Investment Opportunities in Mobile Internet and Qualcomm

Of all the disruptive technologies listed in the 2013 McKinsey Global Institute study “Disruptive technologies: Advances that will transform life, business, and the global economy” the adoption of the Mobile Internet was estimated to have the largest contribution and impact to global G.D.P. over the next 10 years. McKinsey estimates that the mobile internet could generate a measurable global economic impact of some 3.7 to 10.8 trillion U.S. dollars per year by 2025.

McKinsey believes that “this value would come from three main sources: improved delivery of services, productivity increases in select work categories, and the value from internet use for the new internet users who are likely to be added by 2025, assuming that they will use wireless access either all or part of the time”

We are currently in the midst of the shift from desktop to mobile in the developed world. As recently as March 2015, accessing the internet via (mobile) apps surpassed that of desktop users. According to comScore Media Matrix the number of desktop only users has fallen some 50% over the last 12 months to just 10.6%. Mobile only is now 12.3% of users and growing. In August 2016, Facebook announced that over 56% of users are “mobile only”.

Smartphones and tablets are becoming our primary source for the internet. Improvements in network data speeds (now 4G, 5G on the way), smaller more powerful processors, shrinking form factors (lighter, thinner devices), and ubiquitous WiFi connections in offices and public spaces are driving this adoption. So is the incredible proliferation of available apps” with an estimated over 180 billion downloaded by the end of 2015.

The dominance of the smartphone relative to desktop and tablets is clear in the chart below:

Mobile-stats-vs-desktop-users-global

Source: Morgan Stanley Research

What’s next?

Faster connectivity via a 5G standard, sensor laden “wearables”, and possibly satellite delivery of internet and related services.

The next leg of growth for the mobile internet will take place in the developing world where over 3 million potential users will eventually be connected via smartphones. While internet use in emerging countries is growing at 25% p.a. over 60% of the population in developing countries is not yet connected. Device makers will have to specially tailor products for these markets and network capacity/ pricing must be supportive.

For investors this may be an interesting theme but it is not a new one. Smartphones, tablets and other devices are now ubiquitous in the developed world with over 1 billion people using the devices. Money has been made investing in hardware suppliers such as Apple, Samsung, LG, and HTC, not to mention their component manufacturers / assemblers and software developers. This space is getting a bit crowded but companies that have the sophisticated technology on offer should continue to do well given the size, scope, and duration of the mobile internet phenomenon.

In order for the mobile internet to continue to deliver products and services to the world at large it will need faster and more efficient networks. As new 4G & 5G wireless networks are built out over the next few years in both the developed and developing world (especially China), companies that are providing the devices and underlying technology and infrastructure should do well. San Diego, CA based wireless telecommunications company Qualcomm is particularly well placed to benefit from this trend.

 

Investment Opportunities in Qualcomm (NASDAQ: QCOM)

Qualcomm is involved in the development, design, manufacture, and marketing of digital telecommunications products and services. It operates through three segments: Qualcomm CDMA Technologies segment develops and supplies integrated circuits and system software based on technologies for the use in voice and data communications, networking, application processing, multimedia, and global positioning system products. The QCT segment is a developer and supplier of integrated circuits and systems based on CDMA, OFDMA and other technologies. It supplies critical parts to Apple, Samsung, and a variety of other OEMs around the world. Notably, QCT outsources manufacturing of its chips and modems. The Qualcomm Technology Licensing segment provides rights to use portions of the firm’s intellectual property portfolio. It has developed a variety of technology standards over the years, and it essentially collects a royalty from every wireless device. The Qualcomm Strategic Initiatives segment invests in the technology, design, and introduction of products and services for voice and data communications.

In its most recent earnings report (July 21, 2016), Qualcomm beat expectations for both earnings and revenues. QCOM reported adjusted earnings of $1.16 on $6.03 billion in revenue for its fiscal third quarter. Wall Street had been expecting Qualcomm to post earnings of just 97 cents on revenue of $5.58 billion. The San Diego-based company also saw $2.04 billion in sales from its technology licensing business, well above analyst expectations of $1.82 billion. Of the 31 Wall Street analysts who cover Qualcomm, 13 raised their stock price targets.

Greater-than-expected chip sales helped Qualcomm Inc. exceed Wall Street profit expectations for the company’s latest three-month period. The company also said its third-quarter results also benefited from the recognition of previously deferred royalty revenue related to the dismissal of its arbitration with LG Electronics Inc. Earlier in the year, LG Electronics alleged that it had paid the chip maker too much under its patent licensing deal.

For the final quarter of its fiscal year, Qualcomm sees revenue coming in between $5.4 billion and $6.2 billion with adjusted earnings in the range from $1.05 to $1.15. Analysts expect adjusted per-share earnings of $1.08 and revenue of $5.7 billion.

Qualcomm may be in the “early innings of where we think we’re going to take the company,” CEO Steve Mollenkopf said in a post earnings interview on CNBC’s “Squawk Alley.

“The key piece is the underlying technology migration to LTE, which has been the engine that is really driving the importance of getting China in a good spot for us as a business. … China will continue to be an important component of the growth story for Qualcomm moving forward,” he said on Thursday.

In reality, Qualcomm’s business in China has got a new lease on life. The company’s CEO said that his company is benefiting not only from new patent licensing deals in China, but also from a new crop of local handset makers. He also said that Chinese consumers upgrade their smartphones more frequently to stay abreast of the latest technical features. This trend is beneficial for Qualcomm’s chip sales, Mollenkopf believes.

Qualcomm’s QCT (Qualcomm CDMA Technologies) division sells its chips, such as Snapdragon 820, directly to Chinese smartphone-makers. On the other hand, its QTL (Qualcomm Technology Licensing) division licenses its technologies, e.g., 3G/4G wireless mobile telecom technologies, to smartphone-makers in exchange of royalty payments which is a percentage of the price of a smartphone.

With local smartphones-makers in China challenging international players like Apple, Qualcomm is well positioned to take advantage of the situation via offering either its chips or its mobile telecom technologies or both to local players.

In the meantime, Qualcomm’s strategy is to move into adjacent markets such as drones and wearables and that seems to be getting some traction. In his prepared remarks, CEO Steve Mollenkopf also stated:

“Qualcomm continues to expand our presence in adjacent opportunities including automotive, networking, mobile compute and IOT. These industries are rapidly adopting smartphone technologies. Our leadership across 3G, 4G, 5G, WiFi, multimedia, graphics, processor and RF front-end technologies positions us well for these new growth areas. Collectively, the addressable opportunity for these adjacent areas is expected to grow at a CAGR of 18% over the next five years from $12 billion to $29 billion according to a combination of third-party and internal estimates.”

Qualcomm is a direct play on telecommunications infrastructure and smartphones in Asia as well as the mobile internet theme. China generates over 50% of its sales. Korea and Taiwan produce 17 % and 14% of revenues respectively.

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