2 Reasons Why Qualcomm Is A Solid Buy Despite A Weak Earnings Report

May. 4.14 | About: Qualcomm Inc. (QCOM)


Qualcomm disappointed investors and analysts with its latest report, but this isn't the end of the road for the company.

The pick-up in demand for smartphones in China should lead to increased sales of Qualcomm's chips, while Apple's expected product introductions are also a big opportunity.

Qualcomm has a strong balance sheet and its earnings growth expectations are also robust, making it a solid buy.

Qualcomm (NASDAQ:QCOM) shares fell after the company reported its second-quarter results. Its revenue missed expectations and the fact that Qualcomm issued a weak earnings forecast for the ongoing quarter also hurt investor sentiment. However, can Qualcomm make a comeback and rescue its stock price performance going forward? Will the advent of Apple's (NASDAQ:AAPL) new iPhones help Qualcomm battle the increase in sales of low-cost devices? Let's find out.

China is a big opportunity

Qualcomm's revenue was up just 4% year over year. This was the smallest quarterly increase in four years. The reason why Qualcomm is struggling is quite clear. As reported by Reuters --

"With expansion in the smartphone industry moving away from wealthy markets such as the United States and toward China and other developing countries, where consumers favor less expensive devices, Qualcomm's once-impressive revenue growth is tapering off and it is focusing on costs to preserve its profitability.

Less growth than expected in recent months in China, where China Mobile is preparing to launch a new, faster network with 4G, or LTE, technology, hurt Qualcomm's results in the quarter, Chief Executive Steve Mollenkopf told Reuters."

However, investors shouldn't rush to sell their Qualcomm shares yet. The weakness could be attributed to the fact that 4G LTE is being rolled out in China, so consumers are holding on to their existing devices as they wait for new LTE handsets. The market for LTE handsets is a huge one and Qualcomm expects tremendous growth here. According to management, the drop in 4G handset prices in China as a result of China Mobile's (NYSE:CHL) $8.2 billion 4G handset subsidies is expected to lead to terrific growth.

According to research firm iSuppli, the number of 4G phones shipped in China is expected to surge from 4.6 million units in 2013 to 72.6 million this year, 144 million in 2015, 220 million in 2016, and 300 million in 2017. However, telecom giant China Mobile is even more optimistic regarding this market's prospects, and expects shipments of 4G handsets to reach 200 million this year itself.

So, Qualcomm has seen a delay in growth in China, but this doesn't mean that it isn't being able to capitalize on the booming market.

Apple could be a big catalyst

Qualcomm can also see a boost in its prospects as a result of Apple's upcoming devices. Qualcomm has been a long-time supplier to Apple, supplying RF transceivers, baseband processors, and power management chips. This year, it is expected that Apple will launch a bigger iPhone, or an iPhablet with a 5.5-inch screen size.

According to AppleInsider--

"Many current iPhone owners experience "large-screen envy" driven by competing Android devices with bigger displays, analyst Brian Marshall of ISI Group believes. In a note to investors issued this week, a copy of which was provided to AppleInsider, he said he believes a larger iPhone will drive significant upgrades among existing iPhone users, and would also convert a large number of Android users to Apple's platform.

Specifically, Marshall believes Apple could release two new iPhone models to better serve the existing smartphone market. He sees the company launching one handset with a 4.7-inch display, and another with a jumbo-sized 5.5-inch screen."

The introduction of a bigger iPhone with a 5.5-inch screen will be a big growth driver for Apple. The reason is very simple if we believe AppleInsider --

"Four out of every ten smartphones sold in China during the month of March came with a screen size larger than 5 inches diagonally, according to a new report from market research firm Kantar WorldPanel ComTech. The steady sales come as Chinese consumers lean on the devices more heavily for entertainment.

Apple is reportedly poised to cash in on this growing market, with the company rumored to bring two new, larger-screened iPhone models to market later this year. The so-called "iPhone 6" is thought to bear a 4.7-inch display, while a 5.5-inch "iPhone Air" would follow later and compete directly against larger flagship Android phones like Samsung's Galaxy line."

Hence, the introduction of a bigger sized iPhone would lead to an increase in Apple's market size. At the same time, since Qualcomm provides a number of chips to Apple, it should see big gains going forward once Apple launches the device. Moreover, since Apple is already in a deal with China Mobile, it can tap more than 780 million subscribers of the telecom giant. So, all in all, the long-term prospects of Qualcomm are still robust.

Fundamentals and final words

The drop in Qualcomm stock has made it cheap. Qualcomm trades at a trailing P/E of 20 while a forward P/E of 14 suggests earnings growth going forward. In addition, the company has got a rock-solid balance sheet. It has total cash of $16.63 billion while its debt is just $12 million. Over the next five years, Qualcomm's earnings are expected to grow at a decent pace of 15% per annum. Hence, investors should definitely consider capitalizing on the recent pullback in Qualcomm shares as it looks like a good 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.