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Qualcomm, The Invention Revolution

|Includes: Qualcomm Inc. (QCOM)

Qualcomm (NASDAQ:QCOM) has garnered a lot of negative attention lately

One of the biggest headwinds for QCOM has been it's ongoing legal battle with Apple (NASDAQ:AAPL) and antitrust cases in South Korea and China. QCOM is currently under fire from APPL over licensing fees in 4 separate suits.

According to CNBC

"The Apple suit stems from an investigation by Korean authorities into Qualcomm's potentially anti-competitive practices in how it charges royalties. Apple cooperated in the probe, which ultimately led Korean regulators to fine Qualcomm $854 million in December for unfair trade practices.

Apple's business agreement with Qualcomm has included rebates from the chipmaker for exclusive use of its products. In last week's lawsuit, Apple alleged that Qualcomm withheld payment of $1 billion as a retaliatory measure for helping Korean authorities."

A significant portion of QCOM's revenue comes from their licensing business. Apple and Samsung account for around 40% of their revenue.

This presents a significant risk to investors.

But…

On October 27th 2016, Qualcomm formally announced that it would be acquiring NXP Semiconductors N.V. (NASDAQ:NXPI), the leader in the automotive chipset and semiconductor manufacturing.

The Deal

QCOM is expected to buy NXPI at a cost basis of $110 a share which marks an approximate 5.6 % upside to the current share price of $103.86. The deal is anticipated to close by the end of 2017. While QCOM is working to raise capital to complete the merger and 14.8% of the outstanding NXP shares have been tendered for purchase already the real question everyone wants answered is what value will this deal bring to QCOM.

Currently there are 333.46M shares of NXPI Outstanding bring QCOM's total purchase cost to

$36.68 Billion.

Assets

6/30/2016

9/30/2016

12/31/2016

Cash & Short Term Investments

1335

1569

1894

Total Accounts Receivable

1085

1157

1033

Accounts Receivables, Net

-

-

-

Inventories

1167

1141

1113

Finished Goods

-

-

-

Work in Progress

-

-

-

Raw Materials

-

-

-

Progress Payments & Other

-

-

-

Other Current Assets

1352

1336

1358

Total Current Assets

4939

5203

5398

Net Property, Plant & Equipment

2403

2366

2352

Accumulated Depreciation

2093

2217

2217

Buildings

-

-

-

Land & Improvements

-

-

-

Total Investments and Advances

-

-

-

Other Long-Term Investments

-

-

-

Long-Term Note Receivable

-

-

-

Intangible Assets

16720

16566

16186

Net Goodwill

8873

8910

8843

Net Other Intangibles

7847

7656

7343

Other Assets

519

657

628

Tangible Other Assets

-

-

-

Total Assets

24581

24792

24564

Liabilities & Shareholders' Equity

     

ST Debt & Current Portion LT Debt

622

621

421

Accounts Payable

873

889

973

Income Tax Payable

5

5

5

Other Current Liabilities

1097

1053

1039

Total Current Liabilities

2592

2563

2433

Long-Term Debt

8272

8761

8766

Provision for Risks & Charges

30

28

22

Deferred Taxes

1867

1810

1720

Other Liabilities

751

876

862

Other Liabilities (excl. Deferred Income)

751

876

862

Total Liabilities

13512

14038

13803

Non-Equity Reserves

-

-

-

Preferred Stock (Carrying Value)

-

-

-

Common Equity (Total)

10881

10550

10540

Common Stock Par/Carry Value

71

71

71

Retained Earnings

-4350

-4282

-4282

Cumulative Translation Adjustment For. Exch. Gain

-

263

263

Revaluation Reserves

-

-

-

Total Shareholders' Equity

10881

10550

10540

Accumulated Minority Interest

188

204

221

Total Equity

11069

10754

10761

Liabilities & Shareholders' Equity

24581

24792

24564

Source: Seeking Alpha

A very healthy balance sheet indeed. Strong assets that greatly exceed any short and long term liabilities NXP might encounter.

