Sunday, February 3, 2008
As I mentioned in the prequel, the uncertainties surrounding the IP business model and also its new ASIC ventures make it impossible to come up with an accurate mathematical model for Interdigital’s valuation. Nonetheless, I have made certain simplifying assumptions to make the problem more tractable.
3G Royalties: I believe that most, if not all, 3G vendors will have to pay royalties to Interdigital. Whether it comes through licensing deals or as a result of litigations is secondary. Based on some public statements by company executives, it seems that the royalty per unit today is close to $2. As the 3G volumes grow, I do not see this number sustain. Companies are likely to negotiate lower numbers and the caps will also be reached. This will result in a smaller net dollar amount per handset unit sold. With these in mind, I estimate an average of $0.8 for every 3G handset sold in the future.
Long-term view: While the licensing fee is Interdigital’s to collect, the timing and the legal proceedings associated with it will result in variations in its revenue pattern. I have, however, discounted the exact timelines and this potential fluctuation to take a long-term stance as I evaluate its intrinsic value. This allows a direct correlation between the growth of 3G and IDCC revenues.
ASIC division: I like the position that IDCC has taken on its ASIC business. It strives to be the champion of the high-end data-centric phones. It has also sought to validate its claims through field trials. This does create value. But the true metric for any chipset company/division is the number of design wins, the number of chipsets that will be in tomorrow’s cell-phones. With no big deals in place, I am unable to attribute a market share percentage to IDCC’s ASIC solutions. However, I have assumed a modest 1% chipset market share starting 2009. This number can only go up if the solution is market-proven.
Expenses: IP Licensing is a high-margin business while ASIC manufacturing incurs a very high percentage of expenses. As the company grows, I estimate that its operating margins will be a little less than 50% early next decade and get closer to the Qualcomm margins of about 35% 10 years from now. This is assuming that IDCC will stay as a stand-alone company and slowly widen its footprint in the ASIC business while still getting royalties from various wireless standards.
Miscellaneous: Among other factors, I have taken into account continued revenue from 2G licenses world-wide. I have also assumed a reduced growth rate of about 10% moving beyond 2012 and a 0% terminal growth rate. For this analysis, I have used a discount rate of 8% and 47.45 million as the number of outstanding IDCC shares.
These assumptions and parameters form the basis of my event-based DCF analysis and valuation which I will provide in the sequel to this piece.