QUALCOMM Incorporated — Q1 Fiscal 2016 10-Q
Reporting period: Three months ended December 27, 2015 (13 weeks), compared with the three months ended December 28, 2014. Amounts are in U.S. dollars; financial figures are in millions unless stated otherwise.
Business context and results
Qualcomm designs and supplies wireless integrated circuits and licenses its intellectual property. Its principal segments are QCT (chipsets), QTL (technology licensing) and QSI (strategic investments). QCT represented 71% of quarterly revenue and QTL 28%.
| Metric | Q1 FY2016 | Q1 FY2015 | Change |
|---|---|---|---|
| Total revenue | $5,775 | $7,099 | Down 19% |
| Equipment and services revenue | $4,087 | $5,216 | Down 22% |
| Licensing revenue | $1,688 | $1,883 | Down 10% |
| Operating income | $1,685 | $2,064 | Down 18% |
| Net income attributable to Qualcomm | $1,498 | $1,972 | Down 24% |
| Diluted earnings per share | $0.99 | $1.17 | Down 15% |
| Operating cash flow | $2,739 | $2,364 | Up 16% |
| Capital expenditures | $128 | $253 | Down 49% |
Financial position, cash flow and capital returns
- Cash, cash equivalents and marketable securities totaled $30.6 billion at December 27, 2015, down $356 million from fiscal year-end. Cash and cash equivalents alone were $6.9 billion.
- Total debt was approximately $11.0 billion: $1.0 billion of commercial paper and $9.95 billion of long-term debt. The company had no borrowings under its $4.0 billion revolving credit facility and reported compliance with its covenants.
- Cash flow from operations less capital expenditures was approximately $2.61 billion. Investing activities used $716 million; financing activities used $2.67 billion, including $2.05 billion for share repurchases and $717 million for dividends.
- Qualcomm repurchased 36.6 million shares during the quarter. It had $4.9 billion remaining under its repurchase authorization and stated an intention to return at least 75% of free cash flow to stockholders through repurchases and dividends.
- The announced dividend was $0.48 per share, up from $0.42 a year earlier. The company said its cash, expected operating cash flow and financing activities should meet capital requirements for at least the next 12 months.
- $27.9 billion of cash, cash equivalents and marketable securities was held by foreign entities and was generally considered indefinitely reinvested; repatriation could have material tax effects.
Material changes and management commentary
- QCT revenue fell 22% to $4.10 billion and segment earnings before tax fell to $590 million from $1.15 billion. MSM shipments declined 10%, to approximately 242 million from 270 million. Management cited premium-tier share shifts, a loss of share at a large customer, competitive pressure in China, lower average selling prices and lower-priced product mix.
- QTL revenue fell 12% to $1.61 billion. Management cited royalty revenue deferred because of an LG Electronics arbitration, underreported or unreported royalties, and lower revenue per reported unit. Total reported device sales nevertheless increased approximately 7%, to $60.6 billion.
- Equipment and services cost was 62% of that revenue, versus 58% a year earlier. Management attributed the lower margin percentage primarily to acquisition-related inventory fair-value step-up and intangible-asset amortization charges, and lower QCT margins.
- Operating income included a $380 million gain from selling U.K. wireless spectrum. The sale consideration included $232 million in cash and $275 million in deferred payments due in 2020–2023, recorded at present value. Other items included $54 million in restructuring and related charges and a $48 million gain on selling an augmented-reality business.
- Investment income, net, declined to $99 million from $235 million, largely reflecting lower realized gains on marketable securities. Interest expense rose to $74 million from $1 million, primarily following the issuance of $10 billion of notes in May 2015.
- The quarterly effective tax rate was 13%; management estimated a 17% rate for fiscal 2016. The quarter included a $79 million tax benefit from retroactive reinstatement of the U.S. research and development tax credit.
Outlook, risks and contingencies
- Management described continued demand growth for 3G/4G devices and opportunities in China, emerging markets, the Internet of Things, automotive and other connected products. It also warned of persistent competition, premium-tier customer concentration, pricing pressure and uncertain device mix. The filing does not provide a clear numerical revenue or earnings forecast for the next quarter or full fiscal year.
- The Strategic Realignment Plan targets approximately $1.1 billion in annual cost reductions from fiscal 2015 levels, adjusted for variable compensation, and an approximately $300 million reduction in annual share-based compensation grants. The company expected substantial implementation by fiscal year-end 2016; it reported $196 million in net restructuring and related charges to date and expected another $100–$200 million.
- A proposed TDK radio-frequency joint venture, expected to close by early 2017 subject to approvals, would initially be 51% owned by Qualcomm. The stated purchase price for Qualcomm’s interest and certain assets was $1.2 billion; Qualcomm also has an option to buy TDK’s interest for $1.15 billion after 30 months, and TDK may receive up to $200 million based on sales.
- Material legal and regulatory matters include competition investigations in Korea, Europe, the United States and Taiwan; an EU Statement of Objections concerning alleged predatory chipset pricing and exclusive chipset arrangements; LG’s royalty arbitration; and ParkerVision patent litigation and an ITC investigation. Qualcomm disputes the allegations. It recorded only nominal accruals for these matters, stating that losses were possible but not probable and that any loss range could not be reasonably estimated. An unfavorable outcome could materially affect the business, results, financial condition or cash flows.
- The DOJ terminated its FCPA investigation in November 2015 without pursuing charges; the SEC investigation continued. The company also cited risks from customer and licensee concentration, royalty underreporting, supplier dependence, foreign exchange, intellectual property disputes, cybersecurity and potential tax changes.
Important facts for investors to verify
- Whether QCT shipment trends, customer share and product margins stabilize, particularly in China and the premium tier.
- Whether QTL resolves licensee reporting and payment disputes, including the LG arbitration, and how regulatory proceedings affect licensing practices or royalty economics.
- Whether the targeted cost savings are achieved on schedule and at the expected implementation cost.
- How the spectrum sale’s deferred payments, foreign-held liquidity, debt and planned capital returns affect cash availability.
- Developments in the cited competition, patent and SEC matters, for which the filing provides no reliable estimate of potential losses.
- Whether the proposed TDK transaction closes on the stated terms and what its acquisition and potential follow-on costs mean for returns.