To all:
The Philips/Lucent license is profound not only for its near-term economics but also for what it says about QC's IPR. Large, sophisticated companies tend not to pay consideration without first engaging a squadron of patent attorneys to validate claims. Clearly Philips/Lucent must believe that you cannot do W-CDMA without QC's intellectual property. It's amazing that the Street doesn't seem to get it.
With respect to the short position, the bear case can be summarized as follows: (a) due to ongoing weakness in Korea, QC is likely to report bad news either for the March or June quarter, (b) Japan is being "delayed", so growth from this new market won't benefit the P&L until the September quarter at the soonest, (c) the chipset franchise faces increased competition, (d) the infrastructure business is losing money and therefore not viable, (e) the handset division is going to get blown away by new competition, (f) W-CDMA represents a threat rather than an opportunity and (g) management cannot execute.
Fortunately, while the laundry list is long, its logic is faulty to an amazing degree. There is growing evidence that business conditions are stabilizing in Korea. First, since December the won has recovered almost 20%, from 1690 to 1383 (versus the dollar). Second, Samsung would not have rescheduled its previously cancelled order were the situation deteriorating. Third, and most importantly, according to Schroader analyst Raj Srikanth, Korea added 625,000 CDMA subscribers during February, up from 262,000 in January. Since churn is up, gross subscriber additions (which actually drive ASIC & handset sales) probably approached 700,000. In any event, the current run-rate of 7.5mm subscribers is way, way, way above what Wall Street is projecting currently. Hmmmm.
Dr. Jacobs recently indicated that DDI/IDO will go commercial in the June/July timeframe, and this was interpreted by some to imply slippage in the deployment. In actuality, little has changed from the original schedule. The networks will do a soft launch, with friendly customers, in April and begin ramping in earnest during the summer. QC should see chip orders accelerate in the May-June timeframe since the chips are a precursor to volume handset production. Since these are PCS networks (i.e. no existing customers), the subscriber ramp should be pretty aggressive once the deployment goes fully commercial. Therefore, Japan should provide a modest boost to Q3 and really kick in during the September quarter.
The chip argument is really tortured. For some reason, bears try to characterize any success by a licensee as impending disaster for Qualcomm. QC wants its licensees to introduce new products, improve the technology, grow rapidly and pay royalties. It amazes me that some "analysts" speak aphoristically about DSP's potential success as a QC loss without any calculation of the delta between DSP royalties to Qualcomm versus the offsetting margin on a chipset sale. Beyond this, QC will be on fourth generation silicon before DSP ships its first generation in volume. Still, the bears presume that DSP can catch, or surpass, QC technologically in one fell swoop. This assertion borders on absurd.
Recently DMG's Marc Cabi indicated that Nortel and QC had restructured their five-year infrastructure deal and that this was a body-blow for Qualcomm's infrastructure effort. His argument suffers from one major flaw: it's totally incorrect. Both QC and NT have indicated that there has been no change to the economics of their relationship. GIGO (garbage-in, garbage-out). In the meantime, QC's infrastructure backlog has been increasing nicely and management is suggesting--for the first time--that a profitable quarter is possible within four quarters. Infrastructure's swing into the black will substantially recast QC's P&L and will pretty much eliminate the Street's argument relative to manufacturing profitability. From my vantage, John Major, and his team, are doing an excellent job of building a major infrastructure operation from the ground up. The only "shortfall" here is vis-a-vis Wall Street expectations (dreamed up by analysts that have never had to build anything more complicated than a spreadsheet model).
The handset argument parallels the chip argument. Bears want to believe that QC will just fade into obscurity when competition shows up. I've addressed this fallacious position several times in the past, so I won't bore you with another dose of the same. But, I will add a postscript. Bears continue to claim that the PCS 'Q' phone is struggling due to its premium price point (and that Sprint customers prefer the 'cheaper' Samsung phone). The truth, for those who have bothered to do some research, is that the single-band 'Q' struggled in markets where Sprint has poor coverage; in these instances the dual-mode (analog/digital) QCP-2700 is the superior product since the subscriber does not get dropped due to frequent coverage "holes". This thesis should be confirmed empirically as the cellular 'Q' begins shipping in April.
The W-CDMA claim seems rather humorous given today's announcement. Yet during the day there was a concerted effort by some market "participants" to distort the truth and recast the Lucent/Philips agreement in a negative light. Here are the facts. Lucent/Philips signed a royalty-bearing license agreement with QC that incorporated a cross-license of some Lucent/Philips IPR. QC WILL NOT be paying ANY royalties to Lucent/Philips (for the cross-licensed CDMA patents). Moreover, Lucent/Philips' royalty rate to Qualcomm is on terms similar to other recent agreements. Get it? Qualcomm settled an outstanding piece of litigation and signed up a new W-CDMA licensee on terms equivalent to its IS-95 licenses. This is a very, very good thing....
As for management's ability to execute, I actually find little to fault. Had the Asian crisis not occurred, QC was well on its way to earning $2.40-$2.60 during FY98. People seem to have forgotten how dramatically margins improved during Q1 and how strong the pre-Korea momentum was. Asia's travails may have readjusted the timetable, but hardly derailed the train. The shorts, however, are making a big, leveraged bet that the company is going to "blip" again in the near-term. There is further subtlety. QC is perceived to be a good "short-sale" candidate because, with all the near-term uncertainty, the bears cannot envision a scenario that will take the stock materially higher in the short-run (hence their risks are mitigated). In the meantime, they expect to be paid quickly if any of the aforementioned risk factors play out. Layer in an expensive stock market, and a big capitalization, liquid, easy-to-borrow stock, and QC moves to the top of people's "hit list". To my eye, the shorts are playing with a loaded gun. South Korea, and a depressed Q2 has already been discounted into the stock price. Meanwhile QC is bidding on an enormous amount of infrastructure business, and management seems increasingly confident that an inflection to profitability in on the near horizon. Business, excluding SE Asia, is proceeding nicely AND we now have the first empirical evidence suggesting that Korea itself may be on the mend. Finally, with QC positioned as the technological locus for IS-95 or W-CDMA, markets heretofore closed the company (i.e. Europe) are on the brink of being thrown open. Seems like an awfully strange time to be worrying about March interim results.
Best Regards,
Gregg |
