Investing Club: We're buying a new tech stock at a reasonable price with a nice dividend

Published Wed, Feb 16 20221:13 PM EST

We are initiating a position in Qualcomm (QCOM), buying on Wednesday 100 shares at roughly $168.88. Following the buy, Qualcomm will have a roughly 0.42% weighting in our Charitable Trust portfolio. You may recall that Qualcomm has been a name we have been talking about as a potential new name ever since our " Morning Meeting" videos in late January . Despite our interest, we passed on buying Qualcomm last month and opted instead to get heavier into the energy markets before West Texas Intermediate crude, the American oil benchmark, broke above $90 per barrel. On Jan. 24, we started a position in Devon Energy in the mid-$40s per share. (Read Tuesday night's earnings story on Devon here .) Devon Energy has been a great pickup for the portfolio, but we admit that we regretted not buying some Qualcomm as the stock quickly rebounded and traded up towards $188 per share ahead of the company's Feb. 2 release of fiscal first-quarter results, which beat estimates on the top-line and the bottom-line. Sometimes you get a second chance in this market if you are willing to be patient. Thanks to the recent pullback in the broader market, shares of this semiconductor powerhouse and leading wireless technology company have fallen back to the upper-$160s per share. With a spot in the portfolio freed up after our exit of Broadcom last Friday, we're pulling the trigger on QCOM and starting a new position. Investment thesis For a long time, you bought Qualcomm because you wanted exposure to the handset market — and let's make no mistake here, this is a great business for the company. In the most recent quarter, revenues grew by a whopping 42% year over year with more than 60% growth in revenues from Snapdragon chipsets for Android devices. Qualcomm's Snapdragon has become the platform of choice for premium and high-tier Android smartphones, and management views Android as one of the company's fastest-growing revenue and margin expansion opportunities within handsets. Three trends are playing into Qualcomm's favor here: First is that the shift from 4G to 5G handsets requires more content per device, meaning more revenue per device. The second is that the increased capability of Snapdragon chipsets has helped Qualcomm increase its average selling price. And the third main driver is a SAM (serviceable addressable market) expansion from a change in the OEM (original equipment manufacturer) landscape, especially in China. In other words, Qualcomm's big customers like Xiaomi , OPPO, Vivo, and Honor are gaining market share. While the handset business can be a good one to be in, it can also be a tough own at times because the industry is often at the mercy of the smartphone cycle. Additionally, being a hardware company with a single end market can make shares particularly volatile, especially as smartphone makers (such as Apple , also a Club stock) started to consider making chips in-house. For these reasons, semiconductors with large exposure to handsets typically trade at a lower price-to-earnings multiple relative to peers that specialize in high-performance computing and have exposure to secular growing end markets like the data center. (This is something Club names Nvidia and Advanced Micro Devices play in.) Qualcomm's exposure to the handset market is a big reason why the stock currently trades at a very reasonable multiple of 14 times next 12-months earnings. We think the stock deserves a higher multiple. In recent years, Qualcomm management has made a concerted effort to apply the technology leadership they have in the handset market to other secular end markets including automotive, where the company has become the tech partner of choice and the preferred partner for the digital chassis. Some of Qualcomm's "cornerstone customers" for their platform are General Motors , BMW, and Renault Group. Qualcomm also recently increased its exposure into advanced driver-assistance systems, or ADAS, through its pending acquisition of Veoneer , and more specifically, its wholly-owned Arriver software business. Arriver was already partnered with Qualcomm before the deal. However, the acquisition brings it in-house and provides Qualcomm with additional ADAS technology to build out and scale its own Snapdragon Ride solution. In total, Qualcomm sees Automotive as a significant revenue growth opportunity with their service addressable market increasing from $3 billion in 2021 to an estimated $15 billion in 2026, representing a 36% CAGR (compound annual growth rate). Qualcomm also has a big Internet of Things (IoT) business that's diversified with exposure to Consumer (compute, wearables, consumer electronics, XR), Edge Networking (5G wireless fiber Wi-Fi access points), and Industrial (retail, smart cities, energy, manufacturing) markets. The company sees digital transformation as the key driver of SAM growth and demand for mobile technologies. Qualcomm believes its SAM will grow from $42 billion in 2021 to an estimated $67 billion in 