QCOM, IDC and 3G....
IDC has had something of a pop in recent weeks.
Check this out (http://www.TelecomTechStocks.com/focusstock/ratio.htm)
written by Bill Dalglish
Warning - quite a lengthy piece
During the week of January 10, a report on the Internet from Briefing.com may have been partially responsible for the temporary setback in the
price of InterDigital Communications Corp. shares. (Discontinuance of coverage by Morgan Keegan analyst Ram Kasargod may have been
another factor. See news section of this report for more on the Morgan Keegan story under: "Morgan Keegan Discontinues Coverage on IDC;
Veteran Shareholders Say 'Good Riddance'").
Many InterDigital shareholders cried "foul" immediately after the Briefing.com report appeared, citing gross inaccuracies and lack of understanding
of the technology by the author. A follow up clarification by the report's author, Robert V. Green, was issued. The underlying topic of the report is
the "Risk to Reward Ratio" of an investment in InterDigital. The following is the Green report (as later clarified by the author) from Briefing.com and
a response by Darrell Smith. (Darrell's insights are frequently incorporated into material in various parts of this "Focus Stock: InterDigital" report.)
Darrell Smith is extraordinarily well qualified to respond to the Green briefing. Smith holds a graduate degree in the science and technology at the
heart of wireless telecommunications. He is employed full time by a large national investment firm to advise them on investments related to
telecommunications technology. He follows InterDigital more closely than any other analyst. Smith goes far beyond the superficial, maintaining
contacts with the scientists and engineers who are involved on a day to day basis with cutting edge telecommunications engineering. He also stays in
touch with committee members and officials responsible for setting international standards for wireless telecommunications and with his peers who
are professionals in analyzing technology companies for their respective investment firms. Darrell's reports to his employer are not available to the
public, but he generously shares his insights frequently via e-mails and message boards, where he is also known as "Corpgold." The firm that
employs Darrell Smith full time has been bullish on InterDigital since last Fall, when it was not a popular position.
Since the overall theme of this material is on investing in InterDigital from a "risk to reward ratio" perspective, it is included in this "risk-reward ratio"
section of the "Focus Stock: InterDigital" report at www.TelecomTechStocks.com.
The material from Briefing.com is in italics below and Smith's response to each part is in bold type.
[BRIEFING.COM - Robert V. Green] Green: "Whenever we kick the tires on a concept investment, we get a flood of emails from true
believers who don't like it. This happened recently with InterDigital Communications (IDC), a stock which rose from $5 to $80 on the
concept that it is a "baby Qualcomm." Since everyone and their grandmother wishes they had bought Qualcomm a year ago, the very phrase
is enough to get some investors to take action. But IDC isn't a baby Qualcomm.
The Baby Qualcomm Concept
Qualcomm (QCOM) firmly established their CDMA format, as a royalty bearing vehicle, before selling off their infrastructure business and,
now, their handset business. When people say that IDC is a "baby Qualcomm" they primarily mean that IDC will also be a royalty model,
with revenues on the scale of Qualcomm ($4 billion). The royalty model is valuable because it is leveraged. Operating margin increases as
revenues increase.
These are the key reasons Qualcomm rose from $25 to $600 in one year:
CDMA made giant steps against the dominance of GSM phones (the acceptance by China of CDMA helped this a lot. Previously China was
an all GSM wireless infrastructure, and there was essentially no CDMA infrastructure at all.)
Smith: Green writes, "CDMA made giant steps against the dominance of GSM phones (the acceptance by China of CDMA helped this a
lot. Previously China was an all GSM wireless infrastructure, and there was essentially no CDMA infrastructure at all. )"
There still is no CDMA infrastructure at all in China to speak of. It remains all GSM. China is even considering the less costly TDMA
buildout for the rural areas. If you contact the UWCC, the TDMA organization in the U.S., you will find this to be true. This phrase in
itself is a departure from what is really going on in China. China's rural areas could still go TDMA if China Telecom has it's way. TDMA
is cheaper than CDMA and may meet their rural needs. Latin America made the TDMA decision based on reviewing many of the same
variables. TDMA and GSM are both evolving rapidly to compete with CDMA-like features; principally through the art of WCDMA.
Green: "Qualcomm settled patent suits with Ericsson. The acceptance by China Unicom of CDMA, and their announcement of plans to build
a CDMA infrastructure with 40 million user capacity, came one day after the settlement with Ericsson was announced. We don't think the
settlement was a coincidence. Ericsson was/is the dominant vendor in China, but any move to CDMA would hurt them. Qualcomm moved
much closer to a leveraged business model. The market values this leverage much more highly than manufacturing models. Qualcomm began
investing in the next generation of wireless broadband (HDR). Momentum players poured into the stock. Qualcomm established a proven
royalty stream based on CDMA before moving to the more leveraged business model they have now embraced."
