INTERSIL - FINALmmoore.ba.ttu.edu/ValuationReports/Summer2009/Intersil-Summer2… · Intersil is in...

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Analysis Team:

Trevor Arras [email protected]

Amanda Landrus [email protected]

Kyu Lim [email protected]

Jeff Zoch [email protected]

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Table of Contents

Executive Summary ....................................................................................................................................... 7

Industry Analysis ....................................................................................................................................... 9

Accounting Analysis ................................................................................................................................ 10

Financial Analysis .................................................................................................................................... 11

Valuation Executive Summary ............................................................................................................ 12

Business and Industry Analysis ................................................................................................................... 13

Firm Overview ......................................................................................................................................... 13

Industry Overview ....................................................................................................................................... 15

Five Forces Model ................................................................................................................................... 17

Rivalry among Existing Firms .................................................................................................................. 19

Introduction ........................................................................................................................................ 19

Industry Growth .................................................................................................................................. 19

Concentration and Balance of Competitors ........................................................................................... 22

Differentiation ..................................................................................................................................... 24

Switching Costs ................................................................................................................................... 25

Economies of Scale ............................................................................................................................. 27

Ratio of Fixed to Variable Costs .......................................................................................................... 28

Excess Capacity ................................................................................................................................... 29

Exit Barriers ......................................................................................................................................... 30

Threat of New Entrants ........................................................................................................................... 30

Introduction ........................................................................................................................................ 30


First Mover Advantage ........................................................................................................................ 31

Access to Channels of Distribution and Relationships ........................................................................ 33

Legal Barriers ...................................................................................................................................... 34

Conclusion ........................................................................................................................................... 34

Threat of Substitute Products ................................................................................................................. 35

Introduction ........................................................................................................................................ 35

Relative Price and Performance .......................................................................................................... 36

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Customer’s Willingness to switch ....................................................................................................... 36

Conclusion ........................................................................................................................................... 37

Bargaining Power of Customers ............................................................................................................. 37


Importance of Product for Cost and Quality ....................................................................................... 39

Number of Customers ......................................................................................................................... 40

Volume per Customer ......................................................................................................................... 41

Switching Cost ..................................................................................................................................... 42

Conclusion ........................................................................................................................................... 42

Bargaining Power of Suppliers ................................................................................................................ 43


Importance of Product for Cost and Quality ....................................................................................... 45

Number of Suppliers ........................................................................................................................... 45

Volume per Suppliers .......................................................................................................................... 47

Switching Cost ..................................................................................................................................... 48

Conclusion ........................................................................................................................................... 48

Firm Competitive Advantage Analysis ........................................................................................................ 50

Cost Leadership ....................................................................................................................................... 51


Economies of Scope ............................................................................................................................ 52

Manufacturing Efficiency .................................................................................................................... 52

Tight Cost Control ............................................................................................................................... 53


Superior Product Quality .................................................................................................................... 55

Superior Product Variety..................................................................................................................... 56

More Flexible Delivery ........................................................................................................................ 56

Investment in Research and Development ......................................................................................... 57

Organization Promotes Creativity and Innovation ............................................................................. 58

Conclusion ........................................................................................................................................... 58

Key Success Factors ..................................................................................................................................... 59

Superior Product Quality .................................................................................................................... 59

Superior Product Variety..................................................................................................................... 60

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Focus on Creativity .............................................................................................................................. 60

Economies of Scale and Scope ............................................................................................................ 61

Conclusion ........................................................................................................................................... 61

Accounting Analysis .................................................................................................................................... 62

Identify Key Accounting Policies (KAP) ................................................................................................... 63

Type 1 Key Accounting Policies ........................................................................................................... 64

Type 2 Key Accounting Policies ............................................................................................................... 66

Introduction ........................................................................................................................................ 66

Research and Development ................................................................................................................ 66

Foreign Currency ................................................................................................................................. 67

Operating Leases ................................................................................................................................. 69

Pension Plan ...................................................................................................................................... 69

Goodwill .............................................................................................................................................. 71

Degree of Potential Accounting Flexibility .............................................................................................. 72

Introduction ........................................................................................................................................ 72


Foreign Currency Risk ......................................................................................................................... 74


Goodwill .............................................................................................................................................. 75

Evaluation of Actual Accounting Strategy ............................................................................................... 75

Introduction ........................................................................................................................................ 76


Foreign Currency Risk ......................................................................................................................... 77


Goodwill .............................................................................................................................................. 79

Quality of Disclosure ............................................................................................................................... 81

Introduction ........................................................................................................................................ 81


Foreign Currency ................................................................................................................................. 82


Goodwill .............................................................................................................................................. 83

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Quantitative Analysis .............................................................................................................................. 83

Sales Manipulation Diagnostics .......................................................................................................... 84

Net Sales / Cash from Sales ............................................................................................................ 84

Net Sales / Accounts Receivable .................................................................................................... 86

Net Sales / Inventory ....................................................................................................................... 88

Conclusion .......................................................................................................................................... 90

Asset Turnover .................................................................................................................................. 90

CFFO / Operating Income ............................................................................................................... 93

CFFO / Net Operating Assets .......................................................................................................... 95

Total Accruals / Sales ....................................................................................................................... 97

Conclusion .......................................................................................................................................... 99

Sales Conclusion ................................................................................................................................ 100

Potential Red Flags ................................................................................................................................ 101

Introduction ...................................................................................................................................... 101

Operating Leases ............................................................................................................................... 101

Research and Development .............................................................................................................. 102

Goodwill ............................................................................................................................................ 102

Undoing Accounting Distortions ........................................................................................................... 104

Introduction ...................................................................................................................................... 104

Research and Development .............................................................................................................. 104

Operating Leases ............................................................................................................................... 107

Goodwill ............................................................................................................................................ 109

FINACIAL STATEMENTS ......................................................................................................................... 111

Income Statement............................................................................................................................. 111

BALANCE SHEET ................................................................................................................................ 113

RESTATED FINANCIAL STATEMENTS ..................................................................................................... 114

Trial Balance ...................................................................................................................................... 114

Statement of Cash Flows ...................................................................................................................... 120

Restated Statement of Cash Flows ....................................................................................................... 123

Conclusion ......................................................................................................................................... 158

Cost of Equity ........................................................................................................................................ 158

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Size Adjusted ..................................................................................................................................... 160

Alternative cost of equity .................................................................................................................. 160

Cost of Debt ...................................................................................................................................... 161

Weighted Average Cost of Capital (WACC) ....................................................................................... 163

Firm Valuation ........................................................................................................................................... 164

Method of Comparables ....................................................................................................................... 164

Price to Earnings Ratio (Trailing) ....................................................................................................... 165

Price to Earnings Ratio (Forward) ..................................................................................................... 165

Price / Book ....................................................................................................................................... 165

Dividends / Price ............................................................................................................................... 166

Price / EBITDA ................................................................................................................................... 167

Price / Free Cash Flows ..................................................................................................................... 168

Enterprise Value/EBITDA .................................................................................................................. 168

Enterprise Value / Free Cash Flows .................................................................................................. 169

Intrinsic Valuation Models .................................................................................................................... 171

Discounted Dividends Model ............................................................................................................ 171

Residual Income Model .................................................................................................................... 172

Discounted Free Cash Flows Model .................................................................................................. 174

Abnormal Earnings Growth ............................................................................................................... 175

Long Run Residual Income ................................................................................................................ 178

Conclusion ......................................................................................................................................... 180

Appendix ............................................................................................................................................... 181

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Executive Summary Investor Recommendation: Overvalued - HOLD (6/1/2009)

52 Week Range: $7.18 - $26.70 2004 2005 2006 2007 2008Revenue: 769.68$ (Mil.)Initial Z-Score: 0.6 0.7 1 1 -3.2Market Capitalization: 1,588.86$ (Mil.)Adjusted Z-Score:3.6 4 4.4 4.4 9.3Shares Outstanding: 122.22 (Mil.)

Stated RestatedBook Value Per Share:$8.39 $11.18Return on Equity: -46.34% -9.54% As Stated RestatedReturn on Assets:-43.14% -4.90% Trailing P/E: N/A N/A

Forward P/E: N/A N /ADividends to Price: 16.17 $ 7.77$

Estimated R-Squared Beta Ke Price to Book: 21.41 $ 20.14$ 3-Month 0.29119 1.09787 13.28P.E.G. Ratio: N/A N/A1-Year 0.29249 1.09909 12.984Price to EBITDA: 9.51 $ 16.20$ 2-Year 0.29212 1.09879 12.843EV/EBITDA: 11.72 $ 19.92$ 5-Year 0.39547 1.09851 12.323Price to FCF: 19.13 $ 38.18$ 10-Year 0.29246 1.09832 11.925

Published Beta: 1.06 As Stated RestatedEstimated Beta: 1.099 Discounted Dividends: $4.81Size Adj. Cost of Equity: 12.5% Free Cash Flows: $17.27 $14.39Cost of Debt (BT): 6.5% Residual Income: $7.43 $0.38Cost of Debt (AT): 4.6% Long Run Residual Income: $7.61 $14.34WACC (BT): 11.9% Abnormal Earnings Growth: $6.36 $1.15WACC (AT): 11.7%

Cost of Capital

ISIL - NYSE (6/1/2009) $13.00 Altman Z-Scores

Intrinsic Valuations

Current Market Share Price (6/1/2009) $13.00

Financial Based Valuations

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Screen clipping taken: 6/27/2009, 10:07 AM

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Industry Analysis

Intersil is in an industry of Analog Integrated Circuits (IC). This Intersil employs

over 1,500 employs within their firm and has grown to become and internationally

recognized industry later in the High-Quality-Analog (HQA) Integrated Circuit (IC)

industry. In this industry there is a broad range of products which include bridge driver

power management ICs, broadband power management ICs, cellular base stations,

DVD recorders, GPS systems, and many more electronic products. The analog industry

is a very specialized industry but at the same time many products are created from this

industry. The majority of Intersil’s revenues come from international operations. Last

year, 2008, international revenues composed 82% percent of Intersil’s net revenues.

About half of their sales are sold to original equipment manufacturers and the other half

are sold to private distributors and resellers.

To first value a firm one must understand the industry and which it competes in.

The best way to do this is by using a five force model analysis. The five forces model

covers topics over rivalry among existing firms, threat of new entrants, threat of

substitute product, bargaining power of buyers, and bargaining power of suppliers. The

chart shows the different degree of competition we decided each competitive force

Competitive Force Degree of Competition

Rivalry Among Existing Firms Moderate

Threat of New Entrants Low

Threat of Substitute Products Moderate

Bargaining Power of Customers Low

Bargaining Power of Suppliers Moderately-High

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should have. The firm Intersil’s main competitors are Maxim, Analog Devices, Linear

Technology, and Texas Instruments. All of these firms are compete in the analog IC

industry. Each one of these companies compete to make the fastest, best quality, and

smallest chip out on the market. To create a high quality product a big portion is

invested in R&D which is imperative to remaining competitive.

This industry does not really have to worry about the threat of new entrants. For

a new firm to come into this industry they must overcome many barriers. On the other

hand the threat of substitute products exists in this industry due newer and better

products that come in to the market. In this industry innovative products are constantly

created which eventually push out older products from the market. The bargaining

power of customers is consider low in the industry because the performance of the

product dictates the price.

In the Analog IC industry supplies are used such as raw wafers, chemicals,

liquefied gases, poly-silicon, silicon wafers, pure metals, lead frames, molding

compounds, as well as subcontracting work such as epitaxial growth, a portion of wafer

fabrication, and ion implantation. In the industry there is a moderately to high degree

of competition when it comes to bargaining power of suppliers. The numbers of

suppliers are high; however, firms receive a majority of their supplies from single

suppliers and subcontractors. Due to their dependency on certain suppliers, suppliers

have pricing and term bargaining power.

Accounting Analysis

Accounting analysis is a key step in the valuation process. In order to determine

if a firm’s financial statements accurately represent reality, one must be aware of a

firms’ principal accounting policies and be able to identify and “red flag” instances in

which excessive accounting flexibility or accounting distortion might be present. While

analyzing ISIL’s financial statements, we felt that their accounting strategy led to

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financial reports that degraded our opinion of the firm. After analyzing ISIL’s actual

accounting strategy, we felt that restating these accounts would better represent the

firm’s underlying business reality. The key areas that we targeted as red flags were

their recording of impairment of goodwill, expensing of research and development, and

their strategy of using operating leases instead of capital leases. After computing

amortization tables related to these accounts, we completed a trial balance which

depicted the year by year adjustments that we applied to actual financial statements in

order to produce restated statements that we felt were a better representation of the

firm. After obtaining restated financials, we were able calculated a number of restated

financial ratios which clearly represented the impact that varying accounting strategies

on investors’ perception of the firm. For example, prior to restating the financial

statements, Intersil’s computed Altman Z-Score indicated that the firm was at high risk

of bankruptcy. However, after calculating the same ratio using the restated financials,

we determined that the firm was not only not in financial distress, but rather had

healthy margin of safety above the “grey zone.”

Financial Analysis

The financial analysis is computed to measure viability, profitability, and stability

of firm using financial ratios. These ratios are used to measure the performance of a

firm to their competitors. The purpose of a financial analysis of a firm is to measure a

firm’s performance against its competitors. The three main types of ratio categories

firms’ use are liquidity, profitability, and capital structure. Liquidity ratios are used to

measure if a firm has enough cash to meets its future obligations and determines the

credit risk of a company. The next major ratio is profitability and is used to see how

efficient the firm operates. The third ratio is capital structure, this ratio is important

because they provide insight into the firms default risk.

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Valuation Executive Summary

To determine the value of ISIL it is necessary to use both relative financial ratio

valuation and intrinsic valuation models. To explain the method of comparables it is a

bunch of ratios that have different aspects of the firm which is designed to estimate

current stock prices. There are five forms of valuation models, discounted dividends,

free cash flow, residual income, AEG, and long run residual income. Discounted

dividends bases its valuation based on a firm’s dividend issuance. Free cash flow does

not take into consideration the first year, (time zero) and is based on wishful thinking

rather than theory or tangible assets. The free cash flows model is the only model that

uses WACC instead of Ke. The third model, residual income is based in theory and can

explain up to 90%. Discounted dividends only explains the portion of the firms price

that correlates to dividends. The next model is the AEG. Similar to the residual income,

it correlates with the residual income and typically finds very similar results with high

explanatory power. The last valuation model is the long run residual income. This is a

sensitivity analysis to test how the firms return on equity, growth rate and cost of

equity. This displays the volatility of the price and how price shifts according to growth,

ROE, and Ke.

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Business and Industry Analysis

In order to establish a foundation upon which we will draw upon a firms’ publicly

available financial statements, and through thorough analysis, emulate “insider

information” for the purpose of measuring and forecasting firm performance, we must

first establish expert knowledge of the firm and the industry in which it operates.

Firm Overview

Formed in 1999, Intersil Corporation’s (ISIL) “…mission is to provide

differentiated, high-performance analog ICs that meet (their) customers’ needs and

exceed (their) expectations.” (Intersil 10-K) Intersil is a part of the analog integrated

circuit semiconductor industry. Intersil’s roots go as far back as the 1950s when three

companies merged to create the Harris Corporation. In 1999, Harris was acquired by

Intersil. As of January 2009, Intersil employs over 1,500 employees and has grown to

become an internationally recognized industry leader in the High-Quality-Analog (HQA)

Integrated Circuit (IC) industry.

Intersil develops and manufactures high-performance analog integrated circuits.

Intersil has had many years of analog experience, and has built a secure foundation.

Intersil’s HQA ICs can be found in a broad range of products including some of the

following: bridge driver power management ICs, broadband power management ICs,

cellular base stations, DVD recorders, GPS systems, high speed converters, hot plug

power management, line drivers, MP3 players, multiplexers, operational amplifiers, and

smart cell phones. “Their product strategy is focused on broadening our portfolio of

Application-Specific Products (“ASSP”) and General Purpose Proprietary Products

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(“GPPP”) which are targeted within the high-end consumer, industrial, computing and

communications markets.” (Intersil 10-K) Intersil designed their business strategy to

focus on key factors such as focusing on large vertical markets, broadening their

product portfolio, maintaining technological superiority and providing excellent customer

service, and partnering with leaders in the semiconductor markets, products and

services. Intersil strives to introduce new products to the market before their

competitors, and to do so they incur high research and development costs, averaging

$134.8 million annual R&D expense over the past three years.

The majority of Intersil’s revenues come from international operations. Last

year, 2008, international revenues composed 82% percent of Intersil’s net revenues.

On average, about half of their products are sold to original equipment manufacturers

(OEMs), and the other half are sold to private distributors and resellers. The following

table shows Intersil’s total assets, net sales and comparable sales growth for the past

six years. The ne sales has had steady growth for the past six years, and the sales

growth has grown on average 6.24% during the past six years.

Intersil Corp ‐Total Assets, Net Sales, and Comparable Sales Growth

2004 2005 2006 2007 2008

ASSETS $ 2,587.57 $ 2,583.72 $ 2,559.13 $ 2,404.99 $ 1,133.59

REVENUES $ 535.78 $ 600.26 $ 740.60 $ 756.97 $ 769.68

% ChgRev 5.53% 12.03% 23.38% 2.21% 1.68%

Intersil’s primary competitors are Analog devices (ADI), Maxim integrated

products (MXIM), Linear Technology Corp (LLTC), and Texas Instruments (TXN).

Intersil is traded on the Nasdaq market and their current market cap is $1.52 billion.

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Industry Overview

The industry of Analog Integrated Circuits is a very specialized industry but at

the same time could provide a wide range of products. An Analog IC is a miniaturized

circuit which has been manufactured in the surface of a thin substrate of semiconductor

material. These chips known as Analog IC are used throughout pretty much all types of

electronics which creates a very broad range of products for this industry. These Analog

ICs are used in products such as automobiles to cell phones. The Analog ICs play a role

of vacuum tubes which have been used in the past. However these are much smaller

than vacuum tubes which allow mass production possible, which has had a tremendous

impact on technology and the way it is used by people today. The costs of producing

these chips are relatively low because they are printed as a unit by photolithography

and they are not constructed by hand on transistor one at a time. The performance for

these chips are very high because information is processed quickly and the components

are small and close together which allows these chips to create advance technological

products for its customers.

Total assets (millions) 2004 2005 2006 2007 2008

Intersil Corporation 2,587.57 2,583.72 2,559.13 2,404.99 1,133.59

Analog Devices Inc. 4,723.27 4,583.21 3,986.85 2,970.94 3,090.99

Maxim Integrated Products Inc. 2,549.46 3,059.94 3,286.54 3,606.78 3,708.39

Texas Instruments Inc. 5,257.00 6,016.00 7,259.00 7,369.00 6,245.00

Gross Profit (millions) 2004 2005 2006 2007 2008

Intersil Corporation 298.62 334.7 424.86 431.59 399.4

Analog Devices Inc. 1,553.80 1,281.32 1,393.60 1,508.28 1,577.28

Maxim Integrated Products Inc. 960.34 1,172.02 1,218.40 1,216.43 1,238.39

Texas Instruments Inc. 16,299.00 15,063.00 13,930.00 12,667.00 11,923.00

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Firms competing against Intersil Corp. (ISIL) consist of Analog Devices Inc. (ADI),

Maxim Integrated Products Inc. (MXIM), and Texas Instruments (TXN). In 2008 these

four firms produced $15,138 million in Gross Profit combined. In this industry Texas

Instrument holds the greatest market share. The firms compared to the one listed here

are closely related in the products they offer. Kerry Grace reports “Global

semiconductor sales fell 29% in January from a year earlier, as the recession continues

to slam the industry” (Global Chip Sales Fell 29% in January, WSJ). You can see that

Gross profit has not had changed much in the five years shown in the chart. However in

2009 sales have dropped considerably and profits will suffer in 2009 if sales continue to

stay this way.

In an Analog IC industry R&D plays a huge role in maintaining up to date

technology and creating innovative products for its customers. Without R&D and firm

will not be able to survive in the industry because this industry moves at a very rapid

and aggressive rate to create the best product on the market in order to be the leader

of the industry. After the industry has created an innovative product it could protect the

product or idea by placing a patent. The Semiconductor Chip Protection Act of 1984

provides a copyright protection for chips layouts. This act made it illegal for competing

chips to use identical layouts for its products. According to SIA the industry has grown

up $249 billion as of 2008. $20 billion dollars have been used in R&D which is equal to

17% of sales.

Ultimately, the industry of Analog Integrated Circuits heavily relies on the

innovative products the firms produce. In order for firms to survive and profit in the

industry, firms will need to spend a significant amount on R&D. Without R&D products

will not advance in technology leaving the products out of date. To keep up with

technology in this industry is a key and is a great factor firms must consider. Overall,

the industry is a very specialized industry and requires exceptional skills to continuously

produce products in the industry.

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Five Forces Model

The five forces model is a tool used to break down and analyze industry

competition, threat of new competition, and the relationship between a firm and the

suppliers and customers of the industry. It is divided into two main segments, the

degree of actual and potential competition and bargaining power in input and output

markets. The first segment is divided into three categories, rivalry among existing firms,

threat of new entrants, and threat of substitute products. Rivarly among existing firms

takes into consideration industry growth, concentration, differentiation, switching cost,

economies of scale, learning economies, fixed to variable cost, excess capacity and exit

barrier in order to determine the level of competition in the industry and the pricing of

products. Threat of new entrants analyzes scale economies, first mover advantage,

distribution access, relationships and legal barriers to conclude the ability of new firms

to enter the industry. Threat of substitute products takes into account relative price and

performance as well as buyer’s willingness to switch in order to determine how pricing

competition impacts pricing.

The second portion of the five forces analysis is sub-divided into two main

segments, bargaining power of customers, and bargaining power of suppliers. It

determines through switching cost, differentiation, importance of product cost,

importance of product quality, number of customers and suppliers and volume per

customer and supplier to derive if customers or suppliers dictate prices and terms.

This model takes into consideration the industry as a whole, rather than simply

individual firms. By doing so, it allows us to analyze what the trends are of the industry

and how the firm implements the competitive strategies of the industry into their

business practices.

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Source: Yahoo Images

The following table summarizes our analysis of the five factors and

the degree of competition produced by each segment:

Competitive Force Degree of Competition

Rivalry Among Existing Firms Moderate

Threat of New Entrants Low

Threat of Substitute Products Moderate

Bargaining Power of Customers Low

Bargaining Power of Suppliers Moderately-High

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Rivalry among Existing Firms

Introduction

When evaluating competition within the Analog IC industry, it is necessary to

reflect on the rivalry among the existing firms. Recognizing the rivalry among the

existing firms allows a firm to help differentiate themselves from others in the industry.

In the analog integrated circuit semiconductor industry, it is critical for firms to be

ahead of the game, to maintain their market share and hopefully increase their market

share. The analog IC semiconductor industry takes pride in their ability to innovate. In

such a differentiated industry, there is heavy price competition. This industry spends a

lot of their time and money on research and development to maintain stable growth. In

order to better understand the environment related to rivalry among existing firms, one

can separate the various factors inherent to the competitive landscape such as industry

growth, concentration, differentiation, switching costs, scale/learning economies, fixed-

variable costs, excess capacity, and exit barriers.

Industry Growth

Understanding the size of the industry and the industry growth rate allows us to

market competition. In a fast growing industry, the firms are more focused on new

innovations and attracting new customers, then their portion of market share. On the

other hand, a slow growing industry focuses on price competition and strives to take

market share from their competitors. A good way to measure industry growth is to

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analyze the net sales of the industry. Below is a table of the analog IC semiconductor

industry sales and graph to show the revenue in this industry over the past six years.

Industry Sales (Thousands)

2003 2004 2005 2006 2007 2008

ISIL $507,687 $535,775 $600,255 $740,597 $756,966 $769,675

ADI $2,047,268 $2,633,800 $2,388,808 $2,250,100 $2,464,721 $2,582,931

MXIM $1,153,219 $1,439,263 $1,671,713 $1,856,945 $2,009,124 $2,052,783

TXN $7,240,000 $8,345,000 $11,829,000 $13,730,000 $4,927,000* $4,857,000

LLTC $606,570 $807,280 $1,049,690 $1,092,980 $1,083,080 $1,175,150

TOTAL $11,554,744 $13,761,118 $17,539,466 $19,670,622 $11,240,891 $11,437,539

*TXN changed their segmented data year 2007

$‐

$5,000,000

$10,000,000

$15,000,000

$20,000,000

$25,000,000

2003 2004 2005 2006 2007 2008

Industry Sales

Industry

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Industry Sales Growth

2003 2004 2005 2006 2007 2008

ISL 17.36% 5.24% 10.74% 18.95% 2.16% 1.65%

ADI 16.60% 22.27% -10.26% -6.16% 8.71% 4.58%

MXIM 11.11% 19.87% 13.90% 9.98% 7.57% 2.13%

TXN 14.75% 21.82% 6.06% 6.85% -3.03% -10.67%

LLTC 16.72% 24.86% 23.09% 3.96% -0.11 7.83%

TOTAL 15.31% 18.81% 8.71% 6.71% 3.06% 1.10%

The sales growth rate has been decreasing gradually over the past six years.

The analog IC semiconductor industry has averaged an overall 8.95% sales growth over

the past six years. The sales in an analog IC semiconductor industry are reliant on

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

2003 2004 2005 2006 2007 2008

Industry Sales Growth

Industry

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demand from the telecommunications and computer products. Throughout the past

couple month’s experts forecast a dramatic decrease in the growth of this industry, due

to the recession. But with recent news from the month of April, sales were surprisingly

better then forecasted. “The better-than-expected 6.4 percent sequential increase in

April sales was driven by moderate improvements in a number of end-demand drivers

and inventory replenishment” quoted by the SIA president (www.sia-online.org). The

PC and cell phone account for 60% of the semiconductor industry sales. In order for

the industry growth rate to improve or remain steady the firms will have to continue to

produce innovative and differentiated products.

Concentration and Balance of Competitors

The number and size of firms help define the concentration of the industry.

When analyzing an industries competitive environment, it is necessary to fully

understand the industry’s direct competitors, the distribution of market share in the

industry, the size of the industry, and the market capitalization of the competitors

within the industry. Principal “elements of competition within this industry include:

technical innovation, service and support; time to market; product performance and

features; quality and reliability; product pricing and delivery capabilities; customized

design and applications; business relationship with customers; and manufacturing

competence and inventory management”(MXM 10-K 2008).

The larger the firm, the more control they have over setting prices and

formulating business strategies. The participants in the analog IC semiconductor

industry are still specialized no matter their size. Intersil’s specialty is “designing,

developing, manufacturing, and marketing high-performance analog integrated

circuits.” (Intersil 10-K) Intersil’s primary competitors include Analog Devices (ADI),

Maxim Integrated Products (MXIM), Linear Technology Corp (LLTC), and Texas

Instruments (TXN). Larger firms can more easily dictate the level of industry price

competition than smaller firm. Larger firms generally have greater access and capital

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which may lead a firm to choose to exit an industry or particular segment of an industry

rather than try to have a price-war which generally results in a decreased profit margin.

In times of economic turmoil, small firms in financial distress often become acquisition

targets for larger firms. This is an ongoing trend in the analog IC industry. The

following table and pie chart displays the market share between ISIL and its peer

group.

Market Share (as a % of total sales)

2003 2004 2005 2006 2007 2008

ISIL 10.07% 3.25% 3.42% 3.76% 6.73% 6.72%

ADI 40.63% 16.01% 13.62% 11.44% 21.92% 22.58%

MXIM 22.89% 8.75% 9.53% 9.44% 17.87% 17.95%

TXN 14.37% 67.08% 67.44% 69.79% 43.83% 42.46%%

LLTC 12.03% 4.91% 5.98% 5.55% 9.64% 10.27%

TOTAL $13,570,262 $17,253,318 $18,193,118 $19,102,642 $19,065,811 $17,906,389

24 | P a g e

. From the chart above, notice when Texas Instruments changed their segmented

data in their 10-K, they lose about 20% of the Analog IC industry market share.

Intersil’s market share ratio is significantly smaller then Texas Instruments and any of

their other competitors, so as a result Intersil must follow the lead of their competition.

Intersil market share is less then all their other competitors, one reason being they

don’t have as many product lines as their competitors.

Differentiation

A firm can achieve competitive advantage by one of two ways, either cost

leadership or differentiation. Cost leadership involves producing a product at the lowest

cost, maintaining efficient production, simpler product designs, lower input costs, low-

cost distribution, having a tight cost control system and allocating less money to

research and development or brand advertising. The ladder approach, differentiation, is

essentially how a firm can distinguish itself from its competitors. If the product lines

within the industry are similar, then the industry should be described with low degrees

2004 2005 2006 2007 2008

0%

10%

20%

30%

40%

50%

60%

70%

80%

Market Share 2004‐2008

Intersil

Analog Devices

Maxim

Texas Instruments

Linear Tech

25 | P a g e

of differentiation. A firm can achieve this through a superior product quality and variety,

superior customer service, more flexible delivery, investment in brand image and

advertising, allocating money towards research and development, and by having a

system based on creativity and innovation. Therefore, if the product lines within the

industry vary, then the industry should be described with high degrees of

differentiation.

The Analog IC semiconductor industry is classified as an effective differentiation

industry. If any firm in this industry wants to survive it is necessary to invest a

significant amount in research in development. On average, the Analog ICs puts

approximately 20% of their revenues back into research and development. In to stay

competitive in this industry, firms need to constantly be on top of the latest technology

and continually introducing new innovative products. Firms have a large product

portfolio, some consisting of over 20,000 different products. Lately, customers are

demanding high processing technology; such as high-definition televisions, digital

cameras, and more technologically advanced computer processors, firms must keep up

with their customers’ technological demands. If the firms fail to keep up with

manufacturing new products the customers want, there will be an evident reaction in

the success relatively soon. This makes it difficult to for new firms to enter the market.

In an industry where time is money, new firms must pour millions of dollars into

research in development for product design. Next, they must maintain a large variety of

products and patent, (for instance Intersil owns the rights to over 1,000 patents). New

firms must master all of these competitive advantages in a timely fashion. Thus,

differentiation inhibits new entrants on entering the industry.

Switching Costs

26 | P a g e

When a firm decides they want to discontinue the direction they are going and

enter into another industry, the costs of the switch are called switching costs. Low

switching costs are when a firm can switch industries without spending a lot of money

on raw materials. High switching costs are when a firm switches industries; they will

encounter spending a considerable amount of money on raw materials which makes it

more difficult to switch industries. If a firm decides to switch, there is a high possibility

of it destroying their firm.

The amount of money the Analog IC industry spends on research and

development makes the industry encounter high switching costs if they choose to

switch industries. Below is a graph is demonstrate how much research and

development the industry spends relative to their revenues. The industry averagely

spends about 20% of their sales on research and development.

Being in a differentiation industry, which is the price you pay if you decide to leave the

industry. The industry would have a very complicated time finding substitute uses for

their products. Once the firm has entered this industry and built a foundation, it is best

that they stay and if they are having problems, just try to improve their product to the

best of their ability.

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

2003 2004 2005 2006 2007 2008

R&D as a Percentage of Revenues

ISIL

TXN

ADI

LLTC

MXIM

Industry

27 | P a g e

Economies of Scale

To have an industry with a steep learning curve presents that the firms are

usually larger and generally more profitable in the industry. The Analog IC industry is

considered to have a steep learning curve because of the specialized skills that are

needed to create such technology. The scale of economies must be large to survive in

the industry. One way Intersil Corp. shows large scale of economies is that the firm

competes in the industry by utilizing outsourcing of the manufacturing side of the firm.

Intersil will have seasonal variations and to have outsourcing available when demand is

high is a key factor in the way they stay competitive among the industry.

The total assets show the range of capital needed for such an industry. The scale

of economies must be fairly large here to stay competitive in the industry. Firms must

obtain strategies in expanding their business in order to gain cost advantages. Texas

Instruments is a dominant leader in the industry and

$‐

$2,000.0

$4,000.0

$6,000.0

$8,000.0

$10,000.0

$12,000.0

$14,000.0

$16,000.0

$18,000.0

2003 2004 2005 2006 2007 2008

Total Assets by Firm (in Millions)

ISIL

TXN

ADI

LLTC

MXIM

Industry

28 | P a g e

Ratio of Fixed to Variable Costs

A high fixed to variable cost influences the firms to reduce price and utilize

installed capacity. In an industry of Analog IC there are high fixed costs mainly from

R&D because of this the industry results in a high fixed to variable cost ratio. Variable

costs in the industry are considered to be low compared to the fixed costs that are

required in generating new products.

Total Cost / Sales (Change) ? ‐> Fixed to Variable Costs

FIRM 2004 2005 2006 2007 2008 AVG

ISIL ‐70.5% 42.0% 50.1% 159.2% 450.9% 126.3%

TXN 40.0% 11.5% 22.9% 220.5% 53.6% 69.7%

ADI 36.7% 65.0% 161.5% 66.7% 71.5% 80.3%

LLTC 10.8% 33.0% 174.6% ‐449.1% 36.4% ‐38.8%

MXIM 151.9% 27.3% 231.4% 372.2% ‐14.1% 153.7%

Industry 33.8% 35.7% 128.1% 73.9% 119.6% 78.2%

Intersil maintains low variable costs by outsourcing a substantial portion of their

silicon wafer demand to third party foundries. In addition, the equipment required to

produce higher end ICs is extremely expensive, therefore, Intersil controls costs by

outsourcing a significant portion of final product assembly. “This reduces our capital

requirements and enhances our flexibility in managing our ever-changing business”.

(Intersil 10-K) Rather than allocating funds to manufacturing and PP&E, the industry

trends towards increased investment in R8D. Firms in the HQA IC industry seek to

compete through differentiation and high focus on R&D enhances their core

competency of developing new and innovative technologies and unique products that

are valued by its customers.

29 | P a g e

Excess Capacity

If an industry has an excess capacity it will cause firms to cut price to fill

capacity. The analog IC industry, however, is a very specialized industry. Due to the

fact that this industry is highly specialized, demand normally will be greater than

capacity. In the industry demand is very high for new innovative products and excess

capacity will rarely be a problem for reduced prices. However, there is one factor to

consider; if the firm does not produce innovative products, capacity could take over the

demand of their products if they are behind in the industry. To minimize the risk of

excess capacity large investments in R&D could play a key role in increasing demands.

According to Grace in January 2009 “Semiconductor analysts have expressed concern

about inventory levels as the effects of a lackluster holiday season, which typically is the

industry's strongest time of year, work their way up the supply chain” (Global Chip

Sales Fell 29% in January, WSJ). This is unusual in the industry but at the same time

the economy has also had severely unusual declines in the market which explains the

high excess capacity.

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

2003 2004 2005 2006 2007 2008

CGS / PP&E

ISIL

TXN

ADI

LLTC

MXIM

30 | P a g e

Exit Barriers

Exit barriers in the industry are high because of significant funds spent on specialized

assets. Due to the high exit barriers it will be harder for firms to leave the industry

because of the substantial loss incurred in leaving the industry. Because of this issue it

will create more rivalry among the firms which could possibly lead to a higher price

competition. The factor that will distinguish firms is the quality of their products and to

produce quality products R&D needs to be highly invested in to maintain up to date

products. The bottom line is that the industry has a very high exit barrier, which keeps

companies from leaving and continue to compete to gain market share which will create

higher price competition throughout the industry.

Threat of New Entrants

Introduction

New entrants are attracted to an industry when there is a favorable opportunity

to earn profits. The threat of new entrants is the mixture of the barriers to the entry

and the effect of the present competitors. The more barriers there are in the industry,

the greater the chance of low profitability for the new entrants entering the market.