2024, representing 17% CAGR. Something we're also watching is Qualcomm's role in the metaverse, and more broadly, augmented reality (AR) and extended reality (XR). On the augmented reality front, Qualcomm CEO Cristiano Amon announced at CES 2022 ( watch here at the 17 minute mark) that the company is expanding its collaboration efforts with none other than Club name Microsoft (maker of the HoloLens mixed reality headset) to accelerate augmented/mixed reality development. Specifically, Qualcomm will work with Microsoft to develop a "custom augmented reality Snapdragon chip for next-generation, power-efficient, very lightweight AR glasses for the Microsoft ecosystem. Software from both companies will be integrated into this custom chip. Amon believes this partnership to be a key step in making wearable AR devices that will gain scale (think, devices people will actually wear for extended periods of time in their daily lives – not heavy headsets that are impractical outside of gaming). Recent financials As for its recent results, Qualcomm reported a clean top- and bottom-line beat (as noted earlier), with sales coming roughly $250 million, or 2.5% ahead of the consensus estimates, and a 22-cent earnings beat off a $3.01 basis. Both of the company's major segments topped expectations for both sales and earnings before taxes. The only thing better than Qualcomm's numbers for the reported quarter was its outlook for the current quarter. Management guided for revenue of $10.2 billion to $11 billion, when $9.6 billion had been expected, and they expect to earn between $2.80 and $3 per share this quarter, well above the $2.51 consensus. Amon appeared on "Mad Money" that week to break down the quarter, discuss some of the company's biggest growth drivers, and explain how he's navigating supply constraints. (Read our story on the CEO's interview here .) But you can't solely rely on growth in this market because rising rates have forced investors to reassess the multiples and valuations of even the greatest of growth stories. What you also need in the current environment is cash returns back to shareholders: dividends and buybacks. In Qualcomm's case, we appreciate management's strong record of returning capital back to shareholders. If you look back over the past two years, you'll find that Qualcomm has paid out 90% of its free cash flow, or $12 billion cumulatively, in dividends and buybacks. If you look back over the past five years, that percentage balloons to 175% of free cash flow, or $47 billion on a cumulative basis. Management's current capital return strategy is to continue to grow its dividend (currently $2.72 on an annualized basis, or a 1.66% dividend yield) and anti-dilutive buybacks of about $2 billion to $3 billion per year, though the door is always open for incremental opportunistic buybacks. Another thing to note is the three-year (fiscal 2022 to 2024) financial targets management laid out at their Investor Day event late last year. They expect the QCT segment (to deliver mid-teens revenue CAGR (compound annual growth rate) and 30% operating margin while the QTL segment maintains its current revenue scale and margin profile. With QCT, handset and RF front-end revenues are expected to grow at least in line with its Service Addressable Markets. (QCT stands for Qualcomm CDMA Technologies.) Notably, management expects revenues from its Automotive business to be about $3.5 billion in five years and about $8 billion in 10 years. For some perspective, Automotive revenues exited the recently reported quarter at about a $1 billion annual revenue run-rate. Revenues from IoT are expected to grow to be up to $9 billion in fiscal 2024. And, Apple as a percentage of QCT revenue is expected to represent a low single digit percentage exiting fiscal 2024. Our rating and price target We are initiating Qualcomm with a 1 rating (meaning, we would be buyers at the current price) and price target of $210, representing roughly 17.5x the FactSet consensus estimate for 2022 earnings per share and more than 20% above Tuesday's closing price. But know this. Even though we like QCOM at its current price, we find it very hard to predict what may or may not happen in Europe in the coming days and weeks. If there is one thing to be sure of, it's volatility. So here is our plan. We are starting QCOM off with a smaller than usual position size of roughly 0.50% This will leave us with plenty of room to buy more should the market get rocky. At the end of the day, we are investing in Qualcomm because we see a great company diversifying its business to fast-growing end markets as well as a stock trading at a very reasonable price and paying a solid dividend. These are qualities to bank on over the long run. (Jim Cramer's Charitable Trust is long QCOM, DVN, AAPL and MSFT. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

Qualcomm president and CEO Cristiano Amon speaks at a news conference during CES 2022 in Las Vegas, Nevada, U.S. January 4, 2022.

Steve Marcus | Reuters

We are initiating a position in Qualcomm (QCOM), buying on Wednesday 100 shares at roughly $168.88.