Radio-frequency component supplier RF Micro Devices (UNKNOWN:RFMD.DL) has been on an incredible run so far this year, with its stock up more than 150%. During the past two quarters, the company has vastly improved profitability, and management believes these higher margins are not only sustainable, but could in fact improve further. Here are three things that could drive RF Micro's earnings and stock price higher in the long term.
Falling smartphone prices could drive transition to 4G
As RF Micro's management pointed out during the company's recent conference call, nearly half of the world's phones in use today still use 2G technology. The developed world has moved on to 4G, and RF Micro earns more revenue from phones containing these more advanced radio-frequency components.
While strong performance of high-end phones like the iPhone 6 is one key driver of RF Micro's recent performance, the increasing affordability of smartphones could have a longer-term positive effect on the business. The average selling price of smartphones has been declining, and 4G phones are becoming affordable in emerging markets. In 2012, the average Android smartphone selling price globally was $320, according to IDC. This fell to $276 in 2013, and it's expected to further decline to $202 by 2018.
Quality 3G phones are approaching the $100 mark off-contract, with the Moto E from Motorola, now owned by Lenovo, going for $129. Microsoft also just announced the $140 Lumia 535, which runs Windows Phone 8.1, although there are no plans yet to sell it in the United States. While 4G phones are more expensive, the Moto G, also from Motorola, now has a 4G variant that costs just $219 off-contract.
Making 3G and 4G devices affordable, particularly in emerging markets, could boost RF Micro's revenue considerably. And, assuming the company can maintain its newfound high margins, its earnings, and therefore stock price, could rise as well.
Merger with TriQuint opens up new opportunities
RF Micro is set to close its merger with TriQuint Semiconductor (UNKNOWN:TQNT.DL) by the end of this year, and there are two main positives. First, the new company will have a broader portfolio of products with which to pursue design wins. The merger already appears to be paying off in this respect, as RF Micro has entered into three-way nondisclosure agreements with TriQuint and leading smartphone manufacturers regarding upcoming devices.
The second positive of the merger is the