“‘Sky-Fi’ — Silicon Valley’s $2.2 Trillion Breakthrough Bigger Than The Internet As We Know It”

by Travis Johnson, Stock Gumshoe | February 2, 2016 1:01 am

What's Street Authority's "little-known company" with a "near monopoly" on the next internet?

This ad has been running again and generating a lot of questions from Gumshoe readers, so we’re re-posting the answer here. The article below has not been updated or revised since it was published on July 20, 2015, other than an update to the Irregulars “Quick Take” box and an updated disclosure at the bottom — the stock is down by a little over 25% since the ad started running a little over six months ago. The original reader comments have been left appended to this article.

— from 7/20/15 —

The latest pitch for a “forever” stock from the Street Authority folks is all about how the next wave of internet adoption is going to make us all filthy, stinkin’ rich — and we don’t even have to buy an iffy little small cap wonder stock to bet on it. Sounds good, right?

Well, plenty of Gumshoe readers agree with you — I got a lot of questions about this over the weekend, so we’re going to dig in, check out the clues, and see which stock it is that they think will be making huge long-term gains for investors.

The intro to the ad is enough to make you drool — plenty of future promise, leavened with a heaping dollop of name-dropping. Here’s a taste, just to get you in the mood:

“Much like the railroad, the automobile, and the airplane transformed past centuries, a new technological breakthrough is poised to transform the 21st century…

“And generate trillions of dollars of wealth in the process.

“The Economist calls this breakthrough ‘Sky-Fi.’ And as we speak, the wheels have been set in motion by some of the world’s most powerful people to make it a reality.

“Eccentric billionaire Elon Musk[1] just pledged to spend billions of dollars on this epic innovation.

“Google and Fidelity[2] have kicked in nearly $1 billion.

“Barack Obama has made it one of his top priorities before leaving office.

“And Facebook CEO Mark Zuckerberg is circling the globe meeting with foreign dignitaries about it. He calls it ‘the greatest revolution yet.'”

Sounds pretty cool, right? What they’re hinting at here is really just the push to bring the internet to more people — Google and Facebook have a huge monetary incentive to increase both the speed and reach of the internet (more people online means they can serve more ads to them, among other things), so they’re investing heavily in both mainstream and “moon shot” activities to extend the internet to remote, poor, and otherwise “challenging” parts of the globe, whether it’s by using balloon-based networks like Google or providing streamlined free internet over cell networks like Facebook’s two-year-old Internet.org[3] (those are just a couple of the dozens of projects those two are working on, and other companies are certainly involved as well).

But how does it make us rich? After all, if it was easy to see how extending 4G/LTE data service to all of India[4] to get those billion folks online at an affordable price, someone would have already made a fortune at it, no? In many ways, Facebook and Google are using their massive cash hoards to indulge in a little combination of future hubris and humanitarianism — they’re imagining that investments they make in improving the internet today will bneefit their shareholders in a decade or more, since presumably they’ll still sit atop the global internet…

… and they also, since both companies are run with some level of idealism and social motivation, are really trying to help bring the gift of the internet to more of the world. Where you assign the weights to those motivations probably reflects your own opinion and level of cynicism as much as anything else, and it doesn’t really matter — the fact is, the companies who benefit most from increasing speed and traffic on the internet are investing in enhancing both of those aspects of the world’s most important communications network.

And the money? Well, now we get to the “secret” company and some specific hints — and, it turns out, the fact that both Google and Facebook are pursuing at least some “internet expansion” ideas (like balloons and low-flying airplanes) that use existing LTE wireless technologies is a key part of the argument:

“One little-known company has a near-monopoly on the key technology making this breakthrough possible… and this firm’s shares could skyrocket 1,000% because of the event I’m about to share with you.

“This firm has locked down the crucial patents. And it’s already seen huge share price gains as events have unfolded to this point.

“You see, this firm is not some small, new, fly-by-bight player.

“In fact, it played a key role in the first two phases of this breakthrough. Each phase caused the company’s share price to soar triple-digits.

