高通 (QCOM) 2015 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to the Qualcomm second-quarter fiscal 2015 conference call.

(Operator Instructions).

As a reminder, this conference is being recorded April 22, 2015.

The playback number for today's call is 855-859-2056.

International callers, please dial 404-537-3406.

The playback reservation number is 18876512.

I would now like to turn the call over to Warren Kneeshaw, Vice President of Investor Relations.

Mr. Kneeshaw, please go ahead.

Thank you, Brent, and good afternoon, everyone.

Today's call will include prepared remarks by Steve Mollenkopf, Derek Aberle, and George Davis.

In addition, [Christiane Ammann], Murthy Renduchintala, and Don Rosenberg will join the question-and-answer session.

An Internet presentation and audio broadcast accompany this call, and you can access them by visiting our website at www.qualcomm.com.

During this conference call, we will use non-GAAP financial measures as defined in Regulation G, and you can find the related reconciliations to GAAP on our website.

I would also like to direct you to our 10-Q and earnings release which were filed and furnished, respectively, with the SEC today and are available on our website.

During this conference call, we will make forward-looking statements regarding future events or the future business or results of the Company.

Actual events or results could differ materially from those projected in the forward-looking statements.

Please refer to our SEC filings, including our most recent 10-Q, which contain important factors that could cause actual results to differ materially from the forward-looking statements.

And now to comments from Qualcomm's Chief Executive Officer, Steve Mollenkopf.

Thank you, Warren, and good afternoon, everyone.

We just completed a solid quarter, with record performance in QTL as the global adoption of our broad set of technologies drove all-time high 3G/4G device shipments by our licensees.

In addition, we had several major accomplishments including the resolution of the NDRC investigation, our announcement of a $15 billion stock buyback authorization, and a 14% increase in the dividend.

We are pleased that the NDRC investigation has been concluded, and believe that our licensing business is now better positioned to participate in China's broad adoption of 3G/4G technology.

The impact of the resolution and the recent agreement with a large licensee in China announced on the January call are starting to positively impact the QTL business.

Derek will discuss this in more detail in a few moments.

While we are ahead of our expectations in the first half of the fiscal year, we are guiding the second half lower due to a number of factors in QCT.

First, the extent of the impact of OEM concentration at the premium tier, and the impact of share loss in the Galaxy S6 and Note.

Second, the altered launch plans of the OEMs in the premium tier, with some OEMs delaying launches and an OEM rationalizing their portfolio by deemphasizing designs using our legacy parts.

We are not seeing a change in design share or the competitive environment, but rather a change in timing of some 810 designs.

And finally, QCT continues to face competitive pressures in China.

The China contribution to earnings is roughly flat to the previous outlook, with more strength at the premium tier offsetting some expected share loss in the low tier in the fourth quarter.

As I will explain later, we expect this near-term trend to improve as we launch new parts and China enters a modem transition later in this calendar year.

Based on our current customer engagements and our future product roadmap, we do not believe these product cycle issues reflect a long-term change in QCT's competitive positioning.

However, we do believe the impact of the current product cycle will extend into next fiscal year.

Clearly, we're not pleased with our reduced outlook.

Accordingly, we have initiated a comprehensive review of our cost structure in QCT and throughout the Company.

The goals of this review are to align our cost structure with the changing marketplace and improve efficiency.

We have begun a comprehensive assessment of costs and opportunities for greater efficiency, Company-wide, with the help of an outside expert, and will be reporting on those initiatives on the Q3 earnings call.

With respect to the roadmap, we remain confident that our differentiated Snapdragon processor and modem leadership positions us well across multiple price tiers and customer segments entering the next product cycle.

In the premium tier, we are very pleased with the design traction on the Snapdragon 810, with over 60 designs having won the key premium design slots, with the exception of Samsung.

Since our last earnings call, LG has begun shipping the innovative G Flex 2; Sony has announced the incredibly thin Xperia Z4 phone and tablet; and Xiaomi has announced the Mi Note 4 with category-nine carrier aggregation.

Recent teardowns and press reports correctly highlight the advantages delivered by our integrated approach.

We are also encouraged by the customer interest in our new Snapdragon 820, which is on track to ship in the second half of this calendar year, and is built on the latest FinFET node.

The Snapdragon 820 represents a new design point for our SoC architecture, and will be the first to include our new custom 64-bit CPU microarchitecture.

Since our last call, and the response to the competitive environment in China, we have also enhanced the Snapdragon 615 which will be commercial this year.

In addition, we expect a modem transition in China later this year, and we're seeing signals to the OEMs from the operators consistent with this view.

Our Snapdragon 425, with industry-leading uplink carrier aggregation and a new low-cost RF front end, is well-positioned for this opportunity, and is on track to be in devices later this calendar year, well ahead of our competition.

Turning to a longer-term outlook, the smartphone opportunity remains a strong positive for Qualcomm, and we forecast continued healthy global demand in the near term and over the next several years.

IDC estimates that over 8.5 billion smartphones will be sold from 2015 through 2019.

We also continue to gain traction in adjacent areas where our mobile technologies and capabilities can deliver next-generation solutions: areas such as automotive, the Internet of Things, mobile computing, and networking.

These areas are expected to represent large new opportunities for Qualcomm, with over 5 billion new non-phone connected device shipments expected in calendar year 2018.

