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How Will the Broadcom Merger Impact Avago’s Balance Sheet?

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Funding the $37 billion merger

Broadcom Limited (AVGO), formed from the merger of Avago Technologies and Broadcom, will benefit from cost synergies and a broader portfolio. However, these opportunities came at a high cost of $37 billion, of which $17 billion was paid in cash and $20 billion in shares. Avago Technologies funded the cash portion through $9 billion in new debt and $8 billion from existing cash reserves. Let’s see how this large amount will affect the combined company’s balance sheet.

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Cash position

In fiscal 1Q16, Avago Technologies generated $474 million in cash from operating activities and spent $140 million on capital expenditures and $122 million on dividend payments. The company announced a cash dividend of $0.49 per share, payable on March 31, 2016. This is $0.05 higher than the previous quarter’s dividend.

On January 31, 2016, the company’s total cash reserves stood at $2.2 billion, and its long-term debt stood at $3.9 billion. This indicates that the company does not have sufficient cash reserves to repay its long-term debt.

Combined company’s leverage

According to Avago Technologies’ presentation to investors on May 28, 2015, the company planned to raise a term loan of $15.5 billion to fund the acquisition and refinance existing facilities. With this, the company’s interest expense is likely to increase. Avago Technologies’ non-GAAP (generally accepted accounting principles) interest expense stood at $41 million in fiscal 1Q16. The combined company’s interest expense is expected to be ~$161 million in fiscal 2Q16.

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During the fiscal 1Q16 earnings call, Broadcom Limited’s debt repayment plan was among the hot topics in analysts’ Q&A round. CLSA Americas analyst Srinivas Reddy Pajjuri questioned whether the $5 billion expected to be generated by the combined company in free cash flow would be used for faster repayment of debt. In response, Anthony Maslowski, Broadcom’s chief financial officer, stated that the company would look to repay the debt faster in the future, but not at present.

Avago Technologies isn’t the only company to take leverage to fund an acquisition. Many companies funded their acquisitions through debt due to lower borrowing costs. Intel (INTC) raised ~$9.5 billion in new debt to finance the $16.7 billion acqusition of Altera, and Lam Research (LRCX) raised ~$3.9 billion in debt to fund the $10.6 billion acquisition of KLA-Tencor (KLAC).

The PowerShares QQQ ETF (QQQ) has 7.9% exposure to semiconductor stocks. QQQ invests 0.80% of its holdings in AVGO, 2.9% of its holdings in INTC, and 0.24% of its holdings in LRCX.

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