Why Analysts Are Cooling to an Altera-Intel Deal

Shares of Altera Corp. (NASDAQ: ALTR) have recently challenged multiyear highs due to reports late on Friday that Intel Corp. (NASDAQ: INTC) was in talks to acquire the company. Initially it seemed as though a deal may be coming on Monday, and then it seemed as though it would take another week or so. What investors need to know here is that analysts are cooling on their view of such a deal.

24/7 Wall St. wanted to see what sort of premium investors might expect, or determine whether there is no premium left after the rally. As a reminder, Altera shares shot up last Friday afternoon from under $35 to just over $44. Now that shares are closer to $42.50, the market capitalization rate is right at $12.8 billion.

Another issue to consider is what this might mean for Xilinx Inc. (NASDAQ: XLNX). For years, investors have compared Altera and Xilinx to one another. Some investors have even wondered whether these two companies might merge.

So, what is spooking analysts who cover Altera? It turns out that the nearly 30% gain on Friday may have created a valuation premium that is just too high on a standalone basis. Intel can afford to pay $13 billion or more. After all, Intel has a $145 billion market cap now.

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One problem that analysts have is that the valuation now is totally “deal dependent,” if you read through the reports, versus the new higher share price. Altera is valued at 28 times 2014 earnings. It is also valued at 26 times expected 2015 earnings and at 22 times expected 2016 earnings.

Intel is valued at 13 times trailing earnings and at 14 times 2015 earnings estimates and 13 times 2016 earnings estimates. Xilinx’s earnings multiples are as follows: 19 for 2014, 18 for 2015 and 18.5 for 2016 — although the fiscal year-end dates are very different.

The independent research firm Argus downgraded Altera on Wednesday. The firm pointed out that the run-up on Intel buyout speculation has put a substantial acquisition premium on the stock, and that it puts Altera valuations within 2% of its former target price of $43. As far as Xilinx, Argus said that it was retaining its Buy rating on duopoly pair Xilinx as it remains attractively valued at current levels. The Argus report said:

Given the sharp run-up in the stock, downside risk in the Altera shares now outweighs potential upside from current levels. Intel has not said anything publicly regarding its M&A plans with Altera. That silence alone, coming several days after the Altera shares spiked on rumors, suggests either that the take-out reports are premature or even unfounded, or that the two sides are wrestling to find a fair price. The fundamental story at Altera remains a good one …

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Wells Fargo’s chip industry update was issued after the rumors broke. No ratings changes were made to the Altera Outperform rating, but Wells Fargo said:

We think that Intel’s current stock price is at levels that make it very attractive, whether or not an acquisition of Altera does eventually occur. We are reiterating our Outperform rating on Intel. Intel remains our Top Pick … an acquisition of Altera would likely be margin accretive to Intel … any positive impact of an acquisition of Altera on Intel’s income statement would at best be small, especially after subtraction of acquisition costs and ongoing amortization.

We did see an upgrade of Altera on Monday from William Blair to Market Perform from Underperform. That analyst does not want to get caught saying to sell the stock when or if a merger comes. Elsewhere these other downgrades and analyst calls were seen:

  • CLSA downgraded it to Underperform from Outperform.
  • Macquarie downgraded it to Neutral from Outperform, with a $45 price target.
  • Morgan Stanley downgraded it to Neutral from Overweight but raised its price target to $44.
  • S&P Capital IQ maintained its Hold rating but raised its target price to $45 from $35.

The long and short of the matter is that what analysts are saying is that Altera is valued at a premium above what they think the real value is on a standalone basis. Thomson Reuters has a consensus price target of $37.87, and the prior highest analyst price target was $45.00.

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What about Altera stock options prices? The April 17, 2015, $43 call options are trading at just under $2 per contract, indicating a $45.00 breakeven for the trade.

Altera shares hit a $45.00 high on Friday after the rumor was reported. The high on Monday was $44.00, followed by a high of $43.18 on Tuesday. Wednesday’s high was $42.75, and shares were down about 1% at $42.40 in mid-afternoon trading.

Maybe a deal will come between Intel and Xilinx. Maybe a deal won’t. Either way, the current share price indicator is not acting favorably for Altera shares. If a deal does come, analysts, investors and options traders are not very optimistic that very much upside is left in Altera shares.

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