How Will The EU Probe Impact Qualcomm?

Sep. 3.14 | About: Qualcomm Inc. (QCOM)

Summary

Qualcomm has the Chinese antitrust agencies on its tail and is at risk of coming under investigation in the European market.

Last November, a probe was carried out against Qualcomm by the NDRC of China to investigate the company's involvement in monopoly practices.

The emergence of the European probe has come at a time when the Chinese probe into the company is nearing its end.

Holding the top spot in the mobile chipset market all across the globe, Qualcomm (NASDAQ:QCOM) faces a number of allegations regarding involvement in monopoly practices and abusing its dominant power in the market. For now, the company has the Chinese antitrust agencies on its tail and is at risk of coming under investigation in the European market due to a complaint filed by Icera -- which was acquired by Nvidia (NASDAQ:NVDA) in 2011 -- in 2010. The company had filed a report with the European Commission that accused the mobile chipset giant of being involved in the use of exclusionary pricing for its products to discourage consumers from purchasing Icera's products.

Additionally, the complaint against the company accused Qualcomm of misusing patent-related incentives to discourage business with Icera. If found guilty, Qualcomm could face hefty fines that amount to almost $2.5 billion. The European Commission is known for issuing large fines to companies involved in such activity. In a recent ruling, it fined Intel (NASDAQ:INTC) a sum of 1.1 billion euros for abusing its power in the market.

Another Complaint Added to the List

If you think that this is the first complaint that has been filed against Qualcomm, think again. Ericsson (NASDAQ:ERIC) and Texas Instruments (NYSE:TXI) filed a complaint against the company in 2006, stating that it was misusing its market position for CDMA technology. The complaint was dropped in 2010 by the companies themselves.

In 2009, QCOM was charged with a fine of $268.6 million, which it had to pay to the Fair Trade Commission of South Korea for abusing its power as being one of the leaders in CDMA modem chips that were used in LG and Samsung (OTC:SSNLF) electronic products. At that time, the company dominated 99.4% of the market for CDMA chips. This was the largest ever fine that the agency had levied on a single company.

Last November, a probe was carried out against Qualcomm by the National Development and Reform Commission (NDRC) of China to investigate the company's involvement in monopoly practices. An announcement was made by the agency last week that stated they are prepared to take steps to resolve the issue. It met with a delegation of the company in order to find some common ground. As the probe reaches its concluding stages, it is believed that Qualcomm should brace itself for the levying of some very large fines and a reduction in its royalty rates.

Is This a Limitation to QCOM's 4G Opportunity in China?

The Chinese probe came about at a time when the country itself was preparing to introduce 4G technology in its market. In December 2013, the government has handed out TD-LTE licenses. 3G technology is very strong in the country, and with the handing out of these auctions, it is believed that the smartphone industry there will receive a tremendous boost. As the country braces itself for the launch of this technology, the Chinese government is very assertive in terms of achieving low royalty rates and keeping costs low so that local players remain protected.

If the probe findings are not in favor of Qualcomm, it could have to say goodbye to approximately 1%-10% of its annual revenue in China to pay off the fines. Though more than half of the company's revenue come from China, it also receives a significant portion of its revenue from selling chipsets to companies like Apple (NASDAQ:AAPL) that have their supply chains in China (and from licensing patents as well). This makes it unlikely that the imposition of fines puts most of the company's revenue at risk.

The regulatory steps that are being taken by the country's government could make it difficult for Qualcomm's future revenue to grow, since China and its local businesses appear to be the driver of some of the largest portions of the company's earnings in the future. The aggressive stance taken by the NDRC could mean that Qualcomm could also lose the power to impose rates in the country, which would limit its gains when it rolls out 4G technology for its people.

Moving On to Europe

The emergence of the European probe has come at a time when the Chinese probe is nearing an end. The issue seemed to have died down, but has suddenly been fast-tracked after the issuance of the fine to Intel. This delay in resolving complaints is very normal for the competition authority of the EU. Both Qualcomm and the EU declined to comment on the stance of the probe. However, if the company is found to have breached any antitrust rules in the EU, it could face fines that amount to about 10% of their global revenue.

How Will This Impact Qualcomm?

Though no definite decision has come from either probe being carried out against the company, the stock seems to remain unaffected by the investigations and is a buy for many. However, if the company is found to have breached any rules, it could face some significant fines. A major portion of its revenue could go into paying off these fines, especially if both fines are levied before the end of the current year.

Furthermore, the company could lose the potential to earn a lot from the Chinese market should the fines be imposed, since it will no longer be left in a bargaining position. This means loss of revenue for the company that it could have gained from the market.

There is an air of uncertainty regarding how shares of Qualcomm could react to a loss in future revenue, and a loss in current revenue should it have to pay off the fines. But analysts are still rating the stock a buy based on its high revenue growth, low debt-to-equity ratio, improving return on equity, earnings per share, and net income growth -- which seem to be the more important fundamentals when predicting any company's earnings potential.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.