Interdigital - A note on my assumptions

Monday, February 4, 2008

A reader and IDCC investor wanted me to throw more light on my assumptions. Here is my response to him on Sramana Mitra's site.

I had left out the analytical calculations behind my estimates so as to make it lucid to all readers. Since you have asked for it, here is a rigorous description of the same.

My understanding of the CEO's $2.00 statement was that it pertained to the royalty rate per handset sold under an IDCC license currently. A similar number can be calculated using the following information -
1. Statements from IDCC suggesting that 60% of its revenues come from 3G licensing.
2. Statements from IDCC that it draws license money from 30-35% handsets shipped today
3. Total 2008 handset shipment estimates
4. Total IDCC revenues for 2008

With this information, we get around $2.25 per handset sold under IDCC license. The difference between this and my $0.8/phone is that I have calculated the royalty rate as a function of EVERY 3G phone sold, not just those under an IDCC license. I did this for two reasons-

1. While I am sure that the 35% number will grow, I do not have any visibility yet into the growth percentage. So, it was more appropriate for me to look at the royalty per handset sold to remove variables from my model. Alternately, you can look at $0.8/phone to be $2.25/handset under IDCC license. This view suggests that I have not accounted for market share growth and is hence a conservative estimate.
2. Secondly, as the 3G volumes grow, it is likely that even if IDCC draws in the whereabouts of $2 per licensed handset, the upper bounds or caps for royalties will be reached bringing the effective number below this price.

On the basis of these two reasons, I am comfortable with my assumption on this front for the moment. You will notice that all my valuation analysis in the sequel are done for ALL handsets sold around the world. So, $0.8 is not as low as it seems in the wake of the CEO's statements. While incorporating the 3G market share growth rate (knowing Nokia and the others will ultimately pay royalty to IDCC) and estimating the caps is possible with more data, it will make the model unwieldy without serving extra purpose.

My rationale on expenses was based on component growth rate based on historic data, besides taking into account the cost of revenue for the ASIC business. I have also used the lessons learnt from my QCOM valuation in terms of the operating margins for companies with the IP licensing model. I think if IDCC is prudent, then in the long term, it will strive to get to the kind of margins that QCOM has currently. Note that if the ASIC business is accounted for, then the margin will be a weighted average of the high-margin IP-licensing and the tough ASIC business.

I hope these details help. To get more insights into my 3G market assumptions, I will direct you to my QCOM series.

Posted by Vijay Nagarajan at 10:00 AM  

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