Smith: Unicom has been stating that they've had CDMA plans for China for over two years. They've been conducting trials for both
BCDMA (fixed) and CDMAOne (mobile - Samsung). If you check ChinaSouth Post news for the years prior to the Unicom
announcement, you'll find other CDMA announcements by Unicom claiming they could build 3 million person structure but needed
capital infusion to do so. The 3 million became 40 million - and so on. Some of this is bluff to get financing. They still do not have the
capital and only plan to go public late this year to obtain the capital. The Chinese Government has not "officially" approved of Unicom's
plans to date. China Telecom controls 97% of the structure there and it is China Telecom that will make the final decision, not the
smaller Unicom.
Green: "The moniker "baby Qualcomm" began being applied to IDC because IDC is essentially an intellectual property engineering firm. In
the same way that Aware (AWRE) and fabless semiconductor companies develop technology, then license the manufacturing to others, IDC's
business model involves development and licensing of new technology. They do not manufacture or distribute physical product on their
own."
Smith: Sure, so what's his point?
Green: "The problem with IDC, which is where our "tire-kicking" comes in, is that the expected royalty stream coming to IDC is unproven.
The current royalty stream is based on existing TDMA and CDMA license agreements, but a quick glance at IDC's quarterly revenue stream
shows that that stream is dying, not growing."
Smith: "Unproven"? You must be kidding! They have 22 TDMA/GSM licensees, all of which begin paying concurring royalties this year
and next! IDC's royalty stream from these licensees will grow nearly 1800% this year over last - by IDC's own admission. As more "up
front payment" licensees come off line and begin paying per phone royalties, that "stream" will double again in 2001. He needs to
check his numbers. He obviously did not do that.
Green: Five Wrong Premises Behind the "Baby Qualcomm" Idea
Here are some of the premises that were emailed to us, in argument that IDC truly was deserving of the title "baby Qualcomm." Briefing.com
called both IDC and Qualcomm to test these premises. Here is what we found.
"Premise 1: Qualcomm pays IDC royalties because IDC owns CDMA patents. IDC does own CDMA patents. But Qualcomm and IDC settled
any ownership dispute over these patents in 1994 with a single one-time payment to IDC from Qualcomm and a perpetual license agreement.
IDC receives no current royalties from Qualcomm on an ongoing basis. Numerous emailers to us claimed that they do. Where this idea comes
from, we have no idea. Even a brief look at IDC's revenue stream should convince anyone that they aren't participating in the boom that
Qualcomm enjoyed. Nevertheless, we asked both companies and both IDC and Qualcomm verified that no current royalty relationship exists
between the two companies."
Smith: "No current stream." We're not talking current stream, we're talking CDMA2000 stream. (editor: Qualcomm's proprietary next
generation technology is called CDMA2000) It is Qualcomm's intent to move all current CDMAOne systems to its CDMA2000. It is
this 3g standard under which IDC's IPRs will receive patent payment. One patent, "reverse pilot," is being utilized by Qualcomm in
their CDMAOne systems and is being transferred to CDMA2000. There are others. He needs to check his IMT2000 facts (ed.:
IMT2000 are the five new international standards for third generation wireless technology). IDC has patents in all five standards and
will be paid in all standards.
Green: "Premise 2: Qualcomm will pay IDC royalties in the future for 3G CDMA phones, because the 1994 lawsuit does not cover
technology needed for 3G phones. IDC does own patents on B-CDMA technology, which is not covered by the 1994 settlement. But this is
irrelevant to Qualcomm's future. Qualcomm stated unequivocally to Briefing.com that they 'don't see any need for Qualcomm to use any
existing IDC patents in the future' and that they 'do not expect to pay IDC royalties' going forward. It can't be any clearer."
Smith: This is not IDC's view, nor is it the view of the IMT2000 standards committees in which Qualcomm and IDC participated.
(Interim IDC President) Goldberg stated himself that IDC owns patents in all five standards. Qualcomm knows 100% that they are
utilizing IDC's patents. Notice that he doesn't quote anyone DIRECT at Qualcomm, nor does he quote Qualcomm's 10K SEC report,
which clearly states that IDC claims patents for CDMA in use .
