Qualcomm Decides Against Breaking Up, Positive On Meeting Earnings Target

  • Qualcomm has ruled out spinning off its mobile chip manufacturing business from its technology licensing division saying the two arms are better off together.
  • Qualcomm has said that it expects Q1 FY 16 earnings to be in-line or above its guidance.
  • Qualcomm's appears to have a good chance of turning around its fortunes.
  • Qualcomm stock remains a good stock to hold for the long haul.

Mobile technology company Qualcomm (NASDAQ:QCOM) has ruled out breaking up the company. Qualcomm has been under intense pressure by activist hedge fund investor Jana Partners who has been calling for the company to spinoff its mobile chip business from its highly profitable 3G/4G licensing business. It had also suggested Qualcomm to increase stock buy-back program to boost stock price. Qualcomm had agreed to look into spinoff option in July after sharp drop in profits and decline in stock price.

"The current structure is the best way to execute on our strategy to build on our position in the ecosystem and deliver enhanced performance and returns," said Qualcomm CEO Steve Mollenkopf.

Qualcomm’s business is divided into two broad categories:

  • Selling mobile chips (QCT business). This is a high revenue but low margins business. Qualcomm chip business accounts for about 70% of the company’s revenue, but just 23% of its pretax profits.
  • Collecting royalties on mobile phones that use its licensed technologies (QTL business). Qualcomm collects about 3%-5% of the price of a handsets that use its 3G and 4G mobile technology. These royalties account for just 30% of the company’s revenue but about 77% of its pretax profits.

Qualcomm (NASDAQ:QCOM) has been facing intense competitive pressure from Taiwanese chipmaker, Mediatek, as well as a host of smaller Chinese chip manufacturers. Qualcomm has all along been resisting calls to break itself up saying it uses profits from the licensing business to fund its chip manufacturing business.

China worries could be easing up

But lately, Qualcomm’s technology licensing business, QTL, has also been facing severe challenges as well, particularly in China. China has been a big opportunity, and a big problem, for Qualcomm. Mobile licensing in China has been problematic for Qualcomm, with some mobile phone manufacturers under-reporting sale of licensed products while others have been delaying executing licenses. Qualcomm made this clear during its earnings call:

“We also believe that certain licensees in China currently are not fully complying with their contractual obligations to report their sales of licensed products to us (which includes certain licensees underreporting a portion of their 3G/4G device sales and a dispute with a licensee) and that unlicensed companies may seek to delay execution of new licenses while the NDRC investigation is ongoing.”

Qualcomm (NASDAQ:QCOM) has the third highest exposure to China of any U.S. public company, with more than 60% of its revenue coming from the country. Consequently problems in the Middle Kingdom can be very unsettling for Qualcomm.


Source: Business Insider

Meanwhile, the Chinese Govt. has not been helping matters at all by accusing Qualcomm of abusing its monopoly status, and indirectly encouraging smartphone manufacturers not to pay up. The Beijing Government hit Qualcomm with a record $975 million antitrust fine in February.

These headwinds have been slowing growth for Qualcomm, and consequently reflecting on poor stock performance--Qualcomm stock is down 35.3% YTD. Qualcomm has repeatedly issued weak guidance due to lackluster licensing revenue. During the last quarter(Q4 fiscal 2015), Qualcomm’s revenue fell a jaw-dropping 18% to $5.5 billion while GAAP net income was down 44% to $1.1 billion on weak licensing revenue.
QCOM stock chart

Source:Qualcomm Stock Price Data by amigobulls.com

The poor earnings results by Qualcomm were pinned on the company’s inability to conclude new licensing agreements with Chinese smartphone OEMs. Qualcomm estimates that 3G/4G sales in the country were underreported by a staggering $24 billion during fiscal 2015.

But things could finally be looking up after Qualcomm granted Xiaomi, China’s largest smartphone manufacturer, a royalty-bearing patent license to build and sell 3G and 4G devices. Qualcomm has now signed lincesing deals with four of the five largest OEMs in China. Although many smaller players are yet to come to the deal table, the latest signing has encouraged the company, as well as Qualcomm investors, that other Chinese manufacturers might soon follow suit.

Qualcomm is confident that it can turnaround its fortunes in fiscal 2016. The company said that it expects Q1 earnings to be in-line or above its guidance. Qualcomm stock looks like a good hold for the long haul.

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