Further, shipments in these areas are contributing over 10% of QCT's fiscal year 2015 estimated revenue.

In automotive, for instance, we have over 40 connected car programs with 15-plus OEMs.

And we recently announced two new modems, the Snapdragon X12 and X5, that augment our portfolio to support connectivity across all tiers of the automotive industry.

Our scale and position in mobile makes us well positioned to capitalize on these opportunities.

In summary, we're well positioned to address the significant opportunities ahead, given the strength in our core businesses and traction in new growth opportunities.

We're focused on completing our implementation of the rectification plan in China, concluding new license agreements in China, and improving compliance.

We are also investing in the future generations of the modem in connectivity, including 4G enhancements such as LTE-U and 5G, as well as future evolutions of Wi-Fi and the convergence of Wi-Fi and cellular.

We're confident in our QCT roadmap for the reasons I just explained, but intend to take a comprehensive look at our cost structure in light of the changing industry dynamics and structure.

I would now like to turn the call over to Qualcomm's President, Derek Aberle.

Thank you, Steve, and good afternoon, everyone.

As Steve noted, we delivered a solid quarter, achieving record non-GAAP operating income.

QCT operating performance was in line with expectations, as favorable operating expense offset slightly weaker mix.

QTL performance was ahead of expectations, with revenues, earnings before tax, and total reported device sales all setting records, driven by strong 3G/4G device shipments, improved compliance in China, and a catch-up amount from prior period sales from the licensee with which we recently resolved a dispute.

Fiscal Q2 revenue for QTL was up approximately 17% year-over-year.

Even without this catch-up amount, and in the face of foreign exchange headwinds, QTL would have delivered a record quarter across these same metrics.

As you are aware, we recently announced a resolution with China's National Development and Reform Commission regarding their investigation of us under the China Anti-Monopoly Law.

As part of this resolution, we agreed to implement a rectification plan that modifies certain of our business practices with respect to the licensing of our 3G and 4G essential Chinese patents for branded devices sold for use in China.

Since that time, we have been implementing the plan and offer the revised license terms for our current 3G and 4G essential Chinese patents to both our current licensees and to a number of unlicensed OEMs and manufacturers.

Following the offers, we have met with a large number of licensees both in and outside of China to discuss the revised terms.

Although we're still relatively early in the process, we are making good progress to date, as over 35 licensees have accepted the revised terms so far, including with respect to three-mode devices sold in China.

The rate at which licensees are accepting the new terms and signing new license agreements has been accelerating throughout the process.

We now have 125 licensees in total, with licenses covering three-mode devices, with more than 85 in China, including Huawei and ZTE.

We're making progress on the underreporting issues in China as well.

We estimate that approximately 200 million units were sold during calendar 2014 but not reported to us by our licensees, in line with our prior guidance.

To put this in greater context, we have also increased our estimates for the calendar 2014 global 3G/4G market by approximately 20 million units versus our prior guidance, and now believe that a larger percentage of the units shipped in 2014 were three-mode devices where we had a low collection rate during the year.

In other words, the percentage of calendar 2014 units that were reported to us came in higher than previously expected.

As we continue to implement our compliance and audit plans as well as conclude new three-mode license agreements, we believe that this collection percentage will continue to increase, and we're seeing early evidence of that in the March quarter sales.

While we are making good progress, we do expect this process to extend beyond this fiscal year.

It is also possible that in some cases it may require litigation and/or actions to compel certain licensees to honor their contracts, and for unlicensed companies to execute new licenses.

We are prepared to pursue that path if it becomes necessary.

We are raising our fiscal year outlook for QTL based on favorable total reported device sales in the second fiscal quarter in addition to higher forecasted total reported device sales for the second half of the fiscal year.

Total reported device sales for the second fiscal quarter came in above the high end of our guidance range, a portion of which was driven by higher-than-expected catch-up amounts.

Our outlook for the second half of the fiscal year reflects updated favorable reported device sales trends, improved compliance in China, and expected continued progress on concluding license agreements in China, offset by foreign exchange headwinds.

We now expect QTL revenues to grow approximately 8% at the midpoint, year-over-year.

This includes the favorable effect of some catch-up payments for prior sales, offset by the negative effect of foreign exchange.

Without including these two effects, we estimate that QTL revenues would grow by more than 8% in fiscal 2015, as we believe the negative foreign exchange impact is larger than the catch-up benefit.

Turning to our view of global 3G/4G device demand, we continue to see very healthy growth and have increased our calendar 2014 global 3G/4G device shipment estimate to approximately 1.37 billion units, up approximately 27% year-over-year.

As a reminder, this includes those devices we expect to be reported to us, as well as our estimates of unreported and unlicensed device sales, but excludes TD-SCDMA devices that do not implement LTE.

We saw strength in both developed and emerging regions during 2014, and finished the year with favorable replacement rate trends in developed regions as well as LTE volume strength, particularly in China.

We expect these growth trends to continue throughout calendar 2015.

We now expect global 3G/4G device shipments to be 1.52 billion to 1.6 billion units in calendar 2015, up approximately 11% to 17%, with our bias continuing to be towards the high end of that range.

It's worth noting that we are still in the very early days of LTE adoption.

According to GSMA intelligence, only 8% of global connections are LTE.

In February, China granted nationwide FDD-LTE licenses to both China Telecom and China Unicom.

