Some news out of Intel (INTC) last week caught our attention. The company issued $5 billion of 5, 10 and 30 year bonds in its first sale of non-convertible debt in 24 years. The 5 year note yielded 1.95%, the 10 year note 3.3% and the 30 year bonds 4.8%. Intel does not need to borrow the money; they reported having $4.64 billion in cash and only $2.09 billion of long term debt in their latest quarterly filing. They also produced an astounding $17.1 billion in cash flow over the trailing four quarters. But if investors are willing to gobble up the notes, why wouldn’t they borrow at those rates?
This news hints at several things to us, but primarily it’s evidence of the continued discrepancy in our mind between the valuation of many high quality stocks versus the valuation of bonds. Intel’s common stock on the day they floated the debt deal yielded 4% (almost a percent higher than the 10 year fixed note they issued and double the rate on the same maturity issued by the US Treasury), it traded at 9 times forward earnings, produced an internal cash flow yield in relation to it’s enterprise value of almost 17% and sported a return on equity over 25%. Very importantly the dividend is not fixed. Intel has been growing it at 14% over the last 5 years and likely will continue to grow it into the future given its cash flow prowess and statements issued by company officials. But in this market where fear appears the overriding emotion, many flock to the bonds and not the high quality stocks of companies that issue them. If an investor buys and holds the 10 year note, the best return they can make is the 3.3% coupon – and that does not factor in inflation. While acknowledging a higher level of risk than the bond holder, give us 10 years with a high quality company rapidly growing a durable dividend while purchased at this valuation and we believe the return has potential far beyond the bond holder’s coupon, while potentially hedging us to some degree against inflation and compensating us for the added risk.
By the way the company stated they will use the borrowings to repurchase stock, which normally we aren’t big fans of companies doing, but in Intel’s case it appears wise based in part on the valuation metrics cited above.