Powerful rivalry is correlated to the presence of factors such as economies of scale, first

mover advantage, channels of distribution and relationships, and legal barriers. Taking

all these factors into consideration, the threat of new entrants to the analog IC

semiconductor industry is reasonably low.

31 | P a g e

Economies of Scale

Economies of scale acts as a barrier requiring that the new entrant comes on a large

scale alternatively they can also choose to come on a small scale with greater cost

disadvantage. Although both options the new entrant has, will experience a cost

disadvantage in competing with existing firms. Scale effects are probable because in the

majority productions operations fixed and variable costs are involved, variable costs

being related to the productions volume. To be successful in the analog IC

semiconductor industry, there is a need for large capital; the following chart displays

the analog IC semiconductors obvious large amount of assets.

Total Assets

2004 2005 2006 2007 2008

ISIL 2,587,570 2,583,717 2,559,127 2,404,987 1,133,590

ADI 523,693 250,849 412,924 436,015 433,976

MXIM 2,549,462 2,957,033 3,041,556 3,606,784 3,708,390

TXN 16,299,000 15,063,000 13,930,000 12,667,000 11,923,000

LLTC 2,087,703 2,286,234 2,390,895 1,218,857 1,583,889

TOTAL 21,959,725 20,854,599 19,943,607 19,114,786 17,198,956

First Mover Advantage

In the beginning of a new industry, the first companies to succeed can often take

over an industry with what is called a first mover advantage. The firms that come in

after the first firms have a lot to do to catch up to the firms. The beginning firms have a

stronger foundation, a large customer base, more experience in the industry, and have

been designing innovative products longer then the new entrant. New entrants need to

consider that they will be facing the possibility of failure to develop successful brand

32 | P a g e

loyalty and recognition. Below is a graph that demonstrates the amount of money this

industry spends on research and development. A new entrant needs to keep in mind

the amount of capital they will need to enter this industry.

Research and Development

2004 2005 2006 2007 2008

ISIL $107,430,000 $110,830,000 $126,460,000 $134,370,000 $143,500,000

ADI $514,440,000 $497,100,000 $459,850,000 $509,550,000 $533,480,000

MXIM $306,320,000 $328,160,000 $514,140,000 $659,540,000 $577,750,000

TXN $1,978,000,000 $2,015,000,000 $2,195,000,000 $2,140,000,000 $1,940,000,000

LLTC $104,620,000 $131,430,000 $160,850,000 $183,560,000 $197,090,000

TOTAL $3,010,810,000 $3,082,520,000 $3,456,300,000 $3,627,020,000 $3,391,820,000

Research and Development Percentage of Sales

2003 2004 2005 2006 2007 2008 6 yr AVG

ISIL 18.0% 20.1% 18.5% 17.1% 17.8% 18.7% 18.3%

TXN 17.8% 15.7% 15.0% 15.4% 15.5% 15.5% 15.8%

ADI 22.1% 19.5% 20.8% 20.4% 20.7% 20.7% 20.7%

LLTC 15.1% 13.0% 12.5% 14.7% 16.9% 16.8% 14.8%

33 | P a g e

Texas Instruments spends the most amount of money of research and

development within the industry, but when compared to their sales, they spend only

16% of their sales. The Analog IC industry spends about 20% of their revenues on

research and development.

When an industry has a significant first mover advantage, threat of new entrants

is greatly condensed. If a new entrant wanted to enter this industry, they would need

to have a substantial amount of capital to compete. However, recently new firms have

been forming connections within this industry and entering easier than in the past.

When an industry spends so much money on research and development, they need to

protect their investment. Within the Analog IC industry, firms averagely have more than

1,000 patents. The Analog IC industry “seeks to establish and maintain our proprietary

rights in our technology and products through the use of patents, copyrights,

trademarks and trade secret laws”(ADI 10-K 2008). The Analog IC semiconductor

industry threat of new entrants is moderately low.

Access to Channels of Distribution and Relationships

Firms in the analog IC semiconductor industry need to be able to develop a

relationship with the distributors, manufactures, suppliers and several others included in

the supply chain. Access to distribution channels is significant if a firm wants to survive

in this industry due to the industries heavy reliance on their distributors. Intersil

“derives 28% of their revenues through distributors and value added resellers” (Intersil

10-k). “Linear technology corporations primary domestic distributor: Arrow Electronics,

accounted for 12% of revenues during fiscal year 2008” (LLTC 10-K). Majority of the

firms in this industry rely greatly on their distributors. New entrants entering this

MXIM 23.6% 21.3% 19.6% 27.7% 32.8% 28.1% 25.5%

Industry 19.3% 17.9% 17.3% 19.1% 20.7% 19.9% 19.0%

34 | P a g e

industry often find it hard to develop relationships with the manufacturers, especially

the overseas ones. Majority of the direct customers and distributors the Analog IC

industry work with rather buy on an individual purchase than have long term

agreements. In some cases, distributors agree to “allow for price protection on certain

inventory if the firm lowers the price of their products” (MXIM 10-K 2008). Good

relationships with everyone involved in the supply chain are very important to succeed

in this industry.

Legal Barriers

The amount of technology research the analog IC semiconductor industry requires

prevents the new entrants from competing well within the industry. The analog IC

industry has numerous barriers to entry including trademarks, patents, copyrights,

trade secrets, government regulation, contracts, and several other legal barriers.

Intersil has over 1,000 U.S. and foreign patents. Analog Devices hold over 1,400

patents as well. All the firms in the industry believe their patents have value, but the

“company's future success will depend primarily upon the technical abilities and creative

skills of its personnel, rather than on its patents.” (LLTC 10-K) Therefore, firms

competing in the analog IC industry should generally be more concerned with larger

existing competition than the threat of new entrants.

Conclusion

The analog IC semiconductor industry is a complex industry to compete in as a coming

new entrant into the industry. There is already a considerable amount of multibillion

dollar, aged corporations in the industry. There are close to no advantages when it

comes to first movers. The new entrant would be competing with large capital

corporations. The lengthy relationships the firms build in the industry are very valuable

35 | P a g e

to the current firms, and to enter the industry and receive their same benefits and low

costs would be nearly impossible to do. The legal barriers contribute significantly to the

low threat. Overall, the analog IC semiconductor industry is not concerned by the new

entrants due to the factors such as economies of scale, first mover advantage,

distribution channels and relationships, and legal barriers. The threat of new entrants

to the analog IC semiconductor industry is low.

Threat of Substitute Products

Introduction

Industries face high competition amongst their products and the threat of

substitute products will exist as long as the industries are competing against one

another. Intersil is in the industry of analog integrated circuits. An industry of analog

integrated circuits is a very specialized industry which requires a company to have

highly skilled workers to create its products. Although Intersil is in a very specialized

industry it produces a very wide range of products from Automobile IC’s to

Communication IC’s. The industry here faces the risk of their product being eliminated

or replaced by another product due to alternative product’s being produce with higher

quality and better technology which will be a threat of substitute products.

36 | P a g e

Relative Price and Performance

In this industry price and performance plays a huge role in sustaining

profitability. In the industry price and performance heavily rely on one another. Without

the latest technology, price could not be controlled by the firm due to the growth of the

industry. To gain leadership in the industry product differentiation will play a major

factor. Being able to create products with better technology and unique innovative

products will lead to more control over price. To be innovative is to set your product

apart from the industry by providing a valuable product for the customer, which is a

crucial way to gaining competitive advantage in the industry. The key in this industry is

being on top of the technology in the industry so that patents could be created to

eliminate the unnecessary competition. Significant amounts of money are spent in this

industry on Research and Development. For example Intersil alone spends $143.6

million on R&D out of a total of $1,446.4 million on Total Operating Expense (Intersil

Corp. 10-K). Intersil Corp. consists of over 600 employees in R&D and has a portfolio of

1,000 patents (Intersil 10-K). To have highly skilled workers and innovative minds is a

key factor in continuously providing up to date technology.

Customer’s Willingness to switch

In an industry with such high competition and high pace demand for technology

the threat of substitutes could be a challenge. Customers seek the latest technology

with a price range that will fit their needs; however customers will not consider low

quality products at average prices if there are high quality products with reasonable

prices. The threat in this industry will be products of low switching cost that will benefit

the customer’s needs. “The threat of new products will present significant business

37 | P a g e

challenges” (Intersil 10-K) and the threat of substitutes of products is an uncertainty in

which the industry presents.

Conclusion

In this industry firms need to provide customers with high quality products with

reasonably low prices to the market in order to maintain loyal customers and prevent

customers’ from switching between suppliers. By investing in R&D and creating patents

for new technology is a strategy firms must undertake to survive in this industry in the

long run. Without R&D firms will lose market share of their products and eventually be

replaced by substitute products with better quality and price. The Analog IC industry is

a moderately competitive market.

Bargaining Power of Customers

The bargaining power of customers indicates if the customers can dictate price

and terms or if the firms of the industry can dictate the price and terms. To determine

who has the bargaining power, we must first establish who the industry’s customers

are. The majority of the industry’s sales are from distributors and resellers and original

equipment manufacturers or OEMs. An OEM uses the industry’s integrated circuits as

part of their product, an example being Nokia using Texas Instruments’ integrated

circuits for wireless internet on their phones. (Texas Instrument 10-K) Once the

customer is established, there are a number of factors to determine who has the

bargaining power of price these are, differentiation, switching cost, importance of

38 | P a g e

product cost and quality, number of buyers and volume per buyer. Once each of the

segments is analyzed we can then determine who has bargaining power in the industry.

Differentiation

Differentiation is vital in bargaining power over customers, without it, firms can

only compete on price rather than a superior product because customers can receive a

similar product from another company. By offering unique features, a firm has more

power to dictate price and terms to its customers rather than being interchangeable

with its competition.

In the Analog Integrated Circuits industry there are two main segments, high-

volume analog chips, and standard linear circuits. For high-volume analog chips,

customers write their own algorithms to be put onto the integrated circuits using the

firm’s software development tools. (Analog Devices 10-K) This customizes each chip to

the customers need, making it difficult to halt production and have a different firm

begin replicating the integrated circuit. For instance, a chip that allows a home theater

system to produce a better sound would not be that same chip used in a cell phone for

wireless internet.

However, standard linear and logic circuits are often interchangeable and can be

applied for various applications among different customers, such as chips used in DC

convertors. (Linear Technology’s 10-K) So based on the customer’s needs, the Analog

ICs industry can be highly specialized or interchangeable.

39 | P a g e

Importance of Product for Cost and Quality

The importance of product for costs and quality helps indicate who has

bargaining power in the customer firm relationship. If the product cuts corners and

focuses more on lower cost than quality, then the customer has more power in driving

the price. However, if a firm operates in order to produce a higher quality good, then

the customer will be willing to pay a higher price for a greater good.

As stated above, the firms in the Analog ICs industry custom ICs to customers

specifications. This specific IC cost the industry more to produce, and because it has to

meet a set quality and standards for an individual customer, the industry has pricing

power. The market supplies the industry with a more high quality demand for the ICs.

Due to greater technological advances and rising consumer demand for music, DVDs,

pictures, digital camcorders and cameras, and home theater systems, high-quality ICs

are in greater demand than similar linear ICs. The higher quality final products need

higher quality ICs, giving the Analog ICs industry pricing power over customers. (Analog

Devices 10-K)

Also, product warranty replaces defective ICs and other parts from anywhere to

between the government mandated 90 days up to 12 months. (Analog Devices 10-K)

Warranty cost negatively impact the industry by about 1 to 2 billion dollars a year.

Because such costs are incurred, the firms have to regain income by charging more for

their product than other industries that do not have such exceeding warranty cost.

(Intersil 10-K)

Timing impacts price in this industry. If the firms do not deliver their ICs in on

time to an OEM, the OEM’s product suffers timing delays and pricing. It is important

that the IC be delivered on time in order to maintain customer satisfaction. Because

40 | P a g e

firms in the Analog ICs industry are subject to time constraints placed on customer

terms, customers have bargaining power on terms over firms in the industry based.

Number of Customers

The number of customers impacts the bargaining power of the firm because if

the firm only sells to a select few customers their bargaining power is limited. However,

if the firm sells to a greater number of customers, the firm has more bargaining power

since it does not have to rely on a select number of firms but can afford to lose a

customer.

The analog integrated circuits industry sales to many different customers, for

instance Analog Devices has over 60,000 different customers in countries all over the

world and Texas Instruments sells to almost 80,000. (Analog Devices 10-K and Texas

Instruments 10-K). Because of the large number of buyers, the Analog ICs industry has

more bargaining power over the customers to dictate prices.

0

10

20

30

40

50

60

70

80

90

2004 2005 2006 2007 2008

Foreign Percent of Sales

Intersil

Analog Devices

Texas Instruments

Maxim Integrated Products

Linear Technology

Industry

41 | P a g e

As the chart above describes, the Analog ICs industry sales are mainly outside

the United States. On average, about 77% of sales take place in foreign countries over

the past five years, each firm selling to at least 20 different countries. The Analog ICs

industry is becoming more global as foreign percent of sales are increasing over the last

five years, displaying that the industry sells to a variety of countries as well as

customers. This variety and large number of customers gives the Analog ICs industry

more bargaining power over its customers.

Volume per Customer

The greater the number a single customer buys from a firm, the more bargaining

power it has over the firm. If a customer represents a large percentage of the firm’s

sales, then they can dictate prices easier than a customer that makes up a small

percent of sales because they can afford to lose that customers business. A firm cannot

afford to lose a customer who makes up a large percentage of their revenue, so they

try to keep that customers satisfaction, giving up bargaining power of price.

In the Analog ICs industry, many firms have a single company that represents a

large percentage of their total sales. Aeco represents 11% of Intersil’s revenue; Nokia

represents 20% of Texas Instruments sales and for Analog Devices, their 20 largest

customers make up 32% of their revenue. Because of the specific algorithms put into

mass produced ICs, it would make sense that a customer would rely on a single firm for

a specific chip, rather than dividing up their suppliers and receiving variations in their

products. That is the reason many of these companies rely on a single firm in the

Analog ICs industry for a majority of their IC production.

Distributors and resellers make up on about 50% of the industries sales. Because

of this they maintain some pricing power over the firms in the industry as wells as

contractual incentives. One of these being that they can cancelled or terminate contract

42 | P a g e

with little notice and no penalty. (Intersil 10-K). The top reseller accounts for 11% of

Intersil’s revenue, so resellers have bargaining power over the firms in this industry.

However, on the more linear ICs, the parts are interchangeable and can be used for

different functions, rather than a single set one. For instance, many circuits can be used

to receive power, and can be interchanged through many compatible devices. (Maxim

Integrated Products 10-K) Because of this, the non specialized segments of the industry

have multiple buyers that account for smaller percentages of the firms revenue. For

example, no single customer accounts for more than 10% of their total revenue. (Linear

Technology 10-K) So in conclusion some select buyers have bargaining power over the

firms, where as the rest do not.

Switching Cost

Switching cost for customers refers to the cost incurred from switching from one

company to another in the industry. This cost is generally lower with a commodity good

or simple product and greater with specialty goods. Because of the fact that

customized algorithms are embedded into mass produced ICs, it is difficult for

customers to switch between firms in the industry. (Intersil 10-K) The interchangeable

ICs can be produced by virtually every firm in the industry so the customer can easily

switch between competitors. However, this does not comprise the majority of the

industry so overall switching costs are high.

Conclusion

After analyzing the differentiation, importance of quality cost and quality, number of

buyers and switching cost, we have derived that firms in the Analog ICs industry have

slight pricing and bargaining power over the firm. Because of the fact that the firms

produce highly specialized, customized goods, often individualized for a single

43 | P a g e

customer, this gives them greater pricing power over the customers. Customers

however often dictate terms on the time frame in which the ICs will be delivered by. So

they have control over quality. When it comes to the number of buyers, there are

thousands of customers globally, so the firm has bargaining power in this aspect,

however, many of the customers that they sell to make up a majority of their sales. So

even though there are many customers, the few customers that make up the majority

sales have bargaining power over the firms. Taking all of this into consideration, the

customers have some term bargaining power over the firm, however the firms in the

Analog Industry produce such customized ICs that they can dictate price over the

customers, so the bargaining power of customers is low.

Differentiation High

Importance of Product Cost Med

Importance of Product Quality High

Number of Buyers High

Volume per Customers High

Switching Cost High

Bargaining Power of Customer Low

Bargaining Power of Suppliers

First off, to determine if suppliers have bargaining power, we must first

determine what is supplied. The Analog ICs industry receives raw wafers, chemicals,

liquefied gases, poly-silicon, silicon wafers, pure metals, lead frames, molding

compounds, as well as subcontracting work such as epitaxial growth, a portion of wafer

fabrication, and ion implantation. (Maxim Integrated Products 10-K) These are supplied

44 | P a g e

by various specialty manufacturers as well as third party subcontractors. The bargaining

power of suppliers is also based on many economic factors. These factors include but

are not limited to the differentiation of the raw materials needed, the quality needed,

the number of suppliers, and the volume per supplier. These factors are subject to the

economic conditions which shape the markets. Greater demand for the products forces

firms to find more suppliers, and shrinking the market share per firm on suppliers, so

they are subject to suppliers’ prices and demands. The inverse is true, if the suppliers

have fewer firms to sell to, each firm has more bargaining power with the price. If there

is a scarcity of the suppliers materials, prices firms will pay are increased. If there is a

surplus and suppliers have to pay more for overhead capacity, firms can receive their

materials at cheaper cost, so the barging power of suppliers over price is subject to

economic conditions.

Differentiation

Differentiated or non-differentiated materials can indicate if suppliers have

pricing power over firms. Suppliers that distribute non-differentiated goods are subject

to firm pricing power due to the fact that suppliers have to compete on price rather

than providing a specialty good. If the suppliers distribute differentiated goods, they

have pricing power over firms because the firm will have limited, or potentially an

exclusive, source(s) from which to obtain materials. This occurs when only a select few

suppliers produce the raw materials needed for the firm.

In order to determine if the raw materials are differentiated or not, we first have

to figure out what the Analog ICs industry uses as raw materials. They receive raw

wafers, chemicals, liquefied gases, poly-silicon, silicon wafers, pure metals, lead frames,

molding compounds, as well as subcontracting work such as epitaxial growth, a portion

of wafer fabrication, and ion implantation. (Maxim Integrated Products 10-K) Because

most of these materials are not commonly found (such as liquefied gases and pure,

45 | P a g e

high-grade metals) and have to be processed through specific conditions, many

materials used by the Analog IC industry are highly specialized and differentiated. This

gives their suppliers pricing power over the firms in this industry. The subcontracting of

epitaxial growth, wafer fabrication, and ion implantation often requires professional or

highly skilled labor with higher degree educations, rather than inexpensive, unskilled

labor. This higher degree of labor gives the subcontractors pricing power over firms

operating in the Analog IC industry.

Importance of Product for Cost and Quality

Quality and cost of supplies trickles down into the pricing of the firm’s product.

If a firm has to pay more for quality materials required by the industry, then they will

demand a higher price for their product in order to maintain profitability. However if

the price of materials are cheaper, the firm does not have to raise their prices in order

to maintain profitability.

The Analog ICs industry require higher quality materials (as mentioned above)

therefore these materials cost more. Firms are dependent on their suppliers’ ability to

produces wafers, tests, and other materials that are up to their specifications and

standards in a timely fashion. Suppliers’ inability to do so can result in a halt in

production of certain products, making quality and timeliness of materials vital to

success in the Analog ICs industry. (Texas Instruments 10-K) Because of this, if a

supplier is able to meet the criteria needed in quality and timeliness, they are able to

have bargaining power of price.

Number of Suppliers

The greater the number of suppliers, the less bargaining power of price each

supplier has over the firm. However, if a firm can only buy from a select few firms then

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the suppliers have pricing power over the firms. Firms in the Analog ICs industry buy

materials from different suppliers, since there are a wide variety of supplies needed to

produce ICs. However, some supplies are bought primarily from sole suppliers. For

instance, Analog Devices receives the majority of their external wafers and foundry

services from Taiwan Semiconductor Manufacturing Company (TSMC). (Analog Devices

10-K) This grants TSMC pricing power over Analog Devices because of Analog Devices’

dependency for TSMC products.

Having sole providers gives bargaining power of price to these suppliers. If the

suppliers cannot provide the firms with the materials needed, firms may not be able to

locate alternate sources for their required product inputs. (Maxim Integrated Products

10-K) Finding replacement or additional suppliers can result in additional expenses and

production delays, causing unforeseen disruptions in projected income. (Analog Devices

10-K) Intersil purchases their products from a limited number of suppliers on a Just-in-

Time basis, increasing their risk exposure related unexpected cancellations or delays in

supply shipments. (Intersil 10-K)

Firms in the Analog ICs industry are subject to seasonal sales, with demand for

electronics being greater in the second half of the year. This seasonality can largely be

attributed to the higher demand observed in the high-end electronics market which

includes mp3 players, computers, PDAs, and other high-tech devices. In general, an

observable increase in the demand for high-tech consumer goods occurs during the

third and fourth quarter, which is sometimes referred to as the “holiday” season. To

keep up with demand, many firms hire more third party vendors and subcontractors to

prepare of sales in the 4th quarter. Texas Instruments hires these venders earlier for

mass production of back to school calculators in their 2nd and 3rd quarter. (Texas

Instruments 10-K) This requires firms to sacrifice their barging power of supply in order

to meet the demands of their electronics. However, because sales are generally weaker

in the first quarters of the year, in fact “China's semiconductor manufacturing capacity

went unused in the first quarter,” (Semiconductor Sales Fall 30% WSJ) Because of

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these seasonal needs, firms in the Analog ICs industry do not have long term contracts

with the seasonal venders.

In conclusion, though the industry might have numerous materials and receive

these materials on from various suppliers, the fact that they receive a number of

materials from a single supplier gives the suppliers pricing advantage over the firms.

Volume per Suppliers

Not only does the number of suppliers impact their pricing power, but the

volume per suppliers affects the bargaining power of supplier. The greater amount of

materials a firm purchases from a supplier, the more dependent they become on one

suppliers satisfaction with the price. This gives suppliers who supply greater volume to

firms to have bargaining power of price over the firm. On the other hand, if the supplier

does not provide the firm with enough material for them to be dependent on their

supply, then the firm has power to dictate prices over the supplier.

As mentioned above, some firms in the Analog ICs industry receive their

materials from a sole supplier. For example, Analog Devices outsourced 44% of their

wafer production to TSMC in 2008. (Analog Devices 2008 10-K) This grants TSMC

supplier bargaining power over Analog Devices due to the fact that TSMC fulfills a large

portion of ADI’s input requirements. ADI would most likely be unable to fulfill its quotas

for its customers if it were to lose TSMC as a supplier. Intersil, for instance, has three

main suppliers of wafer ICs which are IBM Microelectronics, TSMC and United

Microelectronics Corporation. Because of the fact Intersil receives the majority of its

wafer ICs from three companies, these companies have bargaining power over the

Intersil when it comes to prices. In conclusion, due to the sole providers of materials,

firms in the Analog ICs industry do not have pricing power over their suppliers.

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Switching Cost

Switching cost for suppliers is based on the suppliers’ abilities not only to sell to

other firms in a set industry, but their capacity to sell their products to other firms

outside of the industry. Suppliers in the Analog ICs industry often provide

manufacturing and subcontracting services to other firms in the industry, not just one

set firm. Because of this, firms have to compete with each other over price to maintain

a subcontracting supplier. (Analog Devices 10-K) For example, both Intersil and Analog

Devices receive wafer ICs from Taiwan Semiconductor Manufacturing Company (TSMC).

(Intersil and Analog Devices 10-K) So suppliers can switch between firms in the

industry.

Also, due to the fact that many suppliers are the single distributor a specific raw

materials, due to the fact that they are specialized materials, a company cannot easily

give up their main supplier. With suppliers accounting for 44% of materials, firms have

to maintain relations with these suppliers in order to maintain production. (Analog

Devices 10-K) Because suppliers can switch between firms in the industry and firms

cannot afford to lose their sole supplier, suppliers have pricing power.

Suppliers have difficulty selling to other firms outside of the industry based on

the fact that the silcon wafers and ultra pure metals are unique to the industry (Linear

Technlogy 10-k). Suppliers can sell to other specialized technological manufacturers,

however, the ability to change industries in limited by the suppliers, so they are limited

to sell in the Analog ICs industry. Due to the limitations of selling materials such as

silicon wafers to other industries and leaving the Analog ICs industry, firms in the

industry have bargaining power of price and terms over suppliers.

Conclusion

To summarize, due to high differentiation and specialization the suppliers in the

industry have power to dictated prices, due to limitations of suppliers based on

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technological needs. The importance of the product cost is greatly emphasized in the

Analog ICs industry as much as quality; however firms do dictate that supplies need to

be received in a timely manner in order to maintain productivity. Waiting for suppliers

or finding replacements are cost that firms attempt to avoid. Quality is very important

in the Analog ICs industry, and because the firms have the suppliers test ICs to meet

standards and specifications, the extra effort for quality assurance allows suppliers to

have a bargaining price to meet the terms and conditions set by the firms. The numbers

of suppliers are high; however, firms receive a majority of their supplies from single

suppliers and subcontractors. Due to their dependency on certain suppliers, suppliers

have pricing and term bargaining power. Switching cost within the industry are low for

suppliers, yet it is difficult for suppliers to such specialized materials outside of the

industry. So being stuck in the industry but not to a single firm, suppliers have slight

bargaining powers of price and terms. Overall, because of the specialized materials

needed, the importance of quality, and the fact that firms receive a majority of their

materials form a single supplier, suppliers have moderately high pricing advantage over

the firms in the Analog ICs industry.

Differentiation High

Importance of Product Cost Med

Importance of Product Quality High

Number of Suppliers High

Volume per Supplier High

Switching Cost (Industry) Low

Switching Cost (Outside Industry) High

Bargaining Power of Suppliers Moderately High

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Firm Competitive Advantage Analysis

The first step of firm analysis is to analyze the structure of the industry in which it

operates. This allows us to understand the dynamics of unique business environments

and more precisely demarcate the area of the industry in which the firm and its peer

group compete. However, in addition to industry structure, there are many factors that

determine a firm’s potential to generate profits. Therefore, we apply competitive

strategy analysis to determine whether a firm is taking the necessary actions to achieve

a competitive advantage. A successful business strategy aims to create a competitive

advantage, allowing a firm to increase market-share and outperform the competition.

There are many ways to classify a firm’s business strategy, however, the “two most

generic competitive strategies are: (1) cost leadership and (2) differentiation.” (Palepu

& Healy) A cost leadership strategy “enables a firm to supply the same product or

service offered by its competitors at a lower cost” and a differentiated strategy

“involves providing a product or service that is distinct in some important respect valued

by the customer.” (Palepu & Healy 2-9) The dominant technique varies between

industries, but in general, successful implementation of either strategy leads to

increased firm profitability.

Through application of Porter’s Five Forces model, we are able to determine who the

competitors are in the industry, how they compete, and what drives prices in the

market. After analyzing the strategies necessary to achieve a competitive advantage,

we determine how firms in the industry compete based on primarily a cost leadership or

differentiated business strategy. After identifying key value drivers in the industry, we

can begin evaluate firms’ performance using our identified key success factors as a

benchmark.

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Cost Leadership

Firms seeking to achieve a competitive advantage based on cost leadership must be able

to supply the same product or service offered by their competitors at a lower cost. (Palepu &

Healy) In theory, this is the simplest method to compete against competitors. A firm that is

able to supply the same product or commodity at a lower cost than its competitors can earn

higher than average profits selling its product at the same price as competitors or can charge

less than its competitors forcing them to lower their price, hence profit margin, to maintain

market share. Strategies that lend to cost leadership are organizational structures based on

tight cost‐control, efficient production, better sourcing, lower input costs, etc. In respect to

Intersil, it must be taken into consideration that they sell both simpler “linear” ICs, as well as

more complex High‐Performances ICs.

Economies of Scale

Taking advantage of economies of scale is one of the most common activities seen in firms that

compete on the basis of price. An economy of scale exists when a firm has a low variable to

fixed cost ratio, resulting in decreased per unit cost and a higher gross margin as a firm is able

to expand production and successfully sell their inventory. In the Analog IC industry, the

variable costs related to producing an additional, identical integrated circuit is generally very

low compared to the fixed costs related to research and development, legal fees to obtain

patents, and the property, plant, and equipment, that are all required to manufacture the first

unit. Naturally, Intersil, like nearly all technology related companies, must sell many units of

each product before R&D and PP&E expenses are covered at which time the firm begins to

generate profits. In the constantly evolving high‐tech industry, in order to create an

opportunity with a long enough lifespan to be able to effectively benefit from economies of

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scale, a firm would most likely have to introduce a unique, innovative product. Hence,

differentiation would generally be a prerequisite to maximizing the potential benefit of

economies of scale for the Analog ICs industry. Intersil reinforces this concept, stating, “The

semiconductor industry has, for several decades, experienced a phenomenon of continual

decline in sales prices per unit.” (ISIL 2008 10‐K)

Economies of Scope

Economies of Scope is a similar concept to that of economies of scale, however, instead of

mass‐producing the same unit to lower per‐unit cost, the economies of scope theorizes that the

average production cost decreases as a firm increases its product line. This theory can

definitely be applied to areas of the analog IC industry, as certain products require significant

investments in property, plant, and equipment (PP&E), or fixed assets. In the integrated circuit

industry, more specifically the analog IC industry, industry leaders generally have very broad

product offerings. TXN has over 20,000 products in its analogue catalogue (TXN 2008 10‐K) and

Intersil, through acquisitions and continuous research and product development, is aiming to

expand its catalogue to over 50 product families. (ISIL 2008 10‐K)

Manufacturing Efficiency

ISIL, since adopting its “pure‐play HQA IC” strategy in 2003, has focused the majority of its

resources on R&D and the acquisition of firms to increase its vertical alignment and reinforce its

core‐competencies as a HQA IC firm. “In April 2008, we announced a plan to consolidate our

two Florida fabrication facilities to reduce cost and increase utilization rates. The project is

expected to be completed during our second quarter of 2009.” (ISIL 2008 10‐K) However, the

majority of its resources are focused on research and development and strategic mergers and

acquisitions to reinforce its competitive advantage as a highly differentiated HQA IC firm.

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Tight Cost Control

Monitoring and eliminating unnecessary costs is important to improve the overall operating

profitability of any firm. However, in 2008, after many years of constant growth, the analog IC

industry felt the impact of the current global economic crisis. Excess capacity increased as

OEMs and independent distributors were unable to turn over inventory in a timely fashion.

Between 2003 and 2007, the year to year change in average industry backlog displayed

constant growth. However, in 2008, the average change in backlog for ISIL and its peer group

equated to ‐22.1%. The chart below represents firm and industry average yearly change in

backlog between 2004 and 2008.

In response to this abrupt decrease in backlog, ISIL mentions “…although not always the

case…backlog can be a leading indicator of near‐term revenue performance.” (ISIL 2008 10‐K)

“This will reduce its overall annual operating costs by approximately $12 million to $14

million.” “Amid the IC downturn and economic crisis, Intersil Corp. plans to cut 9 percent of its

global workforce.” (Article: EE Times. “Intersil to cut 9 percent of workforce." By: Mark

‐50.0%

‐30.0%

‐10.0%

10.0%

30.0%

50.0%

70.0%

90.0%

2004 2005 2006 2007 2008

% Change of Backlog from Previous Year

ISIL

TXN

ADI

LLTC

MXIM

Industry

54 | P a g e

LaPedus ‐ EE Times) “In April 2008, we announced a plan to consolidate our internal foundries

and reduce the related workforce. In November 2008, in response to the deteriorating global

economic environment, we announced further restructuring efforts, that when combined with

the foundry consolidation, would reduce our world‐wide workforce by approximately 9%.” (ISIL

2008 10‐K) According to an article from the Wall Street Journal, “Amid falling demand and

increased competition, chip makers have taken cost‐cutting steps including production‐line

shutdowns, salary cuts and layoffs. Semiconductor analysts have expressed concern about

inventory levels as the effects of a lackluster holiday season, which typically is the industry's

strongest time of year, work their way up the supply chain.” (Article: “Global Chip Sales Fell 29%

in January” – 3/2/2009 ‐ WSJ) However, in Intersil’s annual report, they mentioned that

despite the projected decrease in sales and the cost cutting measures they are taking, they are

maintaining similar levels of R&D to previous years.

Differentiation

In order to achieve a differentiated competitive advantage, a firm must be able to supply a

product or service that is unique and is highly valued to its customers. Key attributes of a

differentiated firm include high product quality, high product variety, significant R&D

investment, made‐to‐order manufacturing, delivery timeliness, and an organizational structure

that attracts highly‐specialized intellectual human‐capital and provides an environment that

promotes creativity and innovation.

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Superior Product Quality

Superior product quality is a key factor in establishing a differentiated competitive advantage.

By focusing time and resources on quality, rather than cutting cost, firms can have more

unique, superior goods in or to stay competitive. Intersil, MXIM, LLTC and ADI all offer a one

year warranty from the date their products are transferred to customers. (MXIM 2008 10‐K; ADI

2008 10‐K) Intersil’s warranty policy is as follows: “We warrant that our products will be free

from defects in material workmanship and possess the electrical characteristics to which we

have committed. The warranty period is for one year following shipment.” (Intersil 2008 10‐K)

Texas Instruments negotiates warranty terms with certain customers that generally include the

following conditions: “…three years coverage; an obligation to repair, replace or refund; and a

maximum payment obligation tied to the price paid for our products.” (TXN 2008 10‐K) Linear

Technology, Inc. states that their policy provides for the replacement of defective parts and “In

certain large contracts, the Company has agreed to negotiate in good faith a product warranty

in the event that an epidemic failure of its parts were to take place.” (LLTC 2007 10‐K)

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

2003 2004 2005 2006 2007 2008


ISIL

TXN

ADI

LLTC

MXIM

Industry

56 | P a g e

However, in general, warranty related expenses incurred by ISIL and its competitors are

negligible due to intensive product testing and high quality standards.

Superior Product Variety

In the analog IC industry, competitors generally have a broad product portfolio. Intersil and its

competitors incur significant research and development expenses in order to develop

technologically superior and unique products that are valued by its customers. Currently,

Intersil possesses “over 1,000 U.S and foreign patents and has approximately 570 U.S. and

foreign patents pending.” (ISIL 2008 10‐K) Texas Instruments (TXN), Intersil’s direct

competitors, has an Analog business segment and claims, “…our standard analog portfolio

includes more than 20,000 products.” (TXN 2008 10‐K) Firms competing in the Analog IC strive

to differentiate themselves within the industry. Intersil has made many acquisitions of firms

that it feels will create relationships of synergy within the firm. "Intersil remains committed to

key strategic acquisitions to broaden our product portfolio," said Dave Bell, Intersil's CEO, in a

statement. "Kenet has developed the world's highest performance analog‐to‐digital converters

with power consumption at a fraction of those currently on the market. This gives Intersil

important technology leadership and access to many previously un‐served markets." (EE Times

‐ “Intersil to acquire Kenet” – by Mark LaPedus)

More Flexible Delivery

The customers of ISIL and its competitors are generally electronic OEMs or independent

distribution firms. ISIL’s customers usually place orders approximately six months in advance

and can generally cancel custom orders within 30 days of delivery while less specialized orders

have a longer duration in which customers can cancel the order. “Our standard terms and

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conditions of sale provide that these orders become non‐cancelable thirty days prior to

scheduled delivery for standard and ninety days prior to scheduled delivery for semicustom

and custom products. Backlog is influenced by several factors, including market demand,

pricing and customer order patterns in reaction to product lead times.” (ISIL 2008 10‐K) This

exposes Intersil to a certain amount of risk that it may not realize the full value of accounts

receivable related to these orders, however, in the specialized Analog IC market, terms such as

these are the norm.

