Qualcomm (NASDAQ:QCOM) announced a very strong set of Q3 FY 2013 results on July 24, as Snapdragon sales beat expectations to help push both revenues as well as the bottom line towards the high-end of its guidance. The dominant semiconductor giant rode the growing popularity of mobile devices and the ongoing transition to 4G LTE in many parts of the world, to post a strong 35% growth in revenues y-o-y. As a result of the sustained strong top line growth, Qualcomm increased its FY2013 revenue guidance for the second time in three months, from a range of $24-$25 billion to $24.3-$25 billion. More than the unit growth in chipset sales, what truly beat expectations was a stronger-than-expected rise in ASP (average selling price) levels of mobile chipsets as well as mobile devices. While device ASPs were up by a strong 6% at the mid-point of guidance, chipset ASPs rose 8% sequentially as the sales mix shifted more towards the high- and mid-tier products.
Shares of the company popped almost 4.5% in after-hours trading following the announcement of the results. The ASP increase assuaged concerns about Qualcomm’s high-margin licensing fees being impacted by a possible saturation in the high-end smartphone market and a growing mix of emerging market sales. Sure, as the sales mix shifts to emerging markets, there could be a downward pressure on ASPs, but the impact should also be offset by an equally rapid smartphone transition taking place in many of these markets. If we look at the current feature phone prices and compare them to smartphones even at the lowest end of the spectrum, the price differential is meaningful enough to give ASPs an uplift as the transition picks up pace.
In the coming quarters, we see Qualcomm increasingly benefiting from the 3G to 4G transition in developed markets and the 2G to 3G/4G transition in the emerging markets, as it leverages its huge patent portfolio and early LTE lead in chipsets to keep competition at bay. In the longer term, however, there is likely to be pressure on margins and mobile device ASPs, as the mix shifts to emerging markets and LTE competition catches up.
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Keeping these factors in view, we maintain our $70 price estimate for Qualcomm, about 12% ahead of the market.
Emerging Markets Will Drive Qualcomm’s future growth
The smartphone market has shown significant growth in recent years. Gartner estimates that almost 700 million smartphones were shipped worldwide last year, a growth rate of more than 43% over 2011. A consumer shift towards smartphones continues to be strong despite some lingering macroeconomic uncertainty, and it is likely that the momentum will push the smartphone market closer to the 1 billion mark by the end of 2013. At the same time, the growth of other mobile devices such as tablets is picking up serious momentum. IDC estimates that tablet sales grew by over 65% in 2012 to 117 million units, and will continue to grow rapidly for the next few years to reach about 260 million unit sales by 2016. 
Most of the future smartphone volume growth is likely to come from the emerging markets such as China and India, where 3G/4G penetration is still very low and carriers are intent on driving data usage through smartphones. According to IDC, more than 210 million smartphones were sold in China last year, giving the country a share of almost 30% of the world market and leaving the U.S. far behind. With a billion strong mobile subscriber base and carriers increasingly trying to transition their huge 2G base to 3G, China presents a huge opportunity for Qualcomm, to not only gain from its chipset sales, but also earn a steady stream of licensing revenues. (see Qualcomm Introduces Three New Entry-Level Chipsets To Target Emerging Markets)
The biggest opportunity for Qualcomm here is China Mobile, which is planning to transition from a non-industry TD-SCDMA standard to 4G LTE. China Mobile is not only China’s largest wireless carrier, but also the world’s, with a huge subscriber base of almost 750 million that overshadows Verizon’s by almost seven times. Given Qualcomm’s early lead in LTE and its relatively low presence in the earlier standard TD-SCDMA, China’s transition to LTE should give it not only a wider base to collect royalties from, but also to further its chipset market share.
However, an increasing mix of mobile phones sold in the emerging markets will see mobile ASPs fall, limiting the upside to licensing fees from such a scenario. We currently estimate that the 2G to 3G/4G transition will see 3G/4G penetration of mobile devices worldwide grow from about 50% currently to about 65% by the end of the forecast period. However, the increasing adoption of smartphones in the emerging markets buoyed by the growing number of low-end affordable smartphone options could see 3G/4G penetration increase to about 80%, by the end of our forecast period. Such a scenario would add a further 10% upside to our price estimate. However, if mobile ASPs fall to about $150 from the current level of $220 simultaneously due to the growing emerging market mix, the upside to our price estimate would be limited to only about 6%.
Qualcomm’s LTE Superiority Preserves High-end Dominance
As for 4G LTE, this high-speed technology is being widely promoted in the developed regions of U.S., Japan and South Korea. Qualcomm has taken a big early lead in this market, having come to market first with its LTE-capable baseband chipsets. Of the 47 million LTE-capable chipsets that were shipped last year, Qualcomm accounted for nearly 86% of the market. Q1 2013 saw Qualcomm ship almost 97% of all LTE baseband chipsets in the industry. While competitors are only now bringing their first LTE basebands to market, Qualcomm’s chipsets are in their third-generation already. This big early lead is therefore a testament to the company’s superiority in 3G/4G connectivity solutions as well as its ability to integrate these baseband capabilities onto a single app processor chip, both of which have helped it perform really well in the smartphone market so far.
However, competition in the LTE market is slowly growing with Samsung and Nvidia having made their Exynos and Tegra line LTE-compatible. But we expect Qualcomm’s technological superiority to help it hold fort in the near term. This could be seen in Samsung’s decision to launch the Galaxy S4 with Qualcomm’s chipsets for LTE markets despite having a LTE-compatible chipset of its own. While Qualcomm’s huge initial market share is likely to decline over time due to increasing competition, the overall growth in the LTE market should help more than offset that impact.Notes:
- IDC Raises Its Worldwide Tablet Forecast on Continued Strong Demand and Forthcoming New Product Launches, IDC Press Release, September 19th, 2012 [↩]