Group Project By:

Sherry Sebastian, Kipley Pereles, Joshua Roller,

Michelle Torres, Erin Morris, Joseph Molina, Luis Lindemann

MBA 606 Finance

Professor Janet Muller

Spring Semester 2010

Financial Project Overview

2|Page
 This financial analysis business project is based on the type of work financial annalists’
encounter in the corporate world. Financial analysis is looking at all the different factors
involved in making strategic business decisions in order to recommend the course that would
maximize the market value of the firm. For this project we picked Broadcom Corporation. We
will perform ratio analysis to determine the company’s strengths and weaknesses. Next, we will
pick an investment model that would generate a positive cash flow. Strategic long range planning
including three year financial projections will be prepared in order to develop an appropriate
capital structure and financing strategy for the proposed investment. Lastly, a pricing model will
be assembled in order to understand the financial impacts of customer contracts and pricing for
the anticipated project on the company.

Company Profile
Broadcom Corporation is a leading provider of semiconductors for wired and wireless
communications technology. Net revenue for Broadcom for the past year ended December 31,
2009 was $4.490 billion1. This is a decrease in net revenue of 3.6% from the $4.658 billion from
the year ended December 31, 20081. Net income for the year ended December 31, 2009 was
$65.3 million, or $.13 per share (diluted), compared with $214.8 million, or $.41 per share
(diluted), for the year ended December 31, 20081. Broadcom has a market capitalization of $15.5
billion. During this economic downturn, Broadcom gained market share, and attained record
quarterly revenue. Currently Broadcom has total assets of $5.127 billion with a market
capitalization of $15.5 billion. Through this current economic crisis Broadcom’s stock price
ranged from a low $7.90 and a high of $166.24.
Broadcom’s corporate headquarters is located in Irvine, at UCI’s University Research
Park. Henry T. Nicholas III, Ph.D., and Henry Samueli, Ph.D. founded Broadcom in 1991 as a
private company whose initial focus was on the emerging markets in communications that
utilized cable or wire2. Over the years, the company has specialized in creating high-speed
Integrated Circuits (ICs) used in parts for cable TV set-top boxes, cable modems, and local area
network (LAN) cards2. Broadcom also develops key technology and products in emerging
broadband markets such as digital subscriber loop (DSL), fixed wireless, direct broadcast
satellite, and terrestrial digital broadcast2. Broadcom is dependent on five independent foundry
subcontractors located in Asia to manufacture substantially all of their products. The past
nineteen years, Broadcom has diversified its product portfolio contending against competitors
3|Page
such as Qualcomm and Texas Instruments to deliver solutions to meet the needs of industry
leaders in broadband communications, enterprise networking, mobile, and wireless3. Apple,
Cisco, Dell, Echostar, HP, Huawei, LG, Motorola, Nintendo, Nokia, Pace, Samsung, and
Thomson are a few customers currently incorporating Broadcom devices in their communication
products1.

Company Analysis

A company analysis was conducted to determine Broadcom’s financial health. We began

by reviewing the company’s published financial statements, downloaded from the investor
relations department found on Broadcom’s website. This included obtaining the annual report,
10K and 10Q. We computed common ratios for the year ending 2008, and 2009. Common ratios
provide the most accurate depiction of a company’s financial health, encompassing the true
measure of a company’s liquidity, leverage, activity and profitability. Each ratio was therefore
computed, analyzed, and measured against the industry average. In order to calculate the industry
average, we obtained the financial statement of each of Broadcom’s top competitors, including
Qualcomm and Texas Instruments. We manually computed each ratio for the most accurate
comparison year over year. All data used reflects the ending balance. The only exception to this
is that since the Balance Sheet had very similar data from the beginning of the period to the end
of the period (year), we used the ending balance instead of the average. Included below is a
detailed description of each ratio analysis.

Liquidity ratios measure short-term liquidity of a company’s financials. The current ratio
measures the ability of a company to pay its bills over the short run and the margin of safety to
meet everyday cash needs. A current ratio in the 2 to 1 range is a strong sign of health and
Broadcom’s current ratio of 2.54 times for 2009 is reflective of its strength. Its 2006, 2007 and
2008 numbers are relatively flat, although they have dropped over time from 4.94 to 2.54.
Liquidity continues to be strong, although deteriorated somewhat from the prior year and is not
as liquid as industry competitors. This could become a weakness if not corrected. Cash balances
and strong liquidity have been a hallmark of financial strength and have allowed the company to
take advantage of opportunities such as buybacks, acquisitions and dividends. Current Liabilities,
which include accrued liabilities, have doubled resulting in reduced current ratio figures.
4|Page
 A quick ratio is the measure of a current ratio that excludes the value of inventory. It
demonstrates the danger of using cash, or the carrying over of large inventories. Any ratio of 1
to 1 or greater is a strong ratio. Its 2006, 2007, 2008 and 2009 ratios have decreased over time
and fallen to a low in 2009 of 2.22 times; low when compared to the industry average of 3.27
times. This is similar to the reasoning above for the current ratio.

Leverage ratios measure the long-term ability of a company to meet its obligations. For
instance, the debt ratio measures how much debt a firm has for every $1 of assets and the debt-
to-equity ratio measures a company’s total debt to its total equity. Year over year, Broadcom’s
debt ratio has increased from 14% in 2006 to 24% in 2009, resulting from a dramatic increase in
current liabilities which doubled from $0.6B in 2006 to $1.2B in 2009 while the firm’s total
assets stayed relatively flat. However, Broadcom’s debt ratio of 24% is only slightly higher than
the industry average of 23%. Broadcom’s leverage ratios continue to be very low as they have no
interest bearing debt and would only become a concern if the ratios reach a 50% level or more.

The company’s debt-to-equity ratio is a result of increased liabilities (payable and

accruals,) but not interest bearing debt. With a debt-to-equity ratio of 32% for 2009 it is still a
very low ratio, relative to their competition, within the industry as it continues to show a very
strong financial position for Broadcom. Year over year, Broadcom’s debt ratio has increased
from 16% in 2006 to 32% in 2009. The industry average for 2009 is 31%.

