Qualcomm (NASDAQ:QCOM), a leading developer of Code Division Multiple Access (OTCPK:CDMA) mobile device technology, reported its Q3 2014 earnings on July 23, as we noted in our earnings post-view. The company reported revenues of $6.8 billion, experiencing 9% year-over-year and 7% quarter-to-quarter growth, which is a slight improvement from Q1 2014 but still way below the historical growth rate of over 20% that the company reported in the last few quarters.
Revenue growth in Q2 2014 was mainly driven by record performance in the ‘Qualcomm CDMA Technologies’ (QCT) segment as Qualcomm shipped 225 million Mobile Station Modem (MSM) in the quarter, well ahead of its expectations. However, the company witnessed some headwinds in its licensing division, reporting lower than expected revenue from the business in Q3 2014. (Read: Qualcomm’s Q3’14 Growth Supported By Strong Chipset Sales Offset By Lower Licensing Revenue)
The company revised its Qualcomm Technology Licensing (QTL) fiscal 2014 outlook and expects a reduction of approximately 8% in total reported device sales for the second half of the year. Today we will focus on this issue. Below are the factors that contribute to uncertainty around Qualcomm’s licensing business in the near future.
Our price estimate of $73.86 for Qualcomm is almost in line with the current market price. Qualcomm’s stock price has declined approximately 7% since the Q3 2014 earnings release.
Despite a healthy 3G/4G device demand environment, Qualcomm has lowered its financial guidance for its QTL segment for fiscal 2014. The changes reflect certain challenges in China that could prevent the company from collecting royalties on the full 3G/4G device demand in the near term.
1. Dispute With The Licensee: Qualcomm is undergoing dispute with one of its licensee which resulted in the non-exclusion of a portion of that licensee shipment in its Q3 2014 results. The company claims that it is undergoing active discussions with the licensee and, like many past disputes, expects to resolve the situation soon though the timing remains uncertain.
2. Uncertainty Around LTE Launches In China: Qualcomm claims that the timing of the LTE launches in China, as well as device composition at China Mobile, has been a bit difficult to forecast. China Mobile is transitioning from its TD-SCDMA standard to TD-LTE. Qualcomm has signed 70 single mode LTE license with Chinese OEMs and still needs to sign agreements with a number of other Chinese OEMs, in order to be able to collect royalties on all three mode devices in China. Given the time it will take to complete the remaining single mode LTE licenses in China, Qualcomm expects to experience a delay in the timing of collection of royalties on these devices.
3. Negotiating Licenses With New Potential Licensees: Qualcomm has witnessed an increase in sales of lower tier 3G connected tablets by a number of Chinese OEMs. It expects sales of these devices to grow in the future which is beneficial for 3G/4G attach rates and tablets. However, the tablet OEMs are mostly not the same companies that have been supplying the handsets in China, and therefore in most cases, are not currently licensed. Though Qualcomm is undergoing discussions with these potential licensees, it claims the discussions will take some time to come about.
4. Under-Reporting By Chinese Licensees: According to Qualcomm, some of its Chinese licensees are under reporting and may continue to under report a portion of their 3G/4G device sales. Having robust and active compliance programs in place, the company is taking the relevant steps to address this issue. Until the issue is fixed, this will negatively impact Qualcomm’s licensing revenue.
As the company stated to investors:
“Although we have these near term challenges, we continue to expect to collect royalties on all LTE devices globally, including three mode devices sold in China, and have executed more than 110 single mode LTE licenses, in addition to our more than 260 3G licenses, which cover multimode 3G/4G devices.”
Disclosure: No positions