The news surrounding Qualcomm, Inc. (NASDAQ:QCOM) has not been good for some time. While the company’s battle with Apple Inc. (NASDAQ:AAPL) has garnered the headlines of late, concern about Qualcomm isn’t new. QCOM stock peaked in mid-2014. Despite huge gains for a number of large-cap tech companies over that period, the stock has fallen by about one-third from those post-crisis highs.
The weakness in Qualcomm has been driven by two primary factors.
First, investors are concerned by slowing smartphone growth. Particularly if QCOM loses Apple as a key customer — or even loses a portion of its business with the manufacturer — its addressable market could shrink going forward.
Secondly, the battle with Apple and prior regulatory problems are calling the company’s business model into question.
In response to both of those concerns, Qualcomm announced a plan last October to acquire NXP Semiconductors NV (NASDAQ:NXPI). The deal diversified Qualcomm away from smartphones, created exposure to growing Automotive and IoT markets, and lessened some of the reliance on the core licensing business.
But now that deal appears to be in jeopardy. And that could be enough to cause another leg down for QCOM stock.
Must Qualcomm Pay More for NXP?
Qualcomm launched a tender offer for NXPI at $110 per share, and needs 80% of outstanding NXPI shares to be tendered. The figure, as of the last update in late July, currently stands at just 7.6%.
That’s down from 12.5% a month before, as many shareholders withdrew their consents. The reason is simple: NXPI stock now trades over the $110 asking price. Hedge fund Elliott Management has taken a 6% stake in NXP, and it is pushing for a higher price from Qualcomm or a sale to another buyer. And with NXPI trading near $113, investors clearly believe that Elliott has a reasonable chance of success.
The problem for QCOM stock is that none of the outcomes here appear particularly desirable. Qualcomm could raise its bid, but it wouldn’t be cheap. Even a 10% increase in the offer would imply an extra $3.8 billion in cost for the company — roughly 5% of its current market capitalization. And that may not be enough, particularly if a bidding war commences.
Bear in mind that Intel Corporation (NASDAQ:INTC) paid through the nose for Mobileye NV (NYSE:MBLY), with MBLY shareholders getting roughly 31x forward revenue. Nvidia Corporation (NASDAQ:NVDA), who plays in the same attractive automotive and Internet of Things markets as NXP, trades at over 50x next year’s earnings. In contrast, Qualcomm is buying NXP at a bit over 4x forward sales and 16x forward earnings-per-share.
The multiples there aren’t apples to apples, and NXP won’t be, and shouldn’t be, valued the same as NVDA. But there’s room for another player to make a higher bid — or for NXP to decide it’s worth more on its own. A higher bid from Qualcomm likely would hit QCOM stock.
But the problem is that losing NXP might be even worse.
QCOM Stock Needs the Acquisition
Should NXP walk away from Qualcomm, it seems likely many investors would do the same from QCOM stock. There’s a clear lack of trust surrounding the licensing model, and for good reason. A double whammy of losing Apple — or simply ceding more iPhone share to Intel — and lacking the ability to diversify away from smartphones could change the narrative surrounding Qualcomm stock significantly.
Without NXP, QCOM looks like a low-growth giant at best. And that will keep a lid on its long-term valuation. (One only need to look at the last 15 years of trading in Intel stock to see proof of that problem.) And if Qualcomm has to bid again for NXP, it will require additional debt and additional interest, which will limit some of the potential financial benefits of the acquisition.
There doesn’t seem to be a third option at this point. It’s going to be nearly impossible for Qualcomm to buy out NXP shareholders at $110 if they can sell in the open market at $113. If NXP’s board announces that it doesn’t have a better option, perhaps this can go through. But that’s not great news, either: if no one else wants NXP at $110, should Qualcomm?
As I’ve argued in the past, QCOM stock looks cheap. But it’s cheap for very good reasons. And with one of the remaining pillars of the bull case being undercut, Qualcomm stock should get cheaper still.
As of this writing, Vince Martin did not hold a position in any of the aforementioned securities.