Linear Case

LINEAR TECHNOLOGY

1. Current Financial Situation

Between 1992 and 2001 the technology industry experienced significant growth and Linear Technology with it. The high growth rate enabled Linear to have an excess cash flow and accumulate cash in the company. In 1993 Linear started to pay out quarterly dividends to its shareholders, increasing them annually. Linear also used the cash to repurchase stocks, which happened more sporadically. In 2002, Linear and the industry as a whole experienced a major decline, almost reducing their sales to half of the previous year. Due to their cost structure Linear were able to keep their net margins up and increased their dividends even when the sales decreased. Over the last decade Linear has accumulated a fairly large cash reserve in the company of just over $1.5 billion giving them freedom to invest, pay dividends or repurchase stocks without external financing.

2. Retain or Payout

* FCF. Linear technology has a steady growth over years. Despite its considerable drop in sales in 2002 due to the Internet Bubble, Linear still manages to maintain its gross profit margin at over 70% and net margin at 39%, which is pretty impressive within the semiconductor industry. With no debt, Linear has no interest pressure. Its operating cash flow can easily cover daily expenses as well as capital expenditures in recent five years. (Seen as average CAPEX coverage ratio of 9 times in Exhibit 1). Linear certainly has excess cash.

* Tax. It is more favorable for Linear to payout cash than to retain it from tax perspective. In equibrilism world, return on municipal bond and corporate bond should be identical. Therefore average personal tax rate in 2002 is 21.1%. (Exhibit 2). Average corporate tax rate in recent 6 years is 30.72%. (Exhibit 3). Assume cash retained in the company would be distributed to shareholder in the future; it is more beneficial to pay them out to shareholders due to a lower tax rate on personal level than...