QUALCOMM, Inc (QCOM) Stock: A Value Play Or A Value Trap?

Are QUALCOMM, Inc.'s legal risks priced in already? Is this the best time to go long on QCOM stock?

QUALCOMM, Inc (QCOM) Stock A Value Play Or A Value Trap

Shares of San Diego, California-based Qualcomm (NASDAQ:QCOM) are still down around 18% since the bad news of FTC anti-trust charges came out. This was followed by Apple (NASDAQ:AAPL) suing the world's largest smartphone chipmaker for $1B over withholding "rebate" payments for its use of the company's modems. Following this news, QCOM stock fell more than 12% on the day witnessing its highest volume levels since early 2010. These lawsuits are a major risk to Qualcomm's lucrative licensing model as Qualcomm was already struggling with similar charges worldwide with a $854M fine in South Korea being the latest. Qualcomm delivered mixed Q1 2017 earnings which put further pressure on QCOM stock. Putting aside the risks and given Qualcomm's growth potential, QCOM stock looks very cheap at these levels. The question now is whether all the legal risks are already priced in. Is Qualcomm stock a value buy right now? Let's take a closer look.

Is The FTC And Apple Lawsuit Already Priced In?

There is a strong belief among some analysts that the FTC charges may be dropped as the interim chairwoman appointed by President Trump, Maureen Ohlhausen, had previously written a letter to the FTC opposing these charges. Derek Aberle, President of Qualcomm, also cited this example in the company's last earnings while defending their stance in the FTC lawsuit. Mr. Aberle stated that this issue is based on "flawed legal theory, a lack of economic support, and significant misconceptions about the mobile technology industry". A recent Barron's post states a Qualcomm bull, Mike Walkley of Canaccord Genuity, who is of the view that the post-lawsuits sell off has priced in the risks to Qualcomm's licensing segment due to its legal woes. His worst case scenario still presents a decent picture about Qualcomm's business. This is what he has to say:

"Based on our worst-case-scenario analysis that assumes Qualcomm does not close the NXP merger and Apple pays zero licensing fees, we estimate Qualcomm would generate $3.96 in 2018 pro forma EPS. With the share price currently trading at roughly 13x this potential worst-case scenario, we believe the shares are attractive to long-term investors. In fact, we are increasing our price target to $76 based on our updated Qualcomm and NXP pro-forma model and scenario analysis."

One other important thing to note here is that Apple doesn't have any direct contracts with Qualcomm. The smartphone chipmaker actually has contracts with Apple OEM suppliers, which are still valid. The possible earnings scenarios of Qualcomm as per analyst Mike Walkley's research can be seen below.

Possible earnings scenarios depending on Apple and NXP

Source: Barrons blog

Even the bearish analysts expect Qualcomm's core business to be stable in the long-term. Bernstein’s Stacy Rasgon opines that "Unlike a year ago, stability is not something we feel comfortable signing up for at the moment. We see no real hurry to get involved in QCOM right now, and prefer to play the deal through NXPI". Analysts seem to be split on the issue of the legal risks being priced into the current stock price.

A Few Positives Appear For QCOM Stock Lately.

Given Qualcomm's legal woes one would expect shorts to pile into QCOM stock but there has been a significant decline of 9.4% in the number of Qualcomm shares being shorted according to WSJ data for the last reporting period of Jan 31st. The short interest of QCOM is near its decade low with shorted shares forming only 0.8% of the total outstanding float. This is welcome news for QCOM stock investors and at this valuation levels, QCOM stock presents a decent risk/reward opportunity. News of Insiders buying QCOM stock has emerged lately. Qualcomm Inc's

News of Insiders buying QCOM stock has emerged lately. Qualcomm Inc's Director, Anthony J. Vinciquerra and EVP & President, QCT, Amon Cristiano R have bought Qualcomm stock in large numbers at price levels of $53.98 and $53.13 respectively. This is a clear sign that the management is of the view that downside risk is limited now. As a Forbes post puts it "the only reason an insider would take their hard-earned cash and use it to buy stock of their company in the open market, is that they expect to make money."

All this suggests that now may be a good time to enter QCOM stock. Also, a post on TheStreet.com reports that chances of QCOM stock forming a hard bottom are very high. It suggests investors to closely monitor the $54 to $53 price area. To quote the report: "If Qualcomm can continue to build a base near this area, the bottom will continue to strengthen and, with it, a greater chance of a healthy rebound move." QCOM stock closed the Feb 13th trading session at $54.93.

Qualcomm's Innovative Quotient Is Still Very High.

Qualcomm has announced its two new chips supporting the latest 802.11ax Wi-Fi technology yesterday. The smartphone chipmaker is the first company to announce end-to-end commercial solutions, supporting 802.11ax. It has one chip "aimed at enterprise access point use, with the other being designed for end-use in consumer products". Wi-Fi 802.11ax is the next version of wireless communications technology which helps multiple users operate simultaneously, at high speeds, in a crowded radio environment. This is one more significant revenue segment for Qualcomm and devices based on these two chips are set to hit the market before the end of 2017 and early 2018. Qualcomm has long been the innovative leader in the mobile computing and internet connectivity technology space. Qualcomm's licensing business model is all based on such innovations. The core business innovation is still very healthy. There has been plenty of speculation regarding Qualcomm's $39B buyout of NXP Semiconductor (NASDAQ:NXPI) being at risk and the lost growth potential in IoT space on the failure to close the deal. A point to note here is that even before the NXPI acquisition, Qualcomm still had the most valuable patent portfolios in the IoT space, according to a study by LexInnova. Investors should be confident about Qualcomm's core business and growth potential to make a move on QCOM stock.

Final Words.

The declining short interest, insider purchases and the technicals suggest QCOM stock is set for a revival and downside risk is limited. Investors should note that Apple and Samsung have been suing each other for years, yet Samsung is still one of their top suppliers. So it is very unlikely that Apple will part with Qualcomm and at most, due to lower chip prices and licensing fees, there would be a short-term impact on the chip maker. Long-term investors should consider going long on QCOM stock as the stock is very cheap at the current valuations and the company's core business still remains strong. The uncertainty here clearly presents a value opportunity for the long-term investors.

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Sreekanth Anasa Sreekanth Anasa   on Amigobulls :

Neither Amigobulls, nor any members of its staff hold positions in any of the stocks discussed in this post. The author may not be a certified/registered investment advisor, and the opinions expressed should not be treated as investment advice.

Buying and selling of securities carries the risk of monetary losses.Readers/Viewers are advised to carry out their own due diligence and consult their investment advisors before making any investment decisions.

Neither Amigobulls, nor the author have any business relationship with any of the companies covered in this post.

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