Investment in Research and Development

High investment in research and development is essential to compete in the Analog IC

industry. We calculated research and development as a percentage of total revenue for Intersil

and its peer group and computed a 6‐year average of 19%. In addition to high R&D, a trend

that can be observed among Intersil and its peer group is the tendency to position itself away

from higher‐competition, lower‐margin sub‐sectors of the analog IC industry so that the firms

can focus available resources to establish core competencies within the product range

encompassed within the analog IC industry. For example, in 2003 Intersil led the IC market for

WirelessLAN applications. Year end results of 2002 indicated ISIL held a 52% share in the WLAN

market making it the market leader. However, with industry giants such as Intel and Texas

Instruments increasing pressure in WLAN market, rather than exhaust its resources in a ditch

attempt to preserve market share while suffering margin loss, Intersil sold its WLAN segment in

2003 so that it could focus on its core competency as a pure High‐Quality‐Analog (HQA) IC firm.

(Appendix C‐5) Since 2003, Intersil has channeled many of its resources towards strategic

acquisitions of firms with Analog IC related intellectual property that it feels will serve to

further reinforce its “pure‐play” strategy aimed at becoming a leader in HQA Integrated circuits.

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Organization Promotes Creativity and Innovation

In general, firms competing in high‐tech industries place great value in intellectual

human capital. The ability of Analog IC firms to translate immense investment in R&D into

innovative new technology is essential to the evolution of other high‐tech sectors as integrated

circuits are one of the basic, while technologically complex, building blocks modern electronic

devices. Intersil states, “Our future success depends largely upon the continued service of our

key management and technicalpersonnel, and on our continued ability to hire, integrate and

retain qualified management and technicalpersonnel, particularly engineers. Competition for

these employees in the analog semiconductor industry isintense and we may not be successful

in attracting or retaining these personnel.” (ISIL 2008 10‐K)

Conclusion

These strategies were traditionally viewed as being mutually exclusive and firms

“stuck in the middle” were expected to have low profitability. (Palepu & Healy) In the

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

2003 2004 2005 2006 2007 2008


ISIL

TXN

ADI

LLTC

MXIM

Industry

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increasingly technological and globalized marketplace, we believe it is becoming more

viable, and potentially necessary, for firms to be “semi-mixed.” However, firms in the

Analog ICs industry lean more on differentiation, focusing on product quality, variety,

customer service, research and development, and creativity. The industry applies some

aspects of cost leadership such are economies of scale and scope and some efforts

towards efficient production, yet is heavily in the differentiation side of competitive

advantages.

Key Success Factors

It is vital to understand the key success factors of any industry to determine

which areas of the business firms focus on in order to stay profitable. As analyst, it is

our job to determine which activities lead to competitive advantages. Through cost

leadership, differentiation, or a combination of the two, firms apply these strategies in

order to stay competitive and gain market share. In the Analog ICs industry, firms focus

on differentiation, however, they adopt some cost leadership strategies to balance out

the highly differentiated industry.

Superior Product Quality

Firms in the Analog ICs industry customize ICs to customer specifications by

directly inputting individual algorithms in order to create ICs specific to a customer’s

needs. (Linear Technology 10-K) Not only do firms maintain quality by customization,

they ensure the quality of their work through their warranties. Though the government

mandates a 30-day warranty on electronic goods, Intersil, MXIM, LLTC and ADI all offer

a one year warranty from the date their products are transferred to customers. (MXIM

2008 10-K; ADI 2008 10-K) In order to stay competitive, firms in the Analog ICs

industry not only have to design their ICs to customer specifications, but have to ensure

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that their ICs will work. If the ICs do not work, firms will suffer heavy warranty cost and

replacement cost, so quality is a key factor to success.

Superior Product Variety

Though many firms customize their ICs to customer specifications, it is ideal for

the Analog ICs industry to have a large number of products that can perform varying IC

task. Firms in the Analog ICs industry have on average 20,000 different products in

their portfolio. (TXN 10-K) This vast number of products spreads from ICs that hold and

AC charge, to ICs that are placed in cell phones for wireless networking. The varying

demand for ICs in technological devices includes consumer demand for music, DVDs,

pictures, digital camcorders and cameras, home theater systems, as well as graphing

calculators, phones, wireless networking, and amps (ADI 10-K) To match all these

market needs and specifications, firms need to manufacture diverse ICs, each

developed to a particular need. As a result, to stay successful in the Analog ICs

marketplace, it is essential that a firm has a large product variety.

Focus on Creativity

In order to develop the numerous ICs needed for electronic consumer demand,

firms in this industry have to focus on creativity. With some firms consisting of over

1,000 patents, firms in the Analog ICs industry are constantly developing new ICs as

well as new ways to produce and manufacture these ICs. (Intersil 10-K) This number is

reflected by the large amount of research and development implemented. After

calculating research and development as a percentage of total revenue for the industry

is a 6-year average of 19%. The total research and development cost of 2008 was

$3,391,820,000 for the industry. This is based on the fact that firms need to maintain

creativity in order to stay competitive in this marketplace.

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Economies of Scale and Scope

While the industry relies heavily on differentiation as a competitive strategy for

key success factories, it implements cost leadership in order to maintain market share.

The firms operate on economies of scale, with total industry assets for 2008 being

$17,198,956, averaging $3,439,791 per firm. One of the smallest competitors, (ADI) is

just under half a million, so in order to compete, a firm must have a large number of

assets. With a market cap of $1.58 billion, the Analog ICs industry requires large

amounts of capital in order to stay competitive. Firms in this industry compete globally,

at least selling their products to 20 countries worldwide. (TXN 10-K) With number of

buyers in the tens of thousands, firms must operate on a large area of scope in order to

maintain market share.

Conclusion

Although being strongly based in the differentiated strategy for competitive

advantage, firms adopt some cost leadership to balance the differentiation and maintain

development of a specialty product that is still profitable to manufacture. With a

differentiated business strategy, firms set themselves apart from competitors to provide

a large variety of quality goods, focusing on creativity. IN the cost leadership segment,

firms operate on economies of scale and scope to sell to thousands of customers and

drive down production cost.

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Accounting Analysis

The next step in the firm valuation process is the accounting analysis. Through

accounting flexibility set through by GAAP, firms have the ability to distort accounting

statements. It is important to realize why, how, and how to undo these accounting

distortion in order to grasps a better picture of the firm.

By first determining a firm’s key accounting policies, we can determine what the

incentives would be to manipulate the financial statements. Next we determine the

flexibility of these policies. If these policies are highly flexible, managers have more

discretion on how to record information, thus we need to determine how flexible these

policies are to determine how much financial discrepancy might be present. After

determining the accounting flexibility, we determine the firms accounting strategy.

Industry competition may force managers to manipulate revenues or expenses in order

give the firm a better financial image. The next step is to evaluate the level of

disclosure. This is done in comparison to their competitors in the industry. If a firm

discloses less information than its competitors it puts into question their accounting

practices. Once we determine the level of disclosure, we then record the red flags. Red

flags include many items, such as unexplained numbers from year to year, or negative

change ratios. The last step is to undo any accounting distortions to get a better picture

if the company. By restating the balance sheets, it gives a different view of the

company, undoing any major accounting manipulation.

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Identify Key Accounting Policies (KAP)

The first step in the accounting analysis process is to determine the key accounting

policies of the industry. After understanding the Analog ICs industries key success

factors, we then determined how distorting accounting statements could benefit those

success factors. Manager’s have discretionary power to alter financial statements for

their own (or firms) benefit. These accounting distortions can make the company seem

better or worse than it actual is.

To begin to analyze these key accounting, we must first divide them into two types.

Type 1 key accounting policies, are not as concerned with the balance sheets, but the

key success factors of the industry. For instance, Intersil resides in a highly

differentiated industry, so their key success factors of superior product quality, product

variety, focus on creativity and economies of scale and scope. These key factors and

the amount of disclosure per each factor are what we will be looking at in the type 1

key accounting policies.

The other type of accounting polices we will be analyzing, type 2 accounting polices

involve the quality of the balance sheets. Given the flexibility of GAAP, firms are able to

manipulate the balance sheets to their advantage. By analyzing type 2 accounting

policies we are able to answer questions like if the firm is debt loaded do they distort

the balance sheets to look more credit worthy. Type 2 accounting policies include

goodwill, pensions and benefits, operating leases and capital leases. We then look at

these policies and determine if they are misrepresented in the balance sheets and need

to be restated to maintain a clearer view of the firm.

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Type 1 Key Accounting Policies

Although Intersil competes in a differentiated market, by using accounting policies

to limit cost and implement key success factors through their accounting

methodology. Through disclosing more information that will help inventors informed

investment decisions on the company. By not disclosing information, a firm can limit its

liability on investor’s misjudgments and subsequent loss.

The first key success factor that the Analog ICs industry partakes in is superior

product quality. If a product fails, the government mandates a 30-day return policy, but

some companies will extend this return policy to up to one year. (MXIM 2008 10-K; ADI

2008 10-K) Because of this companies disclose their warranty expense. If a firm’s

warranty expense exceeds the industrial norm, it raises question to the overall quality

of the firm’s products. On the other hand, if the firms warranty expenses are below the

industrial norm, the firm could either be manufacturing a better quality product with

less recalls or not reporting enough expenses.

Along with product variety, the Analog ICs industry focuses on creativity. This is

demonstrated through firm’s disclosure of research and development. By having more

research and development on the books, it expresses that firms are applying more

effort into the thought and creativity process. Also, by disclosing more research and

development, it correlates to the fact that the industry focuses on product variety.

Through more research and development, more products can be develop, so in an

industry that focuses on creativity and product variety, disclosure of research and

development cost and allocations are important. Intersil and its competitors disclose

information regarding patent leases and renewals, which in a competitive industry

focusing on creativity and product variety, patents are extremely important.

In the Analog ICs industry, thrives on economies of scale. Throughout the

industry’s 10-k, companies report information on foreign production, markets, variety of

65 | P a g e

customers and outsourcing. The financial statements include income not only from the

United States, but from countries across the globe. Many companies, including Intersil,

segment their foreign sales and inventories into major geographical regions such as

Europe, Asia, and North and South America.


In the Analog ICs industry, companies are persistently seeking new ways to

create new innovative products that will meet the demands of the consumers. So, to

compete in this industry, an abundant amount of money needs to be allocated towards

research and development. Firms in the Analog ICs industry have a product portfolio

consisting of on average 20,000 different products as wells as some firms having over

1,000 patents. (Intersil 10-k) In order to maintain this competitive edge, firms apply

this key success factor by implementing more research and development. The following

table represents the percentage of research and development to revenue over the past

six years for the Analog ICs industry.

Aside from MXIM’s spikes over the last three years, firms in the Analog ICs

industry typically range from 15-20%. This consistency among firms indicates that in

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

2003 2004 2005 2006 2007 2008


ISIL

TXN

ADI

LLTC

MXIM

Industry

66 | P a g e

order to maintain competitiveness in a differentiated industry, firms must allocate 15-

20% of their revenues towards research and development. Firms have found this to be

a sufficient amount to finance ongoing product development and patent development.

MXIM’ spikes in research and development are caused by their development of

re-drivers over the past few years. Essentially these are used for storage of high speed

signals, improving performance, have low power operations, and will be used in

desktops, workstations and servers. In order to develop a higher quality chip, a firm

must allocate more money towards research and development.

Type 2 Key Accounting Policies

Introduction

While type 1 accounting policies dealt with the disclosure of the key success

factors of the firm, type 2 accounting policies pertain to items that will impact the firm

during the restatement of financials. These accounting policies include research and

development expense, product warranty, foreign currency, and goodwill. Each item will

be but through a threshold test. If firms meet threshold test, then their financials need

to be restated in order to ascertain a clearer view of the company.


67 | P a g e

GAAP regulations state that R&D costs need to be expensed. Research and

development result in many innovative products that create revenue. Because of the

revenue that is created from research and development, there is good reason why R&D

should be capitalized as an asset. If over the past five years, the average R&D expense

exceeds 20% of operating income there is a need to capitalize the R&D and treat it as

an asset. As you can tell from the table below, Intersil’s R&D expense greatly exceeds

20% of their operating income. The overall average throughout the past six years is

176%.

2003 2004 2005 2006 2007 2008

R&D Expense 91,267 107,430 110,834 126,458 134,374 143,583

Operating

Income

73,841 16,191 100,140 151,832 151,923 -1,047,037

R&D/OI % 124% 664% 111% 83% 88% -47%

*In millions

Since Intersil doesn’t capitalize their R&D, their expenses are overstated, and

assets, stock holders equity, and net income are understated as the table below

demonstrates.

Assets Liability Equity Revenue Expenses Net Income

U N U N O U

Foreign Currency

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The Analog IC industry relies heavily on international sales. Over half of this

industry’s total revenue comes from international sales, resulting with a high currency

risk exposure. Below is a pie chart that shows the distribution of Intersil’s revenues for

year 2008 amongst the companies as well as a table indicating the percentage of sales

received from foreign countries.

2004 2005 2006 2007 2008

International

Sales 76% 78% 78% 83% 82%

The chart above indicates that Intersil is becoming a more global company,

having a 6% international sales growth over the past 5 years. This indicates that

Intersil does rely solely on American sales, but more on international sales.

Intersil believes that since they choose to use the U.S dollar that, “they do not

have material risk to revenues due to currency fluctuations between billing and

collection of funds for those amounts billed in other currencies.” (Intersil 10-k) Sales

from foreign countries must convert their currency into dollars for Intersil. Although

Intersil practices hedging, they predict that the dollar will remain the stronger currency

Revenues by Country 2008

China

United States

South Korea

Japan

Other

69 | P a g e

and do not practice a significant amount of hedging. In January 2009, Intersil will

hedge only 10% of total operations. (Intersil 10-k)

Operating Leases

Operating leases are leases that provide part time usage of assets/property.

Operating leases can cause the financial statements to not be obvious as it makes

liabilities appear lower than they in reality are. Firms within the Analog CI industry

favor operating leases because it is debt that doesn’t have to be shown on the balance

or income statement, and they can still use the assets. Operating leases help avoid

ownership risks, and show no interest expense or depreciation on the income

statement. Therefore expenses are understated, and net income and equity of the

corporation are overstated. Operating leases can significantly affect the firm’s financial

statements when the present value of operating leases exceeds 10% of the long term

debt. The basic accounting equation showed below displays the assets understated and

the stockholders equity as a result of Intersil using all operating leases.

Assets Liabilities Equity

U U O

A big red flag is raised due to the fact that Intersil doesn’t post any long term

debt on their balance sheet. Normally you would be able to analyze the importance of

operating leases compared to long term debt, but in Intersil’s case the operating leases

are the only long term debt listed within their 10-K. So as far as we know, operating

leases consist 100% of long term debt. Intersil also has no capital leases, just operating

leases. The only reason Intersil gives for using all operating leases is they “use standby

letters of credit primarily for security for workers compensation, environmental items,

and as security for our vendors” (Intersil 10-K 2008). Pension Plan

In order to attract and maintain employees companies will offer pension plans.

Pension plans are offered because people will end up retiring and in the end employees

70 | P a g e

will benefit from these pension plans. There are 2 different kinds of pensions plans

which are defined benefit pension plan and a defined contribution plan. The main

difference between the two pension plans is that the defined benefit plan guarantees a

certain amount in the future using a discount rate and the defined contribution plan

does not guarantee a specified future benefit because it heavily relies on investment

earnings which are bound to fluctuate. The pension plan Intersil Corporation provides to

all its employees is the defined contribution plan.

In the defined contribution plan the amount of the employer's annual

contribution is specified. “Individual accounts are set up for the employees and benefits

are based on the amounts credited to these accounts plus any investment earnings on

the money in the account” (Wikipedia). The risk of the defined contribution plan is that

the future benefits are not guaranteed and only employer contributions to the account

are guaranteed. Intersil provides “retirement benefits to substantially all employees

primarily through a defined contribution plan to which both Intersil and its employees

contribute (a 401(k) Plan under Internal Revenue Code Section 401(k))” (Intersil 10-K).

Intersil pension plans expense from continuing operation was “$5.7 million, $4.9 million

and $4.6 million for 2008, 2007 and 2006, respectively, which is primarily the matching

contributions to employees’ 401(k) accounts (Intersil 10-K). Intersil will match dollar for

$0

$1,000,000

$2,000,000

$3,000,000

$4,000,000

$5,000,000

$6,000,000

2006 2007 2008

Intersil Pension Plans Expense

Pension's Expense

71 | P a g e

dollar on which the employees decided to invest up to a percentage. Intersil also

provides “retirement benefits under statutorily required plans for employees in certain

countries outside the U.S. Accrued liabilities relating to these unfunded plans were $3.6

million and $3.5 million as of January 2, 2009 and December 28, 2007, respectively”

(Intersil 10-K).

Goodwill

Goodwill is a type 2 accounting policy. Goodwill is the difference between the

acquisition price and the fair market value when acquiring a new firm. Goodwill is an

intangible asset located on the balance sheet. FASB issued the Statement of Financial

Accounting Standards (SFAS) No. 142 title “Goodwill and other Intangible Assets”, in

June 2001; goodwill is evaluated at the end of every year and if the fair value of

goodwill is less than the carrying value of goodwill, than goodwill must be impaired.

Companies must assess goodwill for impairment at least once annually. In the Intersil

10-K it states that “Goodwill is an indefinite-lived intangible asset that is not amortized,

but instead is tested for impairment annually or more frequently if indicators of

impairment exist” (Intersil 10-K). Top level managers have the ability to determine if

Goodwill is impaired. If goodwill is impaired, its carrying amount is reduced and an

impairment loss is recognized. However, the matter of impairing Goodwill has some

controversies. Managers are expected to achieve certain target profits on which they

are evaluated on. Managers have the ability to assess the goodwill and impair it if it is

necessary.

Assets = Liabilities + Equity Revenue - Expenses = Net Income

O N O N U O

Assets will be overstated if the Goodwill is impaired when it is not written down.

This is a possibility if managers decide not to write down impaired Goodwill when they

should. Managers may not impair Goodwill to protect their position; they may look for

different accounting policies so they could raise profits and by impairing Goodwill it will

72 | P a g e

decrease profits which may make the manager look like he is not carrying out benefits

for the company. By not impairing the goodwill when needed it will distort the financial

statements and it will ultimately overstate assets and liquidity leading to and

understatement in expenses and overstatement in Net income.

Intersil Corporation has had a huge impairment in Goodwill of $1,154,676,000 in

the year of 2008. Looking at Intersil Corp. for the past five years they have never had

an impairment of Goodwill except for the year of 2008. This impacted the Net income

significantly and resulted in a Net loss of $1,062,502. Goodwill in the year of 2007

represented 60% Total Assets. In 2008 Goodwill only represent 28% of total assets.

Intersil announced “We recorded an impairment loss of $1,154.7 million against our

goodwill in the fourth quarter of 2008, calculated as the excess of carrying amount of

goodwill over the implied fair value of goodwill in our reporting units.” The reason

impairment took place in the goodwill is the carry amount was stated to high compared

to the fair value of the goodwill which is what it is worth in the market.

Degree of Potential Accounting Flexibility

Introduction

GAAP allows accounting flexibility for firms to use their discretion on how to

impair and record certain items, since each firm is unique in their business strategy and

no two firms are directly identical. Because firms vary in size and accounting needs, the

SEC allows GAAP to give managers the ability to choose their accounting strategy,

rather than find a single set of rule that ever firm must apply. It would be impossible to

find a set that satisfies every firm’s needs, so the SEC allows GAAP to have flexibility.

Because of this, managers can use this flexibility to their advantage, representing

situations that benefit their company’s outlook based on their firm’s key success

73 | P a g e

factors. In this section, we will take a close look at the flexible accounting policies that

impact Intersil’s key success factors.


Many firms within the Analog CI industry see research and development as an

asset, although GAAP sees R&D has an expense. It is required by GAAP that all R&D is

written off as an expense. Unable to capitalize the expense, firms overstate expenses

and understate net income, stockholders equity and assets. An investor or analyst is

less informed from looking at the firm’s financial statements because the firm is forced

to expense earned revenue.

According to Intersil’s 10-K, R&D expenses include salaries (more than 600

employees engaged in R&D), direct costs occurred, and building costs.

Research and Development (In millions)

2003 2004 2005 2006 2007 2008

ISIL 91.27 107.43 110.83 126.46 134.37 143.58

TXN 1,748.00 1,978.00 2,015.00 2,195.00 2,140.00 1,940.00

ADI 452.86 514.44 497.10 459.85 509.55 533.48

LLTC 91.41 104.62 131.43 160.85 183.56 197.09

MXIM 272.32 306.32 328.16 514.14 659.54 577.75

The table above shows the large amount of money this industry has spent on

R&D for the past 6 years. All the firms are fairly consistent due to their overall relative

size. There is no room for flexibility in accounting policies for research and

development.

74 | P a g e

Foreign Currency Risk

The accounting standards board is extremely specific on how managers can

record their business actions. The SEC requires under FASB Statement No. 161 that

companies enhance their disclosure of financial activities in order to provide more

transparent financial statements. Implemented on November 15, 2008, the SEC

requires that the company report on their hedging activities. Intersil’s hedging activities

attempt to protect foreign currency risk. Although they have improved their hedging

techniques, they still have hedging risk brought on by accuracy of sales estimates,

volatility of currency markets and the cost of availability of hedging instruments.

(Intersil 10-K) Intersil typically uses foreign hedging contract for up to six

months. However, hedging only provides so much protection. On January 2, 2009,

Intersil lost 10% do to hedging fees and miss-apprehended hedging techniques.

(Intersil 10-k)

Operating Leases

There are three options that all firms may choose to report their long term assets

as, either operating leases, capital leases or both. Capital leases are treated as an

asset, and the lease payments are treated as a liability. GAAP attempts to lessen the

flexibility whether the firm chooses to do operational and/or capital leases. The

accountings standards board sets rules clarifying the exceptions of being able to use

operating leases. The rules make the flexibility moderately low, but the managers of the

firms can usually find a way to get around it, and attain their preferred results on their

financial statements. Firms often choose operating leases over capital leases, because

capital leases recognize expenses earlier.

75 | P a g e

Goodwill

Goodwill is an intangible asset that is the difference between the acquisition

price and the fair market value when acquiring a new firm. Within the Integrated IC

industry there is a lot of flexibility in regards to the impairment of goodwill. Statement

No. 142 issued by FASB announces that “Goodwill and other intangible assets are

accounted for subsequent to their initial recognition. Because goodwill and some

intangible assets will no longer be amortized, the reported amounts of goodwill and

intangible assets (as well as total assets) will not decrease at the same time and in the

same manner as under previous standards” (www.fasb.org). This statement describes

that FASB allows managers to delay the impairment of Goodwill even when Goodwill

should be impaired. This allows for a company to maintain higher Net Income for the

year.

Intersil has impaired Goodwill in the past years. The impairment was detrimental

to the net Income and assets of 2008. The impairment of goodwill resulted in a

$1,154,676,000 loss. This could possibly mean that the manager in Intersil have

pushed the impairment too far by not impairing on a regular basis. Intersil may have

had this problem due to the high flexibility of impairing Goodwill. If Goodwill was

impaired and recognized on a regular basis it may have reduced the huge impairment

resulting in 2008. Managers having the flexibility of impairment of Goodwill questions

the accuracy of the financial statements provided. By allowing more flexibility

managers can control the and benefit the company as needed but if the flexibility of

impairment of Goodwill is abused it could lead to detrimental problems in the long run.

Evaluation of Actual Accounting Strategy

76 | P a g e

Introduction

The next step in analyzing the firms accounting is to determine the firms

accounting strategy. By analyzing the accounting flexibility, we are able to understand

how the firm can use these flexibility discretions to their advantage. There are two

classifications of accounting styles, aggressive and conservative. The aggressive

approach tends to overstate assets, understate impairment and depreciation, have

lower liabilities, have higher owner’s equity, and have a higher net income by increasing

revenue recognized or decreasing expenses recognized. A conservative approach tends

to have lower assets, overstate impairment and depreciation, have greater liabilities,

and have higher owner’s equity and a lower net income by decreasing revenue

recognized or increasing expenses recognized. The more flexible the accounting, the

more discretion firm managers have to take a conservative or aggressive approach. By

comparing the accounting strategies to the rest of the industry, we are able to

determine if a firm is acting more aggressively, more conservatively, or right on average

with the rest of the industries accounting practices and strategies.


Intersil reports all their R&D costs, which include everything to do with

designing, developing, and testing the products as an expense incurred. R&D is

reported by Intersil to a minimum degree that will satisfy GAAP. Accruing the R&D as

an expense, results in conservative accounting. Intersil uses internal R&D. They report

R&D as an expense on financial statements which are required by GAAP. Later R&D will

be changed to a purchased R&D which will allows R&D to be booked as an asset by

capitalizing it. The capitalization of R&D is shown on the restatements.

77 | P a g e

Intersil is responsible to show preliminary and final valuation estimates of R&D of all

acquires. These estimates are included in the consolidated statements of operations, but

shown separately in the 10‐K. “The purchased R&D written off at the time of acquisition is

shown in a separate line on the consolidated statements of operations” (Intersil 10‐K)

The chart above shows a direct relationship to the amount of research and

development being spent by the firms and the impact it has on operating income.

Throughout the past six years, the industry is pretty consistent, with the exception of

Intersil’s year 2004 spike.

Foreign Currency Risk

The Analog IC industry has effectively utilized the foreign currency to hedge their

risk globally and as a firm that provides services worldwide. Intersil and their

competitors operate in many countries selling their products to different markets

outside the United States. The exchange is especially essential as markets are declining

and currency weakens in many countries. Intersil has conservatively hedged their

‐1

0

1

2

3

4

5

6

7

2003 2004 2005 2006 2007 2008

R&D / Operating Income

ISIL

TXN

ADI

LLTC

MXIM

78 | P a g e

position in the currency exchange business by operating future contracts for

commitments up to six months.

Intersil reported a total net gain on foreign exchange contacts of $1.1 million this

past fiscal year, 2008. Intersil disclose their figures in the statements of operations,

furthermore, indicated Intersil’s efforts in disclosing critical information and their

position compared to their competitors in this aspect. This is a heavily influenced area

since majority of Intersil’s total revenue is from international countries.

Operating Leases

Operating leases are terms and conditions to use such equipment, space,

and resources for a given amount of time. Firms who operate globally make use of this

strategy to actually produce and manufacture their products without having to carry

these long term assets on the balance sheet. Another advantage of creating operating

leases is the opportunity to manipulate net income by leaving this account of the

balance sheet. Long term assets such as PP&E are depreciated and expensed to reduce

net income but excluding operating leases on the balance sheet reduces liability of that

company. Capital leases represents ownership of that asset therefore the company

depreciates and recognizes this account on the balance sheet as long term assets.

Firms have the option to use the best approach for their business or whatever strategy

is beneficial to their success. Investors should be aware when a company discloses their

strategic method as operating leases. This practice could lead to overstating net

income.

Currently and in the past, Intersil doesn’t show long term debt on their financial

statements. So, the operating lease is 100% of the long term debt. Intersil chooses not

to disclose why they choose nothing as their long term debt in their financial

statements. Intersil is different in this way compared to Intersil’s competitors who

chose to post long term debt on their financial statements. Intersil would be considered

79 | P a g e

highly aggressive in their reporting. The use of all operating leases is a strong

indication of aggressive accounting policies.

Goodwill

To evaluate the impairments made in relation to Goodwill it will be important to

understand the accounting policies and strategies concerning Goodwill. Before FASB

issued the Statement of Financial Accounting Standards (SFAS) No. 142 title “Goodwill

and other Intangible Assets,” the life of Goodwill had an indefinite life and was

amortized over its useful life. Currently the accounting policy has changed due to FASB

and Goodwill has an indefinite life which is tested for impairments annually to

determine if the carrying value exceeds fair value. If the fair value is found less than

the carrying value it is known that the Goodwill is impaired and the firm should impair

the goodwill to the new fair vale ultimately decreasing total assets.

$0

$200,000,000

$400,000,000

$600,000,000

$800,000,000

$1,000,000,000

$1,200,000,000

$1,400,000,000

$1,600,000,000

2004 2005 2006 2007 2008

Goowill

Intersil

80 | P a g e

Interisl’s disclosure stated that “We recorded an impairment loss of $1,154.7

million against our goodwill in the fourth quarter of 2008, calculated as the excess of

carrying amount of goodwill over the implied fair value of goodwill in our reporting

units” (Intersil 10-K). No sign of impairments have been made from 2003 to 2007 from

Intersil Corp. However, the 78% decrease in Goodwill in the year of 2008 raises

questions if Intersil has been accurately using the impairment test for Goodwill.

Intersil’s regarding Goodwill is aggressive because from 2004 to 2007 there has been

no impairments and also very little information about the tests that have been

performed regarding Goodwill. In conclusion, Intersil severely impacted Goodwill in

2008 hurting Net Income and by analyzing the information on Goodwill it seems that

Intersil disclosed only the minimal requirements by GAAP.

Compared to its competitors, Intersil’s accounting strategy related to goodwill is

overly conservative. This has led to an overstated asset value, until the “Big Bath” in

2008, that was likely taken partially due to new management and also due to the

overall negative outlook of the Analog IC industry during 2008 which was related to

decreased revenues and backlogs that is generally attributed to the global recession.

Due to the fact that we feel Intersil should have been impairing capitalized intangibles

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

70.00%

2004 2005 2006 2007 2008

Goodwill / Total Assets

Intersil

81 | P a g e

such as goodwill in previous years to more accurately reflect its true total value of

assets, we will later restate its impairment and total goodwill accounts.

Quality of Disclosure

Introduction

Although a certain amount of disclosure is regulated by GAAP, firms still can

choose whether or not to disclose certain facts. Some firm managers only publish what

is required by the SEC, where as others go beyond the mandatory disclosures. With

more law suits, firms are disclosing less and less for fear of “telling someone”

information that would lead to a personal financial disaster. While lower levels of

disclosure make it more difficult for an investor to grasp an accurate image of the

company, a firm cannot not be liable on information it does not disclose, but can be on

information that it does. By disclosing less, firms are less liable.

Also if a firm takes a more aggressive accounting approach as mentioned in the

evaluation of the accounting strategy, they are less likely to disclose more information.

If a firm adopts a more conservative accounting approach, they are more likely to

disclose more information. If a firm discloses less information than the rest of the firms

in the industry, it raises a red flag. The amount of disclosure a firm gives allows us to

look for potential red flags.

Currency

Exposure

Research and

Development

Operating

Leases

Goodwill

Intersil Moderate Low Low Low

82 | P a g e


To compete to the Analog IC industry, firms within the industry have to be

constantly producing innovative products. For that to be possible, the firms spend a

significant amount of money on R&D. Intersil does not release research and

development quantitative numbers, the firm is very general about the costs that are

included in R&D. Intersil’s “research and development costs consist of designing,

developing and testing new or significantly enhanced products” (Intersil 10-K 2008).

Disclosure of R&D is important to investors because they want to see that the firm is

allocating a proper amount to have products that will catch the attention of the

consumers. But in this industry, there is a relatively low level of disclosure in reporting

R&D expense.

Foreign Currency

Intersil fully discloses their foreign currency exchange risks and their hedging

strategy so that the investor/analyst can understand. Intersil discusses their forward

contracts and hedging in detail within the 10-K. There are also supplemental footnotes

with detail relating to foreign currency so the reader can relate it to items on the

financial statements. Intersil has a high quality of disclosure.

Operating Leases

Intersil favors using operating leases, and doesn’t capitalize any of their leases.

Recently Intersil chose to capitalize an abundant amount of leases in year 2008. This

correlates with the fact that they capitalized a significant amount of goodwill and

replaced their CEO. Because all these factors are present, Intersil took a big bath in

2008 to correct previous year’s impairments and set a new standard under a CEO. The

economic conditions in 2008 gave a bleak outlook for the Analog IC industry, being that

83 | P a g e

they are a specialty good, so cutting back already diminished profits did not harm the

firm’s image as much as it would in consequent years.

Goodwill

The overall disclosure for the goodwill in Intersil is insufficient in information.

Intersil lost $1,154.7 million due to impairment in the fourth quarter of 2008. This is a

huge number for Intersil which account for 78% of their goodwill. Considering the

magnitude of the impairment Intersil should have disclosed in detail why the

impairment took place. Looking at Intersil’s financial statements from 2004, there has

been no impairment from 2004 to 2007. However in 2008 they recorded the significant

loss of Goodwill which resulted in a $1,047 million loss in operation income. To

sufficiently disclose the Goodwill Intersil should have stated information on what

affected the goodwill to drop so significantly and the step they have taken to impair it.

In Intersil’s 10-K they state the obvious impairment rules but nothing on the direct

affects of their impairment loss. Overall, Intersil have very little information over

Goodwill which only questions the quality of their disclosure.

Quantitative Analysis

Financial statements project the current value and status of the firm. Through

accounting flexibility managers can alter the outlook of financial statements. By

performing sales and expense manipulations diagnostic ratios, we are able to test if

managers are misrepresenting their sales or expenses. Managers often overstate sales

or understate expenses in a more aggressive accounting strategy in order to make the

firm appear more financial sound. However, a conservative accounting approach will

understate sales, and overstate expenses. Through analyzing these manipulation

84 | P a g e

diagnostic ratios, we are able to conclude if the firm is altering the financial statements

to their advantage.

Sales Manipulation Diagnostics

Firms can manipulate their sales to overstate or understate their revenue. This

distorts the net income, either having too much or too little. In order to test the balance

sheets for these distortions, we run sales diagnostic ratios. If these ratios drastically

increase, the firm is recognizing too much revenue. If the ratios drastically decrease,

the firm is not recognizing enough revenue. We then calculate change ratios, looking at

the first derivative. If the first derivative is positive, the ratio is believable, because the

increase or decrease in sales is related to cash from sales, accounts receivable, or

inventory. Sales should be tied into cash from sales, accounts receivable and inventory.

So, if the first derivative is negative, sales are not tied into these accounting items and

it raises a red flag in the firms accounting practices.

Net Sales / Cash from Sales

This ratio indicates the firm’s ability to tie together cash from sales to net sales.

Ideally this ratio should be around 1, with higher ratio indicating that a firm is

recognizing more revenue than cash. A ratio below means that a firm is receiving more

cash than sales. If the firm’s ratio rises substantially, this would raise concern because it

would indicate that they are receiving more sales without receiving more cash.

85 | P a g e

As the chart above indicates, the industry remains constant and is slightly

declining over the past 5 years. The industrial average moves from 1.27 steadily to 1.00

in 2008. This indicates that the industry was recognizing more net sales than it should

have and that it is phasing out this sales manipulation to a more true recognition of net

income.

0.00

0.20

0.40

0.60

0.80

1.00

1.20

1.40

1.60

2004 2005 2006 2007 2008

Net Sales / Cash from Sales

ISIL

TXN

ADI

LLTC

MXIM

Industry

‐8.00

‐6.00

‐4.00

‐2.00

0.00

2.00

4.00

6.00

8.00

10.00

2004 2005 2006 2007 2008

Net Sales / Cash from Sales (Change)

ISIL

TXN

ADI

LLTC

MXIM

Industry

86 | P a g e

Net Sales / Accounts Receivable

This ratio demonstrates how closely related the accounts receivable are to net

sales. Ideally, this ratio should be consistent if companies maintain constant contract

terms with customers, and enforce them. If the ratio unexpectedly increases, there is a

potential red flag, because the firm is recognizing too much revenue. However, if the

industry’s ratio increases, then sales are not supported by accounts receivable.

