Wireless chipmaker Qualcomm (NASDAQ:QCOM) reported Q1 FY2024 results exceeding Wall Street analysts' expectations, with revenue up 5.1% year on year to $9.94 billion. The company expects next quarter's revenue to be around $9.3 billion, in line with analysts' estimates. It made a non-GAAP profit of $2.75 per share, improving from its profit of $2.37 per share in the same quarter last year.
Qualcomm (QCOM) Q1 FY2024 Highlights:
- Market Capitalization: $163 billion
- Revenue: $9.94 billion vs analyst estimates of $9.52 billion (4.4% beat)
- EPS (non-GAAP): $2.75 vs analyst estimates of $2.37 (16.1% beat)
- Revenue Guidance for Q2 2024 is $9.3 billion at the midpoint, roughly in line with what analysts were expecting
- EPS (non-GAAP) Guidance for Q2 2024 is $2.30 per share at the midpoint, above analysts' expectations of $2.24 per share
- Free Cash Flow was -$230 million, down from $3.80 billion in the previous quarter
- Inventory Days Outstanding: 132, down from 160 in the previous quarter
- Gross Margin (GAAP): 56.6%, down from 57.2% in the same quarter last year
Having been at the forefront of developing the standards for cellular connectivity for over four decades, Qualcomm (NASDAQ:QCOM) is a leading innovator and a fabless manufacturer of wireless technology chips used in smartphones, autos and internet of things appliances.
Qualcomm has one of the more unique semiconductor business models. Its research has created the intellectual property that is the foundation for the global wireless industry. In the 1990s they developed the original code division multiple access (CDMA) technology that became the standard for cell phone networks first in the US, then around the world. Qualcomm has had a hand in developing Wi-Fi, GPS, and Bluetooth, along with RFID (Radio Frequency ID), and 4G and 5G technology.
It monetizes its portfolio of more than 140,000 patents through designing semiconductors used in handsets, autos, and IoT and also through licensing its patents for others to incorporate in their own products. Qualcomm outsources manufacturing of its chips, its main product family is the Snapdragon chip, an all in one chip used to power mobile devices: it includes a cellular modem, integrated Wi-Fi, Bluetooth, and GPS, along with a CPU (central processing unit) and GPU (graphics processing unit). Different versions of Snapdragon are used in different types of devices (tablets, laptops, handsets) based on the different battery life or processing requirements.
Qualcomm’s stranglehold on wireless’s foundational technology has enmeshed it in disputes over royalty payments, which are highly consequential to Qualcomm’s business model as it receives a royalty of roughly 5% of the average price of every smartphone sold, and those licensing revenues are nearly pure profit. In 2017, Apple refused to continue paying the royalty which degenerated into a lawsuit with Apple switching to Intel modem chips, only to return to Qualcomm in 2019, when Intel decided not to make 5G modems. Qualcomm also ran into similar disputes with Chinese handset makers such as Huawei in the past few years, all of which have since been resolved, with Qualcomm continuing to receive its royalty payments. Because of its unique position in the semiconductor world, Qualcomm became a geopolitical football during China-US trade tensions over the past few years: China blocked Qualcomm’s attempted acquisition of NXPI over antitrust concerns, while the US blocked Broadcom proposed hostile takeover of Qualcomm over national security concerns.Qualcomms peers and competitors include AMD (NASDAQ:AMD), Broadcom (NASDAQ:AVGO), Intel (NASDAQ:INTC), MediaTek (TWSE:2454), NXP Semiconductors NV (NASDAQ:NXPI), Nvidia (NASDAQ: NVDA), and Samsung (KOSI:005930).
Processors and Graphics Chips
Chips need to keep getting smaller in order to advance on Moore’s law, and that is proving increasingly more complicated and expensive to achieve with time. That has caused most digital chip makers to become “fabless” designers, rather than manufacturers, instead relying on contracted foundries like TSMC to manufacture their designs. This has benefitted the digital chip makers’ free cash flow margins, as exiting the manufacturing business has removed large cash expenses from their business models.
Qualcomm's revenue growth over the last three years has been solid, averaging 18.2% annually. But as you can see below, this quarter wasn't particularly strong, with revenue growing from $9.46 billion in the same quarter last year to $9.94 billion. Semiconductors are a cyclical industry, and long-term investors should be prepared for periods of high growth followed by periods of revenue contractions (which can sometimes offer opportune times to buy).
