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Problem at QUALCOMM, Inc. (QCOM)?

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Qualcomm, Inc. (NASDAQ:QCOM)The Street can be your friend at one moment, and your enemy the very next, a fact which was recently realized by semiconductor manufacturer QUALCOMM, Inc. (NASDAQ:QCOM) as its shares fell by a substantial 6% post the company declaring its second quarter results. QUALCOMM, Inc. (NASDAQ:QCOM), which has had an early headstart in the field of Long Term Evolution (LTE) technology and is a pioneer of the Code Division Multiple Access (CDMA) wireless technology as well, experienced a sharp fall from glory as profit forecasts for its current quarter fell slightly short of what some analysts had estimated.

That’s primarily because Qualcomm is part of an industry whose fortunes are now increasingly dependent on emerging markets such as China and India, where less expensive chips powering lower-priced handsets have proved to be the real hot sellers. However, these chips also mean lower profit margins for companies like Qualcomm. That’s a far cry from the chips made for high-end handsets made by the likes of Apple Inc. (NASDAQ:AAPL) and Samsung that are powered by the company’s chips.

So, is this just the beginning of a long-term trend that may result in dwindling fortunes for QUALCOMM, Inc. (NASDAQ:QCOM) or is it just a one-off situation where the pros outnumber the cons? Let’s delve a little deeper and find out. To start with, let’s go through some of the possible areas where Qualcomm may be at a relative disadvantage and then try and analyze them one by one.

What’s the real issue?

The primary threat to Qualcomm’s profit margins in the future, as some analysts are anticipating, seems to be the continued possibility of lower Average Selling Prices (ASPs) of handsets. Qualcomm makes its profits mainly in two ways, one through licensing its CDMA technology and two, through the sale of its baseband chips for smartphones. However, as developed markets such as the US reach a saturation point, smartphone manufacturers are increasingly shifting focus to emerging markets where people with comparatively lesser annual incomes prefer inexpensive phones vis-à-vis the high-end ones.

This, in turn, is hurting companies like QUALCOMM, Inc. (NASDAQ:QCOM) in more ways than one. Firstly, low-end handsets require low-end chips from Qualcomm, that generate lower profit margins. At the same time, companies manufacturing inexpensive phones pay lesser licensing fees to Qualcomm. To add to its woes, Qualcomm is facing heated competition from a slew of small-sized chip manufacturers that are selling products at a loss to seize market share from the biggies. And emerging markets will continue to remain the action hotspots for the future.

A win-win situation

But, smart investors should not forget the fact that QUALCOMM, Inc. (NASDAQ:QCOM) is a company that has cleverly benefited for some time now in two prominent ways, aided by the fact that an overwhelming number of smartphones around the world use its baseband chips, along with its dominance in the 4G LTE space. On one side, the company is successfully benefiting from the massive transition from 2G to 3G technology, that is the single most dominant factor in the smartphone space in emerging countries such as China and to a lesser extent, India. At the same time, the next big step in the developed countries’ smartphone scenario is a shift towards the 4G LTE space, an area where Qualcomm’s chipsets are considered to be the industry benchmark.

So, if QUALCOMM, Inc. (NASDAQ:QCOM) successfully manages to maintain its current lead over rivals in the manufacture of 4G LTE chips, which I’m sure it will, then the volume of sales of such higher margin-generating chips in developed markets would certainly act as a countermeasure against the lower profit margins related to sales of inexpensive chips in the emerging ones. And high-end smartphones (which also mean higher profit margin-generating 4G LTE-enabled chips) are also witnessing robust sales in emerging markets as well.

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