The chart above indicates stability throughout the industry from 2003 to 2007.

In 2008, the ratio spikes to an industrial average of 9.66 (2007 industrial average of

7.68) . This spike is represented by economic pressures on the industry. In recent

years, the Analog ICs industry could be more lenient on the time that it receives its

accounts receivable because they were generating enough cash flow to cover late

payments. When the 2008 market became tough for the industry, firms had to “tighten

their belts” and enforce the timeliness of accounts receivable. By having sales

decrease, firms needed the money from accounts receivable sooner to pay for current

operations.

0.00

2.00

4.00

6.00

8.00

10.00

12.00

14.00

16.00

2003 2004 2005 2006 2007 2008

Net Sales / Accounts Receivable (Raw)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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The change ratio of net sales over accounts receivable represented in the graph

and chart below, allows us to analyze the relation between the change in sales and

accounts receivable. The sign change is important, not the magnitude of the ratio. If

this ratio is negative it means that an increase in sales resulted in a decrease in

accounts receivable or a decrease in sale resulted in an increase in accounts receivable.

This discrepancy raises a red flag, showing that sales and accounts receivable are not

tied together.

As the chart above indicates, the ratio is negative for LLTC in 2004, Intersil, TXN,

and ADI in 2006, ADI in 2007, Intersil, and ADI in 2008. These negative numbers show

that in these years, net sales were not related to accounts receivable. ADI’s numbers

raise concern because in only 2 out of the past 5 years net sales and accounts

receivable were tied together, showing that they have an aggressive style of

accounting. In 2006, only 3 firms, (Intersil, TXN, and ADI) had a negative ratio showing

that in 2006, firms in the industry took an aggressive accounting approach and their

accounts receivable were not tied into their net income. In 2008, two firms, (Intersil,

and ADI) had negative ratios. Intersil’s was barely negative so that could be correlated

to the shift in accounting showed in the entire industry in 2008. ADI’s numbers have

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0.0

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100.0

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2004 2005 2006 2007 2008

Net Sales / Accounts Receivable (Change)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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been mostly negative so this demonstrates a continued discontinuity between accounts

receivable and net sales.

Net Sales / Inventory

Net sales divided by inventory captures the linkage from sales and inventory. If

inventory drops, so should net sales. If sales increase, the amount of inventory should

increase as well. This ratio should remain constant because of this, and an

inconsistency in this ratio would raise a red flag showing that net sales are not properly

related to inventory.

As the chart above shows, the industry’s ratios are consistent, with exception to

LLTC. LLTC numbers are significantly larger than the rest of the industry, which could

be due the fact that this is not a perfect mix of competitors and LLTC manages their

inventory at lower levels than the rest of the industry.

The change ratio of net sales over inventory is calculated by dividing net sale

minus net sales of the previous year over inventory minus inventory from the previous

0.0

5.0

10.0

15.0

20.0

25.0

30.0

35.0

2003 2004 2005 2006 2007 2008

Net Sales / Inventory (Raw)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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year. If the ratio is negative, it raises a red flag because a change in inventory is

inversely related in net sales. Again the magnitude of the number is not significant, only

the sign.

The graph above displays that negative numbers occurred with LLTC and MXIM

in 2004, Intersil in 2005, ADI in 2006, ADI and LLTC in 2007, and ADI in 2008. This

brings ADI accounting practices into question because in 2006 though 2008 their

change ratio was negative. This demonstrates that inventory was not directly tied into

net income, raising a red flag for ADI’s sales and inventory relationship.

Though in the raw ratio showed that LLTC’s ratio was inconsistent with the rest

of the industry, in 2005, 2006, and in 2008 their change ratios were positive, showing

that there is a direct correlation between sales and inventory. This would enforce the

theory that LLTC manages their inventory differently than the rest of the firms because

not all firms are perfect competitors.

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0.0

100.0

200.0

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2004 2005 2006 2007 2008

Net Sales / Inventory (Change)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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Conclusion

Intersil remains mostly consistent with their sales ratios, with few discrepancies.

In a couple of the change ratios, Intersil had negative numbers, but not enough to

completely discredit the correlation and raise a red flag. Their numbers did not typically

differ from the industrial trend. With few variations in their numbers and no significant

red flags, we have come to the conclusion that Intersil does not significantly manipulate

their sales.

Expense Manipulation Diagnostics

Expense manipulation tests a firm’s balance sheet for distortions. A firm can

understate or overstate their expenses, which would manipulate their net income. If the

expense manipulation ratio increases, then the firm is overstating their expenses and in

turn, understating their net income. If the ratio decreases then a firm is understating

their expenses to overstate their net income. The change ratios test for red flags. The

change ratio should be positive, if the change ratio is negative, then a red flag occurs.

The magnitudes of the numbers in the change ratio are not significant, only if the ratio

is positive or negative.

Asset Turnover

The asset turnover ratio is calculated by dividing sales by the previous year-end

reported assets and is useful to determine if a firm is properly impairing their assets. If

sales increase and assets are not impaired, the result will be an overstatement of asset

values and a decreased asset turnover ratio. A sharp increase would indicate that the

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firm impaired more than it should have for the year, and a decrease would indicate that

they did not impair enough.

The chart above displays the Analog ICs industry’s asset turnover ratio. For the

most part, each firm remains fairly consistent; although each firm operates at a

different level. In 2008, LLTC’s asset turnover ratio spiked from .45 to .96 due to a

large decrease in assets resulting from the issuance of $1.7 billion of convertible senior

notes for an accelerated share repurchase initiative. This led to a large increase in

liabilities while creating a deficit in shareholder’s equity that had the net effect of

decreasing its total assets by approximately $1.17 billion in 2007. Also, in 2008, ADI’s

asset turnover spiked from .61 to .87, stemming from approximately $40.5 million of

asset impairments. The fact that Intersil’s value remains significantly lower than the

industry average represents a red flag that Intersil has been understating its expenses

related to the impairment of intangibles and overstating its assets between 2004 and

2007. However, in 2008, Intersil incurred an expense of approximately $1.155 billion

related to the impairment of goodwill. We believe this action was a result of a decision

by Intersil’s new CEO to take a “big bath” at a time when performance figures for

0.00

0.20

0.40

0.60

0.80

1.00

1.20

2004 2005 2006 2007 2008

Asset Turnover

ISIL

TXN

ADI

LLTC

MXIM

Industry

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Analog ICs firms were already looking bullish due to the current state of the economy

and the global recession. However, below, we can the rapid rate at which ISIL’s asset

turnover ratio adjusts towards the industry average after restating total assets with

20% yearly impairment of ISIL’s goodwill between 2003 and 2008.

The change ratio measures the relationship between asset impairment and sales.

If the ratio is negative, then the amount impaired and the amount of sales are inversely

related. This means that on a year that sales increased, a firm impaired less or in a year

a firm’s sales decreased, the firm impaired more. As the chart above describes, the

industry remains positive for the most part. Intersil’s change numbers were negative 3

out of the last 5 years and ADI’s change ratio numbers were negative 4 out of the last 5

years. This raises the red flag that impairment and sales are not related for these two

firms. Intersil’s negative numbers could be based on the fact that they took a “big bath”

in 2008, and that they were covering up impairment in the previous years before the

CEO was fired. ADI had $40.5 million in asset impairments in 2008, causing the ratio

to spike in the raw form but also bringing into question, why did they need to impair so

much so rapidly. This could be an affect of the previous years’ improper impairment

causing the negative change ratios. This could have caught up to ADI causing them to

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5.00

10.00

15.00

2004 2005 2006 2007 2008

Asset Turnover (Change)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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impair more than usual in 2008 in order to get back to where their impairment needs to

be.

Asset Turnover (With and Without 20% Yearly Goodwill Impairment 2003-2007)

2004 2005 2006 2007 2008

ISIL (Adjusted) 0.24 0.28 0.39 0.43 0.53

ISIL (Actual) 0.22 0.23 0.29 0.3 0.32

Industry (Actual) 0.53 0.54 0.56 0.59 0.74

CFFO / Operating Income

This ratio links together the income statement and the statement of cash flows.

Because it connects these two statements, we are able to observe how firms handle

their cash. The ratio should remain constant showing that the amount of cash received

by from operations relates to operating income. If the ratio sharply decreases, income

2004 2005 2006 2007 2008

ISIL (Adj) 0.24 0.28 0.39 0.43 0.53

ISIL (Actual) 0.22 0.23 0.29 0.30 0.32

Industry 0.53 0.54 0.56 0.59 0.74

0.200.300.400.500.600.700.80

Asset Turno

ver R

atio

Asset Turnover (After 20% Yearly Goodwill Impairment 2003‐2007)

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is not supported by cash, so it raises a red flag. A sharp increase in the ratio indicates

that the firm is understating its expenses, increasing its income.

As the chart above describes, all other firms in the industry remain constant,

except for intersil, showing that they are correctly stating their expenses and not

distorting them. In 2004 Intersil ratio spiked from 1.37 to 6.07 raising a red flag that

they are overstating their expenses, decreasing their net income and owner’s equity. In

2008, Intersil’s ratio declined from 1.53 to -.19 due to a severe understatement of

expenses, overstating their net income and owner’s equity. These two discrepancies

raise red flags that Intersil is distorting their expenses to manipulate their expenses.

The change ratio of cash flows from operations of operating income should be

positive because an increase in cash received from operations should correlate an

increase in operating income. A decrease in cash from one should increase from cash in

the other, if the accounting statements are accurate. If there is a negative ratio, it

raises a red flag because that means an increase in cash in the income statement

caused a decrease in cash in the statement of cash flows (or the other way around),

which does not make sense.

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2003 2004 2005 2006 2007 2008

CFFO / OI (Raw)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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As the chart above describes, in 2005 and 2006 ADI and MXIM had negative

ratios. In 2007 Intersil had a negative ratio and MXIM had a negative ratio in 2008. This

raises a red flag for MXIM had negative ratios 3 out of the 5 years, proving that the

cash received from operating income is not directly correlated with the cash flows from

operations. This puts into question the integrity for MXIM to manipulate their expenses

to misrepresent their net income.

CFFO / Net Operating Assets

This ratio, much like asset turnover, allows us to analyze the firm’s depreciations

consistency. Though there is not ideal ratio, an overstatement of depreciation will

drastically increase the ratio and a understatement of depreciation with cause the ratio

to decline. A firm will distort the amount of depreciation to overstate expenses to

understate net income or understate depreciation understating net income.

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2004 2005 2006 2007 2008

CFFO / OI (Change)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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As the chart above demonstrates, each firm operates at different level and there

are several discrepancies in the ratio. Intersil’s ratio rises in 2006 and stays consistently

higher than its previous years. This could be due to Intersil adopting a more

conservative approach to recognizing depreciation and impairment of assets. The same

can be said about LLTC because in 2004, their numbers spiked from 2003’s 1.3 to 2.3

and stayed around 2.0, so LLTC is impairing more of their assets, increasing their

expenses and using a more conservative approach. In 2006, TXN ratio dropped from

1.0 to .06 then rose up to 1.2, this is probably due to the fact that they did not impair

enough in 2006 so they slightly overcorrected in 2007 and then brought the ratio back

to normal. Also, MXMIM ratios have steadily been declining indicating that they are not

recognizing as much impairment expense, overstating their income and moving to a

more aggressive accounting style.

The change ratio should be positive, signifying that more assets should generate

more cash. Again, the magnitude of the change is not relevant, just if the number is

positive or negative. A negative change ratio allows us to determine red flags in firm’s

expenses.

0.0

0.5

1.0

1.5

2.0

2.5

2003 2004 2005 2006 2007 2008

CFFO / NOA (Raw)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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As the chart above displays, TXN has a huge red flag with all of their change

ratios being negative 5 out of the past 6 years. They increase their plant property and

equipment in from 2005 to 2007, even though their sales decreased. For the rest of the

years, (aside from 2008) the plant property and equipment decreased while sales

increased. This means that increasing cash and depreciation are inversely related, and

that their impairment practices are inconsistent. Also in 2005, nearly every firm had a

negative change ratio (all except LLTC). This explains that in 2005 the industry did not

correlate their depreciation with their cash flow from operations.

Total Accruals / Sales

Total accruals are calculated by subtracting CFFO from OI. If a firm’s accruals

suddenly spike, then they are overstating their expenses. Although there is no ideal

ratio number, if the ratio is less than one and a firm has more sales than accruals, and

they are probably distorting their accruals.

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2004 2005 2006 2007 2008

CFFO / NOA (Change)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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As the chart, shown previously, describes, firms generally display fairly consistent

values, respectively, aside from ADI. ADI’s ratio spikes up in 2006, then sharply

declines in 2007 and 2008. In 2006 we observe other spike, which indicates that they

increased their expenses and understated their net income for that year. In 2007,

ADI’s ratio dropped from 31.4 to 7.6 and continued to decline to -22.1 in 2008,

indicating an understatement of expenses and an overstatement in net income and

owner’s equity. In 2008, their total accruals were negative, raising a red flag.

TXN raises a red flag because in the past 6 years, the ratio was less than one,

showing that sales were greater than accruals, and because sales exceed accruals.

Since sales were greater than accruals, TXN understated their expenses to overstate

their net income and owner’s equity, raising a red flag.

The change-form of total accruals to sales ratio signifies year to year relationship

between changes in accruals and sales. If accruals increase, so should sales, and if

accruals decrease, sales should decrease as well. This is represented in a positive

change ratio, and the magnitude of the change ratio is not of significance. If the ratio is

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0.0

10.0

20.0

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2003 2004 2005 2006 2007 2008

Total Accruals / Sales (Raw)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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negative, it represents an increase in accruals causes a decrease in sales or a decrease

in accruals causes an increase in sales, raising a red flag.

As the chart above indicates, companies that displayed negative ratios include: in

2004, Intersil; in 2005, TXN, ADI, and LLTC; in 2006, MXIM; in 2007 all companies had

a positive ratio; and in 2008, TXN, ADI, and MXIM displayed negative ratios. TXN, ADI,

and MXIM all had negative numbers for 2 years, showing that changes in accruals were

not directly correlated with sales. Although each firm had a negative ratio during at

least one of the last five years, no companies’ values were consistently negative;

therefore, no red flags are raised. Only some of the ratios showed discontinuity

between accruals and sales, though for the most part they displayed direct correlation.

Conclusion

Though Intersil stays fairly consistent with some of its ratios, there are some

variations in their numbers that raise concern. First off, its change asset turnover is

negative 3 out of the 5 years, raising a red flag that their impairment is not directly

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0.0

20.0

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2004 2005 2006 2007 2008

Total Accruals / Sales (Change)

ISIL

TXN

ADI

LLTC

MXIM

Industry

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related to their sales. Also, in their CFFO/OI raw ratio, their numbers spike in 2004,

overstating their expenses, then declining in 2008 to a -.19, drastically understating

their expenses. However their change ratio was only negative so even though the

numbers were skewed in the raw form, and they CFFO and OI directly increased and

decreased. The CFFO/NOA raw ratio represented a change in accounting practice for

Intersil as their ratio rose in 2006 and only slowly declined from there. However, for 3

of the 5 years, Intersil displayed a negative change CFFO/NOA ratio meaning that

increasing cash and depreciation are inversely related for these three years. As far as

the Total Accruals to Sales ratios, Intersil showed little variations or negative change

ratios. The overall expense diagnostics allows us to conclude that from time to time

Intersil will overstated their expenses, however, for the most part they are do not

distort their expenses.

Sales Conclusion

Intersil remains mostly consistent with their sales ratios, with few discrepancies.

In a couple of the change ratios, Intersil had negative numbers, but not enough to

completely discredit the correlation and raise a red flag. Their numbers did not typically

differ from the industrial trend. With few variations in their numbers and no significant

red flags, we have come to the conclusion that Intersil does not significantly manipulate

their sales.

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Potential Red Flags

Introduction

Red flags signify that there might be unexplained distortions that may discredit

the financial statements of the firm. Red flags can be anything from unusual changes in

accounting practices or unexplained changes in the sales and expense diagnostics.

Some changes can be related to the industry, where firms in the industry adopt

different practices in order stay competitive, but it is up to the analyst to determine the

significance of these changes and the plausibility of an industrial explanation.

Operating Leases

An area of questionable accounting that we encountered was the amount of

capital spent of operating leases by Intersil. The past five years overall total present

value came out to be $251,075,994 of the operating leases. In order to determine

whether capitalizing operating leases would be material in restating Intersil’s financial

statements for valuation purposes, we determined if the present value of operating

leases exceeded long-term debt by 10%, restatement would be necessary.

Assets Liabilities Equity

U U O

This accounting strategy used by Intersil raises a concern for a red flag because they

choose to leave off a considerable amount of liabilities off their balance sheet. The

income statement is affected as well, not properly accounting for the correct amount of

depreciation and interest. We feel that Intersil is understating assets and liabilities, and

102 | P a g e

overstating equity as the table demonstrates below. Overall, Intersil’s leasing

accounting raises a red flag.


In the past, and currently, Intersil treats research and development as an

expense due to GAAP requirements. Unfortunately, Intersil doesn’t have a choice on

how to account for their research and development. The only way that firms can

capitalize research and development is through purchase and the majority of Intersil’s

research and development is done within the firm. Due to the large amount of capital

allocated to research and development expenses, we feel that if ISIL were able to

capitalize R&D expense as an asset, the underlying business structure would be better

represented for valuation purposes. A key success factor in the analog IC industry is

high investment in R&D to create new innovative products which leads to revenue.

Therefore, Intersil research and development raises a red flag.

Goodwill

After examining ISIL’s financial statements, we determined that their actual accounting

policies related to goodwill exhibit abnormal patterns. Upon analysis of Intersil’s

financial statements, the most immediately noticeable and drastic accounting event was

a $1.15 billion expense related to impairment of goodwill in 2008. This caused ISIL to

report over a net loss of over a billion in 2008 and resulted in a 52.9% decrease in

assets between 2007 and 2008. We noticed that between 2003 and 2004, Intersil

increased its goodwill by approximately $387.9 million and between 2004 and 2007

Intersil maintained an average of $1.44 until the massive impairment in 2008. This

represents a red flag and it is our opinion that the restatement of these values will

serve transform investors’ views of the firm.

103 | P a g e

$‐

$200,000

$400,000

$600,000

$800,000

$1,000,000

$1,200,000

$1,400,000

$1,600,000

2003 2004 2005 2006 2007 2008

Intersil: Goodwill Value

ISIL

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Undoing Accounting Distortions

Introduction

Now that we have identified red flags for potential instances of accounting

flexibility and distortion, we must draw upon our knowledge of the firm and industry in

order to make decisions upon how to restate the financial statements in order to better

represent the value of the firm. From restating financial statements, we can mitigate

the impact of accounting flexibility and distortion on the underlying business reality of

the firm. The goal is to generate a new set of financial statements allow us to generate

a clearer image of the firm which will allow us to more accurately value the firm. The

most prominent red flags that we have identified to have the largest material effect on

ISIL’s financial statements include the following: goodwill, operating leases, and

research and development. After evaluating and restating these key line items, we feel

the net effect is likely to transform our image and opinion of the firm.


For purposes improving valuation accuracy, we determined that if R&D expense

exceeds 20% of reported operating income throughout the past five years, then there is

a need to capitalize R&D. As high investment in R&D is a key success factor in the

analog IC industry, Intersil invests large amounts of capital in research and

development causing the R&D expense to exceed 20% of Intersil’s operating income.

Therefore, we have determined that R&D should be recorded as an asset rather than an

expense to improve the materiality of Intersil’s financial statements to firm valuation.

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The graph on the next page shows all calculations we had to go through to

arrive at a R&D impairment adjustment and capitalized R&D. We forecasted six years,

dividing up 100% of the original R&D over six years. To start out every year, the

original R&D was taken and multiplied by 10%. The next four years after that the same

years original R&D was multiplied by 20%, and that left the last forecasted year

multiplied by 10 % again. Then to arrive at the should impair cost, we summed up the

new R&D for every year. Next, we calculated the impairment adjustment and

capitalized R&D, which belong on the income statement, by subtracting should impair

by the original impaired (original R&D).

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2004 2005 2006 2007 2008Original R&D 107430 110834 126,458 134,374 143,583Assume Mid Year AcquisitionsNew R&D

2004 2005 2006 2007 2008 2009 2010 2011 2012 20132004 10,743 21,486 21,486 21,486 21,486 10,743 2005 11,083 22,167 22,167 22,167 22,167 11,083 2006 12,646 25,292 25,292 25,292 25,292 12645.8

Impair New R&D 2007 13,437 26,875 26,875 26,875 26874.8 13437.42008 14,358 28,717 28,717 28716.6 28716.6 14358.3

total RD write downshould impair 10,743 32,569 56,299 82,382 110,178 113,793 91,966 68,237 42,154 14,358 Did impair 107,430 110,834 126,458 134,374 143,583 12,427 12,427 12,427 12427.4 12427.4impairment adjustment IS (96,687) (78,265) (70,159) (51,992) (33,406) 101,365 79,539 55,810 29726.6 1930.9

Capitalized RD BS (96,687) (174,952) (245,111) (297,103) (330,509) (229,143) (149,604) (93,794) (64,068) (62,137)

Research and Development Captilized

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Operating Leases

The operating lease test, says if the present value of operating leases exceeds

long term debt by 10%, then there is a need to capitalize operating leases and restate

Intersil’s past financial statements. To arrive at the interest and depreciation expense

we go back to year 2003 to find the expenses for years 2004 through 2008. Since

Intersil doesn’t use capital leases, so we can’t calculate the discount rate or state their

discount rate we chose to use a 20 year A corporate bond. We used 6.50% discount

rate (20 year A corporate bond) to find the total present value for each year. To

determine the payment we used the following equation: Beginning operating lease +

Interest – Payment = Ending Balance. We arrived at the depreciation amount by

dividing the operating leases by 6 years. We determined six years to be an

approximate lifespan appropriate for lease amortization. Below is a table demonstrating

the process we went through to arrive at the final numbers we used to change the

financial statements.

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0.065 Ol payment Loan Amortization Tableyear t pv factor pv payment BB interest payment EB CHANGE IN LOAN Depreciation total CL exp CL‐OL AT diff2005 1 5000 0.938967 4,695 2005 1 15,266 992 5,000 11,258 (4,008) 2,544 3,537 (1,463) (1,024) 2006 2 3300 0.881659 2,909 2006 2 11,258 732 3,300 8,690 (2,568) 2,544 3,276 (24) (17) 2007 3 2600 0.827849 2,152 2007 3 8,690 565 2,600 6,654 (2,035) 2,544 3,109 509 356 2008 4 2200 0.777323 1,710 2008 4 6,654 433 2,200 4,887 (1,767) 2,544 2,977 777 544 2009 5 2200 0.729881 1,606 2009 5 4,887 318 2,200 3,005 (1,882) 2,544 2,862 662 463 2010 6 3200 0.685334 2,193 2010 6 3,005 195 3,200 0 (3,005) 2,544 2,740 (460) (322) 0.065 Ol payment Loan Amortization Tableyear t pv factor pv payment BB interest payment EB CHANGE IN LOAN Depreciation total CL exp CL‐OL AT diff2006 1 30700 0.938967 28,826 2006 1 38,834 2,524 30,700 10,658 (28,176) 6,472 8,997 (21,703) (15,192) 2007 2 3300 0.881659 2,909 2007 2 10,658 693 3,300 8,051 (2,607) 6,472 2,469 (831) (582) 2008 3 2800 0.827849 2,318 2008 3 8,051 523 2,800 5,774 (2,277) 6,472 1,865 (935) (654) 2009 4 2700 0.777323 2,099 2009 4 5,774 375 2,700 3,450 (2,325) 6,472 1,338 (1,362) (954) 2010 5 2400 0.729881 1,752 2010 5 3,450 224 2,400 1,274 (2,176) 6,472 799 (1,601) (1,121) 2011 6 1300 0.685334 891 2011 6 1,274 83 1,300 57 (1,217) 6,472 295 (1,005) (703) 0.065 Ol payment Loan Amortization Tableyear t pv factor pv payment BB interest payment EB CHANGE IN LOAN Depreciation total CL exp CL‐OL AT diff2007 1 37100 0.938967 34,836 2007 1 49,663 3,228 37,100 15,791 (33,872) 8,277 11,505 (25,595) (17,916) 2008 2 5900 0.881659 5,202 2008 2 15,791 1,026 5,900 10,917 (4,874) 8,277 3,658 (2,242) (1,569) 2009 3 4800 0.827849 3,974 2009 3 10,917 710 4,800 6,827 (4,090) 8,277 2,529 (2,271) (1,590) 2010 4 4400 0.777323 3,420 2010 4 6,827 444 4,400 2,871 (3,956) 8,277 1,582 (2,818) (1,973) 2011 5 2400 0.729881 1,752 2011 5 2,871 187 2,400 657 (2,213) 8,277 665 (1,735) (1,214) 2012 6 700 0.685334 480 2012 6 657 43 700 0 (657) 8,277 152 (548) (383) 0.065 Ol payment Loan Amortization Tableyear t pv factor pv payment BB interest payment EB CHANGE IN LOAN Depreciation total CL exp CL‐OL AT diff2208 1 35300 0.938967 33,146 2008 1 47,940 3,116 35,300 15,756 (32,184) 7,990 11,106 (24,194) (16,936) 2009 2 6600 0.881659 5,819 2009 2 15,756 1,024 6,600 10,180 (5,576) 7,990 3,650 (2,950) (2,065) 2010 3 5400 0.827849 4,470 2010 3 10,180 662 5,400 5,442 (4,738) 7,990 2,358 (3,042) (2,129) 2011 4 3400 0.777323 2,643 2011 4 5,442 354 3,400 2,395 (3,046) 7,990 1,261 (2,139) (1,498) 2012 5 1800 0.729881 1,314 2012 5 2,395 156 1,800 751 (1,644) 7,990 555 (1,245) (872) 2013 6 800 0.685334 548 2013 6 751 49 800 0 (751) 7,990 174 (626) (438) 0.065 Ol payment Loan Amortization Tableyear t pv factor pv payment BB interest payment EB CHANGE IN LOAN Depreciation total CL exp CL‐OL AT diff2009 1 52200 0.938967 49,014 2009 1 119,512 7,768 52,200 75,080 (44,432) 19,919 27,687 (24,513) (17,159) 2010 2 31600 0.881659 27,860 2010 2 75,080 4,880 31,600 48,361 (26,720) 19,919 24,799 (14,206) (9,944) 2011 3 26000 0.827849 21,524 2011 3 48,361 3,143 26,000 25,504 (22,857) 19,919 23,062 (14,796) (10,358) 2012 4 24400 0.777323 18,967 2012 4 25,504 1,658 24,400 2,762 (22,742) 19,919 21,576 (18,492) (12,944) 2013 5 2500 0.729881 1,825 2013 5 2,762 180 2,500 441 (2,320) 19,919 20,098 (1,860) (1,302) 2014 6 500 0.685334 343 2014 6 441 29 500 (30) (471) 19,919 19,947 (398) (278)

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Goodwill

Upon examination of Intersil’s financial statements, the most immediately noticeable

and drastic accounting event was a $1.15 billion expense related to impairment of

goodwill in 2008. This caused ISIL to report over a net loss of over a billion in 2008

and resulted in a 52.9% decrease in assets between 2007 and 2008. We noticed that

between 2003 and 2004, Intersil increased its goodwill by approximately $387.9 million

and between 2004 and 2007 Intersil maintained an average of $1.44 until the massive

impairment in 2008. This event is indicative of a “big bath” that we believe might have

been the result of Intersil appointing a new CEO during 2008 and the fact that the year-

end financial results were already expecting to be poor due the negative effects of the

world recession on the analog IC industry. However, we feel that had Intersil been

steadily decreasing goodwill in past years, this event might not have been so drastic.

After depreciating goodwill over a five year basis, we see that Intersil’s goodwill value

rapidly adjusts towards levels that are more representative of its competitors. After

allocating goodwill impairment over a 5 year basis, beginning in 2004, the net effect

minimizes the drastic impact of an expense of approximately $1.55 billion for the

impairment of goodwill during 2008. In order to impair goodwill, we assumed a 5 year

life span during which goodwill can be “depreciated” on a straight-line basis. In

addition, we assumed that new acquisitions of goodwill are recognized at year-end,

hence are not included in the value used for restated adjustment during the fiscal year.

The spreadsheet on the following page depicts the procedure we applied to calculate

goodwill values.

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2004 2005 2006 2007 2008

BB G.W. 1,059,121 1,429,836 1,423,630 1,419,781 1,445,778

Acquisition 375,373 ‐ ‐ 29,594 22,781

Impair G.W. ‐4660 ‐6206 ‐3,849 ‐3,597 ‐1,154,830

EB G.W. 1,429,834 1,423,630 1,419,781 1,445,778 313,729

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

NEW GOODWILL 375,373 0 0 29,594 22,781

Original G.W. Impairment END 2003: 211,824 211,824 211,824 211,824 211,824

2004 75,075 75,075 75,075 75,075 75,075

2005 ‐ ‐ ‐ ‐ ‐

2006 ‐ ‐ ‐ ‐ ‐

2007 5,919 5,919 5,919 5,919 5,919

2008 4,556 4,556 4,556 4,556 4,556

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

TOTAL NEW GW IMPAIR 75,075 75,075 75,075 80,993 85,550 10,475 10,475 10,475 4,556 ‐

SHOULD IMPAIR 211,824 286,899 286,899 286,899 292,818 85,550 10,475 10,475 10,475 4,556 ‐

DID IMPAIR (4,660) (6,206) (3,849) (3,597) (1,154,830) ‐ ‐ ‐ ‐ ‐ ‐

IMPAIRMENT ADJUSTMENT ‐‐> 207,164 280,693 283,050 283,302 292,818 85,550 10,475 10,475 10,475 4,556 ‐

Adjusted Balance G.W. (Prior Add) 847,297 935,771 648,872 361,973 98,750 35,981 25,506 15,031 4,556 (0) (0)

ADJUSTED END BALANCE G.W. 1,222,670 935,771 648,872 391,567 121,531 35,981 25,506 15,031 4,556 (0) (0)

ASSUME YEAR END ACQUISITION

INTERSIL ‐ GOODWILL RESTATEMENT

FORECASTING

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FINACIAL STATEMENTS

Income Statement

The income statement calculates net income or loss, making it a bridge between

the balance sheet and statement of cash flows. Therefore, to construct a foundation

for the restatement and forecasting of a firms’ financial statements, there is a need to

first forecast and restate the income statement. An accurate forecast of the income is

necessary to set the proper trends and assumptions. In order to provide a basis for our

forecast, the first step was to analyze and compute the historical sales growth rate for

Intersil over the past six years.

INTERSIL Corporation YEAR

Income Statement 2003 2004 2005 2006 2007 2008

Revenue 507,684 535,775 600,255 740,597 756,966 769,675

CGS 221,074 237,155 265,560 315734 325,372 370,274

Gross Profit 286,610 298,620 334,695 424863 431,594 399,401

R&D 91,267 107,430 110,834 126,458 134,374 143,583

SG&A 88,274 90,697 99,788 137,105 131,914 124,281

Impairment of Goodwill 0 0 0 0 0 ‐1,154,676

Amort of Unearned Compensation 10,895 10,834 14,109 0 0 0

Impair.(gain) Long‐Lived Assets 12,576 26,224 ‐618 0 0 0

Amort of Purchases Intangeables 6,298 7,397 9,597 9,468 10,723 12,176

In‐Process R&D 0 31,205 0 0 2,660 3,037

Restructuring/Related Activities 4,887 6,104 2,845 0 0 8,685

(Gain) on sale of certain operations ‐1,428 ‐901 0 0 0 0

Other losses (gains) 0 3,439 ‐2,000 0 0 0

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Operating Gain (Loss) 73,841 16,191 100,140 151,832 151,923 ‐1,047,037

Interest Income, Net 8,958 13,227 18,966 29,711 30,911 14,655

(Loss) gain on certain investments, net ‐3,443 3,799 0 ‐1,367 870 ‐35,429

OP(L) b/f Tax 79,356 33,217 119,106 180,176 183,704 ‐1,067,811

Income Tax Expense (Benefit) 20,899 ‐7,136 32,284 28,828 40,965 ‐5,309

Income (Loss) from Cont. Ops. 58,457 40,353 86,822 151,348 142,739 ‐1,062,502

Loss(Inc) DO b/f Income Taxes 19,983 1,092 ‐1,071 851 ‐288 0

Income Tax Exp (Benefit) DcOps. 32,603 764 ‐126 322 1,975 ‐24,942

Inc (Loss) from DcOps ‐12,620 328 ‐945 529 ‐2,263 24,942

NET INCOME (LOSS) 45,837 40,681 85,877 151,877 140,476 ‐1,037,560

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BALANCE SHEET

2003 2004 2005 2006 2007 2008Current Assets

Cash and cash equivalents 190,457 129,700 137,697 158,938 323,403 215,625 Short‐term investments 629,076 393,299 417,531 465,096 160,427 97,008 Trade receivables, net of allowanc 76,713 77,919 99,791 98,048 117,421 66,607 Inventories 83,631 96,450 86,604 92,413 98,650 109,644 Prepaid expenses and other curre 10,468 14,649 11,893 16,589 9,041 9,467 Deferred income taxes 39,843 43,175 32,849 18,523 39,543 35,489 Total Current Assets 1,030,188 755,192 786,365 849,607 748,485 533,840

Non‐current Assets

Property, plant and equipment, ne 153,410 101,354 96,610 101,121 109,633 112,825 Purchased intangibles, net of accumulated amortization

‐ ‐ 39,330 29,863 29,910 29,041 Goodwill 1,090,905 1,478,762 1,423,630 1,419,781 1,445,778 313,729 Long‐term investments 156,730 179,651 157,139 78,585 19,108 81,301 Deferred income taxes 9,554 68,860 65,862 67,065 37,455 46,994 Related party notes 499 ‐ ‐ ‐ ‐ ‐ Other 7,561 3,751 14,781 13,105 14,618 15,860 Non‐Current Assets 1,418,659 1,832,378 1,797,352 1,709,520 1,656,502 599,750

TOTAL ASSETS 2,448,847 2,587,570 2,583,717 2,559,127 2,404,987 1,133,590 LIABILITIES AND SHAREHOLDERS’ EQUITYLIABILITIESCurrent Liabilities

Trade payables 20804 18401 27,122 24,229 40,234 22,264Accrued current and retirement co 26,082 24,841 32,203 33,433 39,504 30,461Deferred net revenue 12,105 11,347 10,961 12,813 10,259 10,638Other accrued expenses 4142 34,391 22,203 19,159 12,676 37,256Non‐income taxes payable 49641 2,976 3,481 3,170 3,498 3,319Income taxes payable 83,956 56,211 58,140 44,810 19,267 4,012

Total Current Liabilities 196,730 148,167 154,110 137,614 125,438 107,950Non‐current Liabilities

Income taxes payable 0 0 0 0 40,670 0Total L‐T Liabilities 0 0 0 0 40670 0

TOTAL LIABILITIES 196,730 148,167 154,110 137,614 166,108 107,950SHAREHOLDERS' EQUITY 2003 2004 2005 2006 2007 2008Preferred Stock, $0.01 par value, 2 million shares authorized; no shares issued oroutstanding 0 0 0 0 0 0Class A Common Stock, $.01 par value, voting; 600 million shares authorized;121,626,122 and 126,990,547 shares issued and outstanding as of Jan. 2, 2009 andDec. 28, 2007, respectively 1,393 1,518 1,411 1,359 1,270 1,216Additional paid‐in capital 2,246,402 2,553,855 2,312,663 2,171,642 1,906,179 1,797,072Accumulated deficit/Retained earning 40,898 63,103 124,779 247,217 333,528 ‐764,262Unearned compensation (8,956) (22,900) ‐9,455 0Treasury Shares purchases, at cost (29,998) (157,667) 0 0 0 0Accumulated other comprehensive lo 2,378 1,494 209 1,295 ‐2,098 ‐8,386Total Shareholders’ Equity 2,252,117 2,439,403 2,429,607 2,421,513 2,238,879 1,025,640

2,252,117 2,439,403 2,429,607 2,421,513 2,238,879 1,025,640 Total Liabilities and Shareholders’ Equ 2,448,847 2,587,570 2,583,717 2,559,127 $2,404,987 1,133,590

INTERSIL CORPORATIONBALANCE SHEET (in Millions)

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RESTATED FINANCIAL STATEMENTS

Trial Balance

In order to restate our financial statements to reconcile capitalized research and

development, impairment of goodwill, and capitalizing operating leases we first had to

create amortization tables for each of these accounts. After forming the amortization

tables, we had the necessary financial numbers to begin our restatement of Intersil’s

financial statements beginning in 2004. In order to ensure that our restated numbers

properly translated into the financial statements, we created a trial balance which

depicted the year by year official financial statements, columns for the debits and

credits to ensure that we were properly allocating debits and credits related to

increasing and decreasing various line items. We then applied the appropriate debits

and credits on year by year basis to generate yearly restated financial statements, and

carried over values such as accrued goodwill amortization, capitalized research and

development, accrued depreciation on capital lease assets, and accrued amortization of

lease liabilities. After applying this method, as depicted below, we were able to

generate restated income statements and balance sheets for goodwill between 2004

and 2008. We feel that our restated financial statements allow for a more clarified view

of Intersil’s financial standpoint. After applying the restated financials to calculate a

number of ratios representing firm activities these values significantly gravitated

towards industry benchmarks.

