OPINION
Qualcomm hosted an upbeat analyst meeting yesterday in San Diego for the
investment community. The company highlighted its continued expectations for
solid CDMA growth worldwide, strong chip orders and backlog and the inherent
advantages of cdma2000 vs WCDMA from both a cost and time to market point of
view. The company provided an update of all its businesses as well as un
update on a geographic market by market basis.
Although we remain concerned for the wireless equipment stocks due to the
impact of an UMTS delay and overly aggressive handset forecasts by the larger
suppliers, we believe Qualcomm is best positioned to outperform given: it has
already started to benefit from 3G (1xRTT and initial royalties from WCDMA in
Japan); the 2001 01 CDMA outlook remains strong; and the majority of the
handset risk currently in the marketplace is from GSM and Europe, where QCOM
has limited, if any, exposure. We reiterate our 1-H rating.
CDMA MARKET OUTLOOK REMAINS ON TRACK
Qualcomm reiterated its estimate of 90 million CDMA handsets in calendar 2001
and noted two other independent research firm estimates of 86 million and 92
million. North America is estimated to represent 36% of this total followed
by Asia with 35%, Latin America with 23%, 5% in the rest of the world and 1%
in China. Our estimates for QUALCOMM are based on our estimate for 85
million CDMA phones to be shipped in 2001.
POTENTIAL CATALYSTS FROM GEOGRAPHIC MARKETS EXPANDING CDMA USE AND NOKIA
EXTENDING LICENSE TO INCLUDE WCMDA
The expansion of cdma2000 in various geographic markets could provide
potential catalysts for the stock as could the extension of some existing
license agreements to include WCDMA from Nokia, Alcatel and Siemens.
While the timing of events in China is impossible to forecast, the momentum
for the deployment of CDMA IS-95 A continues. Qualcomm is currently working
with 13 local manufacturers and expects RFPs could emerge by as early as the
first half of this year. Unicom Horizon Mobile, the China Unicom subsidiary
planning a CDMA network, has indicated on its website that initial capacity
could be 10 to 13 million subscribers covering over 200 cities. The network
currently has 750K subscribers in a handful of cities.
In India, the government has begun relaxing some of its restrictions on that
country's CDMA wireless local loop operators allowing them to provide limited
mobility in some of the larger cities of Bombay and New Delhi, which would
allow mobile phones to be shipped. The country has announced plans to
license 40 MHz in the 800 Mhz band.
In South Korea, 1x was launched in October 2000 but has not been aggressively
marketed due to the government's requirement that SK Telecom reduce its
market share to 50% by June. Thus, in June of this year, SKT should be able
to more aggressively market its 1x services. KT Freetel and LG are also
expected to rollout 1x in the spring of this year. KTF has also expressed its
intentions to be the first to deploy 1xEV. On the other hand, the WCDMA
efforts by SKT and KT have been delayed by at least two years.
In Japan, KDDI is expected to deploy 1x in October 2001 and 1xEV in 2002.
CDMA subscribers in Japan have increased 92% to 7.542 million in January 2001
from 3.921 million in January last year. KDDI is estimated to have 5.659
million CDMA WAP users (more than in all of Europe) and NTT has 18.573
million i-mode users.
There are additional opportunities in southeast Asia as well for CDMA this
year. Mobicom in Malaysia is deploying CDMA using Motorola equipment, Saigon
Postel in Vietnam with Samsung equipment and New Zealand Telecom in New
Zealand with Lucent equipment.
In North America, Sprint PCS estimated its cost to upgrade to 1x in all its
markets would be a modest $700 million in cap ex and expected to begin
rolling out 1x in second half 2001 and to be nationwide by mid-2002. Verizon
is expected to launch 1x in late 2001 with 1xEV shortly after that. The
operator currently has a 1xEV trial in Boston.
Nokia remains one of the few large vendors (along with Alcatel and Siemens)
that has not yet extended it license to include WCDMA. We agree with
Qualcomm that these vendors will have to extend its contract prior to
shipping WCDMA products, which Nokia has indicated would begin in the third
quarter of 2002.
