Qualcomm (NASDAQ:QCOM) has trended down in recent weeks. Despite hitting its 52-week high in early November, investors are growing skittish again about the company’s prospects. While 5G could be a big catalyst going into 2020, regulatory risks remain a huge caveat.
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Qualcomm is fighting off an antitrust ruling in the United States. The Federal Trade Commission believes Qualcomm’s “no license, no chips” policy is anti-competitive. But Qualcomm is gearing up to fight the ruling early next year.
The U.S. isn’t the only place Qualcomm is facing regulatory hurdles. South Korea fined Qualcomm $873 million due to similar alleged anti-competitive practices. A South Korean court upheld the fine, but the company plans to fight the ruling. Qualcomm has a lot to lose in these battles. Its main business may be manufacturing mobile chips. But charging cell phone manufacturers royalties is its true profit center.
This combination of opportunity (5G) and risk (regulatory threats to licensing cash cow) makes Qualcomm a stock tough to analyze. But based on the current valuation, there may be plenty of room for downside.
Qualcomm Could Win (or Lose) Big in 2020
All bets are off whether Qualcomm “wins big” or “loses big” in 2020. Next year could be crowned the “year of 5G.” Apple (NASDAQ:AAPL) and other phone makers plan to launch 5G-enabled smartphones. 5G smartphones are expected account for 51% of total sales by 2023. 5G also opens the door for markets outside of mobile. The rise of internet of things devices provides ample growth opportunity.
Will this translate into explosive growth for Qualcomm? The jury’s still out. After winning its dispute with Apple, the iPhone maker agreed to resume using Qualcomm modems. But Apple’s long-term plan is to build modems in-house.
Then there’s the China factor. Even if the U.S. “wins” the trade war, Qualcomm could still lose. Thanks to the U.S. export ban, Huawei has reduced its dependence on U.S. chip makers like Qualcomm. Huawei now largely uses modems made in-house. Qualcomm sells mobile chips to some of Huawei’s competitors. But given their declining market share, Qualcomm is losing ground in this important mobile market.
The tide may be turning for Qualcomm’s mobile chip dominance. Add in the ongoing regulatory hurdles, and there’s good reason to be cautious about the stock.
Qualcomms’s FTC Appeal
What are the odds Qualcomm prevails in its appeal? Predicting the outcome of litigation is tough prognostication. Especially if you fall in the “I am not a lawyer” category. But recent news may point to challenges in Qualcomm’s case.
In a brief filed with the Ninth Circuit Court of Appeals, Intel (NASDAQ:INTC) claims Qualcomm’s actions drove it out of the smartphone chip business. Intel says this is why it sold the business to Apple at a “multi-billion dollar loss.” This brief provides plenty of ammo for the FTC’s case.
But other federal agencies could sway the outcome. The Department of Defense and Department of Energy are both on Qualcomm’s side. As a “trusted supplier” of 5G technology, both agencies are urging for the court of appeals to pause enforcement of the decision.
As I’ve said previously, the ball’s in the (Ninth Circuit) court. It’s tough to say whether it will back the FTC or not. But the outcome of this decision has big ramifications for Qualcomm. If the company prevails, expect the stock price to shoot up. Without this ruling hanging over the company, investors will regain their confidence in QTL’s future prospects.
With 5G opportunities and regulatory risks, it makes sense why Qualcomm trades at its current valuation. Qualcomm’s forward price-to-earnings ratio is 28.1. This exceeds Intel’s forward P/E of 12.9. But high-flying chip makers like Nvidia (NASDAQ:NVDA) and Advanced Micro Devices (NASDAQ:AMD) trade at much higher multiples.
NVDA trades for 48.6 times forward earnings. AMD trades at a staggering 94.4 times forward earnings. I don’t expect Qualcomm to ever reach such frothy levels. But with its 5G potential, Qualcomm could benefit from multiple expansion — if it can shake off the FTC’s attempts to curtail its business.
Bottom Line: Qualcomm Is Fairly Valued
Assessing the opportunities and risks for Qualcomm, it’s safe to stay shares are fairly valued. Qualcomm’s premium to Intel stock is fair, given the company’s 5G growth opportunities. But the large discount to high-flying chip names like Nvidia and AMD is also rational. While the jury’s out whether Nvidia and AMD will deliver on their growth promises, at least both companies aren’t facing potentially crippling regulatory rulings.
Qualcomm could soar again if the Ninth Circuit Court rules in its favor. But this is not the end all, be all for Qualcomm. With big phone makers like Apple and Huawei going in-house for modem production, Qualcomm’s salad days may already be over.
As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.
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