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Trial Balance 2004 2004 2005 2005 2006 2006INCO ME STATEMENTS As Stated Debits Credits Adjusted Carryover As Stated Debits Credits Adjusted Carryover As Stated Debits Credits Adjusted CarryoverRevenue 535,775 535,775 600,255 600,255 740,597 740,597

CGS 237,155 237,155 265,560 265,560 315,734 315,734 Gross Profit 298,620 298,620 334,695 334,695 424,863 424,863

R&D 107,430 96,687 10,743 118,255 78,265 39,990 126,458 70,159 56,299 SG&A 90,697 90,697 106,476 106,476 137,105 137,105

Less Lease Payment - - 5,000 (5,000) 30,700 (30,700) Impairment of Goodwill - 207,164 207,164 - 280,693 280,693 - 283,050 283,050 Amort of Unearned Compensation 10,834 10,834 - - - Impair.(gain) Long-Lived Assets (Added Depr 26,224 26,224 (618) 2,544 1,926 - 6,472 6,472 Amort of Purchases Intangeables 7,397 7,397 9,597 9,597 9,468 9,468 In-Process R&D 31,205 31,205 - - - - Restructuring/Related Activities 6,104 6,104 2,845 2,845 - - (Gain) on sale of certain operations (901) (901) - - - - Other losses (gains) 3,439 3,439 (2,000) (2,000) - - Operating Income (Loss) 16,191 (94,286) 100,140 (99,832) 151,832 (36,831)

Interest Expense 992 992 2,524 2,524 - (1,367) (1,367)

100,140 (100,825) 150,465 (40,722) 32,284 32,284 28,828 28,828 67,856 (133,109) 121,637 (69,550)

- 18,966 18,966 29,711 29,711 - - (945) (945) 529 529

(Gain)/Lossfrom Disc. O ps./Extraordinary/O the 24,490 24,490

NET INCOME (LOSS) 40,681 (69,796) 85,877 (115,088) 151,877 (39,310)

Trial Balance 429,594 319,117 Tr. Balance 716,778 612,500 Tr. Balance 942,673 927,901 - Change in Retained E 110,477 (110,477) Change in Retained Earnin 200,965 Change in Retained Earnings 191,187

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Trial Balance (Cont.) 2007 2007 2008 2008INCO ME STATEMENTS As Stated Debits Credits Adjusted Carryover As Stated Debits Credits AdjustedRevenue 756,966 756,966 769,675 769,675

CGS 325,372 325,372 370,274 370,274 Gross Profit 431,594 431,594 399,401 399,401

R&D 134,374 51,992 82,382 143,583 33,406 110,178 SG&A 131,914 131,914 124,281 124,281

Less Lease Payment 37,100 (37,100) 35,300 (35,300) Impairment of Goodwill - 283,302 283,302 1,154,676 862,012 292,664 Amort of Unearned Compensation - - - - Impair.(gain) Long-Lived Assets (Added Depr) - 8,277 8,277 - 7,990 7,990 Amort of Purchases Intangeables 10,723 10,723 12,176 12,176 In-Process R&D 2,660 2,660 3,037 3,037 Restructuring/Related Activities - - 8,685 8,685 (Gain) on sale of certain operations - - - - Other losses (gains) - - - - Operating Income (Loss) 151,923 (50,564) (1,047,037) (124,309)

Interest Expense 3,228 3,228 3,116 3,116

(53,792) 40,965 40,965

(94,757) -

(2,263) (2,263)

(Gain)/Lossfrom Disc. O ps./Extraordinary/O ther (11,447) (11,447) 9,477 9,477

NET INCOME (LOSS) 140,476 (65,239) (1,037,560) (117,949)

Tr. Balance 1,136,955 1,199,518 Tr. Balance 1,766,564 3,032,040 Change in Retained Earn 205,715 Change in Retained Earnings 919,611

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Trial Balance Sheet (Cont.) 2006 2007 2007 2008 2008

Carryover As Stated Debits Credits Adjusted Carryover As Stated Debits Credits Adjusted

Current Assets

Cash and cash equivalents 323,403 323,403 215,625 215,625

Short-term investments 160,427 160,427 97,008 97,008

Trade receivables, net of allowances 117,421 117,421 66,607 66,607 Inventories 98,650 98,650 109,644 109,644 Prepaid expenses and other current assets 9,041 9,041 9,467 9,467 Deferred income taxes 39,543 39,543 35,489 35,489

Total Current Assets 748,485 748,485 533,840 533,840

Non-current AssetsProperty, plant and equipment, net of accumulated depreciation 109,633 109,633 112,825 112,825 Purchased intangibles, net of accumulated amortization 29,910 29,910 29,041 29,041

Capitalized Lease Liabilities 47,940 47,940 119,512 119,512 Accrued Amortization of Lease Liabilites (9,017) 8,277 (17,294) (17,294) 7,990 (25,284)

Capitalized RD 245,111 51,992 297,103 297,103 33,406 330,509 330,509 Goodwill, , less acc. Amort 770,907 1,445,778 1,054,209 391,569 1,054,209 313,729 862,012 1,054,209 ####### #####

Long-term investments 19,108 19,108 81,301 81,301 Deferred income taxes 37,455 37,455 46,994 46,994 Related party notes - - - - Other 14,618 14,618 15,860 15,860

Non-Current Assets 1,656,502 930,043 599,750.00 832,291

TO TAL ASSETS 2,404,987 1,678,528 1,133,590 1,366,131 NET CAP R&DCurrent Liabilities

Trade payables 40,234 40,234 22,264 22,264 Accrued current and retirement compensation 39,504 39,504 30,461 30,461 Deferred net revenue 10,259 10,259 10,638 10,638 Other accrued expenses 12,676 12,676 37,256 37,256 Non-income taxes payable 3,498 3,498 3,319 3,319 Income taxes payable 19,267 19,267 4,012 4,012

Total Current Liabilities 125,438 125,438 107,950 107,950 Non-current Liabilities

Income taxes payable 40,670 40,670 - -

Capitalized Lease Liabilities 47,940 47,940 119,512 119,512 119,512

Amortized Lease Liability (32,184) 33,872 (66,055) (66,055) 32,184 (98,239) (32,184)

Total L-T Liabilities 40,670 22,554 - 21,273 TO TAL LIABILITIES 166,108 147,992 107,950 129,223

Common Stock at Par 1,270 1,270 1,216 1,216 Additional paid-in capital 1,906,179 1,906,179 1,797,072 1,797,072 Accumulated deficit/Retained earnings 502,629 333,528 708,344 (374,816) 708,344 (764,262) 708,344 919,611 (552,994)

Unearned compensation - -

Treasury Shares purchases, at cost - - - -

Accumulated other comprehensive loss (2,098) (2,098) (8,386) (8,386)

Total Shareholders’ Equity 2,238,879 1,530,535 1,025,640 1,236,908

TO TAL LIABILITIES & EQ UITY 2,404,987 1,678,528 1,133,590 1,366,131

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2004 2005 2006 2007 2008Revenue 535,775 600,255 740,597 756,966 769,675 CGS 237,155 265,560 315,734 325,372 370,274 Gross Profit 298,620 334,695 424,863 431,594 399,401 R&D 10,743 39,990 56,299 82,382 110,178 SG&A 90,697 106,476 137,105 131,914 124,281 Less Lease Payment - (5,000) (30,700) (37,100) (35,300) Impairment of Goodwill 207,164 280,693 283,050 283,302 292,664 Amort of Unearned Compensation 10,834 - - - - Impair.(gain) Long-Lived Assets (Added De 26,224 1,926 6,472 8,277 7,990 Amort of Purchases Intangeables 7,397 9,597 9,468 10,723 12,176 In-Process R&D 31,205 - - 2,660 3,037 Restructuring/Related Activities 6,104 2,845 - - 8,685 (Gain) on sale of certain operations (901) - - - - Other losses (gains) 3,439 (2,000) - - - Operating Income (Loss) (94,286) (99,832) (36,831) (50,564) (124,309) Interest Expense - 992 2,524 3,228 3,116

- - (1,367) - - - (100,825) (40,722) (53,792) - - 32,284 28,828 40,965 - - (133,109) (69,550) (94,757) - - 18,966 29,711 - - - - - - - - (945) 529 (2,263) -

(Gain)/Lossfrom Disc. Ops./Extraordinary/O 24,490 - - (11,447) 9,477 NET INCOME (LOSS) (69,796) (115,088) (39,310) (65,239) (117,949)

Intersil: Restated Income Statement

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Fiscal Year 2004 2005 2006 2007 2008

Current AssetsCash and cash equivalents 129,700 137,697 158,938 323,403 215,625 Short-term investments 393,299 417,531 465,096 160,427 97,008 Trade receivables, net of allowances 77,919 99,791 98,048 117,421 66,607 Inventories 96,450 86,604 92,413 98,650 109,644 Prepaid expenses and other current assets 14,649 11,893 16,589 9,041 9,467 Deferred income taxes 43,175 32,849 18,523 39,543 35,489

Total Current Assets 755,192 786,365 849,607 748,485 533,840 Non-current Assets

Property, plant and equipment, net of accumulated depreciation 101,354 96,610 101,121 109,633 112,825 Purchased intangibles, net of accumulated amortization 39,330 29,863 29,910 29,041

Leased Asset Rights (Capitalized Lease Liability)(less accum depr) 15,266 38,834 49,663 47,940 119,512 Accumulated Depreciation of Operating Lease Asset Rights (2,544) (9,017) (17,294) (25,284) Capitalized RD 96,687 174,952 245,111 297,103 330,509

Goodwill, , less acc. Amort 1,271,598 935,773 648,874 391,569 121,532 Long-term investments 179,651 157,139 78,585 19,108 81,301 Deferred income taxes 68,860 65,862 67,065 37,455 46,994 Related party notes - - - -

Other 3,751 14,781 13,105 14,618 15,860

Non-Current Assets 1,737,166 1,520,736 1,224,370 930,043 832,291 TOTAL ASSETS 2,492,358 2,307,101 2,073,977 1,678,528 1,366,131

NET CAP R&D

Current LiabilitiesTrade payables 18,401 27,122 24,229 40,234 22,264 Accrued current and retirement compensation 24,841 32,203 33,433 39,504 30,461 Deferred net revenue 11,347 10,961 12,813 10,259 10,638 Other accrued expenses 34,391 22,203 19,159 12,676 37,256 Non-income taxes payable 2,976 3,481 3,170 3,498 3,319 Income taxes payable 56,211 58,140 44,810 19,267 4,012

Total Current Liabilities 148,167 154,110 137,614 125,438 107,950 Non-current Liabilities

Income taxes payable - 40,670 -

Capitalized Lease Liabilities 15,266 38,834 49,663 47,940 119,512

Amortized Lease Liability - (4,008) (32,184) (66,055) (98,239)

Total L-T Liabilities 15,266 34,826 17,479 22,554 21,273 TOTAL LIABILITIES 163,433 188,936 155,093 147,992 129,223 Common Stock at Par 1,518 1,411 1,359 1,270 1,216 Additional paid-in capital 2,553,855 2,312,663 2,171,642 1,906,179 1,797,072

Accumulated deficit/Retained earnings (47,374) (186,663) (255,412) (374,816) (552,994) Unearned compensation (22,900) (9,455) - - Treasury Shares purchases, at cost (157,667) - - - - Accumulated other comprehensive loss 1,494 209 1,295 (2,098) (8,386)

Total Shareholders’ Equity 2,328,926 2,118,165 1,918,884 1,530,535 1,236,908

TOTAL LIABILITIES & EQUITY 2,492,358 2,307,101 2,073,977 1,678,528 1,366,131

Intersil: Restated Balance Sheet

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Statement of Cash Flows

The last statement forecasted is the Statements of Cash Flows. The statement of cash

flows is the hardest statement to forecast due to its volatility and unreliability to forecast from

year to year. Within the statement of cash flows it consists of cash flows from operating

activities (CFFO), investing activities (CFFI), and financing activities (CFFF). The statement of

cash flows turns out to be very volatile which means it is not to reliable; although the

statements of cash flows may not be reliable it is important to forecast the statement for

investors.

The first step in forecasting the statements of cash flows is forecasting the cash flows

from operating activities. There are actually a couple of ways this could be done. The first step

is to compute these ratios: CFFO/Sales, CFFO/Operating Income (OI), or CFFO/Net Income (NI).

After computing these ratios we found that the most consistent data came from CFFO/Sales.

We averaged CFFO/Sales for 6 years starting from 2003 and then took the average for

CFFO/Sales came out to be .26 or 26%. With this ratio of 26% we multiplied it to the forecasted

sales for the next ten years to get our forecast for cash flows from operations.

The next step we took after forecasting the cash flows from operating activities was to

forecast the cash flows from investing activities. To do this we decided to use our PP&E

turnover ratio. This was because we found that PP&E had the least change throughout the

years. The PP&E turnover ratio on average was .1755 or 17.55%. After finding the ratio we took

the forecast sales for Intersil and multiplied it to .1755. The CFFI was very hard to predict to the

volatility of the CFFI in the past years.

The last step to forecast in the cash flow statements is to forecast dividends

under the cash flows from financing activities. To forecast the dividends we analyzed the past

six years of dividends. Intersil Corp. has been increasing dividends very steadily throughout the

121 | P a g e

years. We stated the quarterly dividends to remain at $.12 per share for the next three years.

As of right now the economy is in a recession and we believe it will take a while for the

technology industry to advance which was the reason to leave the quarterly dividends at $.12

per share for 3 years. After that we forecasted that quarterly dividends to increase 2 cents per

share every 2 years. The chart below shows the forecasting for the dividends over the next 10

years.

Dividend Forecast

2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Dividends /share

0.12 0.12 0.12 0.14 0.14 0.16 0.16 0.18 0.18 0.2

Yearly dividends/share

0.48 0.48 0.48 0.56 0.56 0.64 0.64 0.72 0.72 0.8

Shares outstanding(in thousands)

121,679 121,679 121,679 121,679 121,679 121,679 121,679 121,679 121,679 121,679

Dividends paid (in thousands)

58405.92 58405.92 58405.92 68140.24 68140.24 77874.56 77874.56 87608.88 87608.88 97343.2

122 | P a g e

Fiscal Year 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Net income (loss) from continuing operations 45,837 40,681 85,877 151,877 140,476 (1,037,560) 102,533 113,104 124,765 137,628 151,818 167,470 184,736 203,782 224,792 247,968

Adjustments to reconcile net income (loss) tonet cash provided by operating activities:Depreciation and amortization 46,471 36,332 34,437 31,880 31,172 34,761 Provisions for inventory obsolescence - - 1,154,676 Impairment of goodwill - - 2,115 Other loss 1,870 11,538 15,181

7,607 12,156 48,056 44,296 30,787 Write-off of in-process research and development 53,816 3,005 3,295 - 2,660 3,037 Restructuring and impairments 10,653 3,439 - 33,140 20,728 6,274 Gain on sale of certain operations - Gain on sale of certain investments (1,264) 31,205 - (9,802) (7,840) (931) Gain on sale of equipment - 32,328 2,227 5,165 5,944 26,162 Deferred income taxes 3,920 (901) - 7,732 3,380 (3,087) Net income (loss) from discontinued operations 18,326 (3,799) - 529 (2,263) 24,942 Adjustments to reconcile net income (loss) to (725) 15 1,892 - 31,797 net cash provided by operating activities: 2,622 12,400 Gain on sale of Wireless Networking Segment - 328 (945) (493) (2,091) 87 Other adjustments 12,208

Changes in operating assets and liabilities:

Trade receivables (22,911) 3,815 (21,872) 1,743 (18,707) 51,074 Gain on sale of Wireless Networking product group - (7,900) - - - - Inventories 6,225 (9,831) 6,550 (10,500) (9,620) (35,846) Prepaid expenses and other current assets 3,702 (1,461) 3,250 (1,240) Trade payables and accrued liabilities 2,391 (5,912) 1,646 (3,235) 4,043 (3,370) Income taxes 2,699 (23,711) 1,996 (22,760) 15,148 (55,925) Other 5,319 (26,935) 243 2,758 (451) 1,087 Net assets held for sale (18,729) 5,500 (1,116)

Net cash provided by operating activities 101,400 98,358 153,035 235,992 232,388 203,898 101,835 114,055 124,320 135,508 147,704 160,997 175,487 191,281 208,496 227,261

CFFO/Sales 20% 18% 25% 32% 31% 26%CFFO/Op Inc 137.322% 607.486% 152.821% 155.430% 152.964% -19.474%CFFO/Net Inc 221.2187% 241.7787% 178.2025% 155.3836% 165.4290% -19.6517%

2003 2004 2005 2006 2007 2008INVESTING ACTIVITIES:Proceeds from sale of short-term investments 5,560 658,508 1,000,636 657,810 759,985 29,275 Purchases of short-term investments - (411,319) (1,143,301) (694,147) (535,250) (2,500) Purchases of held-to-maturity securities - 10,000 85,471 2,000 Held-to-maturity securities called by issuer - 56,175 211,563 156,567 88,136 9,911

(80,592) (93,130) (11,275) - (80,000) Proceeds from sale of Wireless Networking product - 237,513 (23,953) - - -

- 156,652 49,745

Proceeds from sale of available-for-sale equity investment 5,264 (147,979) (37,964) (88,384) (36,171) - Cash paid for acquired businesses (24,026) (3,042) - - (47,995) (47,955) Purchase of Xicor, net of cash received - - (235,980) - - -

- (240,568) 408 Purchase of Bitblitz Communications - - (2,602) - - Purchase of cost method investments - - (3,042) - - -

Property, plant and equipment for discontinued operations (6,386) (23,953) (1,503) (2,716) - - Proceeds from sale of property, plant and equipment - 6,422 5,626 1,419 5,904 123 compute PPE with a ppe TURNOVER RATIOPurchase of property, plant and equipment (46,606) (6,022) (24,007) (31,087) (24,109) (31,873) then fc ppe

- - - - - - multiple change in ppe by 7.5 to get CFFINet cash used in investing activities (66,194) (35,719) (31,927) (1,813) 295,971 (121,019) (354,673) 58,982 49,545 54,004 58,864 64,162 69,936 76,231 83,091 90,570

AVGSALES/PPE 3.309327945 5.286175188 6.21317669 7.323869424 6.904545164 6.821847995 5.97649 Forecasted PPE 65,535 73,400 80,006 87,206 95,055 103,609 112,934 123,098 134,177 146,253

Change in PPE (47,290) 7,864 6,606 7,200 7,849 8,555 9,325 10,164 11,079 12,076 Multiply by 7.5 (354,673) 58,982 49,545 54,004 58,864 64,162 69,936 76,231 83,091 90,570

Change in NC Assets (413,719) 35,026 87,832 53,018 1,056,752 Change in PPE 52,056 4,744 (4,511) (8,512) (3,192) important stuff (9,064) (24,007) (31,087) (72,104) (79,828) multiplier 6.89 8.47 25.01

2003 2004 2005 2006 2007 2008FINANCING ACTIVITIES: CFFI FCProceeds from exercise of stock-based awards 9,378 21,568 40,455 92,552 115,699 22,166

Excess tax benefit received on exercise of stock-based a - - - 9,802 7,840 931 Proceeds from exercise of warrants - - - 7,827 - - Dividends paid - (18,476) (24,202) (29,439) (53,440) (59,823) (58406) (58406) (58406) (68140) (68140) (77875) (77875) (87609) (87609) (97343)Repurchase of outstanding common shares (18,565) (127,670) (127,750) (294,995) (434,990) (154,998)

Net cash used in financing activities (9,187) (124,578) (111,497) (214,253) (364,891) (191,724) 2003 2004 2005 2006 2007 2008

Effect of exchange rates on cash and cash equivalents 1,690 1,182 (1,614) 1,315 997 1,067 Net increase (decrease) in cash and cash equivalents 27,709 (60,757) 7,997 21,241 164,465 (107,778) Cash and cash equivalents at the beginning of the period 259,042 190,457 129,700 137,697 158,938 323,403 Cash and cash equivalents at the end of the period 286,751 129,700 137,697 158,938 323,403 215,625

Forecast Financial StatementsINTERSIL CORPORATION: STATEMENT OF CASH FLOWS

Actual Financials

123 | P a g e

Restated Statement of Cash Flows

The restated statement of cash flows shows almost no change in values. The only restatement done is the Net Income because sales

have not changed. The restated cash flows look very similar to the cash flows statement. The net income has been lowered which

lowers the cash flow operations. To find the new cash flow operations we found the difference between the net incomes for each

year. We then took that number and subtracted that number by the cash flow operations from the statement of cash flows. This

gave us our restated cash flow operations. To forecast the CFFO we used the CFFO/Sales which was 26% to multiply this to the

forecasted sales for 10 years.

124 | P a g e

Fiscal Year 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Net income (loss) from continuing operations (69,796) (115,088) (39,310) (65,239) (117,949) 102,533 113,104 124,765 137,628 151,818 167,470 184,736 203,782 224,792 247,968

Adjustments to reconcile net income (loss) tonet cash provided by operating activities:Depreciation and amortization 36,332 34,437 31,880 31,172 34,761 Provisions for inventory obsolescence - - 1,154,676 Impairment of goodwill - - 2,115 Other loss 11,538 15,181

7,607 12,156 48,056 44,296 30,787 Write-off of in-process research and development 3,005 3,295 - 2,660 3,037 Restructuring and impairments 3,439 - 33,140 20,728 6,274 Gain on sale of certain operationsGain on sale of certain investments 31,205 - (9,802) (7,840) (931) Gain on sale of equipment 32,328 2,227 5,165 5,944 26,162 Deferred income taxes (901) - 7,732 3,380 (3,087) Net income (loss) from discontinued operations (3,799) - 529 (2,263) 24,942 Adjustments to reconcile net income (loss) to (725) 15 1,892 - 31,797 net cash provided by operating activities: 2,622 12,400 Gain on sale of Wireless Networking Segment 328 (945) (493) (2,091) 87 Other adjustments

Changes in operating assets and liabilities:

Trade receivables 3,815 (21,872) 1,743 (18,707) 51,074 Gain on sale of Wireless Networking product group (7,900) - - - - Inventories (9,831) 6,550 (10,500) (9,620) (35,846) Prepaid expenses and other current assets (1,461) 3,250 (1,240) Trade payables and accrued liabilities (5,912) 1,646 (3,235) 4,043 (3,370) Income taxes (23,711) 1,996 (22,760) 15,148 (55,925) Other (26,935) 243 2,758 (451) 1,087 Net assets held for sale 5,500 (1,116)

Net cash provided by operating activities (12119.20) (47929.74) 44805.07 26673.18 1123509.44 101,835 114,055 124,320 135,508 147,704 160,997 175,487 191,281 208,496 227,261

2004 2005 2006 2007 2008INVESTING ACTIVITIES:Proceeds from sale of short-term investments 658,508 1,000,636 657,810 759,985 29,275 Purchases of short-term investments (411,319) (1,143,301) (694,147) (535,250) (2,500) Purchases of held-to-maturity securities 10,000 85,471 2,000 Held-to-maturity securities called by issuer 56,175 211,563 156,567 88,136 9,911

(80,592) (93,130) (11,275) - (80,000) Proceeds from sale of Wireless Networking product group, net 237,513 (23,953) - - -

156,652 49,745 Proceeds from sale of available-for-sale equity investments (147,979) (37,964) (88,384) (36,171) - Cash paid for acquired businesses (3,042) - - (47,995) (47,955) Purchase of Xicor, net of cash received - (235,980) - - -

(240,568) 408 Purchase of Bitblitz Communications - (2,602) - - Purchase of cost method investments - (3,042) - - -

Property, plant and equipment for discontinued operations (23,953) (1,503) (2,716) - - Proceeds from sale of property, plant and equipment 6,422 5,626 1,419 5,904 123 compute PPE with a ppe TURNOVER RATIOPurchase of property, plant and equipment (6,022) (24,007) (31,087) (24,109) (31,873) then fc ppe

multiple change in ppe by 7.5 to get CFFINet cash used in investing activities (35,719) (31,927) (1,813) 295,971 (121,019) (354,673) 58,982 49,545 54,004 58,864 64,162 69,936 76,231 83,091 90,570

AVGSALES/PPE 3.492438563 5.922361229 7.66584205 5.298355436 5.475130663 5.976490401 Forecasted PPE 65,535 73,400 80,006 87,206 95,055 103,609 112,934 123,098 134,177 146,253

Change in PPE (47,290) 7,864 6,606 7,200 7,849 8,555 9,325 10,164 11,079 12,076 Multiply by 7.5 (354,673) 58,982 49,545 54,004 58,864 64,162 69,936 76,231 83,091 90,570

Change in NC Assets (413,719) 35,026 87,832 53,018 1,056,752 Change in PPE 52,056 4,744 (4,511) (8,512) (3,192) important stuff (9,064) (24,007) (31,087) (72,104) (79,828) multiplier 6.89 8.47 25.01

2004 2005 2006 2007 2008FINANCING ACTIVITIES: CFFI FCProceeds from exercise of stock-based awards 21,568 40,455 92,552 115,699 22,166

Excess tax benefit received on exercise of stock-based awards - - 9,802 7,840 931 Proceeds from exercise of warrants - - 7,827 - - Dividends paid (18,476) (24,202) (29,439) (53,440) (59,823) (58406) (58406) (58406) (68140) (68140) (77875) (77875) (87609) (87609) (97343)Repurchase of outstanding common shares (127,670) (127,750) (294,995) (434,990) (154,998)

Net cash used in financing activities (124,578) (111,497) (214,253) (364,891) (191,724) 2004 2005 2006 2007 2008

Effect of exchange rates on cash and cash equivalents 1,182 (1,614) 1,315 997 1,067 Net increase (decrease) in cash and cash equivalents (60,757) 7,997 21,241 164,465 (107,778) Cash and cash equivalents at the beginning of the period 190,457 129,700 137,697 158,938 323,403 Cash and cash equivalents at the end of the period 129,700 137,697 158,938 323,403 215,625

INTERSIL CORPORATION: RESTATED STATEMENT OF CASH FLOWS

Actual Financials Forecast Financial Statement

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Financial Ratio Analysis and Forecasting

The financial analysis portion compares companies of a set industry in order to

test their liquidity, profitability, capital structure, and risk of bankruptcy. By using

ratios, we are able to compare firms in the same industry regardless of their size. Also,

by analyzing liquidity, profitability, and capital structure ratio over a period of 5 years,

creditors, investors, and financial analyst are able to observe industrial trends, as well

as yearly discrepancies. As well as testing the liquidity, profitability, capital structure,

and risk of bankruptcy of the firm, this section we will forecast the future outlook of the

firm for the next 10 years in for both the as stated and restated financial statements.

Liquidity Ratios

Liquidity ratios measure the cash resources that are available for a firm to

sustain its current financial obligations. Liquidity ratios are indicators of how easily a

firm can convert assets in to cash in order to finance short term debt. Firms should

maintain the ability to pay off their current debt through having higher liquidity ratios.

Lower liquidity ratios demonstrate that a firm in struggling to pay off its current portion

of debt. However, a firm risks being too liquid and missing out on opportunities to make

more money by having too much cash on hand instead of re-investing it into the firm.

Current Ratio

The current ratio is calculated by dividing current assets over current liabilities in

order to test the firm’s ability to pay off its short term debt, in particular its bills and

debt required to keep running day to day operations using only its short term assets.

Because current liabilities are paid off in one year, the best way to pay off the liabilities

is by with current assets a firm has on hand by the end of the year. Current assets will

be turned into cash, or cash equivalents, within one year, so the best it is the best

126 | P a g e

indicator of the firm’s ability to pay off its short term debt. The higher the current ratio,

the more current assets it has to cover current liabilities and the more liquid the firm is.

This makes it easier for them to pay off their short term debt. Different types of firms

have different current ratios. For instance manufacturers would have a lower ratio than

those firms that outsource. This is because they have higher plant property an

equipment, as well as inventory, raw materials, and storage cost. Bankers like to see a

current ratio of over 2, so they can prove the likely-hood that the companies that they

loan to have enough money to pay it back.

As the chart above describes, the Analog ICs industry’s current ratio generally

stays between 4 to 6. This means that for every dollar of short term debt, the firms

have 4 to 6 dollars or resources on hand. The high ratio can be attributed to the fact

that firms in the Analog ICs industry outsource most of their production, cutting back

on people cost and short term liabilities. Also, firms have just-in-time inventory with

some of the suppliers that they have a long term relationship with, so this cuts down on

inventory cost, lowering their total current liabilities cost, raising the current ratio. (ADI

10-K)

0.00

2.00

4.00

6.00

8.00

10.00

12.00

2004 2005 2006 2007 2008

Current Ratio

ISIL

TXN

ADI

LLTC

MXIM

Industry

127 | P a g e

LLTC’s current ratio is consistently higher than the rest of the industry. This can

because the even though we classified the industry as Analog ICs, the industry is still

segmented and not every company is a perfect competitor. LLTC sharp decline in 2007

was due to a 1.2 billion dollar cut in cash and short term investments from 2006.

Meanwhile, they also cut back on other current liabilities but it was not by as substantial

of amount as the cut from cash and short term investments were.

Current Ratio 2004 2005 2006 2007 2008 5 yr AVG

ISIL 5.10 5.10 6.17 5.97 4.95 5.46 TXN 5.27 3.92 3.78 3.42 3.78 4.03 ADI 6.07 4.56 6.13 3.61 3.67 4.81 LLTC 9.04 9.66 8.77 4.79 7.11 7.87 MXIM 4.95 5.66 4.15 4.55 4.88 4.84 Industry 6.09 5.78 5.80 4.47 4.88 5.40

Quick Asset Ratio

The quick asset, also called the acid-test ratio, test the liquidity of the firm much

like the quick ratio. The difference is that inventories are subtracted from the current

assets before they are divided by current liabilities. This takes the sales process out of

the ratio, because it does not include inventory which may not be a for-sure sale, so

inventory may not be completely liquid. Again a greater ratio indicates that the firm is

more liquid and can pay off its short term debt easier with a higher ratio than a lower

ratio.

128 | P a g e

As the chart above indicates, the industry is moving down from around a 4-5 ratio

meaning for every dollar of debt they have 4-5 dollars to pay it off, down to between 2

to 4 ratio. This could be because inventory was inflating the industry’s current ratio. In

the past year, there was a decline in sales, so inventory and storage increased,

increasing the quick ratio not the current ratio. Because inventory management is a

part of the cash to cash cycle, the drop in the ratio represents lack of operating

efficiency, reducing the liquidity of the industry.

Again as previously stated, LLTC ratios are substantially greater than the rest of

the industry indicating that it remains more liquid than other firms of the Analog ICs

industry. Because they consistently require more cash-on-hand, their business needs

requires LLTC to stay more liquid, showing diversification and segmentation through the

Analog ICs industry.

Quick Asset Ratio 2004 2005 2006 2007 2008 5 yr AVG

ISIL 4.06 4.25 5.25 4.79 3.51 4.37 TXN 4.18 3.05 2.64 2.30 2.25 2.89 ADI 5.24 3.70 5.01 2.56 2.86 3.87

0.001.002.003.004.005.006.007.008.009.00

10.00

2004 2005 2006 2007 2008

Quick Asset Ratio

ISIL

TXN

ADI

LLTC

MXIM

Industry

129 | P a g e

LLTC 8.57 9.23 8.33 4.25 6.44 7.36 MXIM 4.06 4.72 3.32 3.39 3.56 3.81 Industry 5.22 4.99 4.91 3.46 3.72 4.46

Accounts Receivables Turnover

Accounts receivable turnover measures how many turns in the business cycle it

takes to collect accounts receivable after sales. This is an important factor in the cash

to cash cycle because the quicker the receivables are paid, the faster the firm receives

money and the faster they can invest that money back into financing operations. The

larger the ratio, the more turns it takes to collect receivables, and the longer the cash

to cash cycle.

As shown above, the industry started with ratios ranging from 7 to 12, then

condensed to in between 6 and 8, indicating that they firms in the industry took longer

to collected their money. The chart above also displays an upturn in the accounts

receivable turnover in 2008, due to the bad economy. When economic troubles hit,

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

2004 2005 2006 2007 2008


ISIL

TXN

ADI

LLTC

MXIM

Industry

130 | P a g e

firms needed cash, so they started collecting their accounts receivables at a faster rate.

This makes the industry more liquid, because they are collecting money faster.

Working Capital Turnover 2004 2005 2006 2007 2008 5 yr AVG


Days Sales Outstanding

Days in sales outstanding, calculated by dividing 365 by accounts receivable,

represents the number of days money was tied up after the initial sale was made. The

more days, the longer it takes for firms to collect their accounts receivable. The fewer

days, the shorter amount of time it takes for firms to collect money. This ratio

essentially takes the accounts receivable turnover ratio and converts it from business

cycles to days.

131 | P a g e

Similar to the accounts receivable ratio, the industry did not follow strict

collection polices before 2007. The industry shifted down from 2007 to 2008, as the

industry tightened their belt, enforcing collection policies to maintain cash flow. This

coincides with the accounts receivables turnover results, showing a 2008 industrial shift

due to economic conditions. The decline in sales outstanding represents the industry

becoming more liquid.

