Qualcomm – Equity Analysis

 Date of Report 

Current Recommendation	Summary/Highlights:  Qualcomm’s financial performance is downsizing, not a potential opportunity for investors  The stock has been overvalued which may mislead investors’ decision making  A sustainable growth rate of -13.57% implies investor’s pessimism with its stock returns  Net margin is deteriorating indicating low profitability and efficiency in converting its assets and equity into profits.  Sell
Current Price (FYE Date)	$64.02
Valuation	$48.02

Industry: Telecommunication (MediaTek)
Competitors	ROE	Sales 5yr CAGR	EPS 5yr CAGR	P/E	Beta
MediaTek	6.56%	25.9%	13.73	22.65	1.17
Average	6.56%	25.9%	13.73	22.65	1.17

Key Statistics
Current Price	$88.25
Annual Dividend	$0.62
Sales 5yr CAGR	-1.78%
EPS 5yr CAGR	1.89
Sustainable g	-13.57%
P/E-implied g	8.36%
P/E	46.59
Beta	1.32
Required Return	9.44%

Key Ratios
	2016	2017	2018	Comps
Quick Ratio	2.85	3.75	1.33
Debt/Equity	0.31	0.63	16.56
Gross Margin	58.6	56.1	54.9
Net Margin	24.22	11.06	-21.4
Asset Turnover	0.46	0.38	0.46
Equity Multiplier	1.65	2.13	35.22
ROA	11.06	4.19	-9.91
ROE	18.05	7.89	-30.71

Valuations
FYE Price	$64.02
Target Price from Forecast	$75.22
DCF Valuation	$131.25

Financial Forecasts
	2016A	2017A	2018A	2019E
Revenue	$23.554	22.29	22.73	21.24
Net Income	$5.27	5.07	-2.46	1.93
EPS	3.81	1.65	-3.32	1.19

Qualcomm – Equity Analysis Case Study 

Student’s Name 

Institutional Affiliation 

Qualcomm – Equity Analysis Case Study 

Company Description 

Qualcomm Inc. is a telecommunication and semi-conductor equipment company that manufacturers wireless products and services. Qualcomm main products and revenues come from chip making, as well as, patent licensing profits. Located in California, the company is valued at $22.73 billion with an asset value of $32.68 billion. 1 Its business strategy is tied towards leasing out their technologies to other telecommunication manufacturers across the globe. The company’s main competitors include the Hewllet-Packard (HP), Samsung Semiconductor, SanDisk, Apple, Mediatek, among others which all operate in the telecommunication industry. 2 

Economic Environment 

Taxation, inflation, and changes in consumer income are critical economic factors that influence Qualcomm and the overall industry. 

Taxation 

Chart 1: Corporate Tax Rate in US 

Corporate tax is a key determinant for the net income for many manufacturing companies. In this case, for companies with capitalization of more than $18 million have a corporate tax of 35% and this has been fixed since 2008. However, in 2018 the tax rate went down to 21% and this tells that the company’s net income would go up. This is a relieve for the industry players. 3 

Personal consumer income 

Chart 2: Changes in personal consumer income 

Data adapted from US Bureau of Economic Analysis 4 

There has been fluctuating changes in consumer personal income which is a key determinant of consumer demand. Considering Qualcomm and the major players in the industry produce high-end products which can be afforded by people with middle to high income levels. Increased income levels imply increased purchasing power for Qualcomm products. Reduced income changes would on the other hand, reduce the demand for Qualcomm products. 5 

Inflation rates 

Chart 3: Inflation rate 

High inflationary rates in US are an economic barrier in expanding corporate activities due to increased costs of doing business. Also, when inflation is high, consumption level and investment level are low and this may adversely affect the financial performance since consumers and corporates that lease Qualcomm patents may find it uneconomical. 6 

Other economic issues that can influence the industry include increased consumer price index (CPI) which is related with the changes in consumer prices for consumer products. High forecasted CPI would imply that the prices are expected to rise and this would reduce the consumer purchasing power, hence less quantities of products would be purchased. Further, if producer prices especially with the costs of labor and materials. 7 This tells that for companies that lease patents of Qualcomm, then the demand for these patents will go down. Therefore, such a change would reduce the sales of Qualcomm, hence reduced margins. 

