Found this over at the Raging Bull, would like to hear some discussion for Q shareholders here at SI.
Qualcomm's 2010 Quandary
By Tiernan Ray
WHAT DATE was that PaineWebber analyst talking about in his Qualcomm (QCOM) report? 2010? Why, that's the same year in which Arthur C. Clarke projects we'll be catching up with HAL the rogue computer above the gaseous surface of Jupiter. By 2010, you'll probably be thinking about tapping your IRA, not speculating in tech stocks. Heck, by 2010, Amazon.com (AMZN) might even be profitable. Truth be told, 2010 is a long, long way off.
But that didn't stop investors from piling into shares of Qualcomm on Wednesday, driving the stock up 31% or 156 points to a close of $659. Never mind that QCOM was already up more than 1,800% for the year. All PaineWebber analyst Walter Piecyk had to do was say that the stock was hellbent for $1,000 a share over the next 12 months, based on a sure-thing revenue stream only 10 years out. (Normally, you're lucky if you can get a Wall Street analyst to focus on the next six months of a company's future, let alone the next decade.)
Piecyk argued that by 2010, most wireless phones will be a variant of so-called third generation, or 3G, phones; that those phones will use code-division multiple access (CDMA) technology almost exclusively; and that, in Piecyk's words, "CDMA is Qualcomm."
Not so fast. Points one and two may be true, but point three is decidedly less certain. There's no doubt 3G is the next big thing in wireless, as I wrote back in July. And numerous experts have said PCS phones, many using some form of CDMA, will take over the wireless market in another 10 years.
But does anyone really think that Qualcomm royalties in 2010 are a sure thing? It may be true that the company has an unusually strong hold ? a stranglehold, even ? on all practical implementations of current CDMA technology (a method of adding digital codes to a bitstream so that wireless phone calls can share electromagnetic spectrum more efficiently). But the CDMA world is changing fast and that could open the door to any number of competitors down the road.
It's true that Qualcomm's business model is bizarre and rich. The company maintains CDMA patents going back to 1990. But it's not just an intellectual property licensee, it is also the main supplier of the fruit of those patents: chips used in CDMA cell phones. "You pay us for the chips and a CDMA royalty," Qualcomm says to its customers. And that sets up a strange double-tax for cell-phone makers.
Piecyk figures that if you discount back the $2 billion in chip profits he expects by 2001, you get $170 a share in value. And if you go through the same exercise for Piecyk's projected $20 billion in CDMA royalties through 2010, you get $800 a share in value.
The trouble with this sort of speculation is that there's every indication that Qualcomm's strange vertical monopoly could come undone over the next decade ? or at least be weakened. Far from cementing the company's position, as Piecyk contends, the next generation of high-speed wireless services may actually lessen the company's role in the industry.
Qualcomm's royalties are based on patents. Let's forget for a moment that those patents ? which describe the technology used in today's IS-95 cellular and PCS CDMA standards ? will start to expire in 2006 (click here for the documents at the U.S. Patent Office Web site). Let's simply recognize that the road to the 3G wireless future is complex.
Indeed, what Piecyk was touting in his Qualcomm report is actually 2.5G, not 3G, technology. The former is an interim effort that will provide for a slightly fatter data pipe for cell phones ? on the order of 64 kilobits per second ? good for sending stock quotes, email and other data to a Web-enabled phone. True 3G offers up to 2 million bits per second of data, but it requires more than what Qualcomm is offering at the moment.
To take the next step, wireless companies (including Qualcomm) and governmental policy organizations from around the world are working on coordinating the next standard for high-bandwidth mobile gadgets, including phones. Their efforts are grouped under a general effort called IMT 2000, organized by the International Telecommunications Union (ITU), the same folks who ratified the current CDMA standards.
Additional work has been organized by something called the Third Generation Partnership Program 2, or 3GPP2, which has been set up by the Telecommunications Industry Association, an American trade body, and four other international standards bodies with participation from dozens of companies.
These efforts have led not to the crowning of Qualcomm. Rather, the efforts are attempting to reconcile a plethora of competing technologies. They have a gaggle of backers, from Lucent Technologies (LU) to Japanese electronics maker Oki Electric. Chances are, a direct result of this process will be a loosening of Qualcomm's current iron grip on the industry.
Already, there are new patents from other parties, like patent 6,009,074 granted on Tuesday to Korean wireless carrier SK Telecom for its own CDMA technology. There were also CDMA patents before Qualcomm's, like patent number 4,293,953, granted to the U.S. military for defense purposes way back in 1981. There will likely be more in the years to come.
For its part, Qualcomm maintains that it has enough intellectual property, with over 1,000 CDMA patents, to lead in delivering technology for IMT 2000's 3G CDMA specifications. Moreover, a company spokesperson stated that Qualcomm believes the advantages of CDMA technology will win out over other proposals for IMT 2000, including those based on GSM and TDMA, two competing technologies.
At the very least, competing intellectual property claims should lead to cross-licensing agreements that might dilute Qualcomm's royalty stream. But I think the larger result will be a fueling of competing chipmaking efforts. Already Korean electronics giant Samsung claims it has produced CDMA chipsets for shipment in mid-2000 that will support IMT 2000 and compete with Qualcomm. An excellent write-up in Electronic Buyers News tells of other challengers.
Then there's a raft of young chipmakers and chip design firms working on the next generation of radio devices, so-called Software Defined Radio, or SDR. I wrote about this trend back in August. Conventional chips from Qualcomm, Texas Instruments (TXN) and others use digital signal processors with upper processing limits of around 100 million instructions per second. Companies such as Morphics Technology of Campbell, Calif., Vanu of Somerville, Mass., and Sirius Communications of Belgium are all working on next-generation chip technology that can process more data at a time in order to handle the high data rates of 3G.
Given that a lot of phone makers are probably chafing at paying Qualcomm's double tax, it wouldn't be surprising if they closed ranks around some of these competing products if only to free themselves from a monopoly. Think about it: How many microprocessor orders get thrown the way of Advanced Micro Devices (AMD) because the big PC makers want an alternative to Intel (INTC)?
In short, there could be something of an industry backlash down the road and that's scary for a company that has yet to face any real competition. Qualcomm guards its monopoly in secrecy, and that has built ill will. Numerous complaints have arisen in the past about obstacles Qualcomm has thrown in the path of fellow chipmakers such as Motorola (MOT) who've tried to build chipsets based on Qualcomm's intellectual property. When I began to look into 3G wireless earlier this year, the one chipmaker that would not sit down and talk with me about its plans for 3G was Qualcomm. Motorola, Texas Instruments ? everyone came to the table but QCOM. And this is the company that's banking on 3G?
Don't get me wrong. I have no beef with Qualcomm's upcoming technology. It may be very good, for all I know. And I'm quite willing to believe the company will be churning out CDMA chips in 2010. Nor do I underestimate the courage of Irwin Jacobs and the other founders of Qualcomm, who put everything behind CDMA when a lot of people in the wireless industry said the technology wouldn't work at all. Nor do I take issue with overly exuberant Wall Street analysts who set ridiculous price targets. Certainly a doubling of Qualcomm stock in the next 12 months is not unreasonable. It's after that I'm worried about.
All I am saying is that investors who looked at a stock valuation based on 2010 results and didn't blink ? and who are counting on a fantasy $800 per share in royalties to support their long-term analysis ? well, those people might want to surf on over to the Web page of the U.S. Patent Office and keep a watch. Already, the intellectual property waters are rising around Qualcomm. |