Green: "Premise 3: Everyone building a 3G phone will pay IDC a royalty in the future. This premise is based on the idea that IDC owns
essential patents for the 3G standard. IDC is developing technology for the 3G standard, but so are many others. IDC has not identified to
ITU any specific patents that would require royalty payments, to anyone, not just Qualcomm. (Source: Both IDC and Qualcomm.). Such an
assertion would be standard procedure for any vendor submitting technology to an international standards board. Any presumption that
IDC will own royalty-bearing intellectual property for 3G technology that is sanctioned by ITU is currently just a presumption."
Smith: "Is currently just a presumption..." This is a major inaccuracy in my view. He does not name the source he spoke with at
Qualcomm nor at IDC. Nor has this man spoken to those who participated in the conference. Two IDC VPs were on the five
committees which were determining patent inclusion. The actuality is that the ITU has not PUBLISHED THE IPRs FOR
SUBMISSION for declaring "essentiality". IDC HAS CLEARLY STATED THEY HOLD ESSENTIAL PATENTS WHICH WERE
SUBMITTED and ARE BEING SUBMITTED TO THE ITU FOR INCLUSSION AS ESSENTIAL. HOW CLEARER CAN ONE GET
THAN THIS?
Green: "Premise 4: Every current GSM and TDMA phone vendor owes IDC money for past infringement and it amounts to billions. This idea
falls into the "maybe" category. It stems from the idea that the current Ericsson/IDC cross lawsuits are going to result in a judgement for
IDC, and that back royalties will be awarded. The idea is exciting because of the vast amount of phones sold which are claimed under the
lawsuit."
Smith: "The maybe category." This man knows absolutely nothing about TDMA/GSM patents, nor does he know anything about the
dispute which the ERICY/IDC fight is all about. The dispute between IDC and ERICY is in regard to the bases of all TDMA systems in
operation - not just a few patents here and there. IDC HAS CLEARLY STATED THAT IF YOU'RE USING TDMA AND NOT
PAYING YOU ARE IN VIOLATION OF IDC'S PATENT OBLIGATIONS. NOKIA SETTLED UNDER THE SAME GROUNDS
THAT ERICY IS BEING SUED! WHAT MORE DOES THIS MAN WANT?
Green: "But prejudging the outcome of any lawsuit, with your investment dollars, is a very risky proposition. Furthermore, the trial schedule
is not expected to conclude, according to IDC, until the end of 2000 or early 2001. The April date that numerous emailers pointed to is only
a hearing, with a single judge, and will not result in final disposition of the case. An investment on this premise requires at least a year's time
frame."
Smith: This is true, but obviously based on trial dates that are under the current framework - all of which can change. All the big Asian
TDMA players, including Nokia, have settled with IDC. I would like this man to develop a credible argument based on all the current
known facts surrounding the case why ERICY will not come to the table. The reason a settlement is 85% likely is that ERICY wants to
buildout it's 3g systems without ITU strings attached relative to current 3g TDMA proposals.
Green: "Furthermore, even if IDC wins, there is no assurance that the royalty payments would amount to "billions." But even a judgement in
the hundreds of millions wouldn't justify the current market cap of IDC, in our view, if it were a one-time payment."
Smith: The man doesn't know which patents are involved, how these patents are compensated concurrently to other vendors, nor what
IDC is due upon a win.
Green: "Many people emailed us saying that a judgement for IDC was a given, since the Patent Office recently reaffirmed existing IDC
patents. But a reaffirmation by the Patent Office is a nonevent, in patent litigation. When patents are overturned, it happens in court, not by
the Patent Office. A reaffirmation is obviously a positive sign, but it does not mean that the IDC patents cannot be declared invalid."
Smith: When patents are overturned, it happens based on Markman hearings - a three judge panel which reviews all the patent
information at hand. 98% of the time the Markman hearings agree with the patent official who approved the patents. In IDC's case, the
patents hae been submitted twice - approved once, approved again. Why is the 98% figure so high? Because the patent official does
much of the testifying on behalf of his patent approval process!