Industry Dynamics 

The telecommunication industry is experiencing advanced changes over the last decade following the advent of massive technological innovations. The advent of 5G network, virtual technologies, artificial intelligence, and increased appetite for media and mobile data have opened opportunities for the industry players. 8 Through the extensive demand, prices for the industry products are going down and this has reduced the prices for telecom products and their complements – key aspects that are pushing companies to penetrate emerging markets. 

Partnerships and consolidations are becoming common to create synergies and allow companies explore market opportunities with new innovative products. 9 The competitor or rivalry power is very high due to the concentrated market; the buyer power is very high also due to the massive substitute products; the suppliers power is low due to high price sensitivity and low switching costs; while the threat to substitutes is moderate following the high number of similar products. 10 Furthermore, since the industry is concentrated with many companies positioned as market leaders, the threat of entry is low. 11 

The major competitors for Qualcomm in the chip making include the BrainChip, Samsung Semiconductor, KnuEdge, SanDisk and Micron among others. For the smartphone application processors, Qualcomm competes with Apple and MediaTek. Qualcomm is the market leader with 42%, Apple has 21%, MediaTek has 19%, while the others assume 18% of market share. 12 MediaTek also competes with Qualcomm in chip making sector – hence this company can be used to represent the industry because they produce similar products in all the sectors. 

Fig 1 

Qualcomm Market Share in the Smartphone application processor vending 

Financial Analysis 

Financial Ratios 

The profitability of Qualcomm, based on the net margin ratio, from 2014 through 2018 has reduced steadily from 30.08% to a net margin of –21.4%. 13 This shows that the company made a loss and its performance has worsened. Its competitor, MediaTek, has reported a fluctuating net margin from 21.78% in 2014 which reduced to 8.72% through 2018. 14 This tells that, Qualcomm is performing poorly. The liquidity, based on the current ratio, for Qualcomm has on average reduced from 3.73 (2014) to 1.55 (2018) indicating that the company’s ability to pay its short-term liabilities has reduced. 15 MediaTek’s current ratio revealed the same trend within the same period – it reduced from 2.45 in 2014 to 1.93 in 2018. The two companies experienced deteriorating liquidity. 

On the other hand, the efficiency for Qualcomm reduced in 2014 through 2018. The inventory turnover for this company reduced significantly from 7.74 (2014) to 5.5 in (2018) – implying that the ability to sell and replace inventory reduced in the same period. 16 The efficiency of Qualcomm was higher than that of its competitor. MediaTek’s inventory turnover reduced in the same period from 6.78 to 5.02 (Morningstar, 2019). The leverage of Qualcomm worsened from 2015 through 2018 based on its debt/equity ratio. Typically, the ratio increased from 0.32 (in 2015) to 16.56 (in 2018). This implies that the company secured more debt to finance its operations which exposed it to insolvency risk. 17 

MediaTek’s debt/equity ratio was relatively small about 0.20 on average for the same period. 18 It, either implies that MediaTek never utilized debt substantially or had huge shareholder base. However, the sustainability of Qualcomm, based on its payout ratio is strong – it averaged 55.825% between 2014 and 2018 with an upward trend. MediaTek’s average payout ratio was 31.2% within the same period – indicating that Qualcomm had stronger sustainability of its dividends. 19 To sum up, Qualcomm performance is not well compared to its competitor though it proved to have sustainable dividends but the debt level is alarming. 

DuPont Model 

Return on Equity (ROE) = Return on assets (ROA) * Financial Leverage * Net profit margin (NP) 

ROE = ROA * Financial Leverage * NP 

ROA = ROE / (Financial Leverage * NP) 

	2014	2015	2016	2017	2018
ROE	21.17	14.93	18.05	7.89	-30.71
ROA	16.93	10.61	11.06	4.19	-9.91

(Data adapted from Morningstar, 2019) 

Qualcomm’s ROE reduced on average between 2014 and 2018 from 21.17% to -30.71% indicating that the returns from equity reduced through the period. 

