Tom ,
I'm happy you made mention of Gregg Powers post on the Frezza forum and since there has been explanations and thoughts by many in this forum I thought it might be in good taste to copy and paste his comments to me from the Frezza forum. Considering the fact that his company is the largest or one of the largest institutional investors his opinion is worth reading.
Gregg Powers - 08:48pm Dec 13, 1997 (#715 of 719)
Jim....be forewarned that this is a long post to address a complicated
question that is non-trivial to analyze. Let's try to cover what is analyzable.
With over 4.5mm CDMA subscribers, Korea's growth has provided a tailwind
for both QC's royalties and ASIC sales. Assuming an average handset selling
price of $600 (from manufacturer to service provider) and roughly 3mm local
phones sold (I estimate that approximately 1.5mm QPE phones were sold in
toto and that recent sales have been primarily homegrown models based on
QC's ASICs), Korean handset revenues would be around $1.8bb. Assuming a
3% average royalty, QC to date has probably earned something around
$55mm in royalties from Samsung and LG Electronics (Lucky Goldstar).
Recently several new Korean operators have launched CDMA service, and
reportedly there are several million people on waiting lists for phones as
demand has outstripped production capacity. To this point, little appears to
have changed from the standpoint of Korean take-rates-but it is reasonable
to assume that if the economic turmoil persists, demand will be impaired at
some point. But, keep in mind that when the IMF bailout was signed, it
contemplated a reduction in Korean economic growth from 8%-10% to
3%-4%, and an increase in the unemployment rate from 2% to 4%. This may
be a dismal performance by Korean standards, but it hardly constitutes a
meltdown in economic activity. So, all else being equal, the crisis should not
devastate demand. With respect to royalties, we have two issues: what will
happen to demand for Korean CDMA handsets (internally consumed and
those exported) and how does the decline in the Won impact QC's royalties.
Royalties will clearly be adversely impacted. Assuming total Korean
production of 5mm phones in 1998, the 50% decline in the Won could
potentially reduce royalty-bearing sales revenue (in dollar terms) from $3bb to
$1.5 and, therefore, cost QC $30mm in after-tax profits during the course of
fiscal 1998--all else being equal. But, of course, all things are not equal. We
are assuming that the Won never recovers and that Korean handset prices do
not increase in local terms (remember that the QC ASIC, and all other
imported components, have doubled in price in conjunction with the decline in
the Won). Meanwhile, export volumes could potentially increase if the Won
remains weak and effectively lowers the selling price to some (but not all)
foreign customers. Lower selling prices on exported Korean handsets could
actually help spur the conversion from analog to digital in the U.S. (where
many 800MHZ carriers have been struggled with the price differential between
analog and digital phones). So-QC could potentially have lower handset
royalties but increased ASIC sales (and it will take someone smarter than me
to sort all this out). Meanwhile, while we are all focusing on Korea, it is easy
forget that CDMA networks are now running in over thirty countries and that
Japan will come up commercially during the first half of 1998. Also, U.S. PCS
is now in full swing as Sprint and PrimeCo move out of the deployment stage
into pure commercial operation. The latter is a particularly important point
because the expanding availability of digital PCS is forcing a more rapid
migration to digital by the 800MHZ cellular operators (who, almost without
exception, have accelerated their digital rollouts and are now aggressively
selling digital). So, in the big picture, I could rhetorically ask what is more
important: 600mm pops in the U.S. and Japan or 45mm pops in Korea? Still,
Wall Street gets paid to trade stocks and technology investors tend to be
trigger happy during the best of times. Despite challenges in Korea, I still
think that QC will generate something around $3.5bb in revenue and earn
somewhere between $170mm and $180mm in Fiscal 1998-that compares
pretty favorably with $2.1bb and $91mm in revenue and profit for Fiscal 1997.
Good luck.
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