Activity ratios measure how efficiently a firm uses its assets to generate sales. These
include Inventory Turnover, Asset Turnover and Average Collection Period calculations.

Inventory Turnover is the measure of cost of goods sold divided by its inventory. In other
words, it’s a ratio measuring the number of times a year that inventory is turned over or in effect,
how well Broadcom is managing its inventories. In this case, Broadcom is inefficiently
managing its inventory turnover compared to the industry average. This means it has taken
longer for them to clear their inventory compared to other companies in the industry. Year over
year Broadcom’s inventory turnover ratio has fallen from 18 times in 2006 to 12 times in 2009.

5|Page
 Broadcom uses the sell-through method for distributor sales which means sales aren’t
booked until the distributor has sold to the end-user. The company can afford to be high in
inventory because they have a strong financial position and low leverage (debt relative to
equity). Lower turnover may be result of a rapidly expanding product line and should be watched
carefully. In this case, Texas Instruments and Qualcomm are doing a better job of managing their
inventory.

In contrast, the company has a good total Asset Turnover, measured by dividing sales by
total assets, which is better than industry average, which reported in at 0.70 times for 2009. . In
Broadcom’s case, 2006 and 2007 data was flat representing approximately 0.75 and 0.78 times.
Broadcom has had a good revenue stream in relation to its assets, giving a result of 1.06 times in
2008 and 0.88 times in 2009, respectively. Asset Turnover is a measure of the strength of a
company’s sales in relation to its total assets, calculated by dividing sales by total assets. It is
better in this case to have a high asset turnover; however, large cash balances may distort the
usefulness of this ratio.

The average collection period in this case is measured in days and is calculated by
dividing sales per day by accounts receivable. Broadcom’s average collection period of 41.34
days in 2009 has deteriorated from prior years, which reported in at approximately 31 days, and
is quite a bit worse than its industry competitors. These measures reflect how fast the company
collects on their sales. Sales have been flat year over year and receivable balances have increased
resulting in an increased average collection period. In other words, Broadcom is more liberal on
their collection policy and allows their customers to take longer to pay on their accounts. Most
companies sell on a 30-day term, a generally accepted industry standard.

In measuring profitability, a key metric used by shareholders and investors alike, we have
found that except for gross margin, all of Broadcom’s profitability measures are weak and have
deteriorated from the prior year in 2008. This is an indication of the weak economy and strong
competitive pressures. Included within the profitability ratios are Gross Margin, Profit Margin,

6|Page
Return on Assets, Return on Equity, Earnings per Share, and Price to Earnings ratios, which are
noted as follows.

Broadcom’s gross margin percentage, defined as gross margin divided by sales, year over
year has been very consistent in the range of 51-52%, meeting its long-term stated target of 50-
52%. The industry average reported a gross margin of 56%, better than the performance of
Broadcom. Broadcom’s margins have been enhanced by licensing revenue resulting from
Qualcomm’s litigation settlement, which added approximately a 4% improvement in its gross
margin performance.

The company’s 2006 profit margin of 10%, measured as net income divided by sales,
declined sharply in 2007 to a level of 5% due to an increase in research and development
expenses from $1.1B to $1.3B with flat revenue of approximately $3.8B year over year. In spite
of continuing increases in research and development expenditures from $1.3B to $1.5B in 2008,
profit margins stayed the same at 4.61% because revenues increased during the period from
$3.8B to $4.7B. In 2009, the profit margin fell to a record low of 1.45% , which is due in part to
Broadcom’s slightly reduced revenue coupled with continuing increased heavy research and
development expenditures and settlement costs of $118M in addition to a new $50M charitable
contribution figure. Comparable industry profit margin numbers in 2009 were 11.78%.

Broadcom’s Return on Assets ratio measures the company’s total profit per dollar of
assets and is defined as net income divided by total assets. Broadcom’s ratio was 7.77% for
2006 before declining year over year to 4% in 2007 and 2008. In 2009 return on assets further
declined to 1.27%. These were all the result of expenses below the gross margin line and similar
to the profit margin discussion above, including reduced revenue, heavy R&D expenditures, and
litigation costs. Total assets remained relatively constant over the time period. Comparably, the
industry reported a 6.88% for 2009.

Broadcom’s return on equity ratio, net income divided by total equity, is the amount of
net income returned as a percentage of shareholder’s equity or how much profit a company
generates with the money shareholder’s have invested. For 2006, the return on equity was 9%

7|Page
and in 2007 it dropped down to 5% because of the increased R&D expenditures of $200M. In
2008, the ROE remained flat and in 2009 it dropped significantly to 1.68% due to revenue
decreasing by $200M, which impacted gross margin and net income. The industry average for
2009 was 8.86%.

Furthermore, the company’s earnings per share estimates served to be worse relative to
its competition and are purely the result of Broadcom’s earnings being weak. This ratio is solely
based on the company’s earnings and the number of shares outstanding and is calculated by
dividing net income by shares outstanding. Earnings per share decreased from $0.64 in 2006 to
$0.37 in 2007, largely due to increased research and development expenditures of $200M. The
earnings per share ranged from $0.41 to $0.13 in 2008 and 2009, largely due to a slippage of
total revenue by $200M falling to the bottom line. The company helped themselves by doing
share repurchases starting in 2007. The industry reported $0.84 for 2009, closer to the level that
Broadcom reported in 2006.

