QUALCOMM INC quarterly report, Q2 FY2017

QUALCOMM Incorporated — Form 10-Q Summary

Reporting period: Fiscal second quarter and six months ended March 26, 2017. The interim financial statements are unaudited. Qualcomm develops and sells wireless integrated circuits and licenses its intellectual property through its QCT and QTL businesses; QSI makes strategic investments.

Financial performance

Metric	Q2 FY2017	Q2 FY2016	Six months FY2017	Six months FY2016
Revenue	$5.016B	$5.551B	$11.015B	$11.326B
Operating income	$729M	$1.415B	$1.507B	$3.099B
Net income attributable to Qualcomm	$749M	$1.164B	$1.431B	$2.662B
Diluted EPS	$0.50	$0.78	$0.96	$1.77
Operating cash flow	Not stated for quarter	Not stated for quarter	$2.194B	$3.476B

• Q2 revenue fell 10% year over year; six-month revenue declined 3%. Q2 net income attributable to Qualcomm fell 36%; six-month net income fell 46%.
• Q2 equipment and services revenue increased to $3.689B from $3.349B. Reported licensing revenue fell to $1.327B from $2.202B, principally reflecting a $974M reduction recorded for the BlackBerry arbitration decision.
• Q2 gross margin was 56%, versus 61% a year earlier; six-month gross margin was 58%, versus 59%. The BlackBerry revenue reduction weighed on the Q2 margin.
• Q2 interest expense was $107M, up from $72M; net investment income was $235M, up from $127M. The six-month effective tax rate was 17%, compared with 16%.
• Six-month capital expenditures were $251M. Cash, cash equivalents and marketable securities totaled $28.858B at March 26, 2017, down from $32.350B at September 25, 2016. Total short- and long-term debt was approximately $11.937B, including $1.998B commercial paper; no facility or term-loan acquisition financing had been drawn.
• Current assets were $16.908B and current liabilities $10.145B. Cash and securities included $2.0B pledged as collateral for NXP-related letters of credit. Qualcomm reported $26.8B of cash and securities held by foreign entities, most of which it considered indefinitely reinvested.

Changes and operating drivers

• QCT revenue rose despite MSM integrated-circuit shipments declining 5% to approximately 179M units. Management cited connectivity shipments, product mix and RF360 joint-venture contribution; QCT segment EBT increased to $475M from $170M.
• QTL segment revenue increased to $2.249B from $2.135B before the BlackBerry adjustment. Management cited higher reported CDMA-based device sales, partly offset by lower revenue per reported unit and royalty-reporting disputes. Reported device sales were approximately $82.6B, up 18%.
• The six-month results included a $921M KFTC fine charge, compared with a $380M spectrum-sale gain and net restructuring charges in the prior-year period. The KFTC fine was paid on March 30, after quarter-end.
• Six-month operating cash flow decreased 37%, with working-capital pressure from higher receivables and inventory. Days sales outstanding rose to 61 days from 33 at fiscal year-end; the filing attributes much of the receivables increase to underpaid royalties from certain Apple contract manufacturers, amounts Qualcomm deemed collectible.

Outlook, risks and unusual items

• The filing provides no quantified earnings or revenue guidance. Management expects continued demand growth for 3G/4G products and ongoing investment in 4G, 5G, RF front-end, connectivity, IoT, automotive and other adjacent markets. It expected fiscal 2017 capital expenditures to exceed fiscal 2016, including about $200M for RF360 manufacturing operations.
• Qualcomm agreed to acquire NXP for $110 per share in cash, an estimated $38B total consideration, with closing expected by calendar year-end 2017, subject to regulatory approvals and other conditions. It intended to use foreign cash and new debt; committed financing included a $7.1B bridge facility and $4.0B term loan. The company highlighted substantial financing, integration and execution risks and possible termination fees.
• An April 11, 2017 binding arbitration decision, after the reporting date, required Qualcomm to pay BlackBerry $815M plus 10% interest from June 2015, as well as reasonable attorneys’ fees to be determined. Qualcomm recorded a $974M Q2 reduction to licensing revenue; payment was expected in the second half of fiscal 2017.
• The KFTC ordered changes to certain licensing and chipset practices and imposed a fine of approximately 1.03 trillion Korean won (about $927M in the liquidity discussion), paid March 30. Qualcomm challenged the decision and sought a stay of its remedial order.
• Apple brought U.S. and international claims challenging Qualcomm’s licensing and business practices, including an approximately $1B U.S. claim concerning alleged unpaid contractual payments; Qualcomm denied the allegations and filed counterclaims. The filing also describes FTC, European, Taiwan and other competition matters, class actions, and patent litigation. Outcomes and potential losses were generally not estimable; Qualcomm warned unfavorable resolutions could materially affect results, cash flows or business practices.
• Other risks include licensees’ underreporting or nonpayment of royalties, customer concentration and chipset competition, supplier and inventory exposure, and higher debt and reduced liquidity if the NXP transaction closes. Management stated it believed liquidity would meet working-capital and other requirements for at least the next 12 months under current plans.

Investor verification priorities

• Confirm the BlackBerry payment, interest calculation and attorneys’ fees, and how the arbitration decision affects reported licensing revenue and cash flow.
• Track the KFTC appeal and remedies, and the status and potential financial impact of Apple, FTC, European and other licensing-related proceedings.
• Verify NXP tender, regulatory and closing conditions, financing mix, acquisition costs, and the effect on debt, cash and capital returns.
• Monitor royalty reporting and collections, particularly amounts disputed or underpaid by licensees and Apple contract manufacturers, and the associated receivables and days sales outstanding.
• Assess QCT shipment, pricing, margins and inventory trends, including RF360’s contribution and integration costs.