Days Sales Outstanding 2004 2005 2006 2007 2008 5 yr AVG


Inventory Turnover

Inventory turnover represents how many times a year a firms inventory has to

be completely replaced. This ratio is derived through dividing a firm’s cost of goods sold

by the firm’s inventory. The more times inventory has to be replaced, the more sales

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

2004 2005 2006 2007 2008


ISIL

TXN

ADI

LLTC

MXIM

Industry

132 | P a g e

are being made since sales create need for inventory, and so a higher inventory

turnover represents greater efficiency. If sales are not increasing, a higher ratio would

indicate that the firm is not properly managing its inventory and is over-ordering

inventory. Lower inventory turnover represents that a firm is not making as many sales

and having trouble turning over inventory. If sales decline while the firm has a

substantial amount of inventory on hand, they become less liquid, having a more

difficult time converting inventory into cash.

The chart above describes the industry moving towards a ratio between 3 and 5.

For some firms this represents less efficiency and for other this represents more. As

shown in the five forces analysis the Analog ICs industry is a competitive market in an

economy of scale. Because the Analog ICs industry has become a competitive market

with economies of scale, other firms are stealing customers from other leading firms to

rise up and these leading firms are losing sales bring down their inventory turnover.

Because the number is decreasing across the industry, the Analog ICs industry is less

liquid than it was in previous years.

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

2004 2005 2006 2007 2008

Inventory Turnover

ISIL

TXN

ADI

LLTC

MXIM

Industry

133 | P a g e

Inventory Turnover 2004 2005 2006 2007 2008 5 yr AVG


Days Supply Inventory

Days supply of inventory represents the number of days that a firm has on hand

in inventory. Ideally lower days supplied in inventory represent that the firm is

operating more efficiency. With lower days in inventory, the firm is not suffering from

excess inventory cost, reducing the productivity of the firm. Also, with more days in

inventory, the more days it takes the firm to complete the cash to cash cycle, so a

lower days supply inventory is better than a higher days supply inventory. A significant

change in this ratio would be one day or greater, anything less is inconsequential.

0.0

20.0

40.0

60.0

80.0

100.0

120.0

140.0

160.0

180.0

2004 2005 2006 2007 2008

Days Supply Inventory

ISIL

TXN

ADI

LLTC

MXIM

Industry

134 | P a g e

As the chart above shows, the firms in the industry had a wide range of days of

inventory, (ADI having some jumps in 2006 due to backlog) as the economy increased

the demand for electronic goods requiring ICs. However, in 2007 and 2008, the industry

focused in on having between 80-120 days supply of inventory. In order to maintain

profitability, firms had to limit the amount of inventory taking up overhead space. The

more the firms have to store, the more money they have to pay. In order to cut

production cost during the recession, firms found a competitive numbers of days of

inventory, and maintained it for the past 2 years. Intersil generally kept more days

supply of inventory than its competitors. However, in order to stay competitive, Intersil

followed this industrial trend, cutting their amount of inventory on hand by nearly one

month over the past 5 years.

Days Supply Inventory 2004 2005 2006 2007 2008 5 yr AVG


Cash to Cash Cycle (Days)

Derived by adding up the days in sales and the days supplied in inventory, the

cash to cash cycle represents the amount of days that it takes to convert a dollar

inputted into the business back into revenue. Similar to the previous ratios, a smaller

cash to cash cycle indicates that a firm is operating more efficiently than a firm that

takes longer to make the dollar back. The cycle starts when a firm builds or buys new

inventory, then sells them to the customers, some with cash and some with accounts

receivable. After the accounts receivables are issued, the cycle ends when the cash is

135 | P a g e

collected from the accounts receivable. That money is then put back into the cycle by

buying more materials/inventory. Firms can become more liquid by shortening the

cycle, receiving money faster, and more times a year.

The chart above indicates that in recent years the industry has tightened up its

cash to cash cycle to become more liquid. The cycle ranges from around 100 days to

Money Enters The

Cycle

Build/Buy Inventory

Sell to Customers

Issue Accounts Receivable

Collect Accounts Recievable

0.0

50.0

100.0

150.0

200.0

250.0

2004 2005 2006 2007 2008

Cash to Cash Cycle

ISIL

TXN

ADI

LLTC

MXIM

Industry

136 | P a g e

170, meaning that it takes a firm 100 days since a dollar was input to receive their

dollar of sales. This also means that firms in the Analog ICs industry complete this

cycle 2-3 times a year. The more rotations in this cycle, the more a firm is producing

and selling, and the more liquid the firm is. Again, Intersil followed industrial trends

reducing its cash to cash cycle by nearly a month.

Cash to Cash Cycle (Days) 2004 2005 2006 2007 2008 5 yr AVG


Working Capital Turnover

Computed by sales divided by working capital (working capital being current

assets minus current liabilities, this ratio measures how efficiently a firm’s dollar is

working for them (bang for their buck) Working capital represents a company’s

investment in the cash to cash cycle, so a high ratio indicates that a company is using

its working capital efficiently to generate revenue.

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The chart above described the industries trend to achieve a more efficient

working capital in generating revenue. TXN does this better than the rest of the

industry, again showing the segmentation of the Analog ICs industry. TXN brand

recognition among calculator, having nearly every student own one, make it easy to

understand that TXN sales to working capital ratio could be greater than the rest of the

competitors.

Working Capital Turnover 2004 2005 2006 2007 2008 5 yr AVG


Conclusion

To summarize, Intersil typically stays about as liquid as the rest of the Analog

IC’s industry or slightly below. They typically take longer in their cash to cash cycle,

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

2004 2005 2006 2007 2008


ISIL

TXN

ADI

LLTC

MXIM

Industry

138 | P a g e

however, over the past five years they have cut that cycle down by nearly a month.

Though they are on the bottom end of the industrial average, they are generally

improving their ratios, making Intersil more liquid throughout the years.

Profitability Ratios

Profitability ratios link numbers from the firm’s balance sheet, income statement,

and statement of cash flows in order to assess the profitability of the firm. Generally

speaking, the greater the profitability ratio, the more profitable the firm is. While the

liquidity ratios tested the firm’s ability to pay off its current debt and financial

responsibilities. Profitability ratios test the relationship between a firm’s revenue and

expenses, and determine how profitable the firm’s operations are. This section also test

the firm’s potential growth rates as well as its danger of bankruptcy. The ratios that are

included in the profitability analysis are gross profit margin, operating profit margin, net

profit margin, asset turnover, return on assets, and return on equity, internal growth

rate, sustainable growth rate and Altman’s z scores. By comparing these ratios to the

firm’s competitors, we are able to grasp any industrial trends that may occur, explaining

alterations in the ratios.

Gross Profit Margin

Derived by dividing gross profit by sales, a higher gross profit margin indicates a

more profitable firm. Gross profit minus selling, general and administrative cost gives

the firms operating income, which after more deductions gives the firms net income. By

having a greater gross profit to begin with, a firm has a greater possibility of deriving a

larger net income. This ratio is also important because gross profit is sales minus cost

of goods sold, so the higher the ratio, the more efficiently a firm can cover its fixed and

variable cost, or overhead cost. It is important to determine how firms relate to their

competitor’s gross profit margin, since each industry operates at different margins. It is

139 | P a g e

also valuable to look for discrepancies and determine if they can be explained through

industrial trends or through economic conditions.

As shown above, the higher Analog ICs industry operates at a fairly consistent

gross profit margin. With an industry average around 60%, firms generally operate

between 45 and 70 percent. Intersil is on the lower end of the industrial average,

having a 5 year average of 55.6%. Intersil has stayed fairly constant ranging only 6%

from their high and low. In 2006 and 2007 they were operating more profitable at 57%,

however suffered in the 2008 markets dropping 6% to 51%. The graph indicates that

LLTC operates consistently around 80%, about 10% higher than the other firms in the

Analog ICs industry. This is because there is segmentation in the industry, and not

every firm is a perfect competitor to one another. Even though not every firm is a direct

competitor, the industry still falls within a competitive profitability range.

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%

90.0%

2004 2005 2006 2007 2008

Gross Profit Margin

ISIL

TXN

ADI

LLTC

MXIM

Industry

140 | P a g e

Gross Profit Margin 2004 2005 2006 2007 2008 5 yr AVG

ISIL 55.7% 55.8% 57.4% 57.0% 51.9% 55.6% TXN 44.7% 47.5% 50.9% 53.3% 50.0% 49.3% ADI 59.0% 57.9% 61.9% 61.2% 61.1% 60.2% LLTC 77.0% 79.1% 78.2% 77.7% 77.3% 77.9% MXIM 66.7% 70.1% 65.6% 60.5% 60.3% 64.7% Industry 60.6% 62.1% 62.8% 61.9% 60.1% 61.5%

Operating Profit Margin

Operating profit margin takes a firms operating income (the firm’s gross profit

less the selling and administrative expenses) and divides it by total sales. Much like the

gross profit, a higher operating profit indicates the firm’s opportunity to have a higher

net income, and be more profitable. The lower the percentages operating income

represents the less profitable the firm is. With a lower ratio, too much money is being

spent through selling and administrative cost. The higher the percentage the more

operating income, and the less the company is spending on selling expenses, making

them more profitable.

‐150.00%

‐100.00%

‐50.00%

0.00%

50.00%

100.00%

2004 2005 2006 2007 2008

Operating Profit Margin

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

141 | P a g e

As the chart above displays, the industry remains fairly consistent with exception

to Intersil’ drastic drop in 2008. This is because Intersil reported a negative operating

profit due to their $1,154 million impairment of goodwill in 2008. This shows that the

impairment caused Intersil to not have a profit in 2008. With the restated numbers,

Intersil’s operating profit margin is consistently much lower than the industrial average.

However the restated numbers are much higher than those of the as-stated 2008. This

is because instead of taking a “big-bath” in 2008, we gradually impaired goodwill

overtime, diminishing profit over the years rather than a drastic fall in 2008.

Operating Profit Margin = OI/Sales

2004 2005 2006 2007 2008 5 yr AVG

ISIL 3.02% 16.68% 20.50% 20.07%‐

136.04% ‐15.15% TXN 17.54% 20.84% 23.62% 25.28% 19.49% 21.36% ADI 26.55% 21.60% 23.39% 23.41% 24.20% 23.83% LLTC 54.10% 56.17% 51.60% 48.41% 48.39% 51.73% MXIM 29.49% 40.00% 28.30% 17.54% 20.75% 27.22% Industry 26.14% 31.06% 29.48% 26.94% ‐4.64% 21.80%

ISIL Adj ‐

17.60% ‐

16.63% ‐4.97% ‐6.68% ‐16.15% ‐12.41%

Net Profit Margin

Calculated though dividing net profit margin by a firms sales, this is one of the

most important financial profitability ratios because it signifies what percentage of dollar

sales return as profit. This is important to know because; firms re-allocate the net

profit either as shareholder dividends or into company projects. A higher net profit

margin means more money for the firm to use back, and that a firm is effectively

managing its expenses. A lower net profit margin shows that the firm is not effectively

142 | P a g e

managing its expenses, and that in order to grow and become more profitable, the firm

needs to take a different approach in expense management.

Intersil 2008 negative net income resulted in a negative net profit margin,

indicating that they were not profitable for the year end 2008. The net income was

negative due to a $1,154 million goodwill impairment as part of a big bath. Also,

although the industry typically operates around 27%, ADI operates at double the

industry average. They reach net profit margins as high as 86.9%, further

demonstrating that there is segmentation within the industry, having firms operate at

different profit margins in the Analog ICs industry. Again, Intersil’s restated numbers

are much lower than that of the rest of the industry. However, the restated numbers

show that Intersil is not as profitable as they claim they are. Also, even though the

numbers were constantly lower, the net profit was diminished over time instead of

“nose diving” down in the big-bath Intersil took in 2008. Even though the restated

numbers were lower for four of the years, the 2008 numbers were higher than the

firm’s actual numbers. This shows that Intersil was making themselves look more

profitable than they really were, and that in 2008, they had to overcorrect.

‐150.0%

‐100.0%

‐50.0%

0.0%

50.0%

100.0%

2004 2005 2006 2007 2008

Net Profit Margin

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

143 | P a g e

Net Profit Margin 2004 2005 2006 2007 2008 5 yr AVG

ISIL 9.0% 7.6% 14.3% 20.5% ‐134.8% ‐16.7% TXN 14.8% 17.4% 30.5% 19.2% 15.4% 19.4% ADI 64.4% 50.6% 49.1% 60.9% 86.9% 62.4% LLTC 21.7% 17.4% 24.4% 20.5% 30.4% 22.9% MXIM 21.2% 27.7% 20.9% 14.2% 15.5% 19.9% Industry 26.2% 24.1% 27.8% 27.1% 2.7% 21.6% ISIL Adj ‐13.0% ‐19.2% ‐5.3% ‐8.6% ‐15.3% ‐12.3%

Asset Turnover

The asset turnover ratio links the income statement to it a firm’s balance sheet.

Due to this linkage, it is an important ratio in forecasting. The greater the ratio, the

more efficiently a firm generates revenue from selling its assets. A ratio of one signifies

that for every dollar invested into assets generates a dollar of sales. Therefore firm with

a ratio less than 1, (or 100%) signifies that the firm is not properly using their assets to

increase sales.

0.0%

20.0%

40.0%

60.0%

80.0%

100.0%

120.0%

2004 2005 2006 2007 2008

Asset Turnover

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

144 | P a g e

As shown above, the industry varies from up 21% upwards to 98%, with the

industrial average hovering around 50-60%. With the absence of a clear industrial

pattern, the segmentation in the industry allows competitors to operate at different

turnover ratios. Numbers spiked from 2007 to 2008, reporting and average from 59%

increasing to 74%. Intersil also reported a growing asset turnover ratio, constantly

increasing its ratio growing form 21% to 32% over the last 5 years. The restated

numbers were not applicable in 2004 because it is a lag ratio and we did not restate

2003 numbers. However, in 2005, they received more sales per asset than if they

restated their numbers. Their asset turnover grew substantially from 2005 to 2008,

while Intersil’s as stated numbers were growing at a slower rate. This demonstrates

that Intersil would receive more sales per asset if they appropriately stated their

financials from the beginning.

Asset Turnover 2004 2005 2006 2007 2008 5 yr AVG

ISIL 21.9% 23.2% 28.7% 29.6% 32.0% 27.1% TXN 81.1% 82.2% 94.6% 99.3% 98.7% 91.2% ADI 64.4% 50.6% 49.1% 60.9% 86.9% 62.4% LLTC 39.2% 50.3% 47.8% 45.3% 96.4% 55.8% MXIM 60.8% 65.6% 60.7% 61.1% 56.9% 61.0% Industry 53.5% 54.4% 56.2% 59.3% 74.2% 59.5% ISIL Adj N/A 24.1% 32.1% 36.5% 45.9% 34.6%

Return on Assets

The more money an asset returns to the company, the more profitable the firm.

To figure out how much the firm returns on its assets, we divided net income by the

previous year’s total assets. This is a lagged ratio because the assets from the previous

year generated this year’s income, and this year’s assets will generate next year’s

income, so in order to match the right assets with the income received, we have to lag

145 | P a g e

the ratio. Because it is a lagged ratio, we could not calculate Intersil’s adjusted ratio for

2005 because we did not restate the 2004 financials.

Excluding Intersil, the Analog ICs industry returns around 15%. Having a

negative income, Intersil’s return on assets for 2008 was -43.14, exhibiting that Intersil

was not profitable for the year end 2008, due to their big bath and extraordinary

impairment of goodwill. Even though the previous ratio showed that Intersil was

receiving more sales for their total assets, their net income was depleted during the

restatement. This caused their restated return on assets to be consistently lower than

the industry, yet again; the ratio was greater than the 2008 as stated ratio. This shows

that firm would be more profitable if it would have impaired its goodwill overtime,

rather than in one big bath. Because Intersil has less assets (goodwill) they are able to

earn more per asset.

‐50.00%

‐40.00%

‐30.00%

‐20.00%

‐10.00%

0.00%

10.00%

20.00%

30.00%

40.00%

2004 2005 2006 2007 2008

Return on Assets

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

146 | P a g e

Return on Assets 2004 2005 2006 2007 2008 5 yr AVG

ISIL 1.66% 3.32% 5.88% 5.49% ‐

43.14% ‐5.36% TXN 12.00% 14.26% 28.82% 19.07% 15.16% 17.86% ADI 13.94% 8.78% 11.99% 12.46% 26.47% 14.73% LLTC 15.95% 20.79% 18.75% 17.22% 31.80% 20.90% MXIM 12.91% 18.13% 12.67% 8.71% 8.81% 12.25% Industry 11.29% 13.06% 15.62% 12.59% 7.82% 12.08% ISIL Adj N/A ‐4.99% ‐1.90% ‐3.89% ‐8.63% ‐4.85%

Return on Equity

Return on equity is measured by taking a firm’s current year’s net income and

dividing it by their previous year’s total equity. It is used to determine how efficiently

the firm is using their shareholder’s equity to produce income for the firm. A higher

ratio represents that each dollar of equity, more income is produced, and the firm is

more profitable. A lower ratio represent that less income is produced for each dollar of

equity so the firm is less profitable. It is important to determine the efficiency of the

equity in order to determine the firm’s profitability.

147 | P a g e

The chart above shows that aside from Intersil and LLTC, the industry generally

operates around 15%. Intersil had a negative income for 2008, causing a discrepancy in

the chart, as well as a negative return on equity. LLTC bought back its shares resulting

in a negative owner’s equity in 2008. This shows that Intersil and LLTC were not

profitable in 2008 according to their return on equity. Like the return on assets,

Intersil’s restated return on equity was consistently less than the industrial average.

However, like the return on assets, Intersil’s 2008 restated numbers, although negative,

were substantially larger than the 2008 as stated numbers. This once again proves that

the firm would be more profitable if they impaired their good will over time rather than

in a 2008 big bath. Again, because it was a lagged ratio, we did not calculate Intersil’s

2004 numbers.

‐60.00%

‐40.00%

‐20.00%

0.00%

20.00%

40.00%

60.00%

2004 2005 2006 2007 2008

Return on Equity

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL (Adj.)

148 | P a g e

Return on Equity 2004 2005 2006 2007 2008 5 yr AVG

ISIL 1.81% 3.52% 6.25% 5.80% ‐

46.34% ‐5.79% TXN 15.69% 17.79% 36.37% 23.39% 19.25% 22.50% ADI 17.36% 10.92% 14.89% 14.46% 33.64% 18.25%

LLTC 18.08% 23.97% 21.36% 19.56%‐

54.75% 5.64% MXIM 14.76% 21.88% 14.44% 10.31% 10.14% 14.31% Industry 13.54% 15.62% 18.66% 14.71% ‐7.61% 10.98% ISIL Adj N/A ‐5.43% ‐2.05% ‐4.26% ‐9.54% ‐5.32%

Operating Expense

The operating expense ratios is derived by dividing a firm’s selling and

administrative cost over the firms sales. By doing so, it determines how much of sales

are depleted through selling and administrative cost. The lower the ratio, the better,

with a low ratio, it demonstrates that the firms cost are not eating up the sales,

reducing the firms profitability.

0.000.020.040.060.080.100.120.140.160.180.20

2004 2005 2006 2007 2008

Operating Expense

ISIL

TXN

ADI

LLTC

MXIM

Industry

149 | P a g e

The graph above depicts the Analog ICs industry having a diverse reatio, which

then consolidates in 2008. Again this is due to the economic pressures on the industry.

When the economy was stronger, firms were less concerned about their selling cost.

Now, due to expansionary cost, the industry operates a little higher than it did 4 years

ago, but the industry is more consolidated, rather than each firm operating at a

different level. This is related to the fact that in times of economic strain, pressures

force the firms to operate at a competitive levels.

Internal Growth Rate

The internal growth rate measures the rate at which a firm can sustain growth

using only funding from the firm cash flows. This is derived by multiplying the firm’s

return on assets by the plowback ratio.

(NET INCOME/PREVIOUS YEAR’S TOTAL ASSETS)*(1-[DIVIDENDS/NET INCOME])

The industry can generally sustain an internal growth rate of around 8-12%. However,

Intersil’s growth rate drops in 2008 to -45.63, meaning that the company cannot grow

‐50.00%

‐40.00%

‐30.00%

‐20.00%

‐10.00%

0.00%

10.00%

20.00%

30.00%

40.00%

2004 2005 2006 2007 2008

Internal Growth Rate

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

150 | P a g e

but must reduce their operations. This is because Intersil reported a negative $1,062

million net income, due to a $1,154 million goodwill impairment, in the 2008 “big bath.”

The restated numbers indicate not only that Intersil is not able to grow as rapidly as the

rest of the industry, but that they should decrease their operations. Even though the

restated suggest that the firm should shrink, the numbers are not as drastic as the as

stated, thus proving that operations would have been better off the goodwill was

amortized sooner than later.

Internal Growth Rate = ROA(1‐(Div/NI)) 2004 2005 2006 2007 2008 5 yr AVG

ISIL 0.91% 2.38% 4.74% 3.40% ‐45.63% ‐6.84% TXN 12.99% 15.32% 30.14% 22.12% 19.40% 19.99% ADI 12.11% 6.26% 7.59% 6.74% 18.98% 10.34% LLTC 11.70% 15.47% 12.02% 9.17% 17.31% 13.13% MXIM 8.49% 17.12% 7.67% 2.62% 2.14% 7.61% Industry 9.24% 11.31% 12.43% 8.81% 2.44% 8.85% ISIL Adj N/A ‐4.19% ‐0.73% ‐2.13% ‐4.72% ‐2.94%

Sustainable Growth Rate

The sustainable measures the firm’s capable growth much like internal cash flows.

However, the sustainable growth rate includes the firm’s capital structure, and test how

much a firm can grow without increasing financial leverage by taking on more debt.

The sustainable growth rate is calculated by multiplying the internal growth rate by 1

plus the debt to equity ratio, or total liabilities divided by total equity.

(NET INCOME/PREVIOUS YEAR’S TOTAL ASSETS)*(1-[DIVIDENDS/NET

INCOME])*(1+TOTAL LIABILITIES/SHAREHOLDERS EQUITY)

Changes in a firm’s capital structuring can greatly impact the firm’s sustainable growth

rate based on the fact that it the sustainable growth rate measures a firm’s ability to

remain at its constant debt to equity ratio.

151 | P a g e

As previously mentioned, Intersil’s reported negative $1,062 million net income; due to

a $1,154 million goodwill impairment in 2008 caused the sustainable growth rate to be

negative. This indicated that the company should be reducing its size rather than

expanding its operations. Also, LLTC reported a negative growth rate for 2008 due to

negative retained earnings causing a negative debt to equity ratio. This is because

LLTC started a share buy back in 2007 and 2008. This caused the 2007 ratio to

decrease and in 2008 to become negative. These negative growth rates in 2008

demonstrate that both Intersil and LLTC cannot sustain their current operations, and

need to reduce their company.

Sustainable Growth Rate = SGR(1+(Dt-1/Et-1))

2004 2005 2006 2007 2008 5 yr AVG ISIL 0.99% 2.53% 5.04% 3.59% ‐49.01% ‐7.37% TXN 16.98% 19.12% 38.03% 27.13% 24.63% 25.18% ADI 15.08% 7.78% 9.43% 7.82% 24.12% 12.85% LLTC 13.26% 17.84% 13.69% 10.42% ‐29.80% 5.08% MXIM 9.89% 16.86% 12.67% 8.71% 8.81% 11.39% Industry 11.24% 12.83% 15.77% 11.53% ‐4.25% 9.42% ISIL Adj N/A ‐0.06422 ‐3.56% ‐7.58% ‐14.08% ‐7.91%

‐60.00%

‐50.00%

‐40.00%

‐30.00%

‐20.00%

‐10.00%

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

2004 2005 2006 2007 2008

Sustainable Growth Rate

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

152 | P a g e

Conclusion

The profitability ratios show that Intersil’s restated numbers are usually slightly below

the firms as stated numbers, yet remain constant and outperform the as stated

numbers in 2008. This shows that it is better for Intersil to slowly amortize goodwill,

rather than amortize most of it at once.

Capital Structure Ratios

Capital structure ratios are used in order to determine the riskiness of firms. A firm can

finance their assets two ways, either through debt (liabilities) or through equity.

Through capital structure ratios we can determine how much of the firm finance

through owner’s equity and through liabilities is. If a firm is financed more through debt

then they must make payments to their creditors, where as they do not have to with

owners equity. Because of a firm is obligated to make payments, firms have greater risk

of going bankrupt if they have trouble making payments. Therefore a firm is riskier if

they finance through liabilities rather than equity. Through such ratios as debt to

equity, times interest earned, and debt service margin, we will be able to conclude

Intersil’s financial structure.

Debt to Equity

Debt to equity shows how much of the firm’s assets are finance through debt or

through equity by dividing total liabilities by owner’s equity. The firm is financed

primarily though debt if the ratio exceeds 1. This magnifies losses and returns if the

ratio is less than one, then the firm finances their assets through equity.

153 | P a g e

The chart above shows that that industry operates with a ratio less than one.

This means that the Analog ICs industry finances their assets through equity, rather

than debt. In 2007, LLTC had share repurchasing, causing them to have negative

owner’s equity for 2007 and 2008. Because of the fact both debt and equity were

impaired in the restatement, the firms restated numbers did not differ much from the

as stated numbers, showing that the capital structure did not change with impairments

aside from 2008, where there more debt for Intersil impairing good will, than slowly

impairing it in the restated. This showed that in 2008, the restated numbers were

slightly less risky firm.

Debt to Equity 2004 2005 2006 2007 2008 5 yr AVG

ISIL 0.06 0.06 0.06 0.07 0.11 0.07 TXN 0.25 0.26 0.23 0.27 0.28 0.26 ADI 0.24 0.24 0.16 0.27 0.28 0.24 LLTC 0.15 0.14 0.14 ‐2.72 ‐4.65 ‐1.39 MXIM 0.21 0.14 0.18 0.15 0.18 0.17 Industry 0.18 0.17 0.15 ‐0.39 ‐0.76 ‐0.13

‐5.00

‐4.00

‐3.00

‐2.00

‐1.00

0.00

1.00

2004 2005 2006 2007 2008

Debt to Equity

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

154 | P a g e

ISIL Adj 0.06 0.07 0.07 0.08 0.09 0.08

Times Interest Earned

Times interest earned test the firm’s ability to pay off its interest on its debt. It

is calculated by dividing a firm’s operating income by its interest expense. It is

important that a firm can maintain its payments on its debt through its operations. If

not, a firms capital structure is too highly debt levered and the firm cannot handle the

debt it already has.

The Analog ICs industry maintains a fairly constant times interest earned. As

mentioned above there is segmentation within the industry as each firm is leveraged

differently, yet the trends of the industry mirror their competitors. Overall, the industry

operates at a medium times interest earned, with the lower end at 15 times the amount

of interest. This means that a firms is making only 15 times the amount of interest it

earns. However, not every firm in the Analog ICs disclosed their interest expense, for

instance TXN only disclosed their interest in 2004 and 2005, so 2006, 2007, and 2008

‐350.0

‐300.0

‐250.0

‐200.0

‐150.0

‐100.0

‐50.0

0.0

50.0

2004 2005 2006 2007 2008

Times Interest Earned

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

155 | P a g e

numbers are not applicable. Intersil’s restated number did not disclose interest expense

in 2004, however, they were earning less than there interest expense because of

incurring net income from 2005 to 2008.

Times Interest Earned 2004 2005 2006 2007 2008 5 yr AVG

ISIL 1.2 5.3 5.1 4.9 ‐71.4 ‐11.0 TXN ‐105.1 ‐310.1 N/A N/A N/A ‐207.6 ADI ‐19.4 ‐7.2 ‐5.3 ‐7.4 ‐15.2 ‐10.9 LLTC 17.1 19.4 10.3 9.1 18.9 15.0 MXIM 19.9 22.2 11.3 5.8 7.5 13.3 Industry ‐17.3 ‐54.1 5.4 3.1 ‐15.1 ‐15.6 ISIL Adj N/A ‐100.6 ‐14.6 ‐15.7 ‐39.9 ‐42.7

Debt Service Margin

The debt service margin ratio measures the ability of a firm to meet its current

debt obligations. Current debt (or current liabilities) is debt that will be expensed within

a fiscal year. This is calculated by dividing available cash flow by the current notes

payable. The greater the ratio, the easier it is for a firm to pay off their current debt

obligations. When the ratio drops below 1, it indicates a negative cash flow for the

firm.

‐50.0

0.0

50.0

100.0

150.0

200.0

250.0

300.0

350.0

400.0

2004 2005 2006 2007 2008

Debt Service Margin

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

156 | P a g e

Overall, the Analog ICs industry operates well above a 1 ratio, indicating that the

firms have the ability to pay off their current portion of debt. TXN spikes in 2005 due to

a decrease in current notes payable. Firms in this industry generally have little debt, so

slight changes in current notes payable magnify the discrepancy do to the denominator

effect. In conclusion, firms do not have a significant amount of current notes payable in

relationship to cash coming in, so they should have no problem paying off their short

term debt. Also, there was not any interest expense for TXN in 2008, so there is no

applicable ratio for 2008. Because the ratio is lagged, there is not applicable restated

ratio. Also, the firms number are substantially lower than the as-stated number,

signifying that there is a negative cash flow for the restated number in 2005, 2006, and

2007. However, in 2008, Intersil rebounds with a 10.41 debt service margin.

Debt Service Margin : DSM = CFFO t / NPC t‐1 2004 2005 2006 2007 2008 5 yr AVG

ISIL 4.7 8.3 8.7 9.6 5.1 7.3 TXN 7.2 342.9 8.2 102.5 N/A 115.2 ADI 6.9 5.3 3.8 5.3 4.5 5.2 LLTC 61.2 34.2 43.2 32.8 47.5 43.8 MXIM 9.8 7.3 14.2 7.3 7.2 9.2 Industry 18.0 79.6 15.6 31.5 16.1 32.2 ISIL Adj N/A ‐0.31 0.33 0.21 10.41 2.7

Altman’s Z-Score

In the early 60’s, Edward Altman discovered a serious of ratios when combined

in a weighted equation, predicted bankruptcy among existing firms. He found that

firms with a score below 1.81 were in serious danger of bankruptcy. Firms with scores

between 1.81 and 2.67 were in a grey area, and anything above 2.67 is considered

healthy. The score is calculated as follows.

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1.2(NET WORKING CAPIALT/TOTAL ASSETS)

+1.4(RETAINED EARNINGS/TOTAL ASSETS)

+3.3(EARNINGS BEFORE INTERST AND TAXES/TOTAL ASSETS)

+0.6(MARKET VALUE OF EQUITY/BOOK VALUE OF LIABILITIES)

+1.0(SALES/TOTAL ASSETS)

As the chart demonstrates above, Intersil is below the industrial average with

low Z-scores under 1.81. This indicates that Intersil is in danger of going bankrupt. In

2008, when Intersil reported negative net earnings before interest and taxes, and

retained earnings, Intersil had a negative Z-score. This is because of the “big bath”

which they underwent in 2008 after a change in CEO, failing economy, and a need to

impair goodwill (Intersil 10-K). The $1,154 million goodwill impairment diminished the

gross profit, and this resulted in a trickle down of losses resulting in negative earnings

before interest and taxes and a negative net income which translates to a negative

retained earnings. Because Intersil took this big bath, their Z-score’s should improve

over the next few years with positive retained earnings and earnings before interest

and taxes, making the new CEO look like he drastically improved the company, due to a

lower benchmark of standards through a big bath. However, when restated, Intersil is

‐4.0

‐2.0

0.0

2.0

4.0

6.0

8.0

10.0

12.0

2004 2005 2006 2007 2008

Altman's Z‐Scores

ISIL

TXN

ADI

LLTC

MXIM

Industry

ISIL Adj

158 | P a g e

nowhere near bankruptcy according to the Z-scores. With a restated five year average

of 5.1, they are well above they “healthy” 2.67 with scores soaring in 2008 to 9.3. This

Altman Z‐Score 2004 2005 2006 2007 2008 5 yr AVG

ISIL 0.6 0.7 1.0 1.0 ‐3.2 0.0 TXN 10.2 3.5 4.3 5.0 4.9 5.6 ADI 2.9 2.9 3.2 3.3 3.6 3.2 LLTC 2.7 3.0 2.8 0.7 1.6 2.2 MXIM 3.8 4.5 4.2 3.7 8.1 4.9 Industry 4.1 2.5 2.8 2.5 1.8 2.7 ISIL Adj 3.6 4.0 4.4 4.4 9.3 5.1

Conclusion

In conclusion, the profitability and capital structure analysis show Intersil as a much

healthier, more profitable firm than as restated. They would fall slightly behind in

profitability but would surpass the as-stated numbers in 2008. Also, their Z-score are

substantially higher than, nearly 5 times as high in some years, where as their as-stated

number indicated that Intersil is near bankruptcy. By restating the financial statements,

Intersil is a healthier firm and would not require a big-bath.

Cost of Equity

The cost of equity is the minimum return required by stockholders when

investing in a firm’s stock. The cost of equity (Ke) is the rate of return demanded by

investors in exchange for owning and bearing the risks of an asset. When there is a

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higher cost of equity it means that there is a greater risk involved but potentially a

larger return. The capital asset pricing model (CAPM) was used to derive Ke; the

formula for the CAPM is:

Ke= Rf + β (MRP)

Rf is the risk free rate; RM is the market return; and β is known as the betta

coefficient which measures the correlation between an assets expected return and the

markets return. To find Beta o a firm we ran a linear regression analysis. After we

found the beta we multiplied it by the market risk premium which is MRP. For Intersil,

we used the year 1 yield; slice 24 with the adjusted r squared of .2925. This gave us a

beta of 1.0991, with and upper and lower bounds beta of .3959 and 1.8022

respectively. We then used the risk free rate of 3.29% and the market risk premium of

6.8% . This gave us a cost of equity of 10.76 percent and a lower and upper bounds of

5.98% and 15.55%.

Ke

.1076= .0329 + 1.0991(.068)

Lower

.0598= .0329 + .3959(.068)

Upper

.1555= .0329 + 1.8022(.068)

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Size Adjusted CAPM

Sometimes analysts argue that the CAPM is not the best method to find the cost

of equity. This is because on average smaller firms yield higher returns than larger firms

in the market. To consider size we use the CAPM model plus a size premium. By adding

the size premium it will let us take into account the size of the firm when calculating the

cost of equity. The size premium we used that fit our market cap was 1.7%. This gave

us a size adjusted cost of equity of 12.46% with 7.68% and 17.25% lower and upper

bound.

Size Adjusted Ke

Ke = Rf + β*(MRP) + Size Premium (Palepu Healy)

Size Adjusted Ke

.1246= .0329 + 1.0991(.068)+ .017

Lower Size Adjusted Ke

.078= .0329 + .3959(.068)+ .017

Upper Sized Adjusted Ke

.1725= .0329 + 1.8022(.068)+ .017

Alternative cost of equity

Another way we found the cost of equity is by an alternative method or also

called the back door method. The formula used in this method is:

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Backdoor Ke

Market/Book = 1 + (ROE – Ke / Ke – g)

On the left hand side is the market to book ratio. This equals the return of equity – Ke

divided by Ke minus the growth rate “g”. All of this is then added by one. The “g”

variable in our formula is the assumed historical sales growth rate which is 10%,. To

simplify the formula in finding Ke we can use:

Backdoor Ke

.3818=(.52+1.49*.1-.1)/(1/49)

Cost of Debt

The Cost of Debt (Kd) is calculated by taking the weighted average of short and

long term liabilities over the total liabilities multiplied by the interest rates for each

specific liability. The cost of debt is usually lower than the cost of equity. The cost of

debt is usually lower than the cost of equity because when a firm defaults the debt

holders will get paid first then it will be the equity holders. Due to this issue equity

holder bear more risk because of default. So this is why the cost of equity is higher than

the cost of debt because investors require higher return rates compared to the extra

risk they must consider.

