This article originally appeared on The DIV-Net, April 4, 2009.
Qualcomm manufactures and markets digital wireless telecommunications products and services based on its code division multiple access (CDMA) technology and other wireless communication technologies. QCOM is neither a dividend aristocrat nor a dividend achiever. QCOM has started showing some dividend growth trends in last five years. My objective here is to understand if QCOM has any potential to be a dividend investment.
This section looks at trends for past 10 years of corporation’s revenue and profitability. These parameters should show consistently growth trends. The trend charts and data summary are shown in images below.
- Revenue: In general, after 2001, QCOM has stable and consistent growth in revenue. The average revenue growth for last 5 years is 24.3% (with 6.62% standard deviation).
- Cash Flows: Relatively increasing trend for operating cash flow. In the last five years, the corporation’s operating cash flows are consistently higher than net income. The concern I have is the free cash flow is more or less similar to net income. There is very little room for flexibility in allocating cash for dividends.
- EPS from continuing operation: In general, the EPS also has an increasing trend since year 2003 with average growth rate as 50%. Most of that growth is coming in 2003 and 2004. Since 2005, the EPS growth rate has been approximately 20%.
- Dividends per share: Dividends per share are consistently growing for the last 5 years.
Risk Parameter Calculation
Here I use the corporation’s financial health to assign a risk number for measuring risk-to-dividends. I have discussed this in more detail at Dividend Tree. The risk number for risk-to-dividends is 1.57. This is a low risk category as per my 3-point risk scale.
Quality of Dividends
This section measures the dividend growth rate, duration of growth, consistency over a period of past five years.
- Dividend growth rate: The average dividend growth of 34.3% is less than average EPS (50%) growth rate. However, when we look at last three years alone, the dividend growth and EPS growth are very similar (closer to 20% for both).
- Duration of dividend growth: Dividends have continuously grown for the last 5 years.
- 4 year rolling dividend growth rate for past ten years: No
- Payout factor: In the past 5 years, it has been consistently less than 35%. This is good aspect.
- Dividend cash flow vs. income from MMA: Here, I analyze how the dividend cash flow stacks up against the income from FDIC insured money market account. The baseline assumption is (a) stock is yielding 1.6%; and (b) MMA yield is 3.4%. Considering the last 3 year average dividend growth rate of 22.4%, the stocks dividend cash flow at the end of 10 years is 2.15 times MMA income.
Fair Value Calculation
This section determines what price I should pay to buy a given stock
- Net present value (NPV) price based on 20 year DCF: $66.17
- Average high yield price calculated based on past 10 years: $21.0
- Pricing based on past 10 year relative price-to-earnings ratio. $63.0
- Pricing based on price-to-earnings ratio of 12: $21.2
- Graham number: $17.9
The range of fair value is calculated as $24.5 to $37.8. This determined by taking average (for high value) of above five parameters and then subtracting it with half the standard deviation (for low value).
The strength of QCOM’s business is its ownership of CDMA technology, royalty-based cash flow of more than USD 1 billion dollars, most of the competitors are struggling, and a strong technology-driven roadmap. QCOM is on path to become Google of wireless communication chipset. Contrarily, the concerns I have with QCOM is it operates in a cyclic industry and never ending legal battles.
- This quantitative analysis shows that, in last 5 years QCOM has had significant growth in revenue. It continues to maintain 60%+ gross margins and 30%+ operating margins. However, the EPS has high volatility.
- Notwithstanding the higher operating cash flow, the recession driven slow down is likely to affect its EPS.
- The concern I have is that the company has increased its debt significantly (relative to its own historical standards).
- Assuming that the corporation’s existing trends in profitability and growth continue ‘as is’, the low payout factor will allow the corporation to continue to maintain (if not raise) the dividends.
The stocks current risk-to-dividend number is 1.57 (low risk category). In addition, the dividend cash flow is 2.15 times the MMA income based on average dividend growth rate of 22%. Moving forward, I expect dividend growth rate to slow down (10% to 12% range). In that case, the price will have to drop down to $25.80 for dividend income to be twice MMA income. This pricing of $25.80 is also very close to my low range of my fair value. In addition, there is no dividend growth for year 2009.
I like QCOM’s technologically-driven dominant market position and its low risk-to-dividends. However, for a potentially good dividend investment, I would wait for its price to get closer to my low end (i.e. $24.8) of the fair value range.
Full Disclosure: No position at the time of this writing.