Qualcomm’s (NASDAQ:QCOM) shares have been falling ever since it announced its Q2 FY2012 results last month. While the results for the quarter were solid, supply chain issues for its 28nm chipsets caused Qualcomm to give a subdued forecast for the next quarter. As a result, Qualcomm’s shares have since fallen by close to 15% in less than a month. However, we believe that the concerns are overblown and Qualcomm’s fundamentals remain strong on continued strong demand for mobile chipsets and the near-term nature of its supply problems. We maintain our $68.40 price estimate for Qualcomm, which is about 22% ahead of the current market price.
Sustained high demand for mobile devices
Smartphones have shown significant growth in 2011, and we expect this to continue in 2012 as well. Despite economic uncertainties, consumer shift towards smartphones continues to be strong. iPhone and Android based smartphones have incredibly high growth and tablet growth is picking up momentum as well. Gartner estimates that tablets have registered a growth of over 250% in 2011, and will continue to grow rapidly for the next few years to reach about 370 million unit sales by 2016.  The increasing adoption of mobile devices will help Qualcomm see its mobile chipsets, bolstered by its Atheros’ acquisition last year, gain increased traction.
Emerging markets such as China are seeing an explosion in demand for 3G capable smartphones. With a billion strong mobile subscriber base, China is poised to become the world’s largest smartphone market by the end of the year. (see Qualcomm Rides China’s Smartphone Boom As It Reaches One Billion 3G Subscribers)
Qualcomm will also continue to benefit from the diversified set of customers that it has managed to woo banking on its broad portfolio of Snapdragon chips that includes both integrated as well as standalone processors. A significant design win last year was when it added Apple to its broad customer base last year, replacing Infineon (now acquired by Intel) and becoming the exclusive baseband provider for both the iPhone and the iPad. (see Qualcomm Gets Big Win Over Infineon with iPhone 4S) Apple has already launched the new iPad in March this year and will launch the next-gen iPhone 5 later this year.
Supply issues only a near-term hiccup
Qualcomm has lowered its guidance only for the June quarter but reaffirmed its full fiscal year guidance. This means that while there may be a near-term shortage of 28nm chipsets in the June quarter, the company hopes its initiatives to increase supply to start to show results in the September quarter and help significantly improve supply in the December quarter and beyond. Qualcomm expects its operating expenses to increase in the near-term as it tries to facilitate the production of additional 28nm chipsets at fabs not run by TSMC, its current manufacturing partner, to augment supply. The supply shock is therefore, in all likelihood, a temporary one.
As Qualcomm adds more suppliers, we believe the company is positioning itself well for the huge surge in demand for mobile chipsets in the coming years. With demand being high, once the supply issues are overcome, Qualcomm should be able to leverage its stronger supply ecosystem to grow revenues even better than earlier anticipated.
Royalty revenues not impacted by supply issues
Apart from mobile chipsets, Qualcomm also makes money off any handset or semiconductor manufacturer that uses its 3G CDMA technology in its device, leveraging its large treasure trove of 3G patents to bring in high-margin revenues. We believe the markets are not considering the fact that the supply shortage at Qualcomm’s fabs for its 28nm processors does not impact the vast majority of mobile phones in the market that do not rely on this technology, or for that matter on Qualcomm at all. While mobile chipsets contribute the most (>40%) to Qualcomm’s value, royalty revenues from 3G licensing deals also make for a significant chunk (>35%) of our price estimate.
The emerging markets are seeing high demand for 3G-capable smartphones as carriers there try to transition their huge 2G base to 3G. This not only means higher chipset revenues for Qualcomm but also higher royalty revenues from the sale of handsets that support its 3G technology.
As for the 28nm chipsets, since they enable better processing speeds, conserve space and are more power-efficient, the demand for such chipsets, especially for LTE capable smartphones, will continue to remain high in developed markets such as the U.S. (see Qualcomm Leads the LTE Charge In 2012)Notes:
- Gartner Says Worldwide Media Tablets Sales to Reach 119 Million Units in 2012, Gartner Press Release, April 10th, 2012 [↩]