Let's take a look at QCOM

Assets

6/30/2016

9/30/2016

12/31/2016

Cash & Short Term Investments

17110

18648

10812

Total Accounts Receivable

1939

2219

2085

Accounts Receivables, Net

-

-

-

Inventories

1338

1556

1910

Finished Goods

-

-

-

Work in Progress

-

-

-

Raw Materials

-

-

-

Progress Payments & Other

-

-

-

Other Current Assets

592

558

972

Total Current Assets

20979

22981

15779

Net Property, Plant & Equipment

2341

2306

2270

Accumulated Depreciation

3360

3734

3734

Buildings

-

-

-

Land & Improvements

-

-

-

Total Investments and Advances

13922

13702

18973

Other Long-Term Investments

13922

13702

18973

Long-Term Note Receivable

-

-

-

Intangible Assets

9326

9179

9024

Net Goodwill

5657

5679

5686

Net Other Intangibles

3669

3500

3338

Other Assets

2143

2161

4008

Tangible Other Assets

-

-

-

Total Assets

50786

52359

52366

Liabilities & Shareholders' Equity

     

ST Debt & Current Portion LT Debt

1749

1749

1749

Accounts Payable

1572

1858

1648

Income Tax Payable

4

-

-

Other Current Liabilities

3522

3704

4597

Total Current Liabilities

6843

7311

7994

Long-Term Debt

10024

10008

9935

Provision for Risks & Charges

-

-

-

Deferred Taxes

-

169

-

Other Liabilities

3281

3103

3231

Other Liabilities (excl. Deferred Income)

855

726

953

Total Liabilities

20148

20591

21160

Non-Equity Reserves

-

-

-

Preferred Stock (Carrying Value)

-

-

-

Common Equity (Total)

30647

31778

31215

Common Stock Par/Carry Value

169

414

214

Retained Earnings

30134

30936

30815

Cumulative Translation Adjustment For. Exch. Gain

-145

-161

-188

Revaluation Reserves

-

-

-

Total Shareholders' Equity

30647

31778

31215

Accumulated Minority Interest

-9

-10

-9

Total Equity

30638

31768

31206

Liabilities & Shareholders' Equity

50786

52359

52366

A few key statistics to mind are

QCOM will be acquiring NXPI at an estimated Price to Book value of 3.47

NXPI posted earnings last quarter of $0.37 and Revenues of 2.44B

QCOM carries a market cap of 82.43B while NXPI currently has a market cap of 36.08 Billion

Both companies carry an incredibly healthy and sustainable balance sheet. Normally inventory build-ups in QCOM would be a cautionary sign but I believe that this is typical considering QCOM is gearing up for the launch of the iPhone 8 and potential upcoming Samsung releases as well as its growing smartphone segment in China.

But to once again reiterate, both are incredibly healthy.

My Investment Thesis

I believe the intelligent investor needs to ask themselves, how did QCOM get in this situation in the first place. The answer to that question is simple, competitive advantage. QCOM's suite of patents, industry expertise, and supply chain allow them to stay one step ahead of their competitors. Within the smartphone industry, the only company that comes even close to being able to fill the niche that QCOM holds is Intel (NASDAQ:INTC). Let's be honest QCOM is not going away anytime soon in the smartphone sector and the chances of Apple dropping QCOM completely as a supplier are slim.

However, I believe that the distraction of the smartphone deal has created an even more advantageous opportunity.

The Automotive Industry.

5G Technology

5G technology is the fifth generation of mobile wireless technology based on the IEEE 802.11ac standard. Currently 4G technology powers your connectivity in consumer cellphone technology and may be aiding you in reading this article right now. The advantages of 5G are numerous and as an engineer I could drone on all day about them. In laments terms however, 5G technology is supposed to be approximately 3X faster than 4G.

This has opened a slew of opportunities within the world of Internet of Things technology for QCOM.

Check out this video

CES 5G Highlights

QCOM is THE INDUSTRY LEADER in the charge for 5G technology. QCOM recently announced their X50 modems based on 5G standard and provided several riveting demonstrations at CES 2017. The 5G industry is supposed to grow to be $12 trillion by 2035.