MediaTek’s ROE for 2018 

ROE = ROA * NP * Financial Leverage but financial leverage is Assets/equity 

ROA for 2018 = 5.13%; NP for 2018 was = 8.72%; Assets for 2018 = $13,087 million; Equity for 2018 = $8,912 million 

ROE = 5.13% * 8.72% * (13,087/8,912) 

= 5.13% * 8.72% * 1.468 

=6.56% 

P/E Growth Rate Analysis 

From a fundamental analysis, the P/E for Qualcomm is 55.79 while that of MediaTek can be calculated as; 

P/E ratio = share price (for 2018)/EPS 

= $7.30/$0.43 

= 16.97 

Qualcomm’s P/E was greater than that of MediaTek which indicated that investors can anticipate higher returns from Qualcomm than MediaTek. Market expectations of the company’s future growth is based on the P/E ratio and from this, it is clear that investors expect good performance from Qualcomm than MediaTek. 20 However, based on the sustainable growth rate, Qualcomm cannot sustain its equity dividends; its Sustainable Growth Rate (SGR) is -13.57%. The sustainable growth rate is projected from historical growth rates and in this case, it assumes that the future rates will probably exhibit similar behavior. Therefore, with the SGR, investors will be pessimistic with the future growth of Qualcomm. 

The SGR is greater (though negative) compared to the ROE (which is also negative) for Qualcomm in 2018. It, tells that the company’s efficiency is low in converting equity to profits. With a negative SGR there are chances that Qualcomm has experienced fluctuating cash flows from its equity activities which resulted to the negative SGR. Overall, a negative ROE indicates poor efficiency in allocating capital – hence the investors would be pessimistic on future returns. 21 The assumption in calculating the company’s ROE and the SGR appear realistic because Qualcomm’s financial performance is not doing good. 

Financial Forecast 

Using regression forecasting approach, the income statement for the financial year 2019 can be determined as shown in Appendix A. With the linear forecasting, the assumption here is that the revenues are subjected to significant change. Therefore, holding all the other income statement constant and predicting a future decrease in revenues other financial aspects such as the net profit margin and income before tax and interest, as well as, the tax itself. Using the P/E approach the stock price can be estimated. For instance, using the current EPS, the calculated ROE, and Dividend Per Share (DPS), the forecasted target stock price is seen to be $-51.85 which show that downsizing company performance – the ROE is negative. 22 Using the forecasted P/E of 6.70 (forecasted by Yahoo Finance, 2018), the estimated or forecasted stock price is $75. Using the P/E of the competitor, the forecasted stock price will be P/E*EPS which will be $72.97. 

Using the three approaches, the estimated P/E by the financial analyst, Yahoo Finance, appears to have the most sense since it takes into or it adjusts to markets forces affecting stock prices. 23 On the other hand, an expected return for Qualcomm stock for 2018 is given as 10.24% based on the fundamental data which would give a stock price of $86.0 based on the projected stock price. Using the Qualcomm beta from Morningstar as 0.92, the required rate of its stock can be determined as 9.44% assuming that the free rate is 3% with a market rate of 10%. 24 In 2018, the closing stock was valued at $64.02 indicating that the stock was undervalued when the PE for the Yahoo Finance and the one calculated using the competitor ROE were used. However, using the fundamental data for the company, the stock was overvalued. 

Valuation of Qualcomm Equity 

Using the two-stage dividend growth model, the present value of the stock is $131.25 when the CAPM rate of return is used to discount the cash flows associated with the stock. The main cash flows here are dividend paid, the projected future price, and the growth rate (6.7% based on Yahoo Finance). Considering the closing stock price in 2018 December was $64.02, it therefore tells that the price for Qualcomm stock is undervalued since its calculated value is greater than the market price. 25 However, on the other hand, using the SGR to evaluate the value of the stock using the discounted cash flow approach, the price for Qualcomm equity becomes $48.23 indicating that the closing stock price in December 2018 was overvalued. In this case, the SGR makes more sense because it is drawn from the actual performance of the company. 

Conclusion and Recommendation 

In conclusion, the valuation of the Qualcomm stock using the discounted cash flow approach with the expected rate from Yahoo Finance, the stock price appears undervalued but when using the SGR for the company, the stock value becomes overvalued. On the other hand, using the P/E approach and the fundamental data from the company financial statements, the stock for Qualcomm in 2016 was overvalued since the market price was greater than the fair price. However, using the competitor P/E approach, the stock value appears undervalued. The discounted approach considers the time value of money and all the cash flows associated with the stock. The problem with it is that, it relies future stock prices that have been projected to determine today’s price – and stocks are volatile meaning the value can be influenced by unexpected market shocks. 

