QUALCOMM, Inc. (NASDAQ:QCOM): Chips and Patents Business Under Radar


QUALCOMM, Inc. (NASDAQ:QCOM) feels aggrieved by recently approved policies by the Institute of Electrical and Electronics Engineers, IEEE, which, it affirms, poses a threat to its licensing business, which has turned out to be a key source of revenue over the years. Founded in 1985, Qualcomm is not only a key player in the chips business, but has also grown in prominence in the patent licensing business, a dominance that is the subject of scrutiny from other tech companies.

The chip maker has accrued more than $50 billion in licensing fees since 2000. An achievement that has not gone well with other tech companies that feel ridiculed by the amount of fees they have been forced to pay in royalties for set standards. QUALCOMM, Inc. (NASDAQ:QCOM) patents have mostly found their way into the cellular connection space in the manufacture of smartphones and tablets, having been approved by a number of standard-setting groups.

Qualcomm Formula

Qualcomm finds itself at the center of accusations from companies like Apple Inc. (NASDAQ:AAPL), SAMSUNG ELECT LTD(F) (OTCMKTS:SSNLF), and Microsoft Corporation (NASDAQ:MSFT), which affirm they are overpaying for some of the technology that only forms a subset of their final product. The formula that Qualcomm uses to charge royalty fees remains the bone of contention, taking into consideration the fact that electronic devices are made of numerous parts, using different technologies.

Opponents of the formula affirm that a device, like a phone, is feature laden, making it extremely impossible to get the desired returns based on the ongoing royalty structure. Smartphone makers are especially questioning why QUALCOMM, Inc. (NASDAQ:QCOM) should be allowed to charge royalties as a percentage of handset prices, considering most of its patents only cover cellular connections.

The lucrativeness of the current royalty structure is highlighted by the fact that Qualcomm usually ends up with $20 on the sale of any $400 smartphone, based on a 5% royalty structure. CEO, Steve Mollenkopf has defended the payment structure, noting that the company is justified to seek a 5% royalty as it often spends billions of dollars on developing a technology before standards are set.

Newly Approved Policies

Tech companies aggrieved by such royalty structures are pressuring standard setting agencies to regulate royalty fees before technologies are chosen as standards. Having carried a debate that stretched over two years, IEEE is now talking tough against royalty structures carried out by the likes of QUALCOMM, Inc. (NASDAQ:QCOM).

Under newly approved policies, the standard setting agency affirms that reasonable rates should be set based on the smallest, saleable implementation of a technology. Qualcomm is taking issue with the policy as it means it will only be allowed to charge royalties on the price of a chip that carries out a particular function, which may costs only a tenth of the entire handset price.

QUALCOMM, Inc. (NASDAQ:QCOM) has also been dealt a major blow after the IEEE affirmed that patent holders should stop seeking court injunctions once a company uses an invention adopted as a standard. The policy limits patent holders’ abilities to pressure companies that refuse to pay royalties. In a fight back, patent rich companies assert that the new policies are biased.

Qualcomm Stance

Qualcomm will not, in any way, be affected by the changes initiated by IEEE, as most of its patents are covered by standards approved by other agencies. The point of concern has to do with the fact that the changes could stream to other groups in the near future and affect its licensing revenues. It is not a must for patent holders to respond to the new rules and QUALCOMM, Inc. (NASDAQ:QCOM) has already affirmed it will not be complying.

The only concern for QUALCOMM, Inc. (NASDAQ:QCOM) has to do with the fact that the IEEE might turn down its applications in the near future, which it may wish to be used as the standard, having shown some form of resentment.

Such a decision could have massive repercussions on its licensing business, which has turned out to be a key source of revenue in recent years. The chipmaker has already tasted sour grapes as a result of its royalty fees structure, which is seen to be rich. A 15 month investigation in China, over antitrust violations, saw the company handed a fine of $1 billion after being accused of using its market position to suppress competition in the space.

Investors Concern

Probes over QUALCOMM, Inc. (NASDAQ:QCOM) practices are set to continue as long as the company sticks to its royalty plan with the US, Europe, and South Korea among the countries leading the wave of investigations. The ongoing scrutiny into the company’s operations is not going well with a number of investors who have invested huge sums of money based on the impressive returns coming from the licensing business.

Jana Partners LLC., which has invested $2 billion in Qualcomm’s business, is pointing out that it might be high time for the company to be split into two, as one of the ways of unlocking more shareholder value. Investors remain skeptical that more trouble could befall QUALCOMM, Inc. (NASDAQ:QCOM) going forward, owing to its patent and chip business.

QUALCOMM, Inc.(NASDAQ:QCOM)’s dominance of the mobile markets through the sale of chips position it at a precarious place in instances where smartphone manufacturers start raising concerns that they are being overcharged on the patents they license.

A separation of the two businesses could help safeguard shareholder interest in instances where one business is under immense scrutiny from authorities. IEEE changes don’t affect QUALCOMM, Inc. (NASDAQ:QCOM) at the moment but may have catastrophic effects in the long run, affirms Jana.

Conclusion

QUALCOMM, Inc. (NASDAQ:QCOM) needs to review its stance on the way it charges royalty amounts from IT companies to ensure that it is fair and that the company is not on the receiving end in the long run.


Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.

Viraj Shah

Viraj Shah has completed M.Com (Finance) and is currently pursuing his CFP. He tracks US markets along with other global markets like India very closely. He is very passionate about stocks, real estate, and technology. He also believes that money can always be made in the market.

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