Finally, in assessing the company’s price to earnings ratio, the measure of a company’s
price per share divided by its earnings per share, Broadcom’s ratio is higher in part because of its
weaker earnings and the investor’s belief of how the company will perform relative to its
competition; profits are probably expected to grow at a far faster rate than its competitors. The
P/E ratio is based on stock price and earnings and expectations of future growth of earnings.
From 2006 to 2007, the price of the stock went from $32.31 to $26.14 and from 2008 to 2009,
the share price doubled to $16.97 in 2008 to $31.47 in 2009. Essentially, investors are paying
247 years of current earnings (the P/E ratio for 2009 is 247 times). For example, if Broadcom’s
earnings were to double next year, which analysts expect they will, and if the number of shares
remains the same, the P/E ratio will drop to half of what it is at the end of 2009 to 123.
Additionally, the change in the P/E ratio from 2006, of 50 times, to 2007 of 71 times, is due to
the earnings dropping by half from an increase in R&D expenditures of $200M with flat revenue.
The change from 2007 to 2008 of 41 times is due to the change in share price dropping by $9.17.
For 2009, the price to earnings ratio of 247 times is high, relative to its earnings, because the
market and the investors of Broadcom believe in their efforts and know that Broadcom will make
major headway in 2010 in the wireless sector. Also, now with the new litigation resolved with

8|Page
Qualcomm, their earnings will more than likely improve significantly. The industry price to
earnings ratio for 2009 was 111.08.

Research and development expenses were $1.5 Billion for Broadcom in 2009, or 34% of
revenues, substantially greater than their industry peers which averaged 18%. The company’s
new product and development initiatives are a reason that investors are willing to pay a high P/E
ratio with the belief that new product and high profitably are soon to follow. Although these
expenses have been high and a strain on the company’s earnings performance, it has turned out
to be one of the company’s strengths. For example, they will soon be competing head on with
one of their most rivaled competitors, Qualcomm, to produce chips for small laptops.

Broadcom’s weaknesses have resulted from their decreasing inventory turnover of 12

times per year due to rapidly expanding product lines, and an average collection period of 41
days, which has deteriorated from prior years due to the company’s accounts receivables
increasing and their revenues decreasing. All profitability measures are weak and have
deteriorated over the last four years due to increased R&D expenditures, litigation related
expenses and most recently a decline in revenue. Profitability has been impacted by the recession
and increased R&D expenses which have positioned the company for future growth and
increased profitability.

In order to forecast the company’s growth and return on investment, all with the goal of
increasing shareholder value, we will analyze the long range strategic plan and estimate the
company’s projected financials for 2010, 2011 and 2012. Once this is completed, it will be
necessary to rerun all of the common ratios mentioned above to see just what will happen over
the life of the plan and find out just how successful Broadcom can become based on its
initiatives. This is discussed in Section 3 below.

Capital Budgeting
A state of the art Bluetooth earpiece was selected as a project to generate revenue for
Broadcom. The company already holds patents for Bluetooth technology as well as software
utilized in devices with Bluetooth capabilities. Due to the difficulty in generating numbers for

9|Page
one piece of hardware or software we bundled the two and chose to create a more advanced
Bluetooth earpiece.
To distinguish the Broadcom earpiece from comparable products in the Bluetooth
earpiece market, we will manufacture an earpiece that has voice to text capabilities. The main
inspiration for this product derives from the recent passing of laws making it illegal to operate a
vehicle and talk on the phone or write text messages. In addition to the voice to text capabilities
Broadcom has engineered an earpiece with advanced Bluetooth capability eliminating the
majority of static and connectivity issues.

Investment Overview
To engage in the project of the new Bluetooth earpiece with voice to text capabilities
there will be a required investment of $30,000,000. After six years there will be a salvage value
of 20% or $6,000,000. Initial net working capital will be $500,000 and it will then be 2% of
revenue the following 5 years. Superior performance and technology allows for the Broadcom
Bluetooth earpiece to be placed on the market at $85 per unit, which is higher than competing
brands, but priced accordingly with quality. With annual inflation at 2.7% the price of the
earpiece will increase 3% per year. Costs associated with the manufacturing of the earpiece are
estimated to be $25 the first year and increase 3% each successive year to accommodate for
inflation and other price increases that may occur from vendors. The growth of the product is
projected to be 5% annually and first year sales volume to be 1,000,000 units. It would be
prudent to calculate the decline of the product life after year 3; however, due to more states
passing laws forbidding the usage of mobile devices while operating a vehicle, it is projected that
as one regional market becomes saturated with our product and that of competitors other
immerging markets will compensate for the loss in sales. This will allow Broadcom to maintain a
5% yearly growth rate for the Bluetooth earpiece.
The cost of capital is projected to be 15% resulting with a net present value totaling
$152,539,536 for the six-year life of the project. The internal rate of return is 130% and payback
is 1.67 years. Based on established requirements this is an acceptable project to undertake. To
compensate for potentials risks involved with releasing a new product we have created scenarios,
best case and worst case, in order to create a range of numbers from which informed decisions
may be made.

10 | P a g e
 • Best case scenario – The Bluetooth earpiece with voice to text capabilities is met with
great demand during the first year of operation. Instead of a yearly unit sales increase of 5%
demand after year 1 has created a 15% increase in unit sales for the following five years. In
addition, due to the increased demand the unit price is increased from $85 to $110. Net
present value will be $244,245,199, which is a 60% increase in NPV from the base case
model. The internal rate of return will be 156% and payback is 1.38 years.

• Worst case scenario - In worst case scenario it is found that there is no demand for the
product and sales decrease by 10% yearly. In addition, sales price is decreased to $70 per unit
in order to be more competitive with other Bluetooth devices on the market and costs
increase to $30 per unit. This decreases net present value 42% to $87,957,375. The internal
rate of return will decrease to 97.3% and payback will be 4.24 years.

Other elements have been evaluated to further prepare for other potential risks in capital
budgeting. This includes a change in tax rate from 34% to 39% and also a change in cost of
capital to 10% rather than the projected 15%.

• Change in tax rate – By changing the tax rate from 34% to 38% there is a decrease in net
income per year, NPV, and IRR. NPV decreases 6.61% or $142,464,195. IRR decreases to
122.8% and payback is 3.63 years. By forecasting a change in tax rate action can be taken
with further research to lessen tax burden on the project. While this is highly unlikely
situation to occur any drastic changes in the United States politics could see a shift at higher
taxation of American companies. Also, if Boradcom decides to place the Bluetooth earpiece
in the internal market it will be exposed to VAT, which will significantly affect Broadcom’s
financials.

