The Back Door

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By BRational
October 1, 2002

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If one could look beyond the daily downward grind of the equity markets, reflecting undoubtedly the abysmal degradation of what once used to be called international relations, one would notice that a lot has been going on in the wireless telecom business the past few days. Or at least a lot of what has been going on is beginning to surface. Remarkably much of it follows the Qualcomm script of wireless technology adoption� while it may be premature (and immature) to declare CDMA 1X "the" winner of the global 3G standard race, there is a marked increase in momentum in its favor.

The most notable sign is of course the Nokia confession and reinterpretation ("Europe already has 3G and it's called GSM..." or "UMTS networks do not work but we never needed them in the first place"). There has been very interesting discussion of this topic on this board�right on the money was Steve's analogy with the Radio Shack SWAT approach of "sell what's available today." I have been struck by Nokia's strategy of stretching its product cycle to the max, to take advantage of the lower production costs of the "old" models. They were late by over a year to the GPRS non-party, and are among the last phone manufacturers to introduce color screens and cameras. So no surprise that they are in no rush to release UMTS handsets� especially that they cannot get the technology to work smoothly.

Actually, what they're now suggesting is what J-Phone and DoCoMo have done, namely to run the photo transmission services on their respective 2G networks; KDDI had also started the photo mail service before launching its 1X network, but then they already had an IS-95B CDMA system, with peak data rates of 64kbps. So commercially what Nokia is doing�namely sell advanced-feature phones for existing networks, makes perfect sense for both vendors and operators. The "we don't need UMTS to do 3G" is then the logical line to put forward�that it contradicts all previous announcements regarding the UMTS schedule is of no consequence to a marketing machine. From strategy, we are down to tactics.

But what about the carriers, and their huge investment in licenses and infrastructure? Why throw good money after bad? Ironically, the somewhat surprising claim that carriers have "ample capacity" in existing networks for the advanced data services may be the result of the investment already made in base stations for UMTS. Most of the major operators have already given contracts to Nokia to build out the infrastructure, and many base stations have been erected to meet the carriers' 3G license terms. With the UMTS software to power these stations still under development, they may as well be used to increase GSM and GPRS capacity.

Is all this good for Qualcomm? Of course not from the conventional model standpoint (that WCDMA royalties will come online and contribute a flood of (90%+ margin) revenue to the bottom lime.) But Qualcomm had told us not to expect any such revenue before 2004 or even 2005; and if the DoCoMo experience is any indication, the flood is likely to be more like a trickle, at least in the first few years. So had Nokia stayed on schedule (i.e. experienced only a year or two of delay), the prospects would not have been that significant to Qualcomm's bottom line anyway.

Instead, the unfolding events open the door for considerably brighter and more robust growth for Qualcomm's here-and-now CDMA 1X brand, where it virtually controls the chipsets and where the adoption process is guaranteed by the very fact that once a carrier launches 1X, all new handsets become 1X with no "active" decision by the consumer to choose 3G. Leaving aside the "moral" victory aspect, which means nothing for the stock price, greater recognition brings greater momentum, and improved perceptions by the carrier industry and the media, hence greater likelihood of serious consideration for adoption and deployment in previously closed territories. See [this article] for example, which starts with:

"At this point, CDMA 1x operators are ahead of the game. Based on our analysis of the Asian market, CDMA 1x operators are in the best position thanks to lower cost for network upgrade, better capacity and speed, and affordable and attractive handsets."

As a result, there are significant new opportunities, or significantly improved likelihood of carrier adoption of 1X around the world:

1. While backing away from UMTS may not hurt Nokia nor the European carriers in the near term (except for some minimal loss of credibility, which would be somewhat compensated for by the reduced pressure to invest)�it is likely to be much more negatively perceived overseas, especially in Asia. It will signal the weakening of the European dominance of the wireless sector, and will open the door to consideration of CDMA 1X overlays to provide the promised 3G capabilities� what Qualcomm has promoted as GSM 1X. China Mobile is one possible example, in that market it may be a necessary response to China Unicom's impending upgrade to CDMA 1X. If the competition has 1X, and there no longer is an alternative, Mobile will have no option but to overlay its network with 1X as well.

2. Other Asian operators may be likely to follow suit�especially those with Hutchinson or Vodaphone parentage. Similarly, Telstra in Australia might consider 1X-ing its urban network as well (its rural network is already CDMA and is being upgraded to 1X).

3. Latin American TDMA operators who are still sitting on the fence will be more inclined to take advantage of the attractive economics of CDMA 1X in their 3G migration (unless Nokia also declares TDMA to be 3G...).

4. The likelihood of some European operator feeling the pressure and the need to provide promised 3G capabilities will also increase, though will remain small�unless Ericsson views this as an opportunity to take advantage of its CDMA expertise and regain some of its bitterly lost business from Nokia.

5. But perhaps the most promising back door to CDMA 1X in Europe and several solidly-GSM countries is the recent momentum of mobile CDMA 450 systems�those that operate in the 450 HZ frequency band, previously utilized by analog cellular operators in places like Eastern Europe. A recent article (courtesy of Ben Garrett on the SI Board) that I have not seen posted here, highlights what I think is a potentially extremely important channel for CDMA 1X growth:

"The 450 MHz band has become, paradoxically, a back door through which CDMA technology has been able to enter Europe, a continent dominated by government-mandated GSM technology."

The article provides the following summary of countries where CDMA 450 is making inroads

SPAIN, PORTUGAL AND FRANCE: Inquam wants to migrate networks

ROMANIA: Telemobile launched; plans for national coverage by 2003

RUSSIA: MCC and Delta Telecom launched trial system; other operators obtaining nationwide licenses

CHINA: Operators have circulated RFPs

INDONESIA: Mobile Selular Indonesia launch

There was always uncertainty in the WCDMA royalty stream; the stock price has reflected much of this uncertainty. Fear that that Qualcomm's IP claims to WCDMA had been a major negative factor for the stock. As the IP fear got resolved through positive court rulings in Europe and Japan, fear of unsustained growth largely because of slow WCDMA deployment and adoption took center stage. This is one instance though where realization of what had been feared is creating an even greater opportunity�the proverbial blessing in disguise. However, this is not the result of a confluence of lucky events, but the result of clever strategic decisions and careful execution by the company. Eventually even the market will recognize it.


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