What NXP Brings to the Table

NXP is a specialist in automotive technology that enables in-vehicle network communication. NXP holds numerous patents for automotive networking and technology. All in all NXP has over 9000 issued or pending patents.

What I really want to focus on is the automotive sector

For example NXP also recently showcased a piece of amazing technology at CES.

"The main CES launch by NXP was a software defined radio (NYSE:SDR) solution for IVI systems called the SAF4000. This claims to be the world's first one-chip system covering all global audio broadcast standards, including AM/FM, DAB+, DRM(+) and HD. The primary benefit is to slash hardware costs, as car radio systems generally require bulky circuit boards and six separate integrated circuits - whereas the SAF4000 is the size of just a fingertip. Other companies provide a single RF front end to all these standards, but this is the first to deliver an entire system-on-chip (SoC), rather than offloading some of the processing to a device CPU.

This is part of NXP's wider push to simplify the connected car device ecosystem by replacing multi-chip systems with compact RFCMOS chips, which will drive down costs and encourage mass uptake. That will complement Qualcomm's existing presence in some Android Auto IVI systems, as well as its constant drive towards greater integration."

Source: The Register

Remember this is just one of many revolutionary future automotive technologies that NXP has in their pipeline.

Bringing it Together

If QCOM acquires NXPI, it will become the leading automotive chip supplier in the world. With a new suite of over 9000 patents and new technologies, QCOM will have a massive competitive advantage in the automotive industry when it surges with introduction of autonomous vehicles and Advanced Driver Assistance Systems. I believe that the introduction of autonomous driving technology will push auto sales to peak levels never seen before. With QCOM having a large footprint and licensing proprietary technology in perhaps every new vehicle on the planet through either 5G technology integration with infotainment and Apple/Android in vehicle features, advanced cockpit technology( NXP has a partnership with Panasonic, the industry leader), or new and existing technological patents and products from NXP pertaining to in-vehicle communication, active safety, and autonomous sensor control, thier revenues will grow substantially. If done correctly and integration of NXP goes well, QCOM could license technology in every new automobile produced in the next 5-10 years. This doesn't even mention the fact that 5G technology will be imperative for developing smart stoplights, signs, and roadway infrastructure for T2T technology that will almost certainly need to be integrated to pave the way for widespread use and adoption of these driverless vehicles.

In conclusion I believe that by targeting the automotive industry with their existing licensing model will be a huge win for QCOM. While most smartphone technology is powered by a single chip, most modern automobiles can have (or will have) 10's of 100's of extremely specialized processors that will be necessary to get the entire system to work and I believe that QCOM is well positioned to seize the lion's share of that business.I believe this catalyst is severely underestimated by most analysts future growth projections due to a lack of technological understanding and very conservative growth estimates.

Qualcomm Valuation

Source: Seeking Alpha

QCOM has handily beat analyst estimates every quarter for the past 3 years. Yet at the same time

Source:YCharts

QCOM is at a similar price to its 2012 levels. Volatility in price has been extremely high for a company of QCOM's size. (But not too unusual for the technology sector)

Source:YCharts

QCOM has been growing revenue fairly consistently while trading at slowly fading yet stable PE and PB ratios.

Source:YCharts

Meanwhile QCOM has also been returning more and more capital to it's investors in the form of a consistently growing dividend. What's not to love?

Analyst Coverage

As aforementioned, analysts have been conservative and cautious with QCOM as of late but even so the average price target for analysts is still $65.35 according to Marketwatch

Source: Marketwatch

Also ratings are only getting better. According to a recent article on Seeking Alpha the most recent price target I can find for QCOM was a reiterated buy rating by Canaccord Genuity with a $76 price target.

Source: Seeking Alpha

In Conclusion

QCOM is priced fairly and has posted consistent growth in both revenues and investor returns. With a recent pullback, due to legal concerns, the recent dip offers new investors an excellent opportunity to start a position if you have a fair and reasonable appetite for risk. Strong upcoming catalysts in the next 3-5 years are going to send this stock much higher.

Disclosure: I am/we are long QCOM.