• Cost of capital – When discounting cash flows the expected risk is 15%, but there is a
potential for the risk to be greater or less than expectations. If the discounted rate were to be
more than 15% than there is more risk associated with the Bluetooth earpiece project. With
greater risk there is more potential for a larger return, but equally an opportunity for a greater
11 | P a g e
 loss. In looking at various elements there is a chance that our discount rate for cost of capital
will be 10%. This creates a net present value of $183,763,020, which is a 20.5% increase.
IRR is 130% and payback is 3.67 years. Using numbers from the calculation of WACC cost
of capital for the project is actually 35.55% when this is plugged into the equation there is a
significant effect on NPV. NPV decreases to $75,916,331 or a decrease of 50%. IRR and
payback remain unaffected.

Capital Budgeting Outcome

After constructing a capital budgeting model for the Bluetooth earpiece Broadcom can go
forward with the project. All indicators show that this would be a sound project in which it can
invest. Models have been made to anticipate changes in scenario that could bear positive or
negative consequences for the project as well as changes to tax rate and change in the present
value over the course of the project. These models help management an informed decision as to
which direction the project may need to go. All models show that regardless of projected
conditions that Broadcom would not lose money by investing in the Bluetooth earpiece project.
While under certain unfavorable conditions the return will be less, but the capital generated will
exceed the initial investment of $30,000,000.

Planning Process

Once the advanced Bluetooth earpiece was selected, strategic planning was conducted
with a three year plan with projected income statements and balance sheets. Three important
questions were answered: 1. where is Broadcom’s current position relative to the competitive
marketplace, 2. where would Broadcom like to be in the long-run, and; 3. how does Broadcom
plan to get to where it wants to be?

 Where is Broadcom’s current position relative to the competitive marketplace?

12 | P a g e
 A SWOT analysis was conducted to determine the company’s strongest qualities and its position

in the semiconductor industry. The main internal and external strengths, weaknesses,

opportunities and threats of the company were examined.

Strengths:

Internal

• Broadcom competes strongly in product quality, product capabilities, level of product

integration, and engineering execution
• The company excels in reliability to the customers, price, time to market, market presence,
standards compliance, and systems costs
• Broadcom prides itself in intellectual property holding over 3,1000 U.S. and 1,400 foreign
patents and more than 7,600 additional domestic and foreign pending patents
• Strong Research & Development Division that obtains sufficient funds and packaging
materials
• R&D expenses have set up the company’s future for growth and increased profitability.

External

• Strong market presence

• Customer base are leaders in their industry

Weaknesses:

Internal

• Inability to retain, recruit and hire key executives, technical personnel, and other employees
inaccurate positions and at precise numbers
• Difficulties in timely and accurately predicting market requirements and industry standards
• Lengthy sales cycle makes it difficult to accurately forecast customer demand
• Lengthy sales cycle increase the risk that a customer will decide to cancel or curtail,
reduce or delay their product plans
 The company typically sells products pursuant to purchase order, rather than long-term
purchase commitments.

 They have an inventory turnover of 12 times per year during an average collection period of 41
days.

 All profitability measures are weak and have deteriorated over the past years.

External

13 | P a g e
 • The communications and semiconductor industries are characterized by rapid
technological change, evolving regulations and standards, short product life, and price
erosion
• Sales of Broadcom’s products largely depend on the commercial success of their
customer’s products

Opportunities

Internal

• Greater incorporation of Broadcom ICs in consumer products such as desktops, laptops,

cellular phones, and satellite and digital cable boxes for example
• The development of new product lines and technologies
 Currently 74% of employees are in R&D Acquisitions of key businesses in target markets
to effectively develop and integrate

External

 The effects of competition

 The effects of competitive pricing programs and rebates

Threats

Internal

• Substantial litigation costs and diversion of our resources to enforce intellectual property
rights
• Legal issues related to stock backdating and any adverse rulings in these cases or possible
future cases could impact the company’s brand reputation and their ability to do business.

External

 Many of their competitors operate their own fabrication facilities and therefore have
greater advantage with longer operating histories, presence in key markets, greater name
recognition, larger customer base
 Increased competition could result in pricing pressures, decreased gross
margins, loss of market share
• Potential inability to protect intellectual property in the forms of patents, copyrights,
trademarks, trade secret laws, confidentiality agreements with employees and strategic
partners, and nondisclosure agreements

14 | P a g e
• Worldwide political and economic uncertainties
• Changes in governments, coups, wars, changes in trade policies
• Economic downturns, like the one we are experiencing decreases product demand, since
there is excess customer inventories, which accelerate the wearing down of prices

 Where would Broadcom like to be in the long-run?

Broadcom’s core mission is to “Connect Everything”, which has allowed the company to
become a leader in broadband connections. A main goal for the company is to continue to
innovate existing products while further developing research and development initiatives.
Annual plans for the next three years were forecasted for the advanced Bluetooth earpiece
investment project.
• Target Objective: To grow the company by five percent year over year

• Strategy: To utilize bonds to increase funding capital for the Bluetooth earpiece

 How does Broadcom plan to get to where it wants to be?

• Strategy: In order to implement targeted business and product plans, Broadcom will need
to expand, train, manage, and motivate the current workforce in order to convince leading
communication equipment manufacturers to select Broadcom products for design into
their own new products.

Capital Structure

Broadcom has decided to undertake a $30,000,000 investment project using their

Bluetooth earpiece in order to generate additional revenue. Our goal is to determine the
appropriate way to fund the project, either using equity or through the issuing of bonds. Analysis
of the current capital structure is necessary to see how the company is currently operating. First,
we will examine the company’s current use of debt and equity from our ratio analysis. Next, we
will perform a WACC (Weighted Average Cost of Capital) calculation using its base financials

15 | P a g e
 to determine the firms overall cost of capital. In order to calculate the cost of equity we will
apply the CAPM model. Since Broadcom does not have any interest bearing debt (outstanding
bonds) we assumed the cost of debt to be zero. Furthermore we will use the WACC results to
determine the ideal mixture of debt and equity to support the investment project.