OVERVIEW BY BUSINESS SEGMENT
Qualcomm Technology Licensing, the royalty business, continues to post strong
results. The company has licensed over 100 manufacturers and greater than
50% of these licensees have extended their contractual licensing agreement to
include WCDMA in addition to their already existing agreements that include
cdmaOne and cdma2000. Based on royalty reports received to date, there is an
estimated 22 million plus CDMA phones shipped in the December quarter up from
15 million in the September quarter.
Qualcomm Technologies, the chip business, continues to see strength. The
company reiterated its 16 million chip estimate for the March quarter (also
our estimate), up from 15 million last quarter, and believes the June quarter
will see levels higher than 16 million. The December quarter estimate
continues to be pressured by capacity constraints as demand is strong. The
company believes it has essentially 100% of the CSM chip market (for
infrastructure) and between 80% and 90% of the MSM chip market (for
handsets). The MSM 5100 chip supporting cdma2000 and 1x became available in
first quarter 01. The MSM 5500 supporting 1x and 1xEV is scheduled for the
second quarter while the MSM 5200 supporting WCDMA and 3GPP FDD should be
available in the third quarter.
Qualcomm Wireless Business Services, or Omnitracs, while still very
profitable, has witnessed some slowdown as the slowing US economy has hurt
the trucking business. The company continues to look for further expansion
opportunities such as the March 1 announcement to acquire Eaton Corp whose
FleetAdvisor system includes hardware and software elements, including a
broad set of applications to be offered to new and existing customers on
QUALCOMM's MVPc in-vehicle computer for automated driver logs, accurate state
fuel tax calculation, enhanced work order management, increased driver and
vehicle productivity, and improved customer service.
Qualcomm Wireless Systems, or Globalstar, has obviously been affected by
Globalstar's financial problems, which was announced on the company's
conference call on Jan 25 when the company reported first fiscal quarter
results and which are already reflected in our estimates (a ($0.07) impact
for the full fiscal year 2001). Globalstar has seen its subscriber base grow
much lower than initially expected, although the technical side of the
business, which Qualcomm supports, is working well. Qualcomm is optimistic
that other opportunities, especially data, could hold some promise for
Globalstar, and is currently working to support that effort.
Qualcomm Internet Services, a newly created business, is focusing on BREW,
whose charter is to facilitate and stimulate the development of mobile data
applications based on common platforms. The revenue model for this business
is still being clarified but initial thinking is for some sort of revenue
sharing with the operators and applications developers down the road.
CDMA2000 TIME TO MARKET ADVANTAGE HIGHLIGHTS ROADBLOCKS IN GPRS & WCDMA
Chairman and CEO Dr. Irwin Jacobs spent a fair amount of time comparing and
contrasting the two CDMA technologies: cdma2000 and WCDMA as well as the 2.5G
GPRS technology. Some of his points were as follows:
GRPS is even further delayed than announced about 18 months ago at Telecom
Geneva in 1999 that GPRS phones would be a year late. Only two vendors
(Motorola and Sagem) currently have GPRS phones available and other large
handset manufacturers are expecting volumes late this year.
GPRS delays can be attributed to at least one basic problem of overheating as
data uses more time slots than voice which prevents the phone from "resting"
and thus overheating.
One European operator has cited the following issues with GPRS: (1) speeds of
only 10 kbps per time slot or a maximum throughput of 60-70 kbps if all time
slots are used; (2) a 7-10 second break in transmission everytime there is a
handoff; (3) lack of an alogorithm that would allow voice and data to be
carried reliably on the same channel or carrier.
WCDMA is not necessarily the "natural" evolution path from GSM as it has been
marketed since it requires RF changes (WCDMA is in new spectrum), bandwidth
changes (from 200KHz to 5MHz), and an interface change from time division
access to code division access.
The time to market advantage of WCDMA is not the case this time around as it
was when GSM and TDMA had time to market advantages in the early 1990s. In
fact cdma2000 is already being deployed in South Korea where phones are
available and is expected to be deployed in the US and Japan later this year.