Green: "Premise 5: IDC is currently receiving royalty payments from Nokia, and will in the future. Numerous people stated that Nokia is
already paying IDC in the neighborhood of $40 million in royalty payments for IDC intellectual property, and therefore IDC will receive
something for every 3G Nokia phone going forward. Nokia has contracted with IDC for technology development that might be part of
Nokia's 3G technology. The bulk of the Nokia payments so far represent development costs, although the payments also include a
prepayment of licensing rights to a limited extent. This was verified by Briefing.com directly with IDC, although IDC would not comment on
any possible royalty relationship into the future, or the terms, if any, of future royalty payments Nokia might make. While it is obviously
positive that Nokia has employed IDC, investors should realize that Nokia has its own development group working on the same essential
technology that IDC is working on. IDC acknowledged that the work being done for Nokia was not Nokia's sole 3G technology effort. (We
were unable to confirm with Nokia.) "
Smith: There is no "might" friend! Nokia is utilizing IDC's IPR block technology for a specific part of their 3G platform. This isn't a
question of "maybe"s. IDC's has 150 engineers that have been committed to Nokia around the world producing these products. Does
he think that at the last minute after all the input and WCDMA tests both in China and abroad that Nokia is going to declare IDC's
IPRs invalid?
Green: "Possibilities For IDC
While we think the "baby Qualcomm" concept is an erroneous way to look at IDC, it doesn't mean that IDC isn't a possible speculative play.
Here are three real possibilities to justify an investment in IDC, but everyone of them currently has no proven revenue stream."
Smith: Oh please! "No current proven revenue stream!" The man has "talked to IDC" and doesn't follow TDMA sales around the
world, for God's sake! This is just sickening.
Green: "Chip sales: IDC is currently working with Texas Instruments to develop B-CDMA chips. IDC is also looking for additional
relationships with semiconductor manufacturer to build IDC designed chips. This "fabless" semiconductor relationship is an established
model in the semiconductor industry. But it requires demand for IDC designs. Unfortunately, there is not, to date, an established stream of
revenue from sale of these chips upon which to formulate an estimate of market demand."
Smith: Yes there is friend. What does he think IDC is doing with Nokia? The same building blocks that are going into the Nokia
products are going into the ASICS which IDC is producing. These same ASICS will be co-marketed by both companies; including
Texas Instruments.
Green: Nokia relationship: The Nokia relationship has possibilities. But since a future royalty stream can't be confirmed even directly from
IDC, it is hard to quantify what this means."
Smith: My God. How many 3g products does this man think Nokia will sell around the world? He cannot confirm the 3g product base
because he doesn't understand what is going into the Nokia platform. IDC is not willing to publically comment due its agreement with
Nokia at the present time.
Green: "But IDC will own the intellectual rights to any technology they develop for Nokia, meaning they can license whatever they develop to
anyone else. That is a good position to be in, but it doesn't mean that anyone wants, yet, what IDC owns."
Smith: "Oh, yes it does. Nokia is using the techology, the IPRs are included as essential in the IMT2000 platform which is being
established as we speak. What more do these people want. They mish mash words and come to absolutely no meaning. NTT is utilizing
IDC technology. If he had been in Japan last month he would have found this out.
Green: "The Ericsson suit: It is always possible that IDC will receive a large settlement for past patent infringement. But without knowing
what IDC would do with the money, it is a lottery ticket with an unknown payoff. All it really means is IDC would have no capital problems.
But that doesn't guarantee future earnings."
Smith: "A lottery ticket." Dear Lord. The man doesn't know any of the patents involved. He has never studied the case. He is not
qualified to speak on the case relative to the patents but he is willing to call it a lottery ticket.
Green: "We aren't alone in being uncomfortable about an inability to quantify IDC's future business plans. The sole analyst covering IDC,
Ram Kasargod, of Morgan Keegan, dropped coverage on 1/11/00 because no details of possible revenue streams were available, upon
which to base a valuation."
Smith: He obviously has not followed Ram's comments for the last four years. Ram has missed earnings by 40% each year. Ram
previously predicted "no profit" for both 1998 and 1999, and only changed hisa analysis after earnings were reported
.
Green: "But we believe that any investment needs to be analyzed on a risk/reward basis. With IDC, it is rather easy to calculate the risks, but
nearly impossible to calculate the rewards."
Smith: He has neither calculated the risks nor the rewards. The risks are not what he says they are; nor are the rewards calculated
properly, because the risks he mentioned are incorrect.
Green: "Qualcomm, on the other hand, is not a speculative investment in any way, although you might argue about the valuation...we have a
feeling that most who bought on the "baby Qualcomm" concept never really understood IDC. Comments can be emailed to the author, Robert
V. Green, at rvgreen@briefing.com."
Smith: He truly belongs in the category of those who still don't get it. This guy has an ego the size of Texas. I would like this man to tell
us what his telecom credentials are in evaluating any telecommunications stock. What his educational background is. The number of
years he has spent studying the Qualcomm and IDC issue. I can guarantee that this man has only briefly studied the issues and has
come to these monumental conclusions based on a one night's stand of study.
w- Well theres the kettle calling the pot black :-) |