• WACC

The WACC is the discount rate we use in the firm’s overall cash flows. It is the overall
return a firm must earn on it’s existing assets to maintain the VALUE OF THE STOCK. The
WACC is the average of the cost of equity and the after-tax cost of debt. The formula is as
follows, WACC= R(E)*E/V +R(D) * D/V * (1-Tc), where R(E) is cost of equity, R(D) is the
cost of debt, 1-Tc is the after tax cost of debt and V is the market value of the firm’s equity plus
market value of the firm’s debt.
Using the CAPM formula, Er=Rf + (Rm-Rf) x β we are able to calculate the cost of equity R(E)
portion of the WACC. R(f) is the risk-free rate which we used the current treasury yield at 3.6%.
R(m) is the average market return where we chose the average return for the S&P 500 in 2009 at
23.5%. The Market Risk Premium (Rm-Rf) calculates to 19.90%. The Beta Coefficient, the
measure of the amount of systemic risk of an asset relative to that of an average risky asset, is
1.31 (per Yahoo Finance). As a result the total cost of equity (E) for Broadcom is 29.67%.
The market value of equity for Broadcom is calculated by dividing the total number of
outstanding shares, 512,645,000, by the stock price of $32.31 giving us a value of (V)
$16,563,559,950.
It is important to re-emphasis that Broadcom does not have any interest bearing debt
(outstanding bonds). Therefore we are able to assume the cost of debt (D) to be zero and the
WACC to be equal to the cost of equity. However, if debt was involved we would continue the
calculation as follows. This gives us the value for debt in the WACC formula.
The percentage weights of equity and debt can now be calculated. We find equity by
dividing the cost of equity by the market value of the firm, E/V, resulting in 1.00. Also, we can
calculate the weight of debt by dividing the cost of debt by the market value of the firm, D/V,
resulting in 0.

16 | P a g e
 Having compiled all the factors in the WACC formula, the cost of equity, the cost of
debt, the weighted averages of debt and equity, the market value of the firm and the tax rate
allowed us to derive at a WACC of 29.67%. This means that Broadcom must earn 29.67% or
greater on an investment to create value of the stock.

• Ideal Capital Structure

Knowing the WACC value and the respective percentage weights of equity and debt we are
now able to determine the best capital structure for Broadcom. After careful review of their
current capital structure and the outcome of their latest financials we have suggested the
company continue the use of equity or cash to fund the Bluetooth investment project. Since
there is a high availability of cash, a $30M investment will not make a significant impact on
revenue and will not have any adverse effects to the company financials. In our analysis we
show the current capital structure and 6 other scenarios that fluctuate percentage weights for debt
and equity. Scenario 1, we use 75% equity and 25% debt, scenario 2, we use 50% equity and
50% debt, scenario 3, we use 33% equity and 66% debt, scenario 4, we use 25% equity and 75%
debt, scenario 5, we use 10% equity and 90% debt and scenario 6, we use 0% equity and 100%.
If additional funding is needed, this analysis shows that adding debt to the capital structure will
reduce the WACC.

Instead of funding this project with cash, Broadcom can also chose to float a bond offering of
$30M. In this option we will assume they will take their investment in this project entirely from
the sale of bonds. We calculated the impact on WACC and wrote an indenture for the bond
offering. Since Broadcom has an excellent credit rating it can have a debt usage of 100% which
we illustrated in option 2 scenario 6. This results in a WACC of 3.68%.

• Raising Capital Funds

In order to illustrate the agreement between Broadcom and its bondholders of the $30M bond
offering we wrote the following terms in the indenture.

17 | P a g e
 Broadcom has issued 30,000 bonds worth the value of $30M. The Bonds will
be sold on June 1, 2010 and will mature on June 1, 2030. Interest will be paid
annually on June 1 of each year to the person in whose name is registered at
the close of business on May 15. Each bondholder will receive $55.70 per
bond per year. Bonds will not be secured by any assets. There is no security
to the bond. No sinking fund available. A call provision is allowed at any
time and do not have a “deferred call”. The bonds have a “make-whole” call
feature. The call price is listed as the Treasury Rate plus 0.15%. The bonds
are in the top grade investment, S&P giving a “AA” rating and Moody’s an
“A” rating. The following covenants are included. The firm may not pledge
any assets to other lenders. The firm cannot sell or lease any major assets
without approval of lender. The company must periodically furnish audited
financial statements to the lender. Lastly, the company must maintain any
collateral or security in good condition.

Capital Structure Outcome

The analysis of Broadcom’s current capital structure and the calculation of its WACC for
various combinations of equity and debt weights allowed us to determine the best choice to
finance the Bluetooth investment project. It is clear to us that for a small project in the amount
of $30M, Broadcom should maintain their current method of funding, using equity or cash. As
we have illustrated in our ratio analysis, Broadcom’s strength to this point, is evidenced by its
excellent leverage ratio. With its large cash reserves and zero debt Broadcom will have no
problem meeting its obligations and avoiding situations that may lead to bankruptcy. With this
information in hand, any credit rating agencies will give Broadcom an excellent credit rating.
This facilitates a low cost to borrow if necessary in the future.

Pricing Structure
Broadcom’s $30 million investment opportunity for Bluetooth Earpiece – Voice to Text
will have a considerable low risk and moderate to high return, with a payback period of one year
and Net Present Value (NPV) of $152 million over a six (6) year period of annual sales.