WCDMA is still making its way through the standard's bodies. The WCDMA being
used in Japan by DoCoMo is more of a proprietary WCDMA, although Qualcomm has
already begun to receive its first royalties on WCDMA. The company believes
DoCoMo is likely to launch its WCDMA service on time in May in a limited way
(i.e. single mode handsets with limited coverage in 2 major cities).
The assumption that economies of scale will result from the widespread
adoption of WCDMA isn't necessarily accurate, according to the company for
the same reasons WCDMA lacks a time to market advantage: cdma2000 goes into
existing spectrum and the upgrade requires only a new chip set and minimal
memory increases. Thus, 1x phones are already available and are forecast to
be in much greater volumes over the next several years well ahead of WCDMA
phones.
International roaming, in Qualcomm's view, is better enabled through
multimode chips than universal use of WCDMA. The company highlighted its
multimode ASIC product line to support this view. Given that the subscriber
base will be, at a minimum, dual mode GSM/3G for several years, the multimode
environment can be expected to persist for many years given the extensive GSM
installed base. In the 2002-2003 timeframe, Qualcomm plans the MSM6xxx ASIC
that supports 1x, 1xEV, GSM/GRPS and multi-band.
THE LICENSING PROCESS EXPLAINED
Qualcomm's general counsel, Steve Altman, who has served in that position for
11 years and negotiated the bulk of Qualcomm's licensing agreements, set out
to explain the licensing process once and for all. He highlighted Qualcomm's
very strong portfolio of over 1500 patents either issued or pending which
have been upheld recently in courts around the world in South Korea, Europe,
Japan and the US. The company has entered into more than 100 licensing
agreements almost all of which include CDMA 1x and 1xEV and about 50 of which
also include WCDMA. There are currently over 50 companies shipping CDMA
product and paying royalties to Qualcomm. The company's patent portfolio
consists of essential patents for all proposed 3G CDMA standards.
Running through the mechanics of the licensing process, Steve attempted to
allay investor fears that Qualcomm was in any way disadvantaged by the
potential widespread use of WCDMA.
First, Qualcomm licenses infrastructure, phones, PDAs, modules and chips
across different CDMA standards, different applications (cellular or PCS,
voice or data) and different countries.
Second, Qualcomm receives upfront licensing fees (sometimes these are spread
out over a period of time) as well as ongoing royalties on the handset cost
and its logo on most devices. Sometimes the company enters into cross
licensing agreements for its chips.
Third, in some instances when the licensee offers interesting technology but
can't necessarily afford the up front licensing fee, the company offers a
license in exchange for equity in the licensee. This arrangement has no
impact to ongoing royalties.
Fourth, Qualcomm receives the same royalty rate for WCDMA equipment as it
receives for cdma2000 equipment. It receives the same royalty rate for 3G as
it receives for 2G. A licensee would pay the same rate if it used 1 claim on
1 patent for cdma2000 or 1 claim on 1 patent for WCDMA. The company gets a
full royalty rate whether a licensee uses one or all of its patents.
Qualcomm does not receive lower royalties when the licensee happens to have
its own WCDMA patents. There is also no "netting" out of royalties as
Qualcomm does not pay any royalties.
Fifth, the royalty rate is essentially the same across licensees for the same
product. There are a few licensees who signed on very early who received a
slightly lower rate than the industry average (i.e., Motorola).
Sixth, Motorola does have a WCDMA license, although its rate on some of
Qualcomm's patents are higher than its original rate. Motorola's original
license agreement in 1990 included WCDMA. This agreement covered all of
Qualcomm's patents through July 1995. A lawsuit between the two companies
that was settled in 1998/1999 expanded the agreement to include patents after
1995. On these patents, Motorola pays the standard royalty rate.
Negotiations are currently underway for Motorola to license WCDMA patents
post 1995.
Seventh, Nokia and Qualcomm are currently negotiating to license WCDMA.
Nokia's existing license is only for handsets.
Eighth, under Qualcomm's 50 WCDMA agreements, the company has obtained rights
to ship GSM products. The spin off of the company's chip business is
motivated by the other 50 companies that haven't entered into WCDMA
agreements and provided Qualcomm with the rights it seeks for GSM.
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