“But as this breakthrough begins its third and final phase – by far the largest of the three – this company’s stock is likely to see its biggest jump yet.”

Sounds a little more appealing, right? Some sort of big company that owns some key enabling technologies?

Some of you may have a pretty good notion of where this is going already, but just to make sure let’s check out some more of the clues:

“… there’s one company perfectly positioned to profit from this mega-trend.

“It’s in an incredibly unique position. It’s spent the past 20 years developing over 21,000 patents and locking up not one… but two monopolistic positions.

“In short, its technology is the cornerstone of this new Internet age…..

“This company went public in 1991. It was one of the founding companies of the Internet. Its founder rubbed shoulders with the likes of Steve Jobs[5] and Bill Gates[6], and he’s now a billionaire himself.

“Back in the 90s, the company made a forward-thinking decision. It patented much of the airwaves people would eventually use to connect to the Internet.

“You may have heard the terms 3G, 4G, and LTE. These are the different networks that smartphones use to connect to the Internet.

“The Apple iPhone, the Samsung Galaxy and just about every other major smartphone uses these networks.

“Well, this company has patents on the key technology that makes these networks run.

“This puts the company in an incredible position as the Internet begins its next growth phase.

“As the Internet grows, the number of people using these networks to connect to the Internet is expected to soar.

“The number is set to jump from 2 billion all the way to nearly 5 billion over a few years.”

And apparently it’s not just the patents and the intellectual property around LTE and other wireless technologies that this company owns (if that’s all we were looking at, even Interdigital (IDCC)[7], far from being a blue chip, would be a candidate)… this company also actually makes stuff:

“Over the past two decades, this firm also quietly secured a near monopoly on the mobile chip market.

“Samsung, Apple, Nexus, Motorola, Nokia… all of these popular brands and many others use this company’s chips in their phones.

“That’s why this company owns about 44% of the mobile chip market. Intel, its nearest competitor, owns just 9%.

Ah, well now we start to run out of possible left-field candidates — the hints here are, the Thinkolator can now confirm, all pointing directly at the candidate you’ve probably already got in mind: Qualcomm (QCOM)[8].

And yes, I suppose that it’s someone unknown for a lot of people — at least, compared to Apple and Samsung and Google and Facebook, or even Cisco, since Qualcomm doesn’t really have a direct-to-consumer brand like those folks. But it’s sure well-known to investors, who have considered it a dividend-growth, blue-chip pioneer in the tech space for a long time.

QCOM has had a tough year so far this year, but unless you bought it at the peak of the dot-com mania in 1999/2000 you’re probably a reasonably happy investor if you own the stock — it’s been on a long-term uptrend (with plenty of large corrections) for a decade or more, and they’ve consistently increased the dividend every year since they started paying dividends[9] in 2003.

The positive slant on QCOM is that yes, they do own the patents on a big swath of mobile data communications, and they have a dominant position in mobile chip design, and they’ve used that to both build a large business selling chips to phone makers and to extract pretty high royalties from nearly every telecom company and device manufacturer. Royalties are, clearly, one of the most fantastic cash streams to own — you get paid based on work that someone else does (making and selling phones) while your own investment (creating the intellectual property or design) was amortized long ago.

And right now, it looks for all the world like the stock is too cheap — QCOM has very nice margins, a high-double-digit return on equity, an above-average dividend (about 3% now) that’s also growing at a rapid rate (the last three increases were 40%, 20%, and most recently 15% — so dividend growth is slowing down but still very high), and they have a very manageable payout ratio of less than 40% (meaning that paying the dividend takes up only 40% of profits) and a huge cash position of about $15 billion (on a market cap of $100 billion)… so the balance sheet is rock-solid, and history indicates that the dividend should be very safe.