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Fiscal Year 2008

Current Liabilities Interest Rate Weight Weighted InterestTrade payables 22,264 6.5% 20.62% 1.34%Accrued current and retirement compensation 30,461 6.5% 28.22% 1.83%Deferred net revenue 10,638 6.5% 9.85% 0.64%Other accrued expenses 37,256 6.5% 34.51% 2.24%Non‐income taxes payable 3,319 6.5% 3.07% 0.20%Income taxes payable 4,012 6.5% 3.72% 0.24%

Total Current Liabilities 107,950 Non‐current Liabilities

Income taxes payable ‐

Total L‐T Liabilities ‐ TOTAL LIABILITIES 107,950 Cost of Debt 6.50%

Actual Financials

Fiscal Year 2008Current Liabilities

Trade payables 22,264 6.5% 17.23% 1.12%Accrued current and retirement compensat 30,461 6.5% 23.57% 1.53%Deferred net revenue 10,638 6.5% 8.23% 0.54%Other accrued expenses 37,256 6.5% 28.83% 1.87%Non‐income taxes payable 3,319 6.5% 2.57% 0.17%Income taxes payable 4,012 6.5% 3.10% 0.20%Total Current Liabilities 107,950

Non‐current Liabilities ‐ Income taxes payable ‐

Capitalized Lease Liabilities 119,512 6.5% 92.49% 6.01%

Amortized Lease Liability (98,239) 6.5% ‐76.02% ‐4.94%

Total L‐T Liabilities 21,273 TOTAL LIABILITIES 129,223 100.00% 6.50%

Restated Financials

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Weighted Average Cost of Capital (WACC)

Previously shown we can see that firms are financed by debt and equity. The

Weighted Average Cost of Capital can either be found before and after taxes to assume

the percent available for financing assets. The weighted average cost of capital is used

to find the appropriate interest rate to finance the firm. In the first step to find WACC

you will need to calculate the cost of debt and cost of equity. The next step is to take

market value of liabilities divided by the market value of asset which is multiplied b the

cost of debt. If you have taxes you would take the number calculated and multiply it by

1-T. The next step is to take the Market Value of Equity divided by the Market Value of

Assets multiplied by Ke. When you find that you will add up the two calculations

together and should give you WACC. We will then take the before tax and after tax

WACC. The tax rate that we will use is 30%.

WACCbt = (VL/Vf)(Kd) + (Ve/Vf)(Ke)

Before Tax Cost of Debt MVL/MVA Ke MVE/MVA WACCBACKDOOR 6.50% 9.52% 38.18% 90.48% 35.16%

SIZE ADJUSTED 6.50% 9.52% 12.46% 90.48% 11.89%LOWER SIZE 6.50% 9.52% 0.0768 90.48% 7.57%UPPER SIZE 6.50% 9.52% 0.1725 90.48% 16.23%

WACCat = (VL/Vf)(Kd)(1-Tax Rate) + (Ve/Vf)(Ke)

After Tax Cost of Debt MVL/MVA Tax Rate Ke MVE/MVA WACCBACKDOOR 6.50% 9.52% 30% 38.18% 90.48% 34.98%

SIZE ADJUSTED 6.50% 9.52% 30% 12.46% 90.48% 11.71%LOWER SIZE 6.50% 9.52% 30% 7.68% 90.48% 7.38%UPPER SIZE 6.50% 9.52% 30% 17.25% 90.48% 16.04%

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Firm Valuation

The final step of this analysis aims to determine whether the ISIL’s share price represents its

underlying economic value. In order to come to a conclusion concerning whether Intersil is

fairly valued, undervalued, or overvalued, we will apply two different methods of valuation.

The first method is a quick and simple method that uses ratios that can be calculated using

publicly available financial date that are used to determine the share price of a firm. This is

called the method of comparables. However, the method of comparables can generate

misleading results and had little theory supporting its findings. The other method we will apply

is “intrinsic valuation.” Based on financial theory, the approach to finding a firm’s “intrinsic “

value involves utilizing a variety of models which take into account a broad range of factors

effecting firm profitability.

Method of Comparables

A common approach to the valuation of a firm is using method of comparables ratios. In order

to apply this method, we have collected publicly available data concerning Intersil and its peer

group, which we have collected from http://finance.yahoo.com. The method of comparables

approach to valuation seeks to compute ratios using financial data of a firm’s competitors, and

then take an average from which the target firm is excluded, which can then be applied to the

firm being valued in order to calculate the price per share. Once applying each method of

comparable ratio to calculate ISIL’s share price based, we will concluded whether ISIL is over,

correctly, or undervalued based on whether the computed value exceeds a 10% standard

deviation from ISIL’s actual share price of $13 per share on June 1st, 2009. At a 10% margin of

safety, the “safety zone” falls between $11.70 and $14.3 per share. Accordingly, if the

computed share price is less than $11.7, the method will assume ISIL is overvalued, and

contrastingly, if the method of comparable is applied to compute ISIL’s share price as being

over $14.3 per share, then it concludes that ISIL is undervalued. It should be noted that

although the method of comparables approach can provide an analyst a quick and relatively

165 | P a g e

simple method of valuation, we will present it as a supplement to “intrinsic valuation” which

involves theoretical models that take into account a broader range of factors to reflect

underlying business reality. It should also be noted that one weakness of this method is that a

number of these ratios cannot be applied in the event that a firm experienced a recent loss per

share, or is forecasting to have losses in the future.

Price to Earnings Ratio (Trailing)

The price to earnings (P/E) trailing ratio is computed by dividing a firm’s share price by its

earnings per share. The trailing method uses historical data; therefore, it is seen as a more

reliable method of comparable. However, due to the fact that ISIL reported a loss on its 2008

10‐K, we were unable to compute an “As Stated” P/E ratio for ISIL due to the fact that it would

result in a negative share value.

Price to Earnings Ratio (Forward)

Similarly to the price to earnings ratio, the turbulence in recent economic activity has

led to a loss in share value due to our forecasted losses. So we could not compute Intersil’s

price to earnings ratio. Unfortunately, the same holds true for the Price Earns Growth (P.E.G.)

ratio. Due to the fact that we have negative earnings forecasts, to apply these methods would

yield irrelevant results due to the fact that share value would compute as negative.

Price / Book

The price to book ratio measures is one of the most popular methods of comparables

ratios which is computed by dividing the price per share or market value of equity of a

firm by the total book value of equity or book value of equity per share of a firm. We

166 | P a g e

were able to take the average of the price to book ratios of TXN, ADI, and MXIM which

was computed to be 2.57. LLTC had to be excluded to its equity deficit related to an

accelerated share repurchase arrangement. After calculating this ratio, we were able

to apply it to ISIL’s BPS which resulted in a valuation of $21.41 per share. Thus,

according to this method of comparable, ISIL is overvalued.

Dividends / Price

The dividends to price ratio can be very useful when it comes to the methods of

comparable. All four of the competitors had dividends which made this valuation very

useful. To find Intersil’s price we took Intersil’s dividends per share and divided it by the

industry average dividends over price to get the price of Intersil. The price of Intersil

came out to be $16.17. By calculating it this method it leads to say that Intersil is

undervalued.

FIRM PPS BPS P/B Ratio Ind. Avg. ISIL PPS

ISIL 13.00$ 8.34$ 1.56$ 2.57$ 21.41$

ISIL Adj. 8.39$ 1.55$ 2.57$ 20.14$ TXN 21.27$ 7.23$ 2.94$ ADI 24.39$ 8.31$ 2.94$ LLTC 22.23$ (1.30)$ N/AMXIM 15.76$ 8.64$ 1.83$

Price to Book Ratio Comparables

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Price / EBITDA

The Price to EBITDA ratio is calculated by the market cap divided by the earnings

before interest, tax, depreciation, and amortization (EBITDA). There is one weakness to

this model ratio which is because it ignores a company’s ability to manage debt and

taxes. The lower the Price / EBITDA it could mean more profitability because EBITDA

represents an operating cash flow. A low ratio could also tell us that there is a strong

correlation between the value generated by the firm and the markets valuation of firm

assets. According to this ratio it shows that ISIL is overvalued compared to the industry.

FIRM PPS DPS D/P Ind. Avg. ISIL PPS

ISIL 13.00$ 0.480$ 0.037 0.0297$ 16.17$

TXN 21.27$ 0.410$ 0.019

ADI 24.39$ 0.780$ 0.032

LLTC 22.23$ 0.840$ 0.038

MXIM 15.76$ 0.966$ 0.061

Dividends / Price Comparables

FIRM Mkt. Cap (Mil) EBITDA (Mil) P/EBITDA Ind. Avg. ISIL PPS

ISIL 1,589$ 111$ 14.33$ 10.50$ 9.53$ ISIL Adj. 189$ 10.50$ 16.20$ TXN 27,580$ 3,050$ 9.04$ ADI 7,120$ 609$ 11.70$ LLTC 4,940$ 527$ 9.37$

MXIM 4,870$ 409$ 11.89$

ComparablesPrice / EBITDA

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Price / Free Cash Flows

The price to free cash flows gives us an overview by comparing value of

operating cash flows relative to the market price. The price to free cash flows ratio is

calculated by dividing the firm’s market capitalization rate by their free cash flows. If a

firm has a P / FCP that is negative or significantly different from the rest of the firms it

should be taken out, however we do not see such a case. ISIL price was found to be

$19.13 which states that it is undervalued. The equation for a firm’s price to free cash

flow is:

P/FCF = (Price per share x shares outstanding) / (Cash flows from operations +/-

Cash flows from investing)

Enterprise Value/EBITDA

The enterprise value to EBITDA ratio can be found by dividing the firm’s earnings

before interest, tax, depreciation and amortization into the firm’s enterprise value. To

find the enterprise value add the firm’s market value of equity with its book value of

FIRM Mkt. Cap (Mil.) FCF (Mil.) P/FCF Ind. Avg. ISIL PPSISIL 1,589 83$ 19.17$ 28.21$ 19.13$

ISIL Adj. 165.42$ 28.21$ 38.18$ TXN 27,580$ 2,149$ 12.83$ ADI 7,120$ 205$ 34.74$ LLTC 4,940$ 279$ 17.73$ MXIM 4,870$ 151$ 32.16$

Price / Free Cash Flows Comparables

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liabilities and then subtract its cash and investments from that. The enterprise value to

EBITDA carries the same weakness as price/EBITDA ratio because taxes and debt

management are not taken into account.

Using this ratio ISIL shows a price of $11.72 and and industry average of $9.46.

It shows us that Intersil is fairly value however when Intersil is restated the price is

undervalued.

Enterprise Value / Free Cash Flows

To find this ratio you would take the enterprise value and divide it by free cash

flows. We see here that no firm is really a major outlier so we took each firm to find the

industry average. The industry average showed a price $24.67 and ISIL a price of

$15.12. Again this shows us that Intersil is fairly valued compared to the industry.

FIRM EV (Mil.) EBITDA (Mil.) EV/EBITDA Ind. Avg. ISIL PPS

ISIL 1,200$ 111$ 9.46$ 11.72$

ISIL Adj. 189$ 9.46$ 19.92$

TXN 24,740$ 3,050$ 8.11$ ADI 5,820$ 609$ 9.56$ LLTC 5,520$ 527$ 10.47$

MXIM 3,910$ 409$ 9.71$

Enterprise Value / EBITDA Comparables

Firm EV (Mil.) FCF (Mil.) EV / FCF Ind. Avg. ISIL PPS

ISIL 1,200.00$ 74.89$ 16.02$ 24.67$ 15.12$

TXN 24,740.00$ 2,149.00$ 11.51$

ADI 5,820.00$ 204.97$ 28.39$ LLTC 5,520.00$ 278.67$ 19.81$ MXIM 3,910.00$ 151.45$ 25.82$

Enterprise Value / Free Cash Flows Comparables

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Conclusion

By analyzing the method of comparable ratios we see a wide range of values

which makes it difficult to rely on these ratios for accuracy. These ratios do not include

analyst insights and are just number computed to one another which make it difficult to

predict. The valuation ratios’ present a wide range of speculative value and overall

present conflicting results. The overall valuation shows us that Intersil is fairly valued

there were a couple ratios that told us the firm as undervalued and a couple that told

us they were overvalued. Two of the ratios told us that they are fairly valued which

means the firm on average is fairly valued.

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Intrinsic Valuation Models

The Intrinsic Valuation Models are created to asses or estimate a company’s

market value price per share. The different valuation models analyze a detailed view of

the valuation of a firm. The intrinsic valuation models will include Discounted Dividends

Model, Residual Income Model, Free Cash Flow Model, Abnormal Earnings Growth

(AEG), and Long Run Residual Income Model. To find an accurate estimation of current

stock price performance each valuation model must use forecast to create assumptions.

A sensitivity analysis is achieved for each model by using growth rates and the cost of

equity in order to find the value of a firm. The forecasting line items used included are

from the income statement, balance sheet, and statement of cash flows. There are

three ways we can value a firm which can be describe as; over-valued, fairly valued, or

under-valued. By analyzing the valuation models it will show a better representation of

the value of Intersil Corp.

Discounted Dividends Model

The Discounted Dividends Model is the simplest model for valuing equity; it

presents that the value of the stock is the present value of all expected dividends. This

model is the simplest equity valuation model but at the same time it is also the most

unreliable model. The two basic inputs for the discounted dividends model are the

expected dividends and the cost of equity. The expected dividends are determined by

assumptions made about future earnings growth rates and payout ratios.

The Discounted Dividends Model are supported by many financial theories but is

seen as the most unreliable in estimating equity value and the model also holds

limitations. The models sensitivity to growth rate inputs is considered the most

significant limitation. In this model growth rate inputs are estimated and are kept at a

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constant rate throughout the model. This method is somewhat impractical because it

will be unlikely for a firm to grow the dividends at a constant rate or even pay a

dividend each year. Another problem with the model is that it holds the rate of return

constant; however, a firm’s required rate of return is going to change throughout time.

The as stated results indicated that Intersil is overstated, as shown below.

0 0.033 0.067 0.1 0.133 0.167 0.20.0768 $9.63 $13.79 $47.37 N/A N/A N/A $0.670.0927 $7.86 $10.79 $18.37 N/A N/A N/A $0.340.1087 $6.61 $23.44 $11.15 $7.24 $5.29 $4.11 $3.360.1246 $5.68 $6.53 $8.41 $15.21 N/A N/A N/A0.1405 $4.98 $5.54 $6.66 $9.53 $37.65 N/A N/A0.1565 $4.41 $4.81 $5.51 $7.01 $12.72 N/A N/A0.1725 $3.96 $4.24 $4.71 $5.29 $7.94 $39.89 N/A

Backdoor 0.3818 $1.65 $1.66 $1.68 $1.70 $1.72 $1.48 $1.79

<$11.70 11.70$ 14.30$ $14.30<

Growth Rates

Cost of Equity

According to the as stated discounted dividends, about $5.00 out of the $13.00

share is explained through dividends. The model shows that the firm is overvalued

because it relies heavily on dividends, not on capital gains. In some instances there was

a negative share value, which is not applicable so the chart above read N/A because

you cannot have a negative share price. The N/A share price was caused by growth

exceeding the cost of equity, which cost of equity should always be greater than the

growth rate.

Residual Income Model

The Residual Income valuation model is considered to have the highest

explanatory power, which makes this model the most reliable. The reason why this

model has the highest explanatory power is because it is the least responsive to

changes in the growth rate. This model is based on a firm’s book value of equity and

present value of the value added by the company instead of terminal value. When the

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terminal value is used in models there is a higher risk in calculating errors in the long

run. The residual income model avoids the method of using terminal value which makes

it the most accurate out of the models we look at.

The annual residual income is the value added back into the company. To find

the annual residual income you subtract the company’s net income for that year by the

normal income. You can find the normal income by multiplying the book value of equity

from the previous year to the cost of equity. If the annual residual income is positive it

means that the company created value to that year. When the annual residual value is

negative it means that the company lost value.

The as stated residual income model denotes that Intersil is overrated. Since the

residual income model is grounded in theory and can explain nearly 90% of a firms

valuation, it is more reliable than the other valuation model and more consideration

should be given towards it.

-10% -20% -30% -40% -50%0.0768 N/A N/A N/A N/A N/A0.0927 N/A N/A N/A N/A N/A0.1087 N/A N/A N/A N/A N/A0.1246 N/A N/A N/A N/A N/A0.1405 N/A N/A N/A N/A $0.010.1565 N/A N/A $0.03 $0.17 $0.260.1725 N/A $0.12 $0.30 $0.38 $0.46

Backdoor 0.3818 $1.06 $1.06 $1.06 $1.06 $1.06

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

Growth Rates

Cost of Equity

Above is the restated residual income model. It resembles the as stated but it

relies heavily on income, and since income is negative, it causes a majority of negative

share values. Although the restated show Intersil in a better light when it comes to

profitability and capital structure ratios, the residual income model finds that Intersil is

very over-valued.

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Discounted Free Cash Flows Model

The discounted free cash flows model is a valuation model that determines the

value of a company by adding the present value of a firm’s forecasted year by year free

cash flow and the present value of the free cash flow perpetuity. The model depends on

the cash flows from operating (CFFO) and cash flows from investing (CFFI). These line

items are both found on the statements of cash flows.

The first step in this model is to find the year by year cash flows by taking the

CFFO and subtracting CFFI. After that you take the year by year cash flows and multiply

it to the year’s present value factor to find the present value for each year. After that

the present value of the year by year free cash flows are summed up and added to the

present value of the free cash flows perpetuity which equals the total market value of

assets. After you find the total market value of assets you then divide it by the number

of total shares outstanding to calculate the price per share. To compare figures the time

consistent price is used as a benchmark like the discounted dividends model.

0 0.033 0.067 0.1 0.133 0.167 0.20.0768 $9.63 $13.79 $47.37 N/A N/A N/A $0.670.0927 $7.86 $10.79 $18.37 N/A N/A N/A $0.340.1087 $6.61 $23.44 $11.15 $7.24 $5.29 $4.11 $3.360.1246 $5.68 $6.53 $8.41 $15.21 N/A N/A N/A0.1405 $4.98 $5.54 $6.66 $9.53 $37.65 N/A N/A0.1565 $4.41 $4.81 $5.51 $7.01 $12.72 N/A N/A0.1725 $3.96 $4.24 $4.71 $5.29 $7.94 $39.89 N/A

Backdoor 0.3818 $1.65 $1.66 $1.68 $1.70 $1.72 $1.48 $1.79

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

Growth Rates

Cost of Equity

The as stated free cash flows model indicates that Intersil is overvalued.

This is because it bases its evaluation on “wishful thinking” and what is projected for

the firm. It does not take into account time zero, which for Intersil, 2008 was not a

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good overall fiscal year due to their “big-bath,” even though Intersil reported positive

cash flow. Because we forecasted positive cash flows for future years, Intersil’s outlook

looks better than its current fiscal standing. However, though these numbers are our

most educated forecast, they are not 100% accurate. Also, there were still N/As

representing a negative price for the firm, which is impossible. This is due to the growth

rate exceeding WACCbt. WACC is always greater than the growth rate so these growth

rates were not plausible for WACCbt, causing not-applicable price.

0 0.023 0.047 0.07 0.09 0.12 0.140.0757 $27.42 $35.43 $57.49 $252.93 N/A N/A N/A0.0901 $21.76 $26.33 $36.21 $66.86 $1,239.60 N/A N/A0.1045 $18.17 $21.16 $26.84 $39.68 $83.98 N/A N/A0.1189 $15.36 $16.47 $19.76 $27.19 $41.20 N/A N/A0.1334 $13.00 $14.39 $16.62 $20.35 $26.80 $72.59 N/A0.1478 $11.21 $12.21 $13.73 $16.06 $19.61 $34.38 $107.940.1623 $9.67 $10.39 $11.43 $12.94 $15.02 $21.76 $35.94

Backdoor 0.35163 $2.36 $2.40 $2.45 $2.50 $2.55 $2.65 $2.73

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

WACCbt

Above is the restated free cash flows model, which is not as heavily based on net

income as the residual income and AEG model. Because cash is still flowing into the

firm, just being taking out later on in the financial statements, and because the free

cash flow model does not take into consideration time zero, (which is negative for

Intersil) the free cash flows model show that Intersil is undervalued. However, the

residual income model is not as sensitive to growth rates and is based in theory, so it is

more reliable.

Abnormal Earnings Growth

The abnormal earnings growth model is based on the forecasted numbers from

net income and total dividends. This model here uses information directly from the

financial statements. The abnormal earnings growth rate has a higher explanatory

power than the the discounted dividend and discounted free cash flow model.

176 | P a g e

To derive the abnormal earnings growth the first step needed to be taken is find

dividend reinvestment or DRIP. To find DRIP you would multiply previous year’s total

dividend payment by the cost of equity for the 10 years forecasted. DRIP is used to

understand the dividends reinvested back in to a company’s stock based on the return

from the cost of equity. After finding DRIP the next step would be to calculate the sum

of the current year’s net income and dividend amount.

The next step is to calculate normal or benchmark earnings. To calculate this we

multiplied a year lagged net income by one plus our cost of equity. After we find our

normal earnings we need to subtract cumulative dividend earnings by our normal

earnings. After we calculated that we must convert this number to abnormal earnings

growth in current 2009 dollars. In order to find our abnormal earnings growth in

present value we multiplied our abnormal earnings growth by each year’s present value

factor. The present value factor is found by using this 1/(1+Ke)^ t. The next step we

took was to find the terminal value of perpetuity. To find our perpetuity we took our

forecasted AEG from 2018 and divided it by the cost of equity minus our growth rate.

Then we took that number and multiplied it to our PV factor from 2019 which gives us

our perpetuity. After that we summed up the total core net income which is net income

from 2006, we take this number and add it to the total present value of AEG plus our

perpetuity. We then take that number and divided it by the number of share

outstanding which is 122220. We then take that number and divide by our cost of

equity to find the intrinsic value per share. We now have the model price at the end of

2008 for Intersil.

177 | P a g e

-10% -20% -30% -40% -50%0.0768 $21.19 $19.85 $19.22 $18.86 $18.620.0927 $15.51 $14.83 $14.49 $14.29 $14.150.1087 $11.86 $11.51 $11.33 $11.22 $11.140.1246 $9.40 $9.23 $9.14 $9.08 $9.040.1405 $7.66 $7.59 $7.55 $7.52 $7.500.1565 $6.39 $6.36 $6.35 $6.34 $6.340.1725 $5.43 $5.43 $5.43 $5.54 $5.44

Backdoor 0.3818 $1.66 $1.67 $1.67 $1.68 $1.68

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

Growth Rates

Cost of Equity

The as stated AEG shows that Intersil is overvalued. This correlates to the as

stated residual income, which is good validation that these models are displaying an

accurate valuation of Intersil since the AEG is closely related to the residual income

model.

-10% -20% -30% -40% -50%0.07680.0927 N/A N/A N/A N/A N/A0.1087 N/A N/A N/A N/A N/A0.1246 N/A N/A N/A N/A N/A0.1405 N/A N/A N/A N/A N/A0.1565 N/A N/A N/A N/A N/A0.1725 $0.08 N/A N/A N/A N/A

Backdoor 0.3818 $1.15 $1.18 $1.18 $1.16 $1.15

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

Growth Rates

Cost of Equity

The AEG valuation above is the restated version. Much like the restated residual

income. The AEG model puts more weight on projected earnings and due to the

negative net income in 2008, as well as increased expenses, net income remained

negative throughout the forecast. The AEG confirms that the restated valuations are

over-valued.

178 | P a g e

Long Run Residual Income

The Long Run Residual Income uses similar methods from the residual income

model but there are a few differences between the two. In the residual income model

we used dividends to forecast the market value of equity. In the long run dividends are

harder to forecast. So in the long run residual income model we use:

Mve = Be(t0) * [1+(Roe-Ke)/(Ke-g)] to calculate the market value of equity.

YEAR 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018ROE 9.6% 10.1% 10.5% 10.9% 11.3% 11.7% 12.0% 12.3% 12.5% 12.8%

g1 g2 g3 g4 g51.5% 3.5% 5.5% 7.3% 9.0%

KL 0.0768 $15.91 $19.43 $29.41 $128.23 N/A0.0927 $12.70 $14.13 $17.07 $24.82 $127.11

Ke 0.1087 $10.57 $11.10 $12.03 $13.75 $18.420.1246 $9.07 $9.16 $9.31 $9.55 $9.99

Ku 0.1405 $7.95 $7.81 $7.61 $7.32 $6.870.1565 $7.07 $6.80 $6.43 $5.94 $5.230.1725 $6.13 $5.80 $5.57 $5.00 $4.23

Back Door 0.3818 $2.85 $2.49 $2.09 $1.68 $1.25

<$11.70 11.70$ 14.30$ $14.30<

RL R* Ru0.1000 0.1195 0.1390 0.1585 0.1780

KL 0.0768 17.65 25.29 32.94 40.59 48.230.0927 10.24 14.68 19.12 23.55 27.990.1087 7.22 10.34 13.47 16.6 19.72

Ke 0.1246 5.59 8.01 10.43 12.85 15.270.1405 4.56 6.54 8.52 10.5 12.480.1565 3.86 5.53 7.2 8.87 10.55

Ku 0.1725 3.34 4.79 6.24 7.69 9.14Back Door 0.3818 1.25 1.8 2.34 2.88 3.42

<$11.70 11.70$ 14.30$ $14.30<

179 | P a g e

g1 g2 g3 g4 g51.5% 3.5% 5.5% 7.3% 9.0%

RL 0.1100 7.49 7.23 6.83 6.2 50.1350 9.46 9.64 9.93 10.38 11.24

R* 0.1600 11.43 12.06 13.04 14.57 17.480.1900 13.80 14.95 16.76 19.59 24.98

Ru 0.2200 16.16 17.84 20.49 24.62 32.47

<$11.70 11.70$ 14.30$ $14.30<

As shown above, the as stated sensitivity analysis shows that Intersil is

overstated. The last sensitivity analysis showed that Intersil is fairly stated; however it

shows high growth rates with high return on equity, so it is natural that Intersil would

have a greater value through this sensitivity test.

g1 g2 g3 g4 g5-23.3% -10.5% 2.3% 15.1% 27.9%

KL 0.0768 $13.05 $16.22 $34.48 N/A $1.65R 0.0927 $12.46 $14.65 $23.71 N/A $1.80

24% Ke 0.1087 $11.92 $13.90 $21.80 N/A $1.970.1246 $11.43 $12.99 $18.46 N/A $2.18

Ku 0.1405 $10.98 $12.19 $16.02 N/A $2.440.1565 $10.57 $11.48 $14.15 $140.82 $2.770.1725 $10.19 $10.86 $12.68 $36.15 $3.20

Back Door 0.3818 $7.00 $6.45 $5.50 $3.51 N/A

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

RL R* Ru-0.2430 0.0000 0.2430 0.4860 0.7290

KL 0.0768 N/A N/A $34.96 $68.80 $112.18G 0.0927 N/A N/A $27.08 $56.99 $86.91

2.3% 0.1087 N/A N/A $22.11 $46.52 $3.37Ke 0.1246 N/A N/A $18.71 N/A $60.05

0.1405 N/A N/A $16.24 $197.11 $52.110.1565 N/A N/A $14.34 $98.59 $46.02

Ku 0.1725 N/A N/A $12.85 $65.88 $41.24Back Door 0.3818 N/A N/A $5.58 $12.78 $17.90

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

180 | P a g e

g1 g2 g3 g4 g5-23.3% -10.5% 2.3% 15.1% 27.9%

RL -0.2430 N/A N/A N/A $128.97 $29.22K 0.0000 $5.63 $3.95 N/A $49.43 $15.62

12.46% R* 0.2430 $11.50 $13.10 N/A N/A $2.010.4860 $17.38 $22.24 $18.65 N/A N/A

Ru 0.7290 $23.12 $31.39 $60.05 N/A N/A

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

Above is the restated long run residual income. This shows that prices are no so

much subject to cost of equity, but the growth rate and return on equity. Due to the

irregularity of the forecasted growth and ROE, it was difficult to find a median into

which most years applied. By calculating larger spread, we were able to see that growth

rates and ROE played a more significant factor in price.

Conclusion

The models such as discounted dividends and free cash flow models find that it

is fairly to undervalued. The restated numbers also agreed with the stated numbers,

indicating a much stronger undervalued. However the residual income and AEG models

indicate that the firm is strongly overvalued. The residual income model is generally

more accepted than the free cash flow, since free cash flow does not take into account

time zero and is based on wishful thinking. So according to models, Intersil is

overvalued.

181 | P a g e

Appendix

A. Wallstreet Journal Articles:

1. Semiconductor Sales Fall 30%

• http://online.wsj.com/article/SB124117330343176947.html

2. What Does Steve Jobs Want With All Those Chip Guys?

• http://blogs.wsj.com/digits/2009/04/29/what‐does‐steve‐jobs‐want‐

with‐all‐those‐chip‐guys/

3. In Major Shift, Apple Builds Its Own Team to Design Chips


4. China's Chip‐Making Capacity Use Slumps


5. Semiconductor Sales Fall 30%


6. Chip Makers to Benefit From 'Smart Meters'


B. Firm SEC filings

1. Intersil 10‐K 2004‐2008

• http://www.intersil.com

2. Texas Instruments 10‐K 2004‐2008

• http://www.ti.com

3. Analog Devices 10‐K 2004‐2008

• http://www.analog.com

4. Linear Technology, Inc. 10‐K 2004‐2008

• http://www.linear.com

5. Maxim Integrated Products 10‐K 2004‐2008

• http://www.maxim-ic.com

182 | P a g e

C. Additional Articles:

1. EE Times. “Intersil to cut 9 percent of workforce." By: Mark LaPedus.

• http://www.eetimes.com/showArticle.jhtml;jsessionid=KECCEHGDPIMY

WQSNDLOSKHSCJUNN2JVN?articleID=212000650

2. EE Times - “Intersil to acquire Kenet” – by Mark LaPedus. (09/30/2008 10:08 AM EDT)

• http://www.eetimes.com/showArticle.jhtml;jsessionid=24PC10PRQB3MCQSNDL

OSKHSCJUNN2JVN?articleID=210604697

3. EE Times – “Freescale to focus on core units, exit mobile IC business” - By Bolaji Ojo.

• http://www.eetimes.com/showArticle.jhtml;jsessionid=BAZNHO0IWL2B2QSNDL


4. EE Times – “Intersil buys power management firm” – By Mark LaPedus. (12/18/2008

10:12 AM EST)

• http://www.eetimes.com/showArticle.jhtml;jsessionid=BAZNHO0IWL2B2QSNDL


5. TheStreet.com – “Intersil Sells Off Its WLAN Business” – By K.C. Swanson. - (07/16/03)

• http://www.thestreet.com/story/10100866/1/intersil-sells-off-its-wlan-

business.html

6. EE Times – “IC vendors come (back) to analog” – By Bill Schweber (12/15/2008)

• http://www.eetimes.com/showArticle.jhtml;jsessionid=GBUNE2OZX5MQSQSND

LOSKHSCJUNN2JVN?articleID=212300483

7. EE Times - "High-voltage hype charges up foundries" - By Mark LePedus (11/17/2008)

• http://www.eetimes.com/showArticle.jhtml;jsessionid=FBITHGIVQ5UHQQSNDL

OSKHSCJUNN2JVN?articleID=211800567&pgno=2

183 | P a g e

D. Excel Spreadsheet Quantitative Data

FIRM BACKLOG

FIRM 2003 2004 2005 2006 2007 2008

ISIL 83.6 78.8 132.8 117.7 176.4 86.9

TXN 1708 1576 1880 1640 1500 860

ADI 387 329 356 390 396 333

LLTC 57.2 151.2 90.1 93.7 112.2 122.5

MXIM 227 529 313 429 412 370

Industry 492.56 532.8 554.38 534.08 519.32 354.48

% Change of Backlog from Previous Year

FIRM 2004 2005 2006 2007 2008

ISIL ‐5.7% 68.5% ‐11.4% 49.9% ‐50.7%

TXN ‐7.7% 19.3% ‐12.8% ‐8.5% ‐42.7%

ADI ‐15.0% 8.2% 9.6% 1.5% ‐15.9%

LLTC 164.3% ‐40.4% 4.0% 19.7% 9.2%

MXIM 133.0% ‐40.8% 37.1% ‐4.0% ‐10.2%

Industry 53.8% 3.0% 5.3% 11.7% ‐22.1%

R&D as a Percentage of Total Revenue

FIRM 2003 2004 2005 2006 2007 2008 6 yr AVG

ISIL 18.0% 20.1% 18.5% 17.1% 17.8% 18.7% 18.3%

TXN 17.8% 15.7% 15.0% 15.4% 15.5% 15.5% 15.8%

ADI 22.1% 19.5% 20.8% 20.4% 20.7% 20.7% 20.7%

LLTC 15.1% 13.0% 12.5% 14.7% 16.9% 16.8% 14.8%

MXIM 23.6% 21.3% 19.6% 27.7% 32.8% 28.1% 25.5%

Industry 19.3% 17.9% 17.3% 19.1% 20.7% 19.9% 19.0%

\

184 | P a g e

Percentage Change of Revenue from Previous Year

FIRM 2004 2005 2006 2007 2008 5yr AVG

ISIL 17.71% 3.17% 14.10% 6.26% 6.85% 9.62%

TXN 13.16% 1.87% 8.93% ‐2.51% ‐9.35% 2.42%

ADI 13.60% ‐3.37% ‐7.49% 10.81% 4.70% 3.65%

LLTC 14.45% 25.63% 22.38% 14.12% 7.37% 16.79%

MXIM 12.48% 7.13% 56.67% 28.28% ‐12.40% 18.43%

Industry 14.28% 6.88% 18.92% 11.39% ‐0.57% 10.18%

Percentage Change in Revenue from Previous Year

FIRM 2004 2005 2006 2007 2008 5yr AVG

ISIL 17.7% 3.2% 14.1% 6.3% 6.9% 9.6%

TXN 13.2% 1.9% 8.9% ‐2.5% ‐9.3% 2.4%

ADI 13.6% ‐3.4% ‐7.5% 10.8% 4.7% 3.6%

LLTC 14.5% 25.6% 22.4% 14.1% 7.4% 16.8%

MXIM 12.5% 7.1% 56.7% 28.3% ‐12.4% 18.4%

Industry 14.3% 6.9% 18.9% 11.4% ‐0.6% 10.2%

Percentage Change in R&D from Previous Year

FIRM 2004 2005 2006 2007 2008 5yr AVG

ISIL 17.7% 3.2% 14.1% 6.3% 6.9% 9.6%

TXN 13.2% 1.9% 8.9% ‐2.5% ‐9.3% 2.4%

ADI 13.6% ‐3.4% ‐7.5% 10.8% 4.7% 3.6%

LLTC 14.5% 25.6% 22.4% 14.1% 7.4% 16.8%

MXIM 12.5% 7.1% 56.7% 28.3% ‐12.4% 18.4%

Industry 14.3% 6.9% 18.9% 11.4% ‐0.6% 10.2%

185 | P a g e

CGS / Property, Plant, & Equipment

FIRM 2003 2004 2005 2006 2007 2008

ISIL 1.44 2.34 2.75 3.12 2.97 3.28

TXN 1.42 1.77 1.80 1.77 1.79 1.89

ADI 1.38 1.62 1.68 1.52 1.72 1.77

LLTC 0.69 0.92 0.99 0.96 0.91 1.02

MXIM 0.45 0.51 0.50 0.55 0.55 0.55

Total Assets by Firm (in Millions)

