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Morningstar | Qualcomm's Apple-Related Troubles Set to Persist into 2019; Shares Undervalued Relative to $72 FVE

We expect Qualcomm’s licensing business, the driver of the firm’s narrow moat rating, to see solid growth, due to our expectation of increased 3G and 4G device adoption. However, recent government investigations into the business model and the Apple lawsuit against Qualcomm’s business practices have increased the possibility of negative effects on royalty revenue, reflected in our negative moat trend rating. Ultimately, we believe Qualcomm will be able to withstand these inquiries and maintain adequate royalty rates.Qualcomm is first and foremost the steward of the digital communication technology known as CDMA, which is commonly referred to as a third-generation, or 3G, wireless communications standard. 3G allows devices to send/receive voice signals and wireless data, and has played a major role in the proliferation of mobile devices. Qualcomm’s treasure trove of patents (with a monopoly in 3G and a significant portion of 4G) allows the firm to charge device-makers a royalty fee as a percentage of the price of each 3G and 4G device sold (as most 4G phones are backward-compatible with 3G).In addition to licensing its IP portfolio, the firm designs chips used in smartphones. This part of the business does not have nearly as strong of a competitive advantage as licensing, nor is it as profitable. Qualcomm’s high-end Snapdragon application processors were once commonplace in high-end smartphones, but the shift toward in-house chips has threatened Qualcomm’s position. The major blow occurred when Samsung utilized internally developed chips in its Galaxy S6 device. While Qualcomm has reclaimed some business back at Samsung, there will be fewer lucrative opportunities going forward, owing to competition and OEMs that build their own chips. The firm historically also had a competitive edge in baseband chips, which are critical to devices’ inherent ubiquitous connectivity. Qualcomm had been the sole baseband supplier at Apple for multiple iterations of the iPhone, but Intel has since won a portion of this business. The firm attempted to acquire NXP Semiconductors to reduce its reliance on smartphones, but ultimately failed to consummate the deal.