Business context and reporting period
QUALCOMM Incorporated’s Form 10-K covers the 52-week fiscal year ended September 27, 2015; it also reports fourth-quarter results. Qualcomm earns revenue principally from QCT, its chipset and software business, and QTL, its patent licensing business. Fiscal 2015 revenue was 68% QCT and 31% QTL. The filing was signed November 4, 2015.
Financial performance and liquidity
| Metric | FY2015 | FY2014 | Change |
|---|---|---|---|
| Revenue | $25.281 billion | $26.487 billion | Down 5% |
| Operating income | $5.776 billion | $7.550 billion | Down 23% |
| Operating margin | 22.8% | 28.5% | Down 5.7 percentage points |
| Net income attributable to Qualcomm | $5.271 billion | $7.967 billion | Down 34% |
| Diluted EPS | $3.22 | $4.65 | Down 31% |
| Operating cash flow | $5.506 billion | $8.887 billion | Down 38% |
| Capital expenditures | $0.994 billion | $1.185 billion | |
| Free cash flow (non-GAAP) | $4.512 billion | Operating cash flow less capital expenditures |
Equipment-and-services gross margin was approximately 39%, down from 43%, reflecting weaker QCT margins. R&D expense was $5.490 billion (22% of revenue), essentially flat year over year. Net investment income was $815 million versus $1.233 billion; interest expense rose to $104 million from $5 million, primarily following new debt issuance.
QCT revenue declined 8% to $17.154 billion and segment earnings before tax (EBT) fell to $2.465 billion from $3.807 billion; EBT margin declined to 14% from 20%. MSM chipset shipments increased 8% to approximately 932 million, but lower average selling prices, a shift toward lower-margin modem products, reduced share at a large customer, competition in China and $179 million of excess-inventory charges weighed on results. QTL revenue rose 5% to $7.947 billion and EBT increased to $6.882 billion from $6.590 billion; EBT margin remained 87%. Licensee-reported device sales rose approximately 3% to $250.9 billion, though Qualcomm said it believed some China sales were unreported.
For fiscal Q4, revenue was $5.456 billion versus $6.692 billion a year earlier; operating income was $1.140 billion versus $1.992 billion; net income attributable to Qualcomm was $1.061 billion versus $1.894 billion; and diluted EPS was $0.67 versus $1.11.
At year-end, cash, cash equivalents and marketable securities totaled $30.947 billion, down from $32.022 billion. Total debt was about $10.969 billion: $1.000 billion of commercial paper and $9.969 billion of long-term debt. Stockholders’ equity was $31.414 billion. Operating cash flow declined in part because net income was lower and Qualcomm prepaid $950 million for long-term supplier capacity. The company reported $5.3 billion of cash and securities held by U.S. entities and $25.6 billion held abroad, most of the latter indefinitely reinvested and potentially subject to material tax costs if repatriated.
Material changes and unusual items
- Qualcomm recorded and paid a $975 million fine in fiscal Q2 to resolve China’s NDRC antimonopoly investigation. The agreed China licensing terms include royalty rates of 5% for specified 3G devices and 3.5% for specified 4G-only devices, applied to 65% of net selling price.
- In August 2015, Qualcomm acquired CSR for $2.3 billion net of cash acquired, expanding connectivity offerings in automotive infotainment and the Internet of Things. CSR’s post-acquisition operating results were not material to FY2015.
- Fiscal 2015 included $190 million in restructuring and related charges, $266 million in goodwill and intangible-asset impairments, and $138 million in gains on certain property sales. It also included $815 million of net investment income, including realized investment gains.
- Qualcomm issued $10 billion of unsecured notes in May 2015, with maturities from 2018 to 2045 and effective interest rates ranging from 0.43% to 4.74%. It used $5 billion for accelerated share repurchases. FY2015 repurchases totaled $11.245 billion and dividends paid were $2.880 billion.
- Fiscal 2014 results included a $430 million after-tax gain from the Omnitracs sale, so year-over-year net income comparisons include this prior-year item.
Guidance, outlook and risks
Management expected continued growth in global demand for 3G/4G devices and expansion into connected-device markets, but anticipated QCT results would remain pressured into the next fiscal year by premium-tier share shifts, customer use of internally developed chips and intense low-tier competition, particularly in China. The filing gives no specific fiscal 2016 revenue or EPS guidance.
The Strategic Realignment Plan targets approximately $1.1 billion in annual cost reductions from fiscal 2015 levels adjusted for variable compensation, plus approximately $300 million less in annual share-based compensation grants. Management expected implementation by the end of fiscal 2016 and total restructuring and related charges of $350 million to $450 million, including $190 million recorded in FY2015. The company also stated its intention to return at least 75% of free cash flow to stockholders through repurchases and dividends over the foreseeable future.
Key risks include continued chipset price and mix pressure; dependence on a small number of customers and licensees; potential underreporting or delayed licensing in China; regulatory, antitrust and patent litigation; reliance on third-party semiconductor suppliers; and uncertain returns from acquisitions and strategic investments. Investigations or proceedings included matters involving the European Commission, Korean Fair Trade Commission, U.S. FTC, SEC and DOJ, among others. Qualcomm recorded no accrual for the identified contingent legal losses, stating losses were not considered probable and a possible range could not be reasonably estimated. The filing also disclosed $28.8 billion of indefinitely reinvested foreign earnings for which it had not recorded approximately $10.2 billion of potential tax liabilities.
Important facts for investors to verify
- Whether QCT can stabilize margins and chipset share, especially in premium devices and China.
- Whether China licensees report sales fully and execute or maintain agreements under the revised terms; compare actual reported royalties with device-market trends.
- Progress, realized savings, implementation costs and potential business disruption from the realignment plan.
- Final outcomes and potential financial or business-practice remedies in the pending regulatory investigations and litigation.
- Cash available in the United States after capital returns and debt service, and the consequences of the foreign-cash reinvestment and tax position.
- Whether acquisition integration, including CSR, and investment impairments affect future growth, margins or cash generation.