Qualcomm Incorporated (NASDAQ.QCOM)
Qualcomm, short for Quality Communications, is the global leader in mobile connectivity. The company’s hardware and systems are ubiquitous across both Android and Apple handsets with the technology enabling billions of users to call, text and stream every day.
“Hard” technology companies such as Qualcomm are our preferred exposure in the technology sector. The business possesses true intellectual competitive advantages that are difficult to replicate, even with the world’s leading engineers and abundant financial resources (as you’ll see below). The company remains a long-term holding for the fund, a quiet winner in the tech arena.
The Mobile Era
Founded in 1985 by Irwin Jacobs and six co-founders, the business initially conducted communications research. Its first products were satellite phones for trucking companies, however the research team had greater ambitions. Qualcomm had patented a new cellular technology called code division multiple access (CDMA), allowing several users to simultaneously transmit data across the same frequency.
This was more efficient than the incumbent Time Division Multiple Access (TDMA) system, where users could only transmit data during a given time slot. Despite the incumbent technology being simpler, and in the initial years more reliable than CDMA, it was not suited to high-capacity communications. Over time cellular networks and handsets adopted the CDMA system entrenching Qualcomm as the standard for mobile connectivity.
Demand for the company’s modems – the small chip that enables a phone to connect to cellular towers – proliferated as mobile phone adoption grew. Handset manufacturers were eager to include the latest modems, and later semiconductors, in their products to capitalise on the emerging personal electronics market.
With the best communications hardware, Qualcomm became a cost of doing business. And while hardware sales were booming, Qualcomm had another equally lucrative profit engine. The company patented and subsequently licensed its intellectual property to competing modem and handset manufacturers, earning a royalty on every mobile device sold.
That intellectual property would continue to serve the company, providing the foundation for 3G, 4G and 5G mobile communications, and with it more patents and licensing deals.
Apple Takes A Bite
Qualcomm had built an unassailable lead in mobile. So much so that competitors, customers and regulators have been keen to dent the company’s market leadership. The fiercest battle has been with Apple, which has previously litigated Qualcomm for anti-competition practices and in 2017, began work on an in-house modem. Given Apple represents ~20% of Qualcomm’s revenue, this has been a dark cloud over the company. For several reasons, however, the Apple-Qualcomm rift is likely overblown.
After the processor, the modem (pictured) is the most important component of a phone. Qualcomm’s chips are the best and have been battle-tested for decades across several platforms. From an iPhone user standpoint, there is limited functionality upside and tremendous downside should the components prove less robust than Qualcomm. More simply, users don’t mind who makes the modem, as long as it works.
Moreover, building modems is not a simple exercise, with Apple themselves acknowledging it’s “very difficult”. Apple has since extended supply agreements with Qualcomm until at least 2027. And even assuming Apple succeeds, we expect Qualcomm will have made strides to diversify away from handsets (and Apple) to new revenue streams.
The Future
Qualcomm recently announced that Microsoft Copilot personal computers, produced by several vendors including Dell, Acer, Lenovo, HP and Microsoft itself, would be exclusively powered by the company’s proprietary SnapdragonX system-on-chip.
Meta is already using Qualcomm chips for smart glasses and powering Llama2 – ChatGPT’s closest competitor. Snapdragon processors have been modified for automotive applications including facial recognition, cloud-connected content and digital chassis. The latter has a sizable runway for growth given cars have been a laggard in adopting consumer consumer-facing tech. In the latest quarter, automotive revenue increased 87% to US$811 million.
The Tamim Takeaway
The future remains bright for Qualcomm, irrespective of if (or when) Apple produces its modems. The market has largely agreed with us, with the Qualcomm share price doubling over the past five years. Still, the business remains modestly valued on 20x earnings and a 2% dividend yield, despite several growth vectors and the rise of artificial intelligence applications.
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Disclaimer: Qualcomm Incorporated (NASDAQ.QCOM) is held in TAMIM Portfolios as at date of article publication. Holdings can change substantially at any given time.
