Avoid Intel, Buy Qualcomm Instead? - Part 2

| About: Qualcomm Inc. (QCOM)

With the rising demand for higher speed 3G, 4G, and Wi-Fi networks for mobile baseband and applications, mobile operators are continuously searching for high-speed network technology that will generate high-growth opportunities for telecommunications equipment manufacturers and service providers. Analysts expect the global LTE market to grow at a CAGR of 158.2% from 2010 to 2015, reaching $262.05 billion in 2015. The companies in this segment are taking strategic steps such as network share and technology upgrades to gain a competitive advantage.

In our previous article, when we suggested buying Qualcomm (NASDAQ:QCOM) instead of Intel (NASDAQ:INTC), many of our readers asked for more reasons as to why Qualcomm is a better investment opportunity. We will discuss a few of them in this article.

Maintaining a Leading Position in the Next-Generation LTE Market

Qualcomm is the leading player in the LTE market, motivating Intel to enhance its footprint in this growing segment. Intel recently announced its first 4G LTE multi-mode modem by leveraging wireless capabilities of its past acquisition, Infineon. The multi-mode modem transfers the network speed to 3G when LTE isn't available. Intel's multi-mode modem is currently compatible with 15 bands, and it is focusing on improving its wireless baseband modem capabilities. It recently acquired Fujitsu's (OTC:FJTSF) wireless segment, which will enable its multi-mode modem to be compatible with all 40 bands available worldwide. This will help Intel to grab a share of the increased demands for LTE multi-mode modems.

On the fundamental side, Intel has a large market cap of around $112 billion and a trailing PEG of 1.08 compared to Qualcomm's 1.06. This suggest it has a smaller growth opportunity than Qualcomm. A lower PEG indicates high future growth potential for the company. Intel's trailing P/E is 11.92 and its forward P/E is 11.16, implying that earnings aren't expected to grow significantly.

We say Qualcomm is the industry leader because not only does it have a strong valuation, but it also achieved the highest level of technological advancement in LTE. Its continuous upgrades enable it to enhance baseband compatibility with LTE-Advanced -- a next-generation LTE technology. Qualcomm launched the world's first Global LTE-capable baseband chipset, shipping 47 million units to capture around 86% of the total market share in 2012. Its competitors are trying to bridge the gap by launching their first LTE chipsets, but Qualcomm is already on their third-generation chipset, giving it a leading edge over its competitors.

According to Strategy Analytics, the global baseband market showed growth of 18.5% to $4.6 billion in the first quarter. With its leadership in LTE, Qualcomm captured 97% of the total LTE market and 59% of the overall baseband market compared to Intel's 12% in the first quarter of 2013. Its LTE integrated Snapdragon application processor and new RF360 chipset will help mobile device manufacturers develop thinner and more power-efficient 4G enable devices. Recently, its chipsets were adopted by Samsung's Galaxy S4 and Galaxy Active.

We expect that Qualcomm could witness some decline in its market share due to increasing competition from Intel. However, its leadership in LTE, its continuous R&D, and its services will all enable it to deepen its relationships with customers. In addition, the overall growth in the LTE market will nullify the impact on its earnings.

On the valuation side, Qualcomm's stock currently has a trailing P/E multiple of 17.8, a forward P/E of 13.54, and expected EPS of $4.94 next year. This shows that the stock price should appreciate by another 15%-18% in the next 12 months.

Small Cell Converting Into Big Fortune

Qualcomm's continuous spending on research and development enables it to benefit from growth opportunities in wireless networks. These prevailing opportunities are expected to drive its future growth and maintain its leading position in the network market.

Qualcomm recently entered into a joint venture with Alcatel-Lucent (ALU) to enhance their 3G, 4G, and Wi-Fi connectivity for residential and corporate usage. This collaboration will develop next-generation "small cells" base stations for ultra-broadband wireless access. Small cells are low-powered pieces of equipment used to enhance network connectivity speed. This will enable both companies to enhance their footprints in advanced wireless network technology. Both will jointly fund R&D to enhance next-generation capabilities of Alcatel-Lucent's wireless networking paradigm, "lightRadio," with the use of Qualcomm's FSM9900 family of small cell chipsets. As per a Financial Times report, Qualcomm will invest around $132 million on R&D in this venture and acquire about a 5% stake in Alcatel-Lucent, worth $133 million:

According to Qualcomm's CEO, 'Working together with industry leaders like Alcatel-Lucent, we can accelerate the dense deployment of small cells globally, driving another significant leap in advanced wireless broadband technology and services.

Small cells greatly increase capacity by bringing the network closer to the user, thus enabling operators to serve the anticipated 1,000x growth in mobile data traffic and dramatically improving the experience for wireless subscribers.'

As per tech analyst estimates, this chipset will be able to fetch an average selling price (ASP) of around $600 with optimistic sales of 20 million units and 25 million units on the higher side, which is expected to contribute around 6%, or $0.29, to EPS in fiscal year 2014 on the higher side. Qualcomm is continuously deploying its cash on developing an advanced chipset and reported year-over-year sales growth of 31% per quarter since 2010. In the last quarter its sales grew by 35% to $6.24 billion. It holds cash equivalent assets of $30.4 billion, and we expect a strong cash balance will enable it to develop a more advanced chipset, resulting in an increase in future sales and EPS.

On other hand, Alcatel-Lucent has faced weak cash flow over the past few years. It reported negative cash flows of around $1.91 billion last year. To improve this, it launched "The Shift Plan" in July 2013, which focuses on growing technologies like IP networking and ultra-broadband access on both mobile and fixed lines. Under this, it planned to spend around 85% of its total R&D on improving IP networking and ultra-broadband capabilities. However, this collaboration will help lower its R&D expenses and enable it to gain better opportunities in the next-generation small cells technology market. With the venture and its Shift Plan, it is expected to generate cost saving of around $1.34 billion by 2015.

Its negative cash flows in the last few years may be a key concern for investors. However, this venture -- coupled with its Shift Plan -- shows a neutral risk/reward for now. We are expecting this sentiment to turn into a positive as it has shown signs of recovering. In the second quarter, its cash flow stood at negative $332 million from negative $683 million in same period last year. It started utilizing its plan, and it expects this venture will provide a high-growth opportunity. This will drive investors' confidence in coming quarters with higher upside growth potential for the stock.


In our view, Qualcomm is showing signs of growth and prominent upside in the upcoming years. It is expected that the company will grow in line with the industry. Furthermore, its EPS in the next five years is expected to grow by 16.67% annually compared to Intel's EPS growth of 11%.

With the above valuation metrics and qualitative factors, we believe Qualcomm possesses strong growth potential, despite the increasing competition from other companies in this segment. Qualcomm's leadership qualities make it a strong candidate for long-term investment.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.