While Qualcomm beat analysts' revenue estimates, this was a sluggish quarter for the company as its revenue only grew 5.1% year on year. Qualcomm's growth, however, flipped from negative to positive this quarter. This encouraging sign will likely be welcomed by shareholders.
Qualcomm returned to positive revenue growth this quarter and its management team expects the trend to continue. The company is guiding to 0.3% year-on-year growth next quarter, and analysts seem to agree, forecasting 7.2% growth over the next 12 months.
Product Demand & Outstanding Inventory
Days Inventory Outstanding (DIO) is an important metric for chipmakers, as it reflects a business' capital intensity and the cyclical nature of semiconductor supply and demand. In a tight supply environment, inventories tend to be stable, allowing chipmakers to exert pricing power. Steadily increasing DIO can be a warning sign that demand is weak, and if inventories continue to rise, the company may have to downsize production.
This quarter, Qualcomm's DIO came in at 132, which is 33 days above its five-year average. These numbers suggest that despite the recent decrease, the company's inventory levels are higher than what we've seen in the past.
In the semiconductor industry, a company's gross profit margin is a critical metric to track because it sheds light on its pricing power, complexity of products, and ability to procure raw materials, equipment, and labor. Qualcomm's gross profit margin, which shows how much money the company gets to keep after paying key materials, input, and manufacturing costs, came in at 56.6% in Q1, down 0.6 percentage points year on year.
Despite declining over the last 12 months, Qualcomm still retains reasonably high gross margins, averaging 55.5%. These margins point to its solid competitive offering, disciplined cost controls, and lack of significant pricing pressure.
Qualcomm reported an operating margin of 36.4% in Q1, up 1.8 percentage points year on year. Operating margins are one of the best measures of profitability because they tell us how much money a company takes home after manufacturing its products, marketing and selling them, and, importantly, keeping them relevant through research and development.
Qualcomm's operating margins have been trending down over the last year, averaging 32.4%. However, the company's profitability is still above average for semiconductor companies, driven by an efficient cost structure.
Earnings, Cash & Competitive Moat
Analysts covering Qualcomm expect earnings per share to grow 10.4% over the next 12 months, although estimates will likely change after earnings.
Although earnings are important, we believe cash is king because you can't use accounting profits to pay the bills. Qualcomm's free cash flow came in at negative $230 million in Q1, down 109% year on year.
As you can see above, Qualcomm produced $6.92 billion in free cash flow over the last 12 months, an impressive 20.1% of revenue. This is a strong result; Qualcomm's free cash flow conversion was higher than most semiconductor companies, and if it can maintain this level of cash generation, it can invest in plenty of new and existing products to ride out cyclical downturns more easily.
Return on Invested Capital (ROIC)
EPS and free cash flow tell us whether a company's revenue growth was profitable. But was it capital-efficient? If two companies had equal growth, we’d prefer the one with lower reinvestment requirements.
Enter ROIC, a metric showing how much operating profit a company generates relative to its invested capital (debt and equity). ROIC not only gauges the ability to grow profits but also a management team's ability to allocate limited resources.
Qualcomm's five-year average ROIC was 60.1%, placing it among the best semiconductor companies. Just as you’d like your investment dollars to generate returns, Qualcomm's invested capital has produced excellent profits.
The trend in its ROIC, however, is often what surprises the market and drives the stock price. Unfortunately, over the last two years, Qualcomm's ROIC has averaged a 30.2 percentage point decrease each year. Qualcomm has historically shown the ability to generate good returns, but they have gone the wrong way recently, making us a bit conscious.
Key Takeaways from Qualcomm's Q1 Results
We were impressed by Qualcomm's strong improvement in inventory levels. We were also excited its EPS outperformed Wall Street's estimates. While next quarter's revenue guidance was roughly in line, EPS guidance was above. Overall, we think this was a strong quarter that should satisfy shareholders. The stock is up 2.5% after reporting and currently trades at $152.17 per share.
Is Now The Time?
When considering an investment in Qualcomm, investors should take into account its valuation and business qualities as well as what's happened in the latest quarter.
There are several reasons why we think Qualcomm is a great business. While we'd expect growth rates to moderate from here, its revenue growth has been solid over the last three years. Additionally, its stellar ROIC suggests it has been a well-run company historically, and its strong free cash generation allows it to sustainably invest in growth initiatives.
Qualcomm's price-to-earnings ratio based on the next 12 months is 15.4x. Looking at the semiconductors landscape today, Qualcomm's qualities stand out, and we like the stock at this price.
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