18 | P a g e
 Considering the price per unit increase of 3%, and a projected annual growth of 5%, the
initial investment, supra, will be recovered at the lowest price per unit within the first year of the
six (6) year period of projected sales, reflected on the PVIF sensitivity analysis and the worst
case best case scenarios prepared by Joshua Roller in §2 Capital Budgeting, ante, reflect a
payback period of one year. The increase per unit price during the following years will
accommodate the annual rate of inflation of two point seven (2.7%) percent with the three
percent (3%) price per unit.
There forecast of units for year one is 1 million units, each unit is projected to be sold at
$85.00 totaling $85 million in revenue as reflected on the capital budget for year 2010. The total
operating cash flow (OCF) after depreciation is $41,640,000. The base price for year one is set at
$170.00, consequently the margin of projected sales of $170 million doubles excepted annual
revenue and more than triples projects OCFs for year 2010.
Year two, forecast of units of 1,050,000 units; at $87.55 with revenue projections of
$91,927,500 allow for a reduced markup of 10% form year 2010 will give a competitive edge to
compete against emerging Bluetooth competitor with a product line already on the market for
one year, 90% markup, being $166.35, provides greater opportunities to afford longer cash
discount periods and increase discount percentages without increasing risk to OCFs of
$46,091,400 after depreciation for year 2011.
Forecast of units for year 2011 of 1,102,500 units, each unit projected sale price of
$90.18 permits a reduced markup of 85% resulting in a marginal increase in base price from the
previous annual cycle. Base price revenues are projected to reach $99 million. OCF for year
three have been estimated at $48 million. Base price sales project double the list price revenues,
at $209 million using a discount of 15% on all sales.
Risk exposure has been set at 20% of overall sales for year one, each consecutive year
will use the 20% exposure scenario to assess for loss in revenues based on contract
nonperformance of at a loss of 50% of that contract. Loss of revenues exposure is based on the
maximum order allowed within a given quarter.
A three year Sales proposal Pricing Structure, Terms and Conditions s for contracts will
be assessed quarterly within each year, a new contract will be generated annually at the end of
the fourth quarter; quarterly stipulation criteria will reduce loss of revenue due to termination of
contract, sunk cost and wind down. Contract stipulations are fixed and the penalty for non-

19 | P a g e
performance to contract is based on individual basis per order and previous year interactions with
consumer(s).
The effective date of pricing starts at the beginning of the annual physical period. The
invoice date is the beginning of the billing date and the shipping date is based upon receipt of
payment reflected on cash discount periods delineated below.
The assumption for the example written below is a contract made with Samsung Unite
States. Samsung has made an order for 200,000 units of Bluetooth earpieces that will have Voice
over Internet Protocol (VoIP) to connect with their new line of LED HDTVs coming to the
market in the fall of this year. Their order is based on two phases, 100,000 units each phase.
Samsung will make payment on the first 100,000
Upon receipt of invoice, payment may be made within the first ten (10) days (cash
discount period), receipt of invoice is the billing date not he shipping date. The credit period
granted under these pricing stipulations is in effect the buyer’s payable period. Unit discounts are
given as follows:
Orders per unit sale price is $85.00, the pricing structure being used in the price discount
calculator below reflects a 100% markup and each unit will be listed for $170.00, the maximum
order permitted per quarter is 200,000 units, the cash discount period will be 15 percent discount
from the base price if paid within 10 or else pay the full amount within 30 days, i.e., 15/10, net
30.
The initial markup is necessary to avoid drawing funds away from OCF. The example
below shows an order placed for 200,000 units and the breakdown of the sale price + initial
markup = the list price, hereinafter referred to as the base price (Please see Appendix 4).

• Terms and Conditions

No company may place order proposals exceeding 200,000 units per given quarter, the
contract period of 30 days, or within a 90 day period in a given quarter, beginning at the start of
each quarter period. New orders must be placed in advance of fifteen (15) days before the
beginning of the new quarter period.
Orders of 200,000 units will be shipped in two phases, 100,000 units will ship upon
receipt of promise of payment, starting with the cash discount period and ending with the credit
20 | P a g e
period (net credit period) stipulations. Failure to make payment at the end of cash discount
period will result in a 7% penalty interest fee added to the base price. Breach of contract for
nonperformance of promise of payment will result in stop of service; a legal filing will be
submitted to recover operating cost equal to percent of ordered units minus unpaid unit
subtracted from projected annual sales.

• Termination
To maintain security and interest of assets the Termination Cost includes:
• Cost Items as determined within the operating expenses annual cost
• Parts
• Assets
• One-Time Costs
• Third Party Contracts
• Wind Down Services
A risk exposure sample of Samsung order of 200,000 units shows a breakdown of a
termination cost based on a sales proposal pricing structure, terms and conditions (Please see
Appendix 5).

Pricing Structure Outcome

Determining loss of revenues at 20% of overall sales shows Broadcom’s resilience to
economic fluctuations in current market trends. The initial markup of 100% for year one does not
place Broadcom at risk of loss of market shares given Broadcom’s innovative edge in Blue
Tooth technology, holding of patent, and reputation for quality.

Financial Project Outcome

An objective of this project was to gain insight of the corporate world through financial
analysis. This simulated business project enabled us to look at all aspects of Broadcom in terms
of long-term strategic and operations objectives, as well as short-term profit and return
commitments through the process of strategic long range planning. A ratio analysis was
conducted to determine Broadcom’s strengths and weaknesses. From our analysis we found that

21 | P a g e
Broadcom is a leader in their target markets, has strong cash flow from operations, and has no
long term debt. We then picked the advanced Bluetooth earpiece as an investment project to gain
a better understanding of Broadcom’s cash flows. After running the capital budgeting scenarios,
we concluded that the Bluetooth earpiece was an appropriate investment opportunity, since it
would add profit to the firm and increase the shareholder’s value. Business planning was
conducted where operating plans outlined where the business is going and how it was going to
get there. Then, a capital budgeting and financing structure was conducted for the investment
project. We learned about the options available for a company with a lack of long term debts and
higher equity. A pricing model was developed to help us understand the underlying risk, possible
exposure, and the financial impacts of customers’ contract pricing. We learned of the importance
of having detailed terms and conditions that would protect the company, for example in the case
of acquisitions and non performance.