The negative slant, which is what has caught the stock this year (it’s near a 52-week low, and is down about 20% from its recent peak a year ago), is that royalties are declining because of price competition among cell phone manufacturers and the push for LTE over older/slower 3G and CDMA standards (the royalties are based on phone price, and Qualcomm’s patent portfolio for older technologies is apparently stronger or more complete than it is in LTE). That has led QCOM to post lower earnings numbers, and to issue lower revenue forecasts over the past couple quarters, which means analyst reduce their earnings estimates and investors start to think QCOM is worth less.

A lot of the bad press for QCOM this year, and the cause of the two more substantial drops when it comes to the “story,” have been the serious problem of Chinese licensing and underreporting — meaning that some Chinese manufacturers are refusing to license QCOM’s technology even though they’re using the designs and the technology, and that those who are licensing it are often underreporting their sales (and therefore paying lower royalties than they should). That was the cause of QCOM’s quick collapse back in January, though reports that they had settled with a major Chinese licensor (and settled antitrust issues with Chinese authorities at the same time, not coincidentally) helped the stock to recover a bit.

And more recently, the chipmaking side of the business (as opposed to the royalty-collecting side) lost most of its business from its second largest customer when Samsung decided to start making more of their own mobile chips. That’s bringing down chip sales numbers, though QCOM is still one of the largest chipmakers in the world (probably behind only Intel and Samsung), but it won’t bring down earnings quite as dramatically because the royalty business has much higher margins than the chip business.

Add on to that the news that following the Chinese antitrust settlement (which cost QCOM about a billion dollars), the European antitrust regulators have got a bee in their bonnet[10] about Qualcomm’s business practices and, well, you could be forgiven for being a bit worried.

Analyst estimates for this year and next year have been drifting lower, so the guess is now that the next couple quarters for QCOM will be quite weak, with revenue down substantially from last year, and that the fiscal year (which ends in September) will end with a 2% revenue decline and about a 10% drop in earnings (to $4.79 per share). They (the analysts) then think that QCOM will bounce back a little bit in the following year (partly because that Chinese settlement is now behind them), with earnings back up over $5 a share and revenue growth of a couple percent. They think that QCOM can grow earnings in the future at about 6% a year, which would be the envy of plenty of companies but is not terribly sexy and doesn’t get folks excited about a tech stock.

If those estimates work out, then QCOM has roughly $5 a share in earnings power and is trading, in the low $60s, at about 12-13X those potential earnings. They’ve also promised to buy back a large number of shares, with a buyback authorization of up to $15 billion, so they might be able to generate earnings per share growth even if the underlying profits don’t grow (that’s certainly been the case with many “old tech” stocks who’ve seen business stagnate or stutter a bit but who are sitting on massive cash hoards (Microsoft, IBM, etc.).

I don’t think I’ve ever owned Qualcomm, and it has always been just a little bit too expensive for me to pull the trigger when I’ve looked at it in recent years… but it’s starting to look attractive again — it’s not a growth stock, and it’s not dirt cheap considering that it still trades with a PE of twice its growth rate (growth expected of 6% or so, trading at 12X next year’s earnings — that’s a PEG ratio of 2, the upper end of what a lot of folks are willing to pay), but you don’t often get to buy huge, dominant, dividend growth companies at a substantial discount to the overall market… and when you do get that chance, it’s usually because investors are souring on the company because of a couple bad quarters or some bad news reports. Sometimes that snowballs, and the company really does lose value over a long period of time… but megacap companies with dominant technology positions do not give up their positions easily, and I think we probably routinely undervalue most of them.

It’s starting to look to me like Qualcomm is too unloved down here near $60, but the news is weak and the numbers are quite stale — they report this week, on Wednesday, so things could move pretty sharply in either way in the coming days when we get an update from management. Personally, I can’t buy it now because I’m writing about it — but I would be a little bit tempted to consider a small position before earnings just because so much negativity is getting priced in right now.

Sound like the kind of thing you’d like to own? Consider Qualcomm a decent candidate to be a “forever stock” as the StreetAuthority[11] folks are teasing? Let us know with a comment below.

Disclosures: I own shares of Apple, Google and Facebook. I do not own any other stocks mentioned above, and won’t trade in any covered stocks for at least three days.

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