Qualcomm's War With Apple Has Been Costly

Qualcomm (QCOM) reports quarterly earnings after-hours. Analysts expect revenue of 5.93 billion and eps of $0.91. The revenue estimate implies flat growth sequentially. Investors should focus on the following key items:

Stagnant Top Line Grow

Qualcomm is a tale of two cities. Equipment sales have been robust, while licensing fees have free fallen. Total FQ4 2017 revenue was down 5% Y/Y. Revenue from equipment and services was up 13% while licensing fees were off 40%. Qualcomm increased its share of QCT revenues and MSM chipset shipments to Chinese OEMs. Meanwhile, QCT revenue outside of smartphones - auto, networking and IoT - has been growing at a double-digit clip.

QTL revenue has been negatively impacted by disputes with Apple (AAPL) and other contract manufacturers. Apple previously sued Qualcomm for excessive licensing fees. The problem is that the lion's share of Qualcomm's EBIT (46%) comes from QTL. QTL's EBITDA margins were 68% last quarter, which dwarfs that of QCT (21%). QTL's margins have fallen from 84% in the prior year period, likely reflecting a decline in the number of fees the company can charge certain manufacturers. Every dollar decline in licensing fees has an out-sized impact on Qualcomm's bottom line.

While revenue was off 5% Y/Y EBIT fell by 21%. Qualcomm has improved EBIT margins at QCT from 18% in the prior year period, but not enough to offset the hit to QTL. I expect this trend to continue in the near term.

War With Apple Has Been Costly

The EU recently fined Qualcomm $1.2 billion for paying Apple to use only its chips:

U.S. chipmaker Qualcomm Inc was hit with a 997 million euro ($1.23 billion) fine by European Union antitrust regulators on Wednesday for paying Apple Inc to use only its chips, blocking out rivals such as Intel Corp.The EU decision is the latest in a series by global regulators that have amounted to billions of dollars in fines and require changes in Qualcomm business. The contract at issue with Apple is no longer in force, and Qualcomm already faces more competition from Intel and other rivals. 

Qualcomm has cash and securities of $37 billion. A $1.2 billion fee is a drop in the bucket. However, if Qualcomm can no longer offer financial incentives to Apple or other smartphone manufacturers to use its chips then it could lose its competitive advantage. It could also lead to lower chipset shipments and revenue at a time when the company's revenue and EBIT are already in decline.

Market chatter suggests Apple could give more of its chip business to Intel (INTC) or Mediatek. Qualcomm is not the market leader for chipsets to the mobile industry for no reason. The question remains, "Can chips from Intel or Mediatek perform on par with Qualcomm's." If Apple can squeeze Intel or other chip suppliers then it could potentially improve its own margins. Given Apple's perch as a leading smartphone manufacturer Qualcomm's recent quarterly results could be a high water mark.