QUALCOMM INC quarterly report, Q2 FY2011

QUALCOMM Incorporated — Form 10-Q Summary

Business context and reporting period. This unaudited filing covers the fiscal second quarter and first six months ended March 27, 2011; comparable periods ended March 28, 2010. QUALCOMM reports four principal segments: QCT (wireless chipsets and software), QTL (patent licensing and royalties), QWI (wireless services and software) and QSI (strategic investments, including FLO TV). The company’s fiscal year ends in September.

Financial performance

Metric	Q2 FY2011	Q2 FY2010	Six months FY2011	Six months FY2010
Revenue	$3.875 billion	$2.663 billion	$7.222 billion	$5.333 billion
Operating income	$1.073 billion	$776 million	$2.182 billion	$1.655 billion
Net income attributable to QUALCOMM	$999 million	$774 million	$2.168 billion	$1.615 billion
Diluted EPS	$0.59	$0.46	$1.30	$0.96
Operating cash flow	Not separately provided	Not separately provided	$1.816 billion	$2.032 billion

Q2 revenue increased about 46% year over year; six-month revenue increased about 35%. Q2 net income attributable to QUALCOMM rose about 29%; six-month net income rose about 34%.
Q2 revenue comprised $2.044 billion in equipment and services and $1.831 billion in licensing and royalty fees. QTL benefited from $401 million of revenue related to prior quarters following resolution of two licensee disputes.
Q2 consolidated operating margin was approximately 27.7%, versus 29.1% a year earlier. The comparison reflects substantial FLO TV restructuring-related costs and a Firethorn goodwill impairment. QCT’s reported segment operating margin was 21% versus 22%; QTL’s was 90% versus 84%.
Q2 dividends announced were $0.19 per share; the company subsequently raised the quarterly rate to $0.215. No shares were repurchased in the six-month period.

Financial position and liquidity

At March 27, 2011, cash and cash equivalents were $6.367 billion and marketable securities totaled $15.739 billion, or approximately $22.1 billion combined. The company reported $8.1 billion held domestically and $14.0 billion held by foreign subsidiaries.
Total assets were $33.824 billion, total liabilities $8.823 billion and stockholders’ equity $25.001 billion. Current assets were $14.850 billion and current liabilities $4.385 billion.
Loans payable were $1.1 billion, related to the India spectrum acquisition. The rupee-denominated loans bear a floating rate (9.25% at quarter-end), are due in December 2012, and lenders may demand prepayment on December 15, 2011 subject to notice.
Six-month operating cash flow was $1.816 billion, down from $2.032 billion. Management attributed the decline primarily to a $1.5 billion U.S. tax payment, partly offset by higher net income. Investing activities used $625 million; financing activities provided $1.619 billion, including $2.024 billion from common stock issuance and $625 million of dividends paid.
Management stated existing liquidity and expected operating cash flow should meet working and other capital needs over the next fiscal year and beyond. The company reported no material off-balance-sheet arrangements.

Material changes and unusual items

QCT shipped approximately 118 million MSM integrated circuits in Q2, up 27% year over year. Management cited higher shipments as a key driver of equipment revenue growth, while noting lower average selling prices and higher product support costs pressured QCT gross margin.
Licensee-reported device sales rose approximately 44% to $40.0 billion. QTL growth reflected higher CDMA device sales and royalties, as well as the $401 million prior-period settlement-related revenue.
FLO TV was shut down on March 27, 2011, and QUALCOMM discontinued its MediaFLO Technologies business. Q2 restructuring and restructuring-related charges were $312 million; six-month charges were $381 million. The company expects up to $65 million of additional charges and $125 million to $175 million of future cash expenditures, with activities expected to be substantially complete by fiscal 2012 year-end.
QUALCOMM agreed to sell substantially all of its 700 MHz spectrum for $1.9 billion, subject to closing conditions including FCC approval. If completed, management expected to recognize a gain of approximately $1.2 billion. The spectrum was classified as held for sale; FLO TV was not classified as a discontinued operation.
Firethorn’s SWAGG application adoption fell well short of expectations. The company recorded a $114 million goodwill impairment, and total Firethorn impairment charges were $120 million; $40 million of Firethorn goodwill remained after the impairment.
The company expected its approximately $3.1 billion cash acquisition of Atheros Communications to close in Q3 FY2011, subject to an additional foreign regulatory approval and other closing conditions.
The company’s estimated annual effective tax rate for FY2011 was approximately 17%, versus 20% in FY2010. Six-month tax expense included a $32 million benefit from the retroactive extension of the federal R&D tax credit.

Outlook, risks and contingencies

Management expected continued growth in demand for advanced 3G and 3G/4G devices, including smartphones and tablets, and continued network deployment in markets such as China and India. The filing gives no clear numerical revenue or earnings guidance.
Management expected FY2011 capital expenditures to exceed FY2010 levels, excluding the $1.1 billion India spectrum advance payment, including an estimated $400 million for a Taiwan manufacturing facility. Japan earthquake-related equipment sourcing delays had modestly postponed the facility schedule; management reported no anticipated significant near-term impact on product supply or regional demand.
Key disclosed risks include reliance on wireless technology adoption and a limited number of significant customers and licensees; chipset competition, pricing and supplier capacity; challenges to the licensing model and intellectual property rights; foreign regulatory and antitrust matters; currency and marketable-securities exposure; and execution, integration and regulatory risks for acquisitions and spectrum transactions.
Material legal matters included patent and competition proceedings involving Tessera, the Korean and Japanese fair-trade authorities, and an Icera complaint to the European Commission. An SEC investigation arising from whistleblower allegations remained ongoing; the company reported its internal review found no financial-statement errors. QUALCOMM said it had not accrued for the described legal contingencies because losses were not considered probable and a loss range could not be reasonably estimated.
The Broadcom settlement required remaining payments of approximately $389 million, including imputed interest, ratably through April 2013; $86 million was due during the remainder of FY2011. A separate $376 million carrying liability was reported at quarter-end.
Management reported effective disclosure controls at quarter-end and no material changes in internal control over financial reporting during the quarter.

Important facts for investors to verify

Whether the $401 million of prior-period QTL settlement revenue is nonrecurring and how post-settlement royalty trends develop.
Whether the 700 MHz spectrum sale receives required approvals, closes at the stated price and produces the expected gain.
The final costs and cash requirements for the FLO TV shutdown, including lease exits and any asset dispositions.
Completion, funding and integration of the Atheros acquisition, including remaining regulatory approval and potential tax effects.
Progress and potential outcomes of the disclosed legal and regulatory proceedings, including the SEC investigation.
Liquidity and cash accessibility given the substantial foreign-held balance, the rupee-denominated loans and the company’s planned investment, dividend and capital expenditure commitments.