Contrary, the use of fundamental data especially the P/E to determine the stock price considers the performance of the company and its projection gives a more accurate and reasonable values which consider the current market trends. The problem with this approach may be too high optimistic P/Es which can lead to flawed stock values. Though the two can work to give light to investors on evaluating stock, I think the fundamental data P/E approach is the most reliable. Overall, as an investor, Qualcomm is performing poorly and it is not promising to yield returns for investors in the near future making it not a potential company to invest. 

References 

Bernström, S. (2014). Valuation: The market approach . Chichester, West Sussex, United Kingdom: Wiley. 

Deloitte. (2019). 2019 Telecommunications Industry Outlook. Deloitte. Accessed from https://www2.deloitte.com/us/en/pages/technology-media-and- telecommunications/articles/telecommunications-industry-outlook.html 

Fernández, P. (2002). Valuation methods and shareholder value creation . London: Academic Press. 

Külpmann, M. (2002). Stock market overreaction and fundamental valuation: Theory and empirical evidence . Berlin: Springer. 

Li, Z. (2018). Telecommunication 4.0: Reinvention of the communication network . Singapore: Springer. 

Morningstar. (2019). MediaTek Inc. Quote. Accessed from https://www.morningstar.com/stocks/XTAI/2454/quote.html 

Morningstar. (2019). Qualcomm Inc. – QCOM Quote. Accessed from https://www.morningstar.com/stocks/xnas/qcom/quote.html 

Qualcomm. (2018). 2018 Annual Report of Form 10-K. Accessed from https://investor.qualcomm.com/annual-reports 

Rist, M., & Pizzica, A. J. (2015). Financial ratios for executives: How to assess company strength, fix problems, and make better decisions . Apress, New York, NY: Distributed to the Book trade worldwide by Springer Science and Business Media. 

Rukstad, M. G. (2004). Macroeconomic decision making in the world economy . Cincinnati, Ohio: South-Western. 

Sayre, J. E., & Morris, A. J. (2018). Principles of macroeconomics . Whitby, Ont.: McGraw Hill Education. 

US Bureau of Economic Analysis. (2019). Personal Income and Outlays, 2019. Retrieved from https://www.bea.gov/system/files/2019-04/pi0319_hist.pdf 

Appendix 

Appendix A 

Forecasted Income Statement (Source: Yahoo Finance, 2019) 

Appendix II 

Qualcomm Balance Sheet (Source: Yahoo Finance, 2019) 

1 Qualcomm. (2018). 2018 Annual Report of Form 10-K. Accessed from https://investor.qualcomm.com/annual-reports 

2 Qualcomm. (2018). 2018 Annual Report of Form 10-K. 

3 Sayre, J. E., & Morris, A. J. (2018). Principles of macroeconomics . 

4 US Bureau of Economic Analysis. (2019). Personal Income and Outlays, 2019 

5 Rukstad, M. G. (2004). Macroeconomic decision making in the world economy . 

6 Rukstad, M. G. (2004). Macroeconomic decision making in the world economy . 

7 Sayre, J. E., & Morris, A. J. (2018). Principles of macroeconomics . 

8 Deloitte. (2019). 2019 Telecommunications Industry Outlook. Deloitte. 

9 Deloitte. (2019). 2019 Telecommunications Industry Outlook. Deloitte. 

10 Li, Z. (2018). Telecommunication 4.0: Reinvention of the communication network . 

11 Li, Z. (2018). Telecommunication 4.0: Reinvention of the communication network . 

12 Ibid. 

13 Morningstar. (2019). Qualcomm Inc. – QCOM Quote. 

14 Morningstar. (2019). MediaTek Inc. Quote. 

15 Rist, M., & Pizzica, A. J. (2015). Financial ratios for executives: How to assess company strength, fix problems, and make better decisions . 

16 Fernández, P. (2002). Valuation methods and shareholder value creation . 

17 Rist, M., & Pizzica, A. J. (2015). Financial ratios for executives: 

18 Morningstar. (2019). MediaTek Inc. 

19 Rist, M., & Pizzica, A. J. (2015). 

20 Rukstad, M. G. (2004). Macroeconomic decision making in the world economy . 

21 Külpmann, M. (2002). Stock market overreaction and fundamental valuation 

22 Fernández, P. (2002). Valuation methods and shareholder value creation . 

23 Bernström, S. (2014). Valuation: The market approach . 

24 Morningstar. (2019). Qualcomm Inc. – QCOM Quote 

25 Külpmann, M. (2002). Stock market overreaction and fundamental valuation