Each of the Chinese operators has announced significant investments in LTE network buildouts, and has set aggressive targets for LTE subscriber additions this year.

For calendar year 2014, we are increasing our estimate of reported 3G/4G devices to between 1.174 billion 1.19 billion units.

Turning to estimated 3G/4G device ASPs, the ASP of devices reported to QTL during the second quarter of fiscal 2015 was approximately $196 at the midpoint.

Absent the effect of prior-period catch-up units, the reported ASP would've been approximately $211 at the midpoint, up $14 sequentially, driven by stronger ASPs in both emerging and developed regions, reflecting a favorable mix of higher tier handsets.

We're now forecasting global 3G/4G device ASPs to decline approximately 11% to 12% year-over-year in fiscal 2015, an improvement to our previous estimate of 12% to 13% despite an increase in negative foreign exchange effects.

The improvement is primarily due to a favorable mix of higher tier handsets and stronger pricing in the low to mid tiers of LTE devices in China.

We now expect global 3G/4G total device sales in fiscal 2015 to be up approximately 8% to 11% over fiscal 2014 despite foreign exchange headwinds, driven by both stronger units and ASP particularly in emerging regions.

Turning to the regulatory issues, we have been notified that the Korean Fair Trade Commission is conducting a new investigation of the Company.

We believe this new investigation relates primarily to our licensing business, and we are cooperating with the agency.

To conclude, QTL is making good progress on our efforts in China while experiencing strength in underlying demand where we continue to see strong global 3G/4G device sales and stronger global ASP trends.

That concludes my comments.

I will now turn the call over to George Davis.

Thank you, Derek, and good afternoon, everyone.

Fiscal second-quarter revenues were $6.9 billion, up 8% year-over-year.

And non-GAAP earnings per share were $1.40, up 7% year-over-year, at the high end of our prior guidance range.

In QCT, MSM shipments were $233 million, in line with expectations, with revenue of $4.4 billion.

Implied revenue per MSM was approximately $19, down slightly quarter-over-quarter, reflecting a lower mix of premium tier shipments than previously expected.

QCT operating margin was 17%, in line with our prior expectations.

In QTL, total reported device sales by our licensees were a record $75.8 billion, up 14% year-over-year and at the high end of our guidance range, including the impact of a higher-than-expected catch-up report.

Non-GAAP combined R&D and SG&A expenses increased 2% sequentially, driven primarily by seasonal increases in payroll taxes.

We continued our aggressive capital return program, returning approximately $2.6 billion to stockholders in the quarter, including $689 million of dividends paid and $1.9 billion in stock repurchases.

And as you will recall, in March we announced a major increase in our capital return program including an increase in our stock repurchase authorization to $15 billion, and our plans for a $10 billion buyback in the next 12 months, which is incremental to our ongoing return of a minimum of 75% of free cash flow.

Fiscal second-quarter cash flow from operations was negative at approximately $650 million this quarter, reflecting a long-term capacity prepayment of approximately $950 million made by QCT as part of our supply chain cost reduction initiatives; and the payment of the approximately $975 million NDRC fine.

We ended the quarter with cash and marketable securities of $29.6 billion.

Our non-GAAP tax rate during the quarter was 20% above expectations due to business mix.

We now expect our non-GAAP tax rate to be approximately 19% for fiscal 2015.

Looking ahead, as we already indicated, we are reducing our financial forecast for fiscal 2015, primarily due to lower expected revenue and profitability in the premium tier for the QCT business.

We now estimate fiscal 2015 revenues overall to be in the range of approximately $25 billion to $27 billion, down approximately 2% year-over-year at the midpoint.

The increased impact of the product cycle issues in QCT is affecting our revenue and margin outlook for the chip business.

We now expect QCT revenue for the fiscal year to be down approximately 6% year-over-year, with operating margin for fiscal 2015 between 14% and 17%.

We expect combined non-GAAP R&D and SG&A expense to be up 1% to 3% year-over-year.

This represents a reduction of 2% overall, relative to our prior guidance.

However, this outlook does not factor in potential reductions to be identified as part of the cost assessment that Steve discussed.

On the QTL side, as Derek indicated, we are raising our fiscal 2015 revenue outlook to approximately 8% growth year-over-year, reflecting higher total reported device sales, as well as the larger-than-forecasted catch-up royalties reported this past quarter.

We continue to expect QTL operating margins will be within our prior 85% to 86% guidance range.

We expect fiscal 2015 non-GAAP earnings per share to be in the range of $4.60 to $5.00, down approximately 9% year-over-year at the midpoint relative to fiscal 2014, and down $0.15 at the midpoint from our prior guidance.

Turning to our fiscal third quarter, we estimate revenues to be in the range of approximately $5.4 billion to $6.2 billion, down approximately 15% year-over-year, and 16% sequentially at the midpoint.

The sequential changes reflect both the chip revenue challenges and the normal seasonal effects of QTL coming off its seasonal peak quarter.

We estimate non-GAAP earnings per share in our fiscal third quarter to be in the range of $0.85 to $1.00 per share, down approximately 36% year-over-year at the midpoint.

We expect fiscal third-quarter non-GAAP combined R&D and SG&A expenses will be up 6% to 8% sequentially, primarily driven by QCT product roadmap spend that was back-half-loaded, certain supply chain initiatives, as well as cost related to marketing and legal.