References:
Broadcom Corporation. (2009). 4th Quarter Earnings Statement. [PDF]. Retrieved from
Broadcom Corporation website:
http://files.shareholder.com/downloads/BRCM/857600130x0x348778/17187e0e-c6e4-4f38-
9c1e-b94fb49ff41a/BRCM_News_2010_2_3_Corporate_News.pdf
2
Broadcom Corporation. (2009). Corporate Overview. [PowerPoint slides]. Retrieved from
Broadcom Corporation website:
http://www.broadcom.com/docs/company/corporate_overview.pdf
3
Broadcom Corporation. (2009). Fact Sheet. Retrieved from Broadcom Corporation website:
http://www.broadcom.com/docs/company/company_factsheet.pdf

22 | P a g e
APPENDIX 1: (Broadcom’s Balance Sheet for 2006, 2007, 2008 and 2009)

23 | P a g e
BROADCOM CORP
BALANCE_SHEET
Form Type: 10-K
Period End: Dec 31, 2009
Date Filed: Feb 03, 2010

CONSOLIDATED BALANCE SHEETS

(In thousands, except par value)

December 31,
2009 2008 2007

Assets
Current assets:
Cash and cash equivalents $ 1,397,093 $ 1,190,645 $ 2,186,572 $
Short-term marketable securities 532,281 707,477 141,728
Accounts receivable (net of allowance for doubtful accounts
of $6,787 in 2009, $5,354 in 2008, $5,472 in 2007 and $6,894 in 2006 ) 508,627 372,311 369,004
Inventory 362,428 366,106 231,313
Prepaid expenses and other current assets 113,903 114,674 125,663

Total current assets 2,914,332 2,751,213 3,054,280

Property and equipment, net 229,317 234,691 241,803
Long-term marketable securities 438,616 - 75,352.00
Goodwill 1,329,614 1,279,243 1,376,721
Purchased intangible assets, net 150,927 61,958 46,607
Other assets 64,436 66,160 43,430

Total assets $ 5,127,242 $ 4,393,265 $ 4,838,193 $

Liabilities and Shareholders' Equity

Current liabilities:
Accounts payable $ 437,353 $ 310,487 $ 313,621 $
W ages and related benefits 190,315 151,551 147,853
Deferred revenue and income 87,388 12,338 15,864
Accrued liabilities 433,294 242,727 280,271

Total current liabilities 1,148,350 717,103 757,609

Commitments and contingencies
Long-term deferred revenue 608 3,898 8,108
Other long-term liabilities 86,438 65,197 36,328
Shareholders' equity:
Convertible preferred stock, $.0001 par value:
Authorized shares - 6,432 - none issued and outstanding - - -
Class A common stock, $.0001 par value:
Authorized shares - 2,500,000
Issued and outstanding shares -
438,557 in 2009, 426,095 in 2008, 468,858 in 2007 and 473,533 in 2006 44 43 47
Class B common stock, $.0001 par value:
Authorized shares - 400,000
Issued and outstanding shares -
56,999 in 2009, 62,923 in 2008, 68,400 in 2007 and 74,781 in 2006 6 6 7
Additional paid-in capital 11,153,060 24 |
10,930,315 Page 11,576,042
Accumulated deficit (7,259,069) (7,324,330) (7,539,124)
Accumulated other comprehensive income (loss) (2,195) 1,033 (824)

Total shareholders' equity 3,891,846 3,607,067 4,036,148

APPENDIX 2: (Broadcom’s Income Statement Sheet for 2006, 2007, 2008 and 2009)

BRO ADCOM CORP

I N C O M E_S T A T EM EN T 2
F o rm T y p e : 10 -K
P e rio d En d : D e c 3 1 , 2 0 0 9
D a te F ile d : F e b 0 3 , 20 1 0

C O N S O LID A TE D S TA TE M E N TS O F IN C O M E
(In th ou s a nd s , e x c ep t pe r s ha re d a ta )

Y ea r E nde d D ec e m b er 3 1,
200 9 2 0 08 2 0 07

N e t reven u e :
P rod u c t re ve n ue $ 4, 2 72 ,7 2 6$ 4,48 5,23 9$ 3 ,7 3 9,31 2
In c om e fro m Q ua lc o m m A g re em e n t (s ee N ote 2 ) 1 70 ,6 1 1 - -
L ic en s ing re ve n ue 46 ,9 8 6 1 7 2,88 6 3 7,08 3

Total n et re ven ue 4, 4 90 ,3 2 3 4,65 8,12 5 3 ,7 7 6,39 5

C o s ts a nd ex p en s e s :
C o s t o f pro duc t reven u e 2, 2 10 ,5 5 9 2,21 3,01 5 1 ,8 3 2,17 8
R e s earc h an d de ve lo p m e nt 1, 5 34 ,9 1 8 1,49 7,66 8 1 ,3 4 8,50 8
S e llin g , g e ne ra l a nd a d m in is tra tive 4 79 ,3 6 2 5 4 3,11 7 4 92,73 7
A m o rtiz ation o f p u rc h as e d in ta n g ib le a s s e ts 14 ,5 4 8 3, 392 1,02 7
Im p a irm e n t of g o od w ill a nd o th e r lo ng -live d a s s e ts 18 ,8 9 5 1 7 1,59 3 1,50 0
S e ttle m en t c os ts , n et 1 18 ,4 6 8 1 5,81 0 -
R e s tru c tu ring c os ts (reve rs a ls ) 7 ,5 0 1 (1,0 00 ) -
In -p ro c es s res e a rc h an d d e velo pm e n t - 4 2,40 0 1 5,47 0
C h a ritable c o n trib ut io n 50 ,0 0 0 - -

Total o pe rat in g c os ts a n d e x p e n s e s 4, 4 34 ,2 5 1 4,48 5,99 5 3 ,6 9 1,42 0

In c om e fro m o p e ra tio n s 56 ,0 7 2 1 7 2,13 0 8 4,97 5
In te re s t in c o m e , n e t 13 ,9 0 1 5 2,20 1 1 31,06 9
O th e r in c o m e (ex p e ns e), ne t 2 ,2 1 8 (2,0 16 ) 3,41 2

