware. We’re enabling other people to build hardware.” – Andy Rubin, Vice President of Engineering for Android at Google (Nov 2, 2009)

Despite, and perhaps due to, its marginal and unsuccessful attempt to sell its own phone hardware (Nexus One and later, Nexus S) Google decided instead to build a modern OS for all mobile manufacturers, and distribute it for free. Since its inception on November 5, 2007, Android has been activated on over 150 million devices worldwide, with over 550,000 devices turned on every day, through a network of 39 manufacturers and 231 carriers in 123 countries.

Market share for Google’s Android mobile OS hit 48% worldwide in the second quarter of this year [Canalys Aug 1, 2011] and 39% in the US [ComScore July 5, 2011].

In U.S. Smartphone Market,
Android is the Top Operating System, Apple is the Top Manufacturer
Source: Nielsen (Jul 28, 2011)

At this point, all other mobile manufacturers are in any one of the three categories: (1) dependent on Google for their OS (Samsung, LG, HTC, Motorola), (2) changing strategy altogether (Nokia, Windows, Palm), or (3) fighting for a piece of the action (RIM, Sony Ericsson, Sharp, ZTE).

What Is This Patent War About?

It is not the intent of this post to investigate patents and the legal mechanisms to encourage, protect, or prevent innovation altogether (Pros vs. Cons) but rather, to explain what is happening at the moment in the mobile industry as it relates to patents.

It is hard to say who started the war, but the battle today is certainly difficult to follow and very ugly. The bottom line is that companies with large patent portfolios are suing new incumbents for a piece of the trillion-dollar mobile industry.

Who Is Suing Whom in the Mobile Industry
Source: The Guardian (Oct 8, 2010)

The revenue in the mobile industry is shifting towards the smartphone business. Although the BoP consumers (bottom of the pyramid) still need feature phones, margins in the high-end device market segment are too attractive to let Apple clean the table without even trying to challenge them and their 60% gross profit margin per iPhone. One way to slow down competitor expansion and generate sizable revenue is to ask for a license fee per device sold for patent infringement.

Rumors mentioned that Apple is due to pay Nokia U$11 for every future and past sold iOS device in the recent June settlement. Microsoft has demanded that Samsung Electronics pay U$15 for each smartphone handset the South Korean company makes based on Android OS, echoing the U$5 per device HTC is already paying to Microsoft for every phone it is making with Android as its OS. It is easy to speculate that Microsoft could end up making more money in license fees against Android than from its own mobile business.

Most such fees have been passed down to consumers in the form of a price hike, and not absorbed by handset manufacturers. The real objective of this patent war is to reach a cross-licensing agreement between the large mobile handset players and to force other smaller, patent-light players to forego their strategy when facing a lengthy and expensive legal battle. Google and its 500 patents is very new in this tactic compared to Apple's 4,000 and Microsoft's 17,000 patent portfolio.

Number of Mobile Patents for Android OEM’s
Source: Global Equities Research analyst, Trip Chowdry; via eWeek (May 10, 2011)

After the U$450 million acquisition of Novell’s patents by the “CPTN” group (including Microsoft, Oracle, EMC and Apple), and Nortel’s 6,000 patents by the “Rockstar” group (including Microsoft, RIM, EMC, Ericsson, Sony, and Apple) for U$4.5 billion, Google had no other option but to consolidate its patent portfolio at any cost or give up its mobile strategy. Only a few plausible companies are on the list for a quick and easy snap: Motorola (17,000 patents), InterDigital (8,800 patents), and RIM (2,033 patents).

Immediate Consequences of the Motorola Mobility Acquisition

The Google goal of reaching the most mobile devices on the planet has been reached and today Google achieved what it wanted when it ventured into the mobile space four years ago: to establish its name, credibility and loyalty with consumers. It is now time to convert this massive market share into a more steady revenue. Android generated U$5.90 per user in mobile advertising in 2010. But the figures are still pale compared to selling high-end phone devices (Apple makes U$370 in profit for every iPhone sold).

The Mountain View company has yet to find the next billion dollar revenue stream, as 97% of Google’s revenue is from advertising. With the Motorola Mobility acquisition, Google just entered a new billion-dollar business with a strong US brand name. The mobile handset manufacturing business could be an interesting add-on to the core advertising business, if tighter development and integration could be done between software and hardware, somewhat like Apple.

On the contrary, if Google can convince its handset manufacturer partners that the new acquisition is not a threat to their existence (the same way it managed the Mozilla relationship with its Chrome in-house development), Google would succeed where neither Palm (WebOS license) nor Apple (iMac license) have.

But a likely scenarios is after some time, the majority (if not all) of current Android partners (HTC, LG, Samsung, ZTE, SonyEricsson among others) may seek an alternative to the Open Handset Alliance. The Motorola Mobility and Google relationship will naturally develop into a tighter collaboration, and current Android partners may feel like second-class citizens. In such a case, Windows Phone 7, MeeGo, Bada, WebOS or HTC Sense could be viable OS alternatives for any of these handset manufacturers.

When this happens, Google can eventually streamline its handset product portfolio and software releases, as well as switch Android from open source to proprietary (i.e., becoming similar to Apple, RIM), thereby addressing the overwhelming concerns over device fragmentation of the Android ecosystem, the same concerns that choked the Symbian platform just a few years ago.

What’s Next?

If the three main deep-pocketed players (Apple, Microsoft, Google) consider the patent war finished with this last announcement, then no new acquisition will emerge in the future. If not, more companies will be targeted: RIM, Nokia, Alcatel-Lucent, Kodak and InterDigital seem to be the likely candidates. Sprint could be a stretch.

Google may be spending the next months understanding the handset manufacturing business, divesting parts of the non-core business (Motorola features phone, voice-only phone) or exiting strategically challenging areas (China), and investing in next business ventures (Google TV merging with Motorola’s TV set-top boxes). A surprising and less likely scenario could see Google keeping the patent portfolio only and selling the manufacturing business to an Asian partner.

Whatever Google chooses to do with the Motorola Mobility acquisition, now the Mountain View company became the only mobile company that might be able to compete globally with Apple head-to-head... at least until the Windows-Nokia reboot.

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