Mobile phone technology licensing company, Qualcomm, Inc. (NASDAQ:QCOM) is one of the latest tech companies in the S&P 500 to report its results.
Qualcomm managed to deliver somewhat upbeat results considering the backdrop of the challenging 3G licensing issues that it has been facing in China — one of its most important 3G/4G markets.
Qualcomm Earnings: The Hard Numbers
Qualcomm reported revenue of $6.9 billion for its second quarter of fiscal 2015, an encouraging 8.3% year-over-year growth compared to last year’s comparable quarter, but a 3% sequential drop compared to the first quarter.
Qualcomm earnings, however, plunged 46% to $1.1 billion due to a large one-time fine of $975 million that the company forked over to the Chinese government in settlement of its long-standing antitrust probe.
The fine paid out by QCOM was the largest in China’s corporate history, and was part of a larger agreement between the company and the Chinese government that requires Qualcomm to lower its royalty rates for its patents that are used in the country. The company’s adjusted earnings grew 3% year-over-year.
Adjusted earnings per share managed to grow 7% to $1.40 thanks mainly to the company’s huge ongoing $10-billion share repurchase program authorized in March to be executed over a one-year period. The huge authorization means that QCOM has lined up a total of $15 billion in buybacks, enough to cut its outstanding share count by a hefty 7.5%.
Qualcomm’s results managed to beat both analysts’ revenue expectations of $6.83 billion and EPS of $1.33. Despite the top- and bottom-line beat, Qualcomm stock still fell 2.65% after the earnings call due to the company lowballing its full-year guidance.
QCOM also provided third quarter and fiscal 2015 guidance as follows:
- Third-quarter revenue is expected to come in between $5.4 billion and $6.2 billion, with EPS of 85 cents to $1. Analysts were looking for revenue of $6.5 billion and EPS of $1.13.
- Full-year revenue guidance was dropped to $25 billion-$27 billion. Meanwhile, the company lowballed full-year EPS from $4.85-$5.05 down to $4.60-$5.
So the report was somewhat mixed, but arguably good enough. Despite the lower guidance, I remain bullish on Qualcomm due to several key factors.
Handset Sales Are Still Outpacing Decline in Smartphone ASPs
Qualcomm makes its money through two main channels. The first is selling its own MSM chips. It’s a high-revenue but low-margin business that accounts for 70% of revenue, yet only 23% of pretax profits. The second channel is collecting royalties on licensed mobile phones, which only brings in 30% of company revenue but a whopping 77% of pretax profits.
Qualcomm’s royalty business is therefore very valuable for the company, and is in fact the reason why activist Jana Partner has been calling for the company to spin off its chip business so as to ostensibly create more shareholder value.
According to eMarketer, the proportion of the population using smartphones worldwide will grow from 63.5% in 2014 to 69.4% in 2017, providing Qualcomm with room for even more growth.
China Growth Opportunities
China is one of Qualcomm’s largest markets, boasting more than 1.2 billion mobile subscribers, close to four times as many as those in the U.S.
China Mobile Ltd. (ADR) (NYSE:CHL) the world’s largest mobile operator with close to 800 million subscribers, said last year that it managed to increase its 4G subscribers from a little over 1 million at the beginning of the year, to around 50 million by the end of the year. That’s a phenomenal growth rate. But, that means that more than 90% of the Chinese market still does not have 4G, presenting a good growth runway for Qualcomm.
It’s in Qualcomm’s best interest to tap into this growth opportunity as subscribers in the market upgrade from 3G to 4G. Virtually all 4G smartphones are also fully compatible with multimode 3G/4G smartphones, as well as single-mode 3G smartphones. Moreover, Qualcomm estimates that 95% of 4G smartphones sold in 2018 will still be backward compatible with 3G, allowing the company to double-dip on both revenue streams.
QCOM also recently revealed that it plans to leverage Monolithic 3D technology beginning from 2016 to help it win smartphone market share. According to the company, the technology can address the cost issues it has been struggling with while delivering superior performance.
Bottom Line
Qualcomm’s long-term outlook remains quite good despite its low guidance for the current year. The company still owns an enviable 3G and 4G license portfolio that can help it tap into large developing markets such as China where there is a rapid transition to 4G.
Moreover, QCOM will start leveraging Monolithic 3D technology beginning next year, which will help keep it ahead of the competition.
As of this writing, Brian Wu did not hold a position in any of the aforementioned securities.