2003 2004 2005 2006 2007 2008

ISIL $ 2,448.8 $ 2,587.6 $ 2,583.7 $ 2,559.1 $ 2,405.0 $ 1,133.6

TXN $ 15,510.0 $ 16,299.0 $ 15,063.0 $ 13,930.0 $ 12,667.0 $ 11,923.0

ADI $ 4,092.9 $ 4,723.3 $ 4,583.2 $ 3,986.9 $ 2,970.9 $ 3,091.0

LLTC $ 2,056.9 $ 2,087.7 $ 2,286.2 $ 2,390.9 $ 1,218.9 $ 1,583.9

MXIM $ 2,368.0 $ 2,549.5 $ 3,059.9 $ 3,286.5 $ 3,606.8 $ 3,708.4

Industry $ 5,295.3 $ 5,649.4 $ 5,515.2 $ 5,230.7 $ 4,573.7 $ 4,288.0

Percentage Change in Inventory from Previous Year

FIRM 2004 2005 2006 2007 2008

ISIL 15.3% ‐10.2% 6.7% 6.7% 11.1%

TXN ‐13.4% 1.4% 12.9% ‐1.3% ‐3.0%

ADI 18.2% ‐6.5% 16.3% ‐14.3% ‐3.0%

LLTC ‐1.9% 7.0% 13.7% 30.9% 9.7%

MXIM ‐2.8% 52.1% 17.7% 24.6% 3.7%

Industry 3.1% 8.7% 13.5% 9.3% 3.7%

186 | P a g e

E. SALES MANIPULATION DIAGNOSTIC RATIOS

Net Sales / Cash from Sales (Raw)

FIRM 2004 2005 2006 2007 2008 5 yr AVG

ISIL 1.06 1.17 1.23 1.05 0.95 1.09

TXN 1.31 1.07 1.06 0.97 0.85 1.05

ADI 1.32 0.90 0.96 1.07 1.04 1.06

LLTC 1.33 1.38 1.07 0.97 1.12 1.17

MXIM 1.33 1.16 1.18 1.05 1.04 1.15

Industry 1.27 1.14 1.10 1.02 1.00 1.11

Net Sales / Cash from Sales (Change)

2004 2005 2006 2007 2008 5 yr AVG

ISIL 0.40 8.68 1.59 0.14 0.15 2.19

TXN 1.91 0.28 0.89 -0.49 -3.54 -0.19

ADI 1.01 -0.37 0.43 -6.84 0.69 -1.01

LLTC 2.14 1.58 0.17 -0.10 -1.43 0.47

MXIM 5.26 0.65 1.36 0.45 0.60 1.66

Industry 2.14 2.17 0.89 -1.37 -0.70 0.63

Net Sales / Accounts Receivable (Raw)

FIRM 2003 2004 2005 2006 2007 2008 6 yr AVG

ISIL 6.62 6.88 6.02 7.55 6.45 11.56 7.51

TXN 6.78 7.42 7.39 8.04 7.94 13.69 8.54

ADI 6.95 7.56 7.34 5.94 7.49 8.21 7.25

LLTC 7.57 10.20 8.34 7.08 8.30 7.28 8.13

MXIM 9.10 7.31 8.38 6.25 8.20 7.55 7.80

Industry 7.40 7.87 7.49 6.97 7.68 9.66 7.84

Net Sales / Accounts Receivable (Change)

FIRM 2004 2005 2006 2007 2008

ISIL 23.3 2.9 -80.5 0.8 -0.3

TXN 11.2 7.0 -22.7 13.1 1.6

ADI 10.9 10.7 -2.6 -3.3 -15.7

LLTC -210.8 5.2 1.5 0.4 3.0

MXIM 4.1 95.0 1.9 -2.9 1.6

Industry -32.3 24.2 -20.5 1.6 -2.0

187 | P a g e

Net Sales / Inventory (Raw)

FIRM 2003 2004 2005 2006 2007 2008 6 yr AVG

ISIL 6.1 5.6 6.9 8.0 7.7 7.0 6.9

TXN 10.0 10.0 10.5 9.9 9.8 9.1 9.9

ADI 6.9 7.6 7.3 5.9 7.5 8.2 7.2

LLTC 18.5 25.2 30.6 28.0 21.2 21.0 24.1

MXIM 9.5 12.2 9.3 8.8 7.6 7.5 9.2

Industry 10.2 12.1 12.9 12.1 10.8 10.6 11.5

Net Sales / Inventory (Change)

FIRM 2004 2005 2006 2007 2008

ISIL 2.2 -6.5 24.2 2.6 1.2

TXN 10.1 47.8 5.3 22.1 31.0

ADI 10.9 10.7 -2.6 -3.3 -15.7

LLTC -329.0 108.5 9.2 -0.8 18.6

MXIM -422.8 27.2 58.5 38.8 211.5

Industry -145.7 37.5 18.9 11.9 49.3

188 | P a g e

F. EXPENSE MANIPULATION DIAGNOSTIC RATIOS

Asset Turnover (Raw)

FIRM 2004 2005 2006 2007 2008 5 yr AVG

ISIL 0.22 0.23 0.29 0.30 0.32 0.27

TXN 0.81 0.82 0.95 0.99 0.99 0.91

ADI 0.64 0.51 0.49 0.61 0.87 0.62

LLTC 0.39 0.50 0.48 0.45 0.96 0.56

MXIM 0.61 0.66 0.61 0.61 0.57 0.61

Industry 0.53 0.54 0.56 0.59 0.74 0.59

Asset Turnover (Change)

2004 2005 2006 2007 2008 5 yr AVG

ISIL 0.35 0.46 -36.42 -0.67 -0.08 -7.27

TXN 3.30 1.03 -0.70 0.37 1.06 1.01

ADI -0.66 -0.39 0.99 -0.30 -0.15 -0.10

LLTC 2.93 7.86 0.22 -0.09 -0.08 2.17

MXIM 0.80 1.27 0.36 0.67 0.14 0.65

Industry 1.35 2.05 -7.11 0.00 0.18 -0.71

CFFO/OI (Raw)

FIRM 2003 2004 2005 2006 2007 2008 6 yr AVG

ISIL 1.37 6.07 1.53 1.55 1.53 -0.19 1.98

TXN 2.23 1.43 1.35 0.73 1.26 1.37 1.39

ADI 1.16 1.11 1.30 1.18 1.44 1.07 1.21

LLTC 0.97 1.05 0.84 0.90 0.91 0.93 0.93

MXIM 1.56 1.64 0.87 1.18 1.75 1.22 1.37

Industry 1.46 2.26 1.18 1.11 1.38 0.88 1.38

CFFO/OI (Change)

FIRM 2004 2005 2006 2007 2008

ISIL 0.1 0.7 1.6 -39.6 0.0

TXN 0.8 1.1 -2.3 15.0 1.0

ADI 2.1 -2.8 43.9 16.5 9.1

LLTC 1.2 0.2 -0.7 0.8 1.2

MXIM 0.2 -0.5 -0.3 0.0 -1.3

Industry 0.9 -0.3 8.5 -1.5 2.0

189 | P a g e

CFFO/NOA (Raw)

FIRM 2003 2004 2005 2006 2007 2008 6 yr AVG

ISIL 0.7 1.0 1.6 2.3 2.1 1.8 1.6

TXN 0.5 0.8 1.0 0.6 1.2 1.0 0.9

ADI 0.6 1.2 1.1 1.1 1.5 1.2 1.1

LLTC 1.3 2.3 2.2 2.1 1.8 2.0 1.9

MXIM 0.9 0.7 0.6 0.5 0.4 0.3 0.6

Industry 0.8 1.2 1.3 1.3 1.4 1.3 1.2

CFFO/NOA (Change)

FIRM 2004 2005 2006 2007 2008

ISIL 0.1 -11.5 18.4 -0.4 -8.9

TXN -4.6 -32.9 -25.8 -5.7 3.5

ADI 9.3 -0.9 -0.6 11.1 -1.8

LLTC -7.8 1.7 0.6 -1.7 -9.5

MXIM 0.0 -1.7 0.2 0.0 -1.8

Industry -0.6 -9.1 -1.4 0.6 -3.7

Total Accruals / Sales (Raw)

FIRM 2003 2004 2005 2006 2007 2008 6 yr AVG

ISIL 4.1 9.2 9.1 8.7 8.4 0.6 6.7

TXN 0.2 0.1 0.2 0.2 0.2 0.1 0.2

ADI 15.2 12.7 9.3 31.4 7.6 -22.1 9.0

LLTC 12.7 6.2 17.9 13.4 16.3 8.2 12.5

MXIM 7.3 5.2 6.1 8.0 6.1 10.2 7.2

Industry 7.9 6.7 8.5 12.4 7.7 -0.6 7.1

Total Accruals / Sales (Change)

FIRM 2004 2005 2006 2007 2008 5 yr AVG

ISIL -2.4 0.1 0.1 0.3 92.6 18.2

TXN 29.9 -87.3 26.2 35.8 -57.3 -10.6

ADI 0.1 -0.2 1.3 1.2 -3.7 -0.3

LLTC 0.4 -0.3 0.5 1.5 0.8 0.6

MXIM 0.4 0.0 -0.2 0.7 -2.9 -0.4

Industry 5.7 -17.5 5.6 7.9 5.9 1.5

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2004 2005 2006 2007 2008

BB G.W. 1,059,121 1,429,836 1,423,630 1,419,781 1,445,778

Acquisition 375,373 ‐ ‐ 29,594 22,781

Impair G.W. ‐4660 ‐6206 ‐3,849 ‐3,597 ‐1,154,830

EB G.W. 1,429,834 1,423,630 1,419,781 1,445,778 313,729

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

NEW GOODWILL 375,373 0 0 29,594 22,781

Original G.W. Impairment END 2003: 211,824 211,824 211,824 211,824 211,824

2004 75,075 75,075 75,075 75,075 75,075

2005 ‐ ‐ ‐ ‐ ‐

2006 ‐ ‐ ‐ ‐ ‐

2007 5,919 5,919 5,919 5,919 5,919

2008 4,556 4,556 4,556 4,556 4,556

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

TOTAL NEW GW IMPAIR 75,075 75,075 75,075 80,993 85,550 10,475 10,475 10,475 4,556 ‐

SHOULD IMPAIR 211,824 286,899 286,899 286,899 292,818 85,550 10,475 10,475 10,475 4,556 ‐

DID IMPAIR (4,660) (6,206) (3,849) (3,597) (1,154,830) ‐ ‐ ‐ ‐ ‐ ‐

IMPAIRMENT ADJUSTMENT ‐‐> 207,164 280,693 283,050 283,302 292,818 85,550 10,475 10,475 10,475 4,556 ‐

Adjusted Balance G.W. (Prior Add) 847,297 935,771 648,872 361,973 98,750 35,981 25,506 15,031 4,556 (0) (0)

ADJUSTED END BALANCE G.W. 1,222,670 935,771 648,872 391,567 121,531 35,981 25,506 15,031 4,556 (0) (0)

ASSUME YEAR END ACQUISITION

INTERSIL ‐ GOODWILL RESTATEMENT

FORECASTING

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2004 2005 2006 2007 2008 5 yr AVGISIL 55.7% 55.8% 57.4% 57.0% 51.9% 55.6%TXN 44.7% 47.5% 50.9% 53.3% 50.0% 49.3%ADI 59.0% 57.9% 61.9% 61.2% 61.1% 60.2%LLTC 77.0% 79.1% 78.2% 77.7% 77.3% 77.9%MXIM 66.7% 70.1% 65.6% 60.5% 60.3% 64.7%Industry 60.6% 62.1% 62.8% 61.9% 60.1% 61.5%

2004 2005 2006 2007 2008 5 yr AVGISIL 9.0% 7.6% 14.3% 20.5% ‐134.8% ‐16.7%TXN 14.8% 17.4% 30.5% 19.2% 15.4% 19.4%ADI 64.4% 50.6% 49.1% 60.9% 86.9% 62.4%LLTC 21.7% 17.4% 24.4% 20.5% 30.4% 22.9%MXIM 21.2% 27.7% 20.9% 14.2% 15.5% 19.9%Industry 26.2% 24.1% 27.8% 27.1% 2.7% 21.6%ISIL Adj ‐13.0% ‐19.2% ‐5.3% ‐8.6% ‐15.3% ‐12.3%

2004 2005 2006 2007 2008 5 yr AVGISIL 21.9% 23.2% 28.7% 29.6% 32.0% 27.1%TXN 81.1% 82.2% 94.6% 99.3% 98.7% 91.2%ADI 64.4% 50.6% 49.1% 60.9% 86.9% 62.4%LLTC 39.2% 50.3% 47.8% 45.3% 96.4% 55.8%MXIM 60.8% 65.6% 60.7% 61.1% 56.9% 61.0%Industry 53.5% 54.4% 56.2% 59.3% 74.2% 59.5%ISIL Adj N/A 24.1% 32.1% 36.5% 45.9% 34.6%

2004 2005 2006 2007 2008 5 yr AVGISIL 3.02% 16.68% 20.50% 20.07% ‐136.04% ‐15.15%TXN 17.54% 20.84% 23.62% 25.28% 19.49% 21.36%ADI 26.55% 21.60% 23.39% 23.41% 24.20% 23.83%LLTC 54.10% 56.17% 51.60% 48.41% 48.39% 51.73%MXIM 29.49% 40.00% 28.30% 17.54% 20.75% 27.22%Industry 26.14% 31.06% 29.48% 26.94% ‐4.64% 21.80%ISIL Adj ‐17.60% ‐16.63% ‐4.97% ‐6.68% ‐16.15% ‐12.41%

2004 2005 2006 2007 2008 5 yr AVGISIL 0.17 0.17 0.19 0.17 0.16 0.17TXN 0.11 0.12 0.12 0.12 0.13 0.12ADI 0.13 0.14 0.17 0.16 0.16 0.15LLTC 0.10 0.10 0.12 0.12 0.12 0.11MXIM 0.09 0.07 0.10 0.10 0.11 0.10Industry 0.12 0.12 0.14 0.14 0.14 0.13

2004 2005 2006 2007 2008 5 yr AVGISIL 1.66% 3.32% 5.88% 5.49% ‐43.14% ‐5.36%TXN 12.00% 14.26% 28.82% 19.07% 15.16% 17.86%ADI 13.94% 8.78% 11.99% 12.46% 26.47% 14.73%LLTC 15.95% 20.79% 18.75% 17.22% 31.80% 20.90%MXIM 12.91% 18.13% 12.67% 8.71% 8.81% 12.25%Industry 11.29% 13.06% 15.62% 12.59% 7.82% 12.08%ISIL Adj N/A ‐4.99% ‐1.90% ‐3.89% ‐8.63% ‐4.85%

2004 2005 2006 2007 2008 5 yr AVGISIL 1.81% 3.52% 6.25% 5.80% ‐46.34% ‐5.79%TXN 15.69% 17.79% 36.37% 23.39% 19.25% 22.50%ADI 17.36% 10.92% 14.89% 14.46% 33.64% 18.25%LLTC 18.08% 23.97% 21.36% 19.56% ‐54.75% 5.64%MXIM 14.76% 21.88% 14.44% 10.31% 10.14% 14.31%Industry 13.54% 15.62% 18.66% 14.71% ‐7.61% 10.98%ISIL Adj N/A ‐5.43% ‐2.05% ‐4.26% ‐9.54% ‐5.32%

PROFITABILITY RATIOSGross Profit Margin

Net Profit Margin

Asset Turnover

Operating Profit Margin = OI/Sales

Operating Expense Ratio = SG&A / Sales

Return on Assets

Return on Equity

192 | P a g e


2004 2005 2006 2007 2008 5 yr AVGISIL 4.06 4.25 5.25 4.79 3.51 4.37TXN 4.18 3.05 2.64 2.30 2.25 2.89ADI 5.24 3.70 5.01 2.56 2.86 3.87LLTC 8.57 9.23 8.33 4.25 6.44 7.36MXIM 4.06 4.72 3.32 3.39 3.56 3.81



Days Supply of Inventory2004 2005 2006 2007 2008 5 yr AVG

ISIL 138.1 148.4 119.0 106.8 110.7 124.6TXN 65.9 66.1 75.0 80.0 80.2 73.5ADI 117.7 118.1 161.4 123.8 114.2 127.0LLTC 63.0 57.2 59.8 77.2 76.6 66.7MXIM 89.5 130.9 120.5 121.0 122.1 116.8Industry 94.9 104.1 107.1 101.8 100.8 101.7


2004 2005 2006 2007 2008 5 yr AVG53.1 60.7 48.3 56.6 31.6 50.1

TXN 49.2 49.4 45.4 46.0 26.7 43.3ADI 45.8 49.0 53.4 48.6 44.6 48.3LLTC 36.2 27.5 42.0 52.0 40.5 39.7MXIM 29.8 39.1 41.5 47.7 48.4 41.3Industry 40.3 41.2 45.6 48.6 40.0 43.1


LIQUIDITY RATIOS


Cash to Cash Cycle (Days)


Current Ratio

Quick Asset Ratio


193 | P a g e

2004 2005 2006 2007 2008 5 yr AVGISIL 1.2 5.3 5.1 4.9 ‐71.4 ‐11.0TXN N/A N/A N/A N/A N/A N/AADI ‐19.4 ‐7.2 ‐5.3 ‐7.4 ‐15.2 ‐10.9LLTC 17.1 19.4 10.3 9.1 18.9 15.0MXIM 19.9 22.2 11.3 5.8 7.5 13.3Industry 4.7 9.9 5.4 3.1 ‐15.1 1.6ISIL Adj N/A ‐100.6 ‐14.6 ‐15.7 ‐39.9 ‐42.7

2004 2005 2006 2007 2008 5 yr AVGISIL 4.7 8.3 8.7 9.6 5.1 7.3TXN 7.2 342.9 8.2 102.5 115.2ADI 6.9 5.3 3.8 5.3 4.5 5.2LLTC 61.2 34.2 43.2 32.8 47.5 43.8MXIM 9.8 7.3 14.2 7.3 7.2 9.2Industry 18.0 79.6 15.6 31.5 16.1 32.2ISIL Adj N/A ‐0.31 0.33 0.21 10.41 2.7

2004 2005 2006 2007 2008 5 yr AVGISIL 0.06 0.06 0.06 0.07 0.11 0.07TXN 0.25 0.26 0.23 0.27 0.28 0.26ADI 0.24 0.24 0.16 0.27 0.28 0.24LLTC 0.15 0.14 0.14 ‐2.72 ‐4.65 ‐1.39MXIM 0.21 0.14 0.18 0.15 0.18 0.17Industry 0.18 0.17 0.15 ‐0.39 ‐0.76 ‐0.13ISIL Adj 0.06 0.07 0.07 0.08 0.09 0.08

2004 2005 2006 2007 2008 5 yr AVGISIL 0.6 0.7 1.0 1.0 ‐3.2 0.0TXN 10.2 3.5 4.3 5.0 4.9 5.6ADI 2.9 2.9 3.2 3.3 3.6 3.2LLTC 2.7 3.0 2.8 0.7 1.6 2.2MXIM 3.8 4.5 4.2 3.7 8.1 4.9Industry 4.1 2.5 2.8 2.5 1.8 2.7ISIL Adj 3.6 4.0 4.4 4.4 9.3 5.1

2004 2005 2006 2007 2008 5 yr AVGISIL 0.91% 2.38% 4.74% 3.40% ‐45.63% ‐6.84%TXN 12.99% 15.32% 30.14% 22.12% 19.40% 19.99%ADI 12.11% 6.26% 7.59% 6.74% 18.98% 10.34%LLTC 11.70% 15.47% 12.02% 9.17% 17.31% 13.13%MXIM 8.49% 17.12% 7.67% 2.62% 2.14% 7.61%Industry 9.24% 11.31% 12.43% 8.81% 2.44% 8.85%ISIL Adj N/A ‐4.19% ‐0.73% ‐2.13% ‐4.72% ‐2.94%

2004 2005 2006 2007 2008 5 yr AVGISIL 0.99% 2.53% 5.04% 3.59% ‐49.01% ‐7.37%TXN 16.98% 19.12% 38.03% 27.13% 24.63% 25.18%ADI 15.08% 7.78% 9.43% 7.82% 24.12% 12.85%LLTC 13.26% 17.84% 13.69% 10.42% ‐29.80% 5.08%MXIM 9.89% 16.86% 12.67% 8.71% 8.81% 11.39%Industry 11.24% 12.83% 15.77% 11.53% ‐4.25% 9.42%ISIL Adj N/A ‐0.06421538 ‐3.56% ‐7.58% ‐14.08% ‐7.91%

2004 2005 2006 2007 2008 5 yr AVGISIL 54.58% 71.82% 80.62% 61.96% 105.77% 74.95%TXN 108.28% 107.44% 104.58% 116.00% 127.97% 112.85%ADI 86.86% 71.31% 63.34% 54.06% 71.70% 69.45%LLTC 73.33% 74.43% 64.11% 53.26% 54.43% 63.91%MXIM 65.78% 94.40% 60.54% 30.08% 24.33% 55.03%ISIL Adj N/A 83.95% 38.43% 54.88% 54.69% 57.99%Industry 77.77% 83.89% 74.64% 63.07% 76.84% 75.24%

Earnings Retention Rate = IGR/ROA

Capital Structure AnalysisTimes Interest Earned

Debt Service Margin : DSM = CFFO t / NPC t‐1

Debt to Equity

Altman Z‐Score

Internal Growth Rate = ROA(1‐(Div/NI))

Sustainable Growth Rate = SGR(1+(Dt-1 /Et-1 ))

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G. Regression Analysis

3 Monthslice B est Adj R^2 LB B UB B MRP Rf Est Ke LB Ke UB Ke

72 1.190577 0.2497 0.712 1.669 6.8 3.29 11.39 8.13 14.6460 1.18855 0.27939 0.701648 1.675461 6.8 3.29 11.37 8.06 14.6848 1.156865 0.279394 0.701648 1.675461 6.8 3.29 11.16 8.06 14.6836 1.156865 0.296939 0.628556 1.685174 6.8 3.29 11.16 7.56 14.7524 1.097866 0.291193 0.393503 1.802229 6.8 3.29 10.76 5.97 15.55

1 Yearslice B est Adj R^2 LB B UB B MRP Rf Est Ke LB Ke UB Ke

72 1.191585 0.250646 0.713865 1.669305 6.8 3.29 11.39 8.14 14.6460 1.189574 0.280564 0.703604 1.675545 6.8 3.29 11.38 8.07 14.6848 1.157361 0.282712 0.630131 1.68459 6.8 3.29 11.16 7.57 14.7536 1.079862 0.268106 0.489562 1.670162 6.8 3.29 10.63 6.62 14.6524 1.099087 0.292491 0.39594 1.802233 6.8 3.29 10.76 5.98 15.55


72 1.192777 0.251009 0.715023 1.670531 6.8 3.29 11.40 8.15 14.6560 1.189619 0.280678 0.703761 1.675476 6.8 3.29 11.38 8.08 14.6848 1.156515 0.282503 0.629413 1.683616 6.8 3.29 11.15 7.57 14.7436 1.07909 0.267966 0.489017 1.669162 6.8 3.29 10.63 6.62 14.6424 1.098786 0.292121 0.395263 1.802308 6.8 3.29 10.76 5.98 15.55


72 1.195745 0.252716 0.718879 1.67261 6.8 3.29 11.42 8.18 14.6660 1.189729 0.281884 0.705214 1.674244 6.8 3.29 11.38 8.09 14.6748 1.155083 0.283134 0.629411 1.680755 6.8 3.29 11.14 7.57 14.7236 1.077421 0.268281 0.488699 1.666143 6.8 3.29 10.62 6.61 14.6224 1.098511 0.292323 0.395475 1.680755 6.8 3.29 10.76 5.98 14.72


72 1.197156 0.253896 0.721155 1.673156 6.8 3.29 11.43 8.19 14.6760 1.189512 0.282825 0.706162 1.672861 6.8 3.29 11.38 8.09 14.6748 1.153795 0.283693 0.629394 1.678196 6.8 3.29 11.14 7.57 14.7036 1.075844 0.268476 0.488254 1.663433 6.8 3.29 10.61 6.61 14.6024 1.098318 0.292457 0.395612 1.801024 6.8 3.29 10.76 5.98 15.54

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AEG VALUATION WACC(AT)=11.71% Kd=.065 Ke=.1246

0 1 2 3 4 5 6 7 8 9 102008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Net Income (Millions) (117,948.56) (75,182.00) (86,640.64) (99,845.72) (115,063.42) (132,600.47) (152,810.38) (176,100.52) (202,940.36) (233,870.92) (269,515.67) Total Dividends (Millions) 59,823.00 58,405.92 58,405.92 58,405.92 68,140.24 68,140.24 77,874.56 77,874.56 87,608.88 87,608.88 97,343.20 Dividends Reinvested at 17% (Drip) 22299.38 22299.38 22299.38 26015.94 26015.94 29732.51 29732.51 33449.07 33449.07Cum-Dividend Earnings (64,341) (77,546) (92,764) (106,585) (126,794) (146,368) (173,208) (200,422) (236,067) Normal Earnings (103,886) (119,720) (137,967) (158,995) (183,227) (211,153) (243,336) (280,423) (323,163) Abnormal Earning Growth (AEG) 39,545 42,174 45,203 52,410 56,433 64,785 70,128 80,001 87,096

PV Factor 0.7237 0.5237 0.3790 0.2743 0.1985 0.1437 0.1040 0.0752 0.0544 0.0394 PV of AEG 28618.63 22087.74 17132.85 14375.87 11202.28 9306.92 7290.78 6019.14 4742.34Residual Income Check Figure - 39,545.23 42,173.70 45,202.79 52,410.10 56,432.89 64,785.37 70,127.84 80,001.14 87,096.24 % Change in AEG 0 7% 7% 16% 8% 15% 8% 14% 9%

% ValueCore Net Income (75,182.00) -152%Total PV of AEG 120776.56 244%PV of Terminal Value 3,892.04 8%Total Average Net Income Perp (t+1) 49,486.60 100%Numbe of Shares 122,220.00 Divide by shares to Get Average EPS Perp 0.40 Capitalization Rate (perpetuity) 0.3818

-10% -20% -30% -40% -50%Intrinsic Value Per Share (12/31/1987) 1.06$ 0.0768time consistent implied price 4/1/2009 1.15$ 0.0927 N/A N/A N/A N/A N/AJune 1, 2009 observed price 13.00$ 0.1087 N/A N/A N/A N/A N/AKe 0.3818 0.1246 N/A N/A N/A N/A N/Ag -0.5 0.1405 N/A N/A N/A N/A N/A

0.1565 N/A N/A N/A N/A N/A0.1725 $0.08 N/A N/A N/A N/A

Backdoor 0.3818 $1.15 $1.18 $1.18 $1.16 $1.15

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

12.35$ 13.65$ 11.70$ 14.30$ 11.05$ 14.95$ 10.40$ 15.60$ 10% 15% 20%5%

Growth Rates

Cost of Equity

RESIDUAL INCOME MODELAll Items in Millions of Dollars 1,103,320 958,273 800,022 616,818 416,077 185,392 (68,583) (359,132) (680,612) (1,047,471)

0 1 2 3 4 5 6 7 8 9 10 112008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Net Income (Thousands) (117,948.56) (75,182.00) (86,640.64) (99,845.72) (115,063.42) (132,600.47) (152,810.38) (176,100.52) (202,940.36) (233,870.92) (269,515.67) Total Dividends (Thousands) 59,823.00 58,405.92 58,405.92 58,405.92 68,140.24 68,140.24 77,874.56 77,874.56 87,608.88 87,608.88 97,343.20 Book Value Equity (Thousan 1,236,907.75 1,103,319.83 958,273.26 800,021.62 616,817.96 416,077.25 185,392.32 (68,582.76) (359,132.01) (680,611.81) (1,047,470.68) AVERAGROE -9.5% -6.8% -9.0% -12.5% -18.7% -31.9% -82.4% 256.8% 56.5% 34.4% 25.7% 24.3%Percent Change ROE -28.5% 32.7% 38.0% 49.5% 70.8% 158.6% -411.5% -78.0% -39.2% -25.1% -23.3%Percent Change Be -10.8% -13.1% -16.5% -22.9% -32.5% -55.4% -137.0% 423.6% 89.5% 53.9% 27.9%Ann. N. I. (Benhmrk) 472,251 421,248 365,869 305,448 235,501 158,858 70,783 (26,185) (137,117) (259,858) Annual Residual Income (547,433) (507,888) (465,714) (420,512) (368,102) (311,669) (246,883) (176,755) (96,754) (9,658) -10334pv factor 0.7237 0.5237 0.3790 0.2743 0.1985 0.1437 0.1040 0.0752 0.0544 0.0394YBY PV RI -396174 -265998 -176516 -115345 -73070 -44774 -25667 -13299 -5268 -381

Annual Change in Residual Income 39,545 42,174 45,203 52,410 56,433 64,785 70,128 80,001 87,096

% ValueBook Value Equity (Millions) 1,236,908 1031.1% perp (11,719) Total PV of YBY RI (1,116,491) -930.8%Terminal Value Perpetuity (462) -0.4%MVE 12/31/2008 119,955 100.0%divide by shares 122,220.00 Model Price on 12/31/2008 0.98 time consistent Price 1.06

-10% -20% -30% -40% -50%Obsd Shr Pr (04/1/2009) $13.00 0.0768 N/A N/A N/A N/A N/AInitial Cost of Equity 0.3818 0.0927 N/A N/A N/A N/A N/APerp Growth Rate (g) -0.5 0.1087 N/A N/A N/A N/A N/A

0.1246 N/A N/A N/A N/A N/A0.1405 N/A N/A N/A N/A $0.010.1565 N/A N/A $0.03 $0.17 $0.260.1725 N/A $0.12 $0.30 $0.38 $0.46

Backdoor 0.3818 $1.06 $1.06 $1.06 $1.06 $1.06

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

12.35$ 13.65$ 11.70$ 14.30$ 11.05$ 14.95$ 10.40$ 15.60$

Growth Rates

5% 10% 15% 20%

Cost of Equity

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Discounted Free Cash Flow WACC(BT)=.11892 Kd=.065 Ke=.1246

0 1 2 3 4 5 6 7 8 9 102008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018

Cash Flow From Operations (Thousand 1,123,509 101,835 114,055 124,320 135,508 147,704 160,997 175,487 191,281 208,496 227,261 Cash Flow From Investing Activities (121,019) (354,673) 58,982 49,545 54,004 58,864 64,162 69,936 76,231 83,091 90,570 Change -125.22% -168.44% 0.48% 9.00% 9.00% 9.00% 9.00% 9.00% 9.00% 9.00%FCF Firm's Assets 1,002,490 (252,838) 173,036 173,864 189,512 206,568 225,159 245,424 267,512 291,588 317,831 PV Factor 0.7398 0.5474 0.4050 0.2996 0.2217 0.1640 0.1213 0.0898 0.0664 0.0491PV YBY Free Cash Flows (187,062) 94,716 70,410 56,781 45,790 36,927 29,779 24,015 19,366 15,618

PercentTotal PV YBY FCF 206,341 67.4%FCF Perp 99,747 32.6%Market Value of Assets (6/1/09) 306,088 100.0%Book Value Debt & Preferred Stock 11,917 Market Value of Equity 294,171 PPS at 12/31/08 2.41 Perp

1,501,823 Time consistent Price (12/31/08) $2.73Observed Share Price (6/1/09) $13.00 0 0.023 0.047 0.07 0.09 0.12 0.14

0.0757 $27.42 $35.43 $57.49 $252.93 N/A N/A N/AWACC(BT) 0.3516 0.0901 $21.76 $26.33 $36.21 $66.86 $1,239.60 N/A N/APerp Growth Rate 0.14 0.1045 $18.17 $21.16 $26.84 $39.68 $83.98 N/A N/A

0.1189 $15.36 $16.47 $19.76 $27.19 $41.20 N/A N/A0.1334 $13.00 $14.39 $16.62 $20.35 $26.80 $72.59 N/A0.1478 $11.21 $12.21 $13.73 $16.06 $19.61 $34.38 $107.940.1623 $9.67 $10.39 $11.43 $12.94 $15.02 $21.76 $35.94

Backdoor 0.35163 $2.36 $2.40 $2.45 $2.50 $2.55 $2.65 $2.73Shares Otsd as of Dec. 31, 2008

122,220.00 N/A<0 <$11.70 11.70$ 14.70$ $14.30<

12.35$ 13.65$ 11.70$ 14.30$ 11.05$ 14.95$ 10.40$ 15.60$ 5% 10% 15% 20%

Growth Rates

WACCbt

Discounted Dividends Approach WACC(AT)= Kd=6.5 Ke=0.1246

Relevant Valuation Item 0 1 2 3 4 5 6 7 8 9 10 112008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

DPS (Dividends Per Share) 0.48 0.48 0.48 0.48 0.56 0.56 0.64 0.64 0.72 0.72 0.80 0.80PV Dividends YBY 0.48 0.35 0.25 0.18 0.15 0.11 0.09 0.07 0.05 0.04 0.03

PerpTotal PV YBY Dividends 1.33 2.10

PV Factor Ke 1.0000 0.7237 0.5237 0.3790 0.2743 0.1985 0.1437 0.1040 0.0752 0.0544 0.0394

PVTVperp 0.11 0 0.033 0.067 0.1 0.133 0.167 0.2Model Price 1.44 0.0768 $9.63 $13.79 $47.37 N/A N/A N/A $0.67Time Consistant Price 1.65 0.0927 $7.86 $10.79 $18.37 N/A N/A N/A $0.34Observed Share Price $13.00 0.1087 $6.61 $23.44 $11.15 $7.24 $5.29 $4.11 $3.36Initial Cost of Equity (Ke) 0.3818 0.1246 $5.68 $6.53 $8.41 $15.21 N/A N/A N/APerpetuity Growth Rate (g) 0 0.1405 $4.98 $5.54 $6.66 $9.53 $37.65 N/A N/A

0.1565 $4.41 $4.81 $5.51 $7.01 $12.72 N/A N/AShares Otsd as of Dec. 31, 2008 0.1725 $3.96 $4.24 $4.71 $5.29 $7.94 $39.89 N/A

Backdoor 0.3818 $1.65 $1.66 $1.68 $1.70 $1.72 $1.48 $1.79

N/A<0 <$11.70 11.70$ 14.70$ $14.30<

12.35$ 13.65$ 11.70$ 14.30$ 11.05$ 14.95$ 10.40$ 15.60$

Growth Rates

5% 10% 15% 20%

Cost of Equity

197 | P a g e

2004 2005 2006 2007 2008Original R&D 107430 110834 126,458 134,374 143,583Assume Mid Year AcquisitionsNew R&D

2004 2005 2006 2007 2008 2009 2010 2011 2012 20132004 10,743 21,486 21,486 21,486 21,486 10,743

2005 11,083 22,167 22,167 22,167 22,167 11,083

2006 12,646 25,292 25,292 25,292 25,292 12645.8Impair New R&D 2007 13,437 26,875 26,875 26,875 26874.8 13437.4

2008 14,358 28,717 28,717 28716.6 28716.6 14358.3

total RD write downshould impair 10,743 32,569 56,299 82,382 110,178 113,793 91,966 68,237 42,154 14,358

Did impair 107,430 110,834 126,458 134,374 143,583 12,427 12,427 12,427 12427.4 12427.4impairment adjustment IS (96,687) (78,265) (70,159) (51,992) (33,406) 101,365 79,539 55,810 29726.6 1930.9

Capitalized RD BS (96,687) (174,952) (245,111) (297,103) (330,509) (229,143) (149,604) (93,794) (64,068) (62,137)

Research and Development Captilized

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