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Intel Capital Structure Essay

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Question 5: Evaluate the Put-Warrant/Convertible Bond proposal. Does it solve Intel’s capital structure dilemma? What arguments might be made in favor of it?

Intel’s capital structure dilemma was that it was holding too much cash on hand. Eventually, there were three available strategies or alternatives that Intel could undertake in terms of cash disbursement policies. First, it could continue or expand its market-repurchase program. Secondly, Intel could declare dividends to its shareholders on existing stocks. The last strategy is to put together a package of two unique securities: 1) A distribution of a two-year put warrant to its existing shareholders. 2) A distribution of 10-year convertible subordinated debentures to new
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In this sense, Intel is hence unlikely to be able to reduce their cash holdings via the put-warrant strategy. http://www.derivativesstrategy.com/magazine/archive/1998/0598col1.asp However, since this is a distribution, and not sale, of the warrants, there are no tangible benefits for Intel if the stock price at the expiration date is above $50. It does not stand to gain from any sale proceeds since the warrants were distributed instead of sold.

The issuance of convertible debt will result in even more cash holdings for Intel, an additional $1 billion. This, at face value, does not solve Intel’s capital structure dilemma of having too much cash. However, Intel can afford to incur more debt financing, since it has relatively low long-term debt. By doing so, its long term debt ratio (using 1991 figure) would change to:

Long Term Debt Ratio = (Long Term Debt)/(Total Assets) = (0.363 + 1)/6.292
= 21.7%

This figure could be excessively high, as the industry average is 14.42%. It must be noted that after two years, debt holders would be entitled to convert these convertible bonds into Intel common stock. Should it be so, this would once again bring down the long term debt ratio, and increase Intel’s shareholder’s equity.

Without warrant/bond proposal
Proposal implemented
Stock prices above $501
Stock prices below $502
Industry Average
D-E Ratio
363/4558 = 7.96%
29.9%a
6.53%c
38.3%e

Cash Ratio
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