“QCOM traded in a wide range during the third quarter as investors fear the impact of the China slowdown on smartphone sales while awaiting the outcome of the board’s strategic review process, which we expect to be announced before year end. Press reports emerged during the quarter that Samsung will return to using Qualcomm’s Snapdragon 820 chips for some of its upcoming Galaxy S7 phones, to be shipped next year. This is unequivocally positive news for QCOM’s QCT segment, a short cycle semi-conductor business that has seen revenues and margins collapse during our investment period with the loss of Samsung’s Galaxy S6. Next year sets up for a much different margin trajectory based on the significant cost realignment underway: any incremental business from Samsung is an additional benefit. Qualcomm’s QTL segment currently accounts for 80%+ of overall FY16 earnings, yet QCOM is currently quoted at a P/E of less than 10x (ex-cash), a discount to the trading levels of its more capital intensive semiconductor peers. We continue to believe the value embedded in QCOM far exceeds the price at which it is available in the market, and that the Strategic Realignment Plan being advanced by management and the board has the potential to drive substantial returns going forward,” JANA said.
“Qualcomm continued to detract from relative performance during the second quarter. However, we are still maintaining Qualcomm as the largest weighting in portfolios (excluding cash), as its absolute risk-reward proposition skews very favorably, compared to alternative opportunities. Earlier this year a key overhang was removed after Qualcomm settled an investigation by China’s National Development and Reform Commission (NDRC), regarding alleged anti-monopoly violations. Prior to the settlement, Qualcomm’s licensing business was not effectively participating in the local smartphone market, as many original equipment manufacturers (OEM) flouted the Company’s wellestablished, globally recognized intellectual property. That said, we believe most of the non-compliant OEMs do not compete in Western markets, much less outside of China, which is where Qualcomm generates the vast majority of its licensing revenues. As Qualcomm’s IP is increasingly enforced across China’s emerging smartphone OEMs we estimate the settlement could represent 5% to 10% upside for earnings over the next few years. While Qualcomm’s licensing business represents about two-thirds of the Company’s profitability, the chipset business represents most of the balance. Qualcomm’s chipset business has stumbled of late, losing key application processor sockets to in-house rivals, particularly Samsung, while ceding share to MediaTek in basebands. Though Qualcomm’s chipset business is witnessing increased competition, the Company’s ubiquitous “system on a chip” platform, and pioneering technology in mobile connectivity has them maintaining over half the revenue share in the application processor and baseband markets. Despite these near-term pressures, we see this as more than priced into shares. At just over $100bn in market cap, Qualcomm has about $20bn in net cash on the balance sheet after the Company issued $10bn in debt (about half of that at rates lower than or equal to the current dividend yield) with the intention of executing an accelerated repurchase program. Further, if we capitalize the still-growing income stream from Qualcomm’s licensing business – even assuming a sub-market multiple – we surmise that shares imply close to zero value (and maybe even slightly negative) for the Company’s chipset business. In other words, effectively winding down the chipset business would generate more value than what the market is assigning it, which is quite draconian, considering Qualcomm’s still dominant presence in mobile chipsets, and growing licensing franchise,” according to Wedgewood’s second-quarter letter to investors.
Keeping this in mind, we’re going to take a gander at the new action encompassing QUALCOMM, Inc. (NASDAQ:QCOM).
