I am very optimistic about QUALCOMM (NASDAQ:QCOM), as I believe the company is poised to capitalize on metaverse-related structural trends. In particular, it is estimated that VR/AR technology could grow at 40% CAGR by 2030. And Snapdragon by QUALCOMM is the leading chipset in this industry.
QUALCOMM stock is down about 35% year-to-date versus a roughly 23% loss for the S&P 500 (SPX). This is, in my view, a long-term dip-buy opportunity for long-term investors.
Personally, I see more than 30% upside potential for QUALCOMM stock. I base my thesis on a residual income model that calculates a fair implied share price of $157.34/share.
QUALCOMM is a leading semiconductor company based in the USA. The company researches, develops and commercializes chip technologies with a focus on the wireless industry. QUALCOMM operates three key segments: Qualcomm CDMA Technologies; Qualcomm Technology Licensing; and Qualcomm strategic initiatives.
The Qualcomm CDMA Technologies segment provides technology for the wireless communications, networking, application processing and multimedia industries (reference 5G) and accounts for approximately 85% of the company’s revenue. The Qualcomm Technology Licensing segment sells licenses and other usage rights for QUALCOMM’s intellectual property portfolio and accounts for about 15% of revenue. Finally, the Qualcomm Strategic Initiatives segment is the company’s investment arm and provides funding for emerging technologies including 5G, artificial intelligence, automotive, consumer, enterprise, cloud and IoT.
Lead into the Metaverse
While QUALCOMM has long been known primarily as a chip designer for the smartphone industry, the company is now rapidly diversifying into new, high-potential verticals – most notably the Metaverse. To put things in perspective, McKinsey has estimated the annual market size of the metaverse economy at $5 trillion by 2030. Citigroup (C) even said $13 trillion by 2030 might be reasonable.
Without a doubt, low-latency data communication will be a key cornerstone for the Metaverse. And by 2022, QUALCOMM’s CDMA Technologies segment will be at the forefront of wireless communications and networking chipset technology that could be leveraged for broader Metaverse experiences.
Additionally, QUALCOMM’s Snapdragon technology supports most, if not all, AR/VR devices, including Meta’s (META) Oculus Quest. A few weeks ago, QUALCOMM and Meta Platforms announced a strategic partnership that is likely to further strengthen QUALCOMM’s leading Metaverse chip technology.
QUALCOMM expects Snapdragon technology to grow at a 15% CAGR through 2024. But rather than slowing thereafter, revenue could accelerate as the adoption of XR devices gains broader acceptance in the global economy and society.
Financially, QUALCOMM is in the same league as the top US technology companies, including FAANGs, in terms of both revenue growth and business profitability.
Notably, QUALCOMM’s revenue has skyrocketed from about $22.6 billion in 2018 to $42.1 billion in 2022 (TTM reference), implying a revenue growth rate of about 18%. During the same period, operating income increased from $3.8 billion to $15.1 billion, a compound annual growth rate of 44% each.
For the trailing twelve months, QUALCOMM reported a gross margin of 58%, which is about 16% above the sector median of 50%. QUALCOMM’s operating profit margin (EBIT, TTM reference) is 45.8% versus 7.4% for the sector median (382% premium).
In closing, I would like to emphasize that QUALCOMM’s balance sheet is very strong. As of June 30, the company had $6.8 billion in cash and cash equivalents against total debt of $15.5 billion.
target price estimate
To estimate a stock’s fair implied share price, I’m a big fan of using the residual income model, which is based on the idea that a valuation should represent a company’s discounted future earnings after capital charges. According to the CFA Institute:
Conceptually, residual income is net income less a charge (deduction) for the common shareholders’ opportunity cost in generating the net income. It is the residual or remaining income after accounting for the cost of a company’s total capital.
In terms of my QUALCOMM stock valuation, I make the following assumptions:
- To forecast EPS, I anchor to analyst consensus forecast as available on the Bloomberg Terminal through 2025. In my opinion, any estimate beyond 2025 is too speculative to include in an assessment framework. But for 2-3 years, the analyst consensus is usually pretty accurate
- To estimate the capital requirement, I anchor QCOM’s cost of equity at 10%.
- For the final growth rate after 2025, I use 3.25%, which is arguably very conservative (about 1 percentage point higher than estimated nominal global GDP growth).
Given these assumptions, I calculate a base case price target for QUALCOMM stock of $157.34/share (more than 30% upside potential).
Notably, my bullish price target doesn’t reflect a specific combination of growth and cost of capital. Below is a sensitivity analysis that supports various assumptions.
An investment in QUALCOMM is not without risk. First, I want to highlight that many of QUALCOMM’s growth verticals, including Metaverse, IoT expansion, and AI technology, are entrepreneurial bets. They can pay off well, but there’s no guarantee. Second, QUALCOMM hopes to expand in data center server chip technology, but a key ruling on the lawsuit with UK-based ARM is pending. Finally, investors should keep in mind that sentiment towards risky assets like equities remains severely depressed. And in the face of multiple macro headwinds, QCOM stock could suffer from share price volatility, although the company’s fundamentals remain unchanged.
If I had to pick one chipmaker that I would keep through 2030, it would be QUALCOMM. Investors should note that QUALCOMM has similar growth rates and profit margins to NVIDIA (NVDA) while trading at a multiple of Intel (INTC). As QUALCOMM should benefit heavily from Metaverse-related technology trends, I believe QCOM stock should and could trade significantly higher. Personally, I calculate a target price of $157.34/share. Accordingly, I see the current share price weakness – which is mainly driven by the general risk aversion towards shares – as a strong buying opportunity.