In QTL, we estimate total reported device sales of $61 billion to $67 billion will be reported by our licensees in the June quarter for shipments they made in the March quarter, up approximately 10% year-over-year at the midpoint, but lower sequentially as compared to the seasonally higher holiday quarter shipments in Q2.

We estimate that the QTL reported device ASP will be modestly up versus the second fiscal quarter, which included higher-than-expected lower price catch-up units.

We expect QTL's operating margin percentage to be between 83% and 85%, lower sequentially due to seasonal factors, OEM mix, as well as increases in marketing and legal expenses.

We expect that the implied royalty rate, as you calculate it, will be lower quarter-over-quarter, reflecting licensee mix as well as the impact of the new licensing terms in China.

In QCT, we anticipate MSM shipments of approximately 210 million to 230 million units during the June quarter, down approximately 6% sequentially and down approximately 2% year-over-year at the midpoint.

We expect revenue per MSM to be down 8% to 9% sequentially due to unfavorable mix in the premium tier, and price competition in the mid-tier.

We expect QCT operating margin for this product cycle to bottom in the fiscal third quarter at approximately 7% to 10% of revenue, reflecting lower volumes, weaker mix, and timing of roadmap spending pushed into the quarter.

That concludes my comments.

I will now turn the call back to Warren.

Thank you, George.

Operator, we are ready for questions.

(Operator Instructions) Tim Long, BMO Capital Markets.

Just a question on the chip side.

I guess you mentioned before the GS6, you also mentioned the Note.

So just curious, is that this upcoming one, later this year?

And maybe talk a little bit about how we should think about the rest of Samsung's portfolio.

And, clearly, it's hit the revenue numbers.

I'm curious if that's also been something that looks like the gross margin is down again for that division.

So if you could just maybe touch on Samsung impacts across the model, thanks.

Tim, it's Steve.

So yes, you should think of the current generation of flagship products at Samsung; we anticipate a similar share picture than what you see today on the GS6.

I think that's what we are saying now.

Next design cycle, as I mentioned in my remarks, I think we feel that we have a very competitive roadmap.

We are also seeing OEMs -- and I think this applies to that OEM -- looking at their portfolio and rationalizing it.

What that really means is putting more concentration on the newer products, and less on the legacy products as you would typically see in a particular year.

And that, obviously, given our design in share, impacts the outlook as well.

So those product cycle issues, I think we're seeing being compounded by the fact that the premium tier is very concentrated really in two players right now.

Brian Modoff, Deutsche Bank.

Can you perhaps talk about some of the cost synergies or cost saving that you might see as you go through this kind of evaluation of your cost structure?

Are you targeting things like wafer design cycle times?

Or can you maybe talk about it, and how you see that potentially helping your operating margins, particularly in QCT as we move forward?

Thanks.

Hi Brian, it's George.

I would call it an acceleration of many of the things that we started in 2014, which were fairly comprehensive.

We brought down the rate of spending substantially in 2014, exiting the year lower than the run rate we had coming into 2014.

We then forecasted to bring it down further in 2015, and we have actually -- are a couple of points below our original guidance on OpEx as well.

But we will be looking pretty comprehensively across the board.

And certainly that touches everything from how can we become more efficient testing projects, once again for ROI and things like that.

So we are -- it's, as you would expect, it will be comprehensive, and we will look forward to reporting on it next quarter.

Mike Walkley, Canaccord Genuity.

Just building on those last two questions.

On the QCT, with the operating margins potentially bottoming out below 10% in the third quarter or September quarter.

And you talked about it extending into the first half of fiscal 2016.

Other than looking at operating cost, how does the gross margin improve, given the competitive cost environment?

Or, asked another way, what's a time frame and thought process to maybe get back to high teens to 20% operating margins in QCT?

Thank you.

Yes, I think we view it as a bottom because, first, Q3 really is an incredibly concentrated quarter when you look at the premium tier.

And it has, within that, meaningful Samsung GS6 impact.

We expect to see some improvement with the premium tier launches of other leading OEMs that use our Snapdragon.

We also expect cost and efficiency activities to start to moderate some of the market structure impacts over time.

But, ultimately, we're going to continue to invest strongly in the roadmap.

And we think that's the basis for having a competitive position in the next product cycle that is different than what we're experiencing now.

Mike, this is Steve as well.

I think also if you look up and down the product line, the current product cycle that we're in -- at the top tier, we think it turns over with the 820.

At the bottom tier, you tend to see a modem transition, particularly in China, which is advantageous, we think, to us.

We are also moving rapidly toward advanced nodes which we think will actually help us in terms of delivering products to market at better cost.

There is a little bit of a trough right now in the cost equation because we are at 20 nanometer.

As we move on to further nodes, we think we get into a better cost perspective.

And I think we are differentiated also in our ability to do it.

We are also -- just to follow up on the cost side, cost structure of the Company -- we want to make sure that we put ourselves in a position -- we are a little bit less sensitive to these market dynamics, and then we can ride them out easier as well.

One other thing -- element on that also is that the adjacent markets, as they start to contribute more -- again, I said they were about 10% of QCT this year -- that tends to help us as well.

They tend to be fairly highly leveraged from the same investment on the phone space.

Ehud Gelblum, Citigroup.