In c om e b e fo re inc o m e ta x e s 72 ,1 9 1 2 2 2,31 5 2 19,45 6

P rovis io n for in c o m e ta x e s 6 ,9 3 0 7, 521 6,11 4

N e t in c om e $ 65 ,2 6 1 $ 2 1 4,79 4 $ 2 13,34 2 $

APPENDIX
N e t in c om e 3:
pe r(Broadcom’s
s ha re (b a s ic ) Ratio Analysis/Calculations
$ for
0 .1 3 2006,
$ 2007, 2008 and 2009)
0.42 $ 0.3 9 $

N e t in c om e pe r s ha re (d ilu te d) $ 0 .1 3 $ 25
0.41| P
$ age 0.3 7 $

W eighted ave ra g e s h a re s (b a s ic ) 4 94 ,0 3 8 5 1 2,64 8 5 42,41 2

W eighted ave ra g e s h a re s (d ilute d) 5 12 ,6 4 5 5 2 4,20 8 5 77,68 2

Keyitems
(amountsinthousands) 2006 2007 2008 2009 Industry(2009)
TexasInstr. Qua
Sales 3,667,818 3,776,395 4,658,125 4,490,323 10,427,000 10,56
net income 379,041 213,342 214,794 65,261 1,470,000 2,09
Cost of goods sold 1,795,565 1,832,178 2,213,015 2,210,559 5,428,000 3,24

cash 2,158,110 2,186,572 1,190,645 1,397,093 1,182,000 3,66

receivables 382,823 369,004 372,311 508,627 1,277,000 6
inventory 202,794 231,313 366,106 362,428 1,202,000 3
current assets 3,351,788 3,054,280 2,751,213 2,914,332 6,114,000 13,57
total assets 4,876,766 4,838,193 4,393,265 5,127,242 12,119,000 28,90
current liabilities 678,701 757,609 717,103 1,148,350 1,587,000 2,94
longtermdebt 6,399 44,436 69,095 87,046 810,000 3,77
total liabilities 685,100 802,045 786,198 1,235,396 2,397,000 7,55
total equity 4,191,666 4,036,148 3,607,067 3,891,846 9,722,000 21,35

Liquidityratios 2006 2007 2008 2009 Industrycomparison

Current ratio 4.94 4.03 3.84 2.54 lower Times
Quick ratio 4.64 3.73 3.33 2.22 lower Times
INDUSTRY 3.66
3.27

Leverageratios 2006 2007 2008 2009 Industrycomparison

Debt ratio 14.05% 16.58% 17.90% 24.09% higher percenta
Debt to equityratio 16.34% 19.87% 21.80% 31.74% higher percenta
INDUSTRY 23.33%
30.59%

Activityratios 2006 2007 2008 2009 Industrycomparison

Inventoryturnover 18.09 16.33 12.72 12.39 lower Times
Average collection period 38.10 35.67 29.17 41.34 higher Days
Asset turnover 0.75 0.78 1.06 0.88 higher Times
INDUSTRY 17.09
35.77
0.70

Profitabilityratios 2006 2007 2008 2009 Industrycomparison

Profit margin ratio 10.33% 5.65% 4.61% 1.45% lower percenta
ROA 7.77% 4.41% 4.89% 1.27% lower percenta
ROE 9.04% 5.29% 5.95% 1.68% lower percenta
INDUSTRY 11.78%
6.88%
8.86%

APPENDIX 4: (Initial Pricing Markup)2006

Profitabilityratios 2007 2008 2009 Industrycomparison
EPS 0.64 0.37 0.41 0.13 lower Dollars
PEratio* 50.15 70.78 41.42 247.21 higher Times
26 | P a g e
Gross Margin 51.05% 51.48% 52.49% 50.77% Percenta
INDUSTRY 0.84
111.08
56.01%
*Use close price as of December 31: source: Yahoo Finance
 Base Price Discounted Price
Sale Price $ 85.00
Initial markup 100%
List Price $ 170.00

Units Request Order 200,000 200,000

Cash Discount 15%

Savings per base unit $ 25.50

Total Price $ 144.50

Lump sum total $ 34,000,000 $ 28,900,000

Tax 34%

Shipping and handling $ 25,000 $ 25,000

Total $ 45,585,000 $ 38,751,000

Total Savings $ 6,834,000

Shipping & Handling per Units 1 $ 13.99 Minimum Order

10 $ 32.99
100 $ 189.99
1000 $ 643.99
10000 $ 1,250.00 Maximum Order

APPENDIX 5: (Breakdown of Termination Costs)

27 | P a g e
Samsung-United States

Termination Costs

Cost Items: Percent From Operating Expenses

Salary (Office & Overhead) 316,770.87 0.0834
Payroll (Taxes etc.) 3,167.71 0.0083
Outside Services 24.99 0.0007
Supplies (Office Operation) 30.03 0.0008
Repairs/ Maintenance 337.30 0.0027
Advertising 2,317.10 0.0071
Vehicle, Delivery and Travel 1,110.66 0.0049
Accounting and Legal 356.61 0.0028
Building Lease 20,058.74 0.0210
Telephone/Internet/IT Service 1,658.99 0.0060
Utilities 136.91 0.0017
Insurance 232,407.93 0.0714
Taxes 14,389.63 0.0178
Depreciation 34,770.55 0.0276
Parts:
Depreciation 34,770.55 0.0276
Assests:
Unearned Discount 6,834,000.00 0.1500
Equipment Lease 22,097.25 0.0220
One-time Costs:
Transaction Fees (POS) 2,611.06 0.0076
Professional Services 3,101.37 0.0082

Third Party Contracts:

Vehicle Lease 4,084.89 0.0095
Armoured Car Contracts 4,956.97 0.0104
Litigation 192,596.63 0.0650
Consulting Services 1,382.06 0.0055
Wind Down Services:
Service Continuation (RMA) 12,624.60 0.02
Professional Services 273,801.00
Consulting to New Supplier 102,549.00

Risk @ 20% $ 22,792,500

Grand Total of Cost $ 30,908,613

28 | P a g e