Qualcomm A Case for Low Debt

Qualcomm is a supplier of digital wireless communications products and services. It is the innovator and implementer of the proprietary code-division multiple access (CDMA), a digital wireless technology. CDMA generates licensing fees, royalties, and chip sales. In addition, Qualcomm has a new high-data-rate (HDR) technology that it expects to transmit data at very high speeds for Internet use and access. Its primary U.S. competitor uses another wireless technology called TDMA. It competes with suppliers of alternative wireless technologies, such as GSM used by Pac Bell and TDMA used by AT&T.

Qualcomm employs about 7,000 people and is headquartered in San Diego. By March 2000, Qualcomm had redeemed all its convertible preferred securities and had very little long-term debt. Its capital structure was:

Long-term debt Market value of stock

$112 billion

Why does Qualcomm rely so little on long-term debt? This question was asked of Anthony S. Thornley, Executive Vice President and Chief Financial Officer of Qualcomm.

RWJ: One thing that stands out from a financial point of view about Qualcomm is that it has almost no long-term debt. Why? AST: There currently isn't any reason to leverage the company. We can finance our growth from retained earnings and outside equity. RWJ: Outside equity? AST: With our high P/E ratio we have a very low cost of equity. RWJ: Qualcomm is in a very competitive business. Is this a factor in the capital structure?

AST: We are conservative financially and have relied largely on equity to finance the company. However, we have used debt at times when the relative cost was lower than equity.

RWJ: Many of the assets of Qualcomm are intangible, such as the value of its patents and its highly skilled engineers. Does this limit Qualcomm's debt capacity?

AST: Intangible assets have less collateral value than bricks and mortar, but Qualcomm's patents throw off a steady stream of cash flow. Qualcomm has a great deal of debt capacity. We just prefer flexibility at this time. RWJ: Thanks.

What Can We Learn from Qualcomm?

First, Qualcomm is a firm with very uncertain future outcomes in a very competitive business and with significant intangible assets. This would suggest Qualcomm has a relatively low debt capacity when compared to, say, Edison International. Moreover, the financial management of Qualcomm is conservative by nature. Qualcomm's patents generate a steady stream of cash flow, which enhances debt capacity, but the competitive and fast-paced nature of the telecommunications industry suggests a need for financial slack and flexibility. Second, Qualcomm has experienced a rapid growth in profit and sales over the past five years—greater than 60 percent per annum. As a consequence, the tax potential benefits of debt have only recently materialized. Finally, Qualcomm's very high stock price and price-earnings ratio suggest (to its financial management) that this is an opportune time to rely more on equity financing than debt.

A Financial Profile of Qualcomm (April 2000) (in $ millions except as noted)

Revenues Net income Long-term debt Dividend payout (%) Return on equity (ROE) (%) Five-year compound annual growth in revenues Recent price-to-earnings ratio

13.6

Ross-Westerfield-Jaffe: I IV. Capital Structure and I 16. Capital Structure: Limits I I © The McGraw-Hill

Corporate Finance, Sixth Dividend Policy to the Use of Debt Companies, 2002

Edition

Chapter 16 Capital Structure: Limits to the Use of Debt 455

7. Debt-to-equity ratios vary across industries. We present three factors determining the target debt-to-equity ratio:

a. Taxes. Firms with high taxable income should rely more on debt than firms with low taxable income.

b. Types of Assets. Firms with a high percentage of intangible assets such as research and development should have low debt. Firms with primarily tangible assets should have higher debt.

c. Uncertainty of Operating Income. Firms with high uncertainty of operating income should rely mostly on equity.

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Responses

  • ermias eyob
    What is the equity capital of qualcomm?
    7 years ago
  • Sonja Hietamies
    Does qualcomm have ling term debt?
    7 years ago
  • KIMBERLY
    Why does qualcom have debt?
    6 years ago
  • toby
    Does qualcom have capital leases?
    6 years ago
  • Maximilian
    Why doesnt qualcomm issue debt?
    5 years ago

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