I know, Derek, you are not going to totally tell us, but trying to triangulate a couple of the data points you gave us with respect to the catch-up and how large that was.

Any other information you can give us in terms of the excess TRDS this quarter that the catch-up helped, would help kind of bridge the gap between the TRDS this quarter and quarter.

So whatever you can do to give us a sense as to the size of the catch-up period in this quarter would be helpful.

Then Steve, question on GS6 and Note going forward.

I understand all the evolution of using your custom core and moving then to 14 nanometer, et cetera.

With everything you've said about the concentration at the premium tier, if, in a situation, you don't get back into Samsung, where does that leave you?

If your share in the GS6 and Note going forward is roughly the same as what is now -- and it's back and forth -- is there enough other market to make the margins work, get you back into the 20%-plus range at QCT?

This is Derek.

Yes, we're not -- as you suspected, we weren't planning on breaking out exactly the amount of the catch-up.

One of the points I wanted to highlight was we had 17% year-over-year growth in QTL this quarter.

And that was in the face of some meaningful foreign exchange headwinds.

And so when you sort of looked at that impact, net it against the catch-up amount, the foreign exchange impact was actually -- for the year will be greater, and would be for the quarter, as well.

So still even if you strip out the catch-up, would be a record quarter for QTL and really strong growth.

And Ehud, on the question about the premium tier and the concentration, first of all, when we look at customer interest, we don't think that that is the scenario to plan for.

We do think that our roadmap is very compelling.

We like the impact that we're getting, the interest that we're getting from the OEMs, I think, broadly.

We also think that our business, which is also supported by our modem leadership, also we think is in a good position when you look at the competitive dynamics as well.

That being said, it would help us a lot if the industry structure was to be different.

We don't have a lot of control over that.

But I would say the history of that is that it does move around quite a bit, and we want to be in a position to participate in that.

And I think one of the reasons that we are looking at our cost structure is to make that easier to handle, should we have to ride out a product cycle or not.

Blayne Curtis, Barclays.

Just maybe from a very high level, you obviously already reduced full-year guidance based upon the same factors.

And Apple's supply chain really hasn't changed that much since December.

They had a knockout quarter, and it's been kind of holding in.

Samsung's been very public about their ASP plans for a long time here at 2014.

So I am just trying to figure out what has changed really since the end of last year, and then definitely since your first negative revision of maybe $1 billion.

Now you're doing that again.

And then when you look at gross margin, clearly the GS6 -- that shouldn't really have an impact on gross margin.

I'm just curious, it looks like it's down again in June.

What's really the driver for another step down of a couple hundred basis points?

Thanks.

So the change in the guidance is really more a change in our view of the sizing and concentration in the third quarter compared to our original estimates.

And Steve talked about some things about some of the OEMs pushing out their timing, based on what they were seeing in the marketplace and other factors.

There is some gross margin impact actually that we see going into Q3.

And then I think the balance of impact is really the timing roadmap spending is heavier in the second half.

I don't know if Steve, you -- say something?

Just going to say, just a little bit of color on -- from the perspective of an OEM.

OEMs typically have pretty broad portfolios, and they may put emphasis in one place or another, depending on the reaction of a flagship launch and the timing of the flagship launch.

I think this year is probably characterized a bit by the first calendar quarter of 2015.

It was probably a little stronger in quarter for a US-based flagship company.

And then people move around, I think, based off of big launches.

I think when the Galaxy S6 came out, people moved around their plans a little bit, including Samsung.

So that tends to ripple through to us beyond our control.

Those things can also change a lot during the year, but I think this is our best estimate of where we are today.

Kulbinder Garcha, Credit Suisse.

Thanks.

My question is for Derek on the licensing side.

What I'm trying to understand is, I think you said you had signed 35 licensees on these new terms since you've started discussing with them recently.

Can you give us some kind of broad indicators to -- does that actually cover a significant part of the phones that you weren't licensing, the 200 million or so run rate?

That's just one question now, because I'm trying to think about the visibility you might have as we had into fiscal year 2016 of recapturing some of those licensing revenues.

That's my first question.

The second one is, as I think about what you weren't collecting on last year, the 200 million number this year would have grown, I assume, given the market share the Chinese vendors have gained.

And they would have grown revenues quite meaningfully as well.

So should we think about, at some point, over the next -- whether it's one, two, or three years -- that 200 million unit number which had a revenue number attached to it in TDRS that you then license against, and it should be significantly higher when it starts coming in?

Or is that the wrong way of thinking about it?

Thanks.

Kulbinder, this is Derek.

So just to be clear, the 200 million number that we put out for 2014 is a combination of units that we think are actually being sold by licensees who did report them, as well as basically unlicensed activity.

The most prominent one we talked about is three-mode.

So it's a little bit hard to translate that over into the new terms.

If you think about the new terms that we are going out to offer, if the licensees accept them after we offer them and discuss them with them, they will impact both the 3G volumes, which would be sort of how we've thought about the underreported amounts, as well as then impact the three-mode which we had kind of bucketed as unlicensed.

So it's a little bit hard to split than out in terms of what percentage get picked up that we weren't collecting anything on it all.

But we are -- I think we are making good progress.

We've got relatively significant number, that kind of run the spectrum of very large to small companies that have already accepted the terms.

And generally when they have accepted them, they've applied to the three-mode devices sold for use in China.

