Intel Corporation's Capital Returns Strategy

By Ashraf Eassa Markets Fool.com

In a previous column, I went over a potential explanation for why microprocessor giant Intel (NASDAQ: INTC) didn't raise its dividend earlier this month. Put simply, Intel has guided for significantly higher capital expenditures for the year, something that's likely going to reduce the free cash flow that the chipmaker will generate during the year.

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A wafer of Intel server chips. Image source: Intel.

During the company's most recent earnings call, new Intel CFO Robert Swan described the chipmaker's capital returns strategy in a reasonable amount of detail. I'd like to go over it here, as it's quite helpful in trying to understand the company's thinking as it relates to dividends and share repurchases.

The dividend strategy

On the call, Swan said that the company's plan with respect to the dividend is to "grow it in line with non-GAAP earnings" and to "have it be roughly 40% of the free cash flows of the company."

In 2016, Intel generated non-GAAP earnings per share of $2.72 and the company is guiding to $2.80 in non-GAAP earnings per share in 2017 -- just under a 3% year-over-year boost. At the current dividend payout of $1.04 per share on an annual basis, Intel is currently on track to pay out roughly 37% of its non-GAAP earnings per share as a dividend.

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The share buyback strategy

With respect to stock buybacks, Swan said that the company's goal is to "continue to offset dilution."

Beyond that, though, Swan didn't commit to much. The company took on a sizable net debt position after it spent $16.7 billion to acquire programmable-logic specialist Altera in late 2015, and Swan did indicate that as the company edges closer to having no net debt, it would look at "opportunistically" buying back stock with the intention of taking Intel's share count down.

However, Swan stressed that the company would only buy back stock to take its share count down if it didn't limit the company's "financial flexibility relative to the things that matter most, which is strengthening [Intel's] business."

A sensible capital return policy

Intel's capital return policy is reasonable, as the company is allocating a large portion of its free cash flow generation to the dividend, which puts money into shareholders' brokerage accounts.

At the same time, though, it is important that the company have the "financial flexibility," as Swan refers to it, to make significant investments in new factories as well as in other areas of the business. Intel's capital expenditures are expected to hit $12 billion in 2017 -- up significantly from the $9.6 billion it spent in 2016.

It'd be a shame if Intel passed on significant potential business opportunities because it committed more to the dividend program than the business could reasonably support. The key thing for Intel to do now is to turn these big investments in capital equipment, research and development, and marketing into engines that can deliver significant and consistent free cash flow growth in the years ahead.

If Intel is successful, then both its revenues and earnings and free cash flow per share stand to rise, which should allow the chipmaker to return more to stockholders -- both in terms of potential share price appreciation and direct capital returns.

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Ashraf Eassa owns shares of Intel. The Motley Fool recommends Intel. The Motley Fool has a disclosure policy.