Citi initiates Qualcomm (QCOM) at Buy and a $61 target. Citi says QCOM will benefit from an explosion in 3G and a spike in royalties from higher ASPs. The firm also thinks Street estimates are too low:
Qualcomm is unique amongst handset chip companies in that it derives 31% of revenues and 71% of EBIT from technology licensing. While this alone drives a premium to its comparable chip peers, the benefit of this licensing model is increasing as 3G phones outgrow the overall handset market—
Qualcomm derives a royalty on ALL 3G phones (except for Nokia with whom there is ongoing litigation). Meanwhile, the proliferation of smartphones, that carry 83% higher ASP's than average handsets compound the benefit to Qualcomm as their royalties are a percentage of wholesale ASP's.
Citi is upbeat on QCOM's strength in R&D and product lineups:
Meanwhile, by virtue of its high R&D, profitable execution, and relatively complete product portfolio, we view Qualcomm as a natural share gainer in the chipset market for handsets. Indeed, this has been borne out by recent QCT (QCOM CDMA Technologies) growth. Consolidation amongst the fragmented peer group ought to further benefit QCT share as customers consolidate around proven product portfolios.
Finally, Citi thinks that the market isn't properly pricing in the real strength of the coming 3G explosion, which will drive ASPs (and QCOM royalties) through the roof:
We model above consensus revenues and proforma EPS (2009), primarily reflecting solid ASP trends and high share targets. Our target price implicitly values Qualcomm's licensing business (QTL) at 23x 2009 EBIT (inline with comparables) and its chip business (QCT) at 19x 2009 EBIT (above comparables). The resulting 34% ETR substantiates our "Buy" rating.