So I think that has been a positive trend for us.

There have been a couple of other positive things.

One is, as I tried to explain, the market we think actually came in larger in 2014 than we thought when we originally gave out that 200 million unit number, which means by that holding steady effectively, our collection percentage went up.

It also went up in the face of kind of a worse or a more difficult market shift.

Because more of the market also, we believe, was three-mode where there's a larger portion of unlicensed activity.

So kind of in a worsening market environment and a growing market, we were able to hold the number flat, which means we're making progress.

We believe that that's going to get better, even going into the March quarter, based on the early evidence we are seeing.

And we do have kind of a plan, as we have talked about, that the past sales will be things that we are working on to drive collection, but it's going to take some time.

And I think we've indicated, just where we sit in the fiscal year, with the June cutoff for shipments flowing into our fiscal year, that it's likely that more of that will come in in fiscal 2016 than 2015.

Stacy Rasgon, Bernstein.

First of all, if I sort of back into the royalty rate trajectory, you seem to be guiding royalty rates, or implied rates, next quarter to maybe 3%, probably down 20 basis points, and maybe even a little more in fiscal Q4.

So I am assuming that is the mix as the China volume starts come back in, which suggests it actually is coming in at a lower rate.

How should I think about the trajectory of royalty rates as I go into 2016 and beyond, as presumably the Chinese volumes should be the piece that's growing the biggest and it will be under the new royalty rate terms?

Hey Stacy, this is Derek.

We've indicated that if you look at quarter-over-quarter, Q1 to Q2, relatively speaking, sort of in-line in terms of the implied rate that you guys calculate, we do see that taking a step down in the back half of the year.

And I think you pretty much hit it on the head that really the primary drivers -- there's some OEM mix in there, and a number of the other factors that always move it around.

But we do expect a couple of things impacting the back half, two of which are the licensees -- the impact of the licensees accepting the China terms, in China; but also with us concluding agreements on three-mode where we weren't collecting before as we bring that revenue into the program.

That will come in at a lower rate, as we talked about when we announced the resolution.

So kind of the combination of those factors will push it down.

Really hard to say longer-term, beyond this year, where that goes -- just for all the reasons I've previously explained in terms of market share of OEMs, and ASPs, and caps and all the other drivers that move it around.

James Faucette, Morgan Stanley.

I wanted to ask two follow-up questions on a lot of those that have already been asked.

First, could you talk a little bit about, from a visibility standpoint, I think one of the things that maybe concerning to some investors is the poor or lack of visibility relative to new product launches that seem to take me a little bit by surprise.

Can you talk about if that indeed has been the case, et cetera, on the chip side?

And then on the royalty side, Derek, I just wanted to ask about -- as you are addressing the new licensing structure, how are you handling the non-essential IP licensing, and how we should think about the impact of that?

And can you give us any sense of -- I know that you weren't very specific in terms of the rate at which things -- or you are signing up new licensees, but that it's improving.

But in the long run, how should we think about your -- what a reasonable ultimate capture rate should be, and that kind of thing?

Thank you.

James, on the chip side, the way I would think about it -- one of the big OEMs, what they tend to do -- in fact, the one that you are probably concerned with -- they tend to hold two designs until very late in the process and make a decision very late in the process; and in some cases, actually, might go to market with multiple designs, one with our chip, one not with our chip; and then make a decision regionally even during the ramp of the design.

So it can be quite difficult to project share and units as a result of doing that much later in the process than I think people typically think.

The other element -- which is mix of OEMs, and who wins in the marketplace, and whether an OEM decides to rationalize their portfolio by no longer focusing on SKUs in the N minus 1 product cycle, for example -- that tends to be something that we don't have great visibility into.

And it tends to be something that the market controls.

So I think we're all trying to figure out how to get a better handle on that.

This is Derek.

So on the first question, which really was around how we're going to deal with the patents that are outside the scope of the commitment we made to the NDRC.

As you know, we've typically licensed generally our whole portfolio together, but one of the things that we agreed to as part of the rectification plan in China is that we would separately offer to license just the 3G/4G essential Chinese patents.

And then we would negotiate agreements for the rest of the portfolio separate from that.

So really the first order of business for us is to go out and really implement the commitment that we made, which is to offer these terms around the essential portfolio and get those concluded.

And then as part of those discussions, it could involve some of the other patents.

Or we could end up dealing with the need for licenses to the rest of the portfolio, down the road a little bit.

What we've included in our guidance and our thinking around fiscal 2015 really just is based on what we would expect to collect on the essential portfolio and doesn't build in incremental revenue at this point for the remainder of the portfolio.

We do believe there is an opportunity there.

On compliance, we think that we are in a position really to drive the business back more to a normal course before we had the investigation.

And I think we are pleased with some of the early trends we're seeing.

It's going to take some time to get there.

But we do believe that we can get back to high compliance environment in China with some of the tools that we have available to us.

And now with the investigation behind us, we do also think there's going to be some industry dynamics that will help.

I do think there's going to be consolidation around the OEM base in China.

So you will have a number of larger players, which I think is just an easier thing to deal with, from a compliance standpoint, than a lot of smaller players.

And they're going to build successful expert businesses where there is a need to play by international rules, both inside and outside of China.

So I think, over time, those trends really point in a positive direction for us.

Tal Liani, Bank of America Merrill Lynch.

