Every day, Wall Street analysts upgrade some stocks, downgrade others, and “initiate coverage” on a few more. But do these analysts even know what they’re talking about? Today, we’re taking one high-profile Wall Street pick and putting it under the microscope…
It was the news that shocked the tech world: Yesterday, Qualcomm (NASDAQ:QCOM) and Apple (NASDAQ:AAPL) informed the SEC that they have settled their differences, and agreed to end “all litigation between the two companies worldwide.”
Investors reacted to the news by bidding up shares of both companies, which should now enjoy significant cuts to their litigation budgets — but bidding up shares of Qualcomm especially.
Qualcomm stock surged more than 23% in late trading Tuesday, and is up a further 12% this morning in response to a slew of analyst upgrades, all citing the end of litigation with Apple as the primary reason for their optimism. Here’s what you need to know.
Looks who’s upgrading Qualcomm, now!
According to the ratings-watchers at StreetInsider.com (subscription required), no fewer than three separate analysts decided to upgrade Qualcomm stock this morning.
First Evercore ISI upped Qualcomm to outperform, with SI reporting the analyst is “incrementally more positive following Apple win and 5G win.” In Evercore’s view, between the big bucks Qualcomm will soon be raking in from Apple, and additional licensing revenue from companies like Huawei, Qualcomm could be earning “normalized earnings” of between $6.50 to $7 annually by 2021.
Next came Stifel Nicolaus, likewise hiking Qualcomm to a buy rating, and noting that Qualcomm’s “surprise announcement” contained a promise of a “$2.00/share earnings increase once iPhones ramp into production with Qualcomm modems inside.” The analyst concluded that in order for Qualcomm to grow its earnings so much (the company only earned about $1.56 per share total across its entire customer base not including Apple over the last 12 months, according to data from S&P Global Market Intelligence), Apple must have been able to extract “only a slight discount to Qualcomm’s” going rate for patent licensing fees — or even no discount at all!
For context, Reuters explains that when Qualcomm sets a license fee for use of its technology in a customer’s smartphone, it charges a percentage of the entire selling cost of the phone — what’s called a “device-level licensing model.” In the case of the 5G modem technology that Apple covets, Reuters notes that Qualcomm has been asking for 3.25% — which on a $1,099 Apple iPhone XS Max, for example, would work out to a whopping $35.72 per phone.
Tic-tac-toe, three in a row
Speaking of 5G, JPMorgan focuses on it in the analyst’s note on its upgrade today.
Qualcomm has a strong position in the market for 5G cellphone technology, argues JPMorgan. With Apple in particular, the analyst believes that Qualcomm has at least the potential to become Apple’s primary chipset provider if its rivals fail to deliver a competitive product, and to resume sales of entire chipsets to Apple.
In fact, I’d go JPMorgan one better, and say there’s more than just a “potential” for chipset sales here. In its filing with the SEC, Qualcomm came right out and stated: Its settlement with Apple incorporates a “multi-year chipset supply agreement” with the smartphone maker.
That sounds pretty set in stone.
What it means to investors
JPMorgan says yesterday’s litigation settlement is “overwhelmingly positive for Qualcomm despite the absence of details at this time,” and I cannot disagree.
Keying in on Evercore’s prediction that Qualcomm will soon be earning $6.50 to $7 a share as a matter of course, even the company’s new and improved stock price of $77 — 35% higher than it began the week — does not seem excessive, working out to a valuation of only 11 to 11.8 times prospective earnings two years out.
It will take some time for Wall Street to update its growth estimates for Qualcomm to account for Tuesday’s news. (I’d expect estimates to have settled down by early next month, for example, after Qualcomm’s May 1 earnings report.) Still, even based on current estimates for just 10% long-term earnings growth, with a 3.5% dividend yield, 11 or 12 times forward earnings doesn’t look too expensive to me.
Wall Street’s right on this one: Qualcomm is a buy.