Qualcomm FQ4 23 – The Turn

Qualcomm signals the worst is over.  

• Qualcomm reported good results signalling that the worst is over leaving a flat short-term outlook and a longer term that is full of opportunity.
• FQ4 revenues / Adj-EPS were $8.64bn / $2.02 which was still meaningfully down YoY but crucially, better than expectations which were for $8.51bn / $1.92.
• This marginal beat of expectations was due to the ending of the inventory correction which had already been signalled by both TSMC and Samsung.
• This is good news for the smartphone component industry as one of the negative factors (excess inventory) affecting demand has been removed.
• Guidance for FQ1 24 was also better than expected as Qualcomm has also seen the other negative factor (end demand) slightly improve.
• FQ1 24 revenues / Adj-EPS are expected to be $9.1bn – $9.9bn ($9.5bn) / $2.25 – $2.45 ($2.35) as there has been a noticeable pick up in demand from Chinese OEMs.
• Revenues from Chinese OEM customers are expected to pick up by 35% QoQ indicating that demand for Android handsets across the world is beginning to recover slightly.
• Outside of Samsung, Chinese OEMs ship the vast majority of all Android handsets globally and so the shipment of components into China is how one would expect to see a general stabilisation manifest itself.
• This stabilisation should draw a line under the recent, macro-driven weakness that the Android industry has experienced leaving the market free to consider the other opportunities that Qualcomm has.
• Here, I think that things look better than they have for some time.
  • First, X Elite: which offers the possibility to open up a new revenue stream in Windows PCs which could become very significant in time.
  • This assumes that Microsoft and Qualcomm can handle the migration from x86 to Arm as seamlessly as Apple did and this is a massive ask.
  • Failure on this front will mean little if any penetration of Arm into the laptop market and unfortunately, much of this risk is outside of Qualcomm’s control.
  • Second, Apple: which through gritted teeth has extended its deal with Qualcomm to buy 5G modems out to 2026 in a clear sign that Apple is still incapable of making a working 5G modem.
  • I see very little progress from Apple on this front and I would not be surprised to see Qualcomm’s share at Apple remain higher and for longer than even this extension envisages.
  • Third, automotive: which had a good quarter growing 15% YoY to $535m in the face of a weaker automotive market which is still predominantly made up of modems.
  • However, what is much more interesting is Snapdragon Ride, Digital Cockpit and Flex which have won a lot of design wins for future model years from which the first real revenues should start appearing next year from the Mercedes-Benz E-class 2024 model year.
  • The company is targeting more than $4bn in revenues in FY 2026 which given how long the lead times are, there is pretty good visibility into this number.
  • Hence, I think there is a good chance Qualcomm will make this number and the inevitable arrival of the Oryon CPU into automotive will improve performance and power consumption.
  • Fourth, smartphones: The Snapdragon 8 Gen 3 is a steady upgrade and is driving the stabilisation that Qualcomm is seeing, but I think that it is the arrival of Oryon into smartphones in 2024 that is of the most interest.
  • Apple is still the king of single-thread performance which in my opinion is the most important measure to look at, but Oryon should allow Qualcomm to close or even exceed that gap.
  • These will be for devices that ship in calendar 2025 and should help OEMs breathe some life into the high end of the Android market which is being slowly eroded by Apple.
• The net result is that Qualcomm is still seeing YoY revenue declines, but these will flatten out in FQ1 24 and see some growth in FQ2 24 and beyond.
• Most of these drivers will not really impact the company in the next fiscal year but their timing is clearer and their certainty is greater now than they were 6 months ago.
• Expectations for FY 2024 are for EPS of $9.17 and I expect that there may be some upside to that number as the year pans out.
• This puts the shares on 12.4x FY 2024 EPS which is half that of Apple and a quarter that of Nvidia.
• The difference of course is that Nvidia’s big bet on AI is allowing it to crush estimates now rather than in a few years which the fickle market is more than willing to pay up for.
• I prefer to buy now and get paid properly later rather than take the risk that the AI bubble pops (which I think it will).
• The biggest risk for Qualcomm now is geopolitical because a ban on Qualcomm imports into China (along with Apple) would be an effective way for China to retaliate against the US’s ban on semiconductor equipment exports to China.
• So far China has been very reluctant to take this route as it would cause substantial damage to the prospects of a number of Chinese companies who export their smartphones from China to other countries.
• Qualcomm would be able to recover from this eventuality, but it would take a long time and I think that the share price would get hammered in the interim.
• Even with the increasing tension between the two countries, this is a risk with a very low probability of manifestation and so I think that 12.4x 2024 PER is more than adequate compensation in the long-term.
• I have a position in Qualcomm that I remain very comfortable with.