Two quick questions, and then I have a big one.

First, when it comes to exchange rates, are we -- what's the mechanism for exchange rates?

Is there a risk that actually you see the impact of both the exchange rate next quarter because of the mechanism?

If you can clarify.

And then the bigger question I have is really for next year.

And this question was asked many times but maybe differently.

Is it all -- if you think about competition and you think about MediaTek and Intel and Marvell and the local Chinese, how does it get better from here?

I understand that this one is a trough from an expense point of view or margin point of view.

But on the business, how does it get better from here?

What needs to happen for you to see growth in revenues on the semiconductor side?

And let me stop here and let you answer.

Thanks.

Tal, this is Derek.

Maybe I'll answer your first question on the FX.

Really the primary FX effect on the Company is really around the licensing business.

And couple of things to remember there, I think that you know, is that obviously the sales are reported to us one quarter in arrears.

But the basic -- probably the most significant exposure for us is really the euro.

And basically when the licensees -- and not all of them do it the same, so it's somewhat difficult to always estimate precisely the impact.

But I think we have a pretty good sense of it at a higher magnitude.

But, basically, there's a mechanism for them to convert their sales in local euro back into dollars for purposes of calculating the royalties.

And that creates an impact to the business.

If you think about this year in particular, there is probably at least a couple percentage points of revenue growth that QTL is being impacted by just on FX alone.

And on next year onto the forward-looking view in terms of the competitive environment, I would say for us, we don't see it changing that much.

And I would say our view of the current competitive environment may be different than what you see.

We look at the modem tier and modem leadership, and the accounts where that's important, and we feel pretty good about our position there.

I think that's an important differentiator for us.

We've also quickly to advanced nodes.

One of the things that we did this year, and we are currently investing in, is moving rapidly across the tiers to the advanced nodes, which we think is a good strategy and enables us to leverage our feature leadership in the premium tier down.

And that, I think, has good results.

It's being offset a little bit now because of the concentration in the premium tier, so you are not seeing that maybe as broadly as you would think.

The product cycle is quite fast in China, as I mentioned.

The modem transition later this year -- I think a number of OEM or competitors are having a difficult time producing five-mode designs, and certainly having the ability to do multi-SIM and all of the VoIP and international features that allow them to grow.

At the same time, we are changing the table stakes across the tiers on the modem.

So we actually view our roadmap as getting stronger over time, at least based on our view of the competitive environment.

I don't think at the premium tier, with the exception of the vertical threat at one of the OEMs, we don't see that dynamic being as threatening as perhaps was implied in the question.

Timothy Arcuri, Cowen and Company.

I had two.

First of all, Steve, can you -- again, just from a high level -- can you remind us or maybe discuss the high-level merits for keeping the two businesses together?

You had filed previously to split the business up in the past.

But you are being hit with these investigations, and this new one from Korea.

So again, just getting your view there would be good.

And then, secondly, I noted that George talked about having to prepay $950 million for some capacity.

And that's in the face of declining economics in the chip business.

So I was wondering if you could just discuss how we should be thinking about that prepayment.

Is it opportunistic or is it more [dispensive], I guess?

Thanks.

So the business structure, it's something that we've looked at throughout the Company's history; I think a couple times, even publicly.

It is something that is constantly and periodically discussed at the management team and at the Board level.

There are a lot of puts and takes, and those puts and takes change over time, depending on the situation.

But I would say just broadly, you should think of the businesses as having significant synergies in the ability to deliver products to market.

So for example, the channel of a QCT is very, very important to be able to introduce new technology into the industry and share it at scale and be able to work.

There are many, many things like that, but that is one of the ones that want to make sure we can maintain, particularly given that we are driving into an environment where you're going to see convergence between Wi-Fi and cellular.

And the modem itself is moving much more rapidly than I think people are thinking.

At the same time, the industry -- the number of players who are investing in those technologies and that breadth of technology is decreasing.

So we think there's an opportunity there for us to continue to deliver modem innovation.

That being said, it is something that we actively evaluate.

And it's obviously something that is on the minds of investors, and something that we spend time talking to them actively about, getting their perspective.

Hey Tim, it's George.

On the capacity prepayment, it's really part of our overall supply chain initiative to drive a more cost-effective supply chain.

And it's an opportunity that we saw, and that our partner saw, to bring them a little bit more certainty and for them to provide us with a better long-term cost roadmap.

CJ Muse, Evercore ISI.

I guess first question -- in terms of QCT, can you walk through implied PBT margins into September and your long-term outlook for MSM pricing?

And then a little bit bigger-picture thinking on the chipset side, as you think about adjacent growth, particularly hyper-connected areas like IoT and auto, do you have the scale-across technology, customer relationships, and distribution to succeed?

Or do you need to look at acquisitions?

And if yes, would you consider large-scale M&A, or would you continue to focus solely on bolt-on acquisitions?

Thank you.

It's George.

On op margin, you are really seeing the effects both of the positioning within the premium tier, which is having some impact on the gross margin; but also primarily it's the increase in OpEx in the quarter having a little bit of an effect as well.

So it's combination of mix, the OpEx effects, and just the market overall in the third quarter.

And with respect to the adjacent businesses, there are a lot of technologies that are leveraged for the mobile space.

There are some things that are not.

For example, we got things like networking from the Atheros acquisition.

And we believe we're going to get a strong portfolio of technologies with the announced acquisition of CSR, which we hope will close here in this year.

I think one of the things you get besides technology is the sales channel, and the ability to sell into different types of customers than our current slate in the handset business.

And we actively planned that out, and it's one of the reasons why we have done M&A.

It is also, I think, an environment in industry right now where there's a lot of consolidation, particularly in the semiconductor space.

And it is something that we think about.

And I think we can potentially have an opportunity to de-risk some of those things if we continue down through our strategy.

And we are trying to keep our strategic options open; at the same time, maintain our capital structure.

Srini Pajjuri, CLSA.

Steve, this question has been asked, but I just want to ask a little differently.

You said modem differentiation is your key competitive advantage, and you seem to be banking on that to regain some of the business.

I'm just curious, given that in a lead that you have, it appears that Samsung is using an internal modem even now.

Even though I guess they could have used your modem what their own processor.

I'm just wondering, is the modem technology that mature that customers don't care as much about the differentiation?

Or what do you think caused that?

Thank you.

Well, I think when you have a vertical decision, there can be many more elements in the decision than just the technical merits or what might happen outside of that environment.

They may have the ability to [share] one place to the other.

When we look at the teardowns of those decisions, we tend to see that it compares, at least from a feature and a geography point of view, to a product that we probably delivered two generations ago.

So I would actually view it as more evidence of our modem lead.

Now it is possible to launch portions of SKUs without having the modem expertise.

But I think you are always better off having the application processor and the modem together and have that worldwide scale, particularly given the industry structure today.

We're seeing that be very attractive in the case of the interactional OEMs, or the Chinese OEMs that want to go internationally.

So we still think the modem is an important component.

If you look at what's ahead of any modem player, they have an enormous number of bands.

They have to sync up Wi-Fi and the cellular network.

Just recently the FCC gave a very positive ruling on the spectrum that will be used for LTE-U.

So we think the modem still has an enormous migration.

Then upstream -- and then beyond that, you're going to have 5G.

So the modem continues to be big.

In addition, hopefully we're not downplaying the strength of our application processor.

We have, we think, the best mobile CPU coming.

And that's going to be a portfolio of products, not just one product.

And our strength in the GPU is, I think, quite strong.

We're the market leader in terms of mobile GPU shipments.

And if you look at the performance of the 8994, I think you would see it's quite strong.

So we feel like we're in a good position there.

We just need to get through this product cycle, maintain the investment in the roadmap; and, at the same time, sort of get ourselves in a position where we can weather out these storms a little bit easier.

And I think we're going to have a reasonable business there.

Tavis McCourt, Raymond James.

Derek, you ran through a few numbers, and I want to make sure I had them right because they are not adding up to me.

I think you said QTL ASPs this year would be down 11% to 12% in the fiscal year.

Device sales would be up 8% to 11%, but revenues would be up 8% or so.

Was that the right numbers for fiscal 2015?

So I think we probably -- we kind of mix and match a little bit.

The units are for calendar year.

The ASP that we gave was a global ASP.

That's, remember, not the one that necessarily will get reported to us.

That's sort of the all-in number, assuming we were getting 100% compliance.

We haven't given guidance on a reported ASP for fiscal 2015 for a number of reasons; including it's probably going to get bounced around by things like catch-up payments and the timing of signing some of these new agreements.

So I think that may be your difficulty in trying to triangulate the numbers back to the 8% revenue guide for QTL.

Mark Sue, RBC.

In the past, it didn't make economic sense for some of the smartphone makers to spend money and develop their own chipsets just for their internal consumption.

However, it doesn't seem that will change anytime soon because the market is maturing.

And Samsung, Apple -- they all want to focus on improving their margins.

So within those confines, how should we think about the [organization] in terms of pushing into new markets outside of smartphones, and how to fund those investments so that we can actually see a better return on your investment capital in other segments of the business?

Thank you, gentlemen.

Mark, you're breaking up a little bit, so I will try to answer what the question was.

And I think was related to how we can continue to invest and have confidence, given that some people are trying to go internal.

Our evaluation of the efforts to go internal -- they actually tend to be more expensive than if you had bought them externally, particularly when you amortize the R&D investment across all of the many different technologies that are required to produce an integrated or a mobile smartphone offering.

In fact, I would say -- particularly given the fact that in some cases, people are launching very early in the node -- you really pay a penalty for yield.

And our estimate is that it will be quite expensive right now to be launching without good yield.

I think you also see, if you look at the teardowns, the difference between the size, both footprint on the board as well as cost to assemble all of the components that we have in Snapdragon using external partners, it tends to be fairly expensive.

For example, Snapdragon has GPS integrated inside of it, and putting that out externally tends to be fairly expensive.

There are a number of things -- [codec] -- a number of things that sit there and become more expensive.

So our view of the trend is that things are moving more toward integrated versus less toward integrated.

And when we look at the economics, it's quite difficult, we think, to have people compete -- have the same internal offering unless you have a fairly large scale, R&D scale.

This ends our allotted time for questions and answers.

Mr. Mollenkopf, do you have anything further to add before adjourning the call?

No, thank you very much for your attention.

We look forward to a call next quarter, and we will give you an update on our cost initiatives at that time.

Thank you.

Ladies and gentlemen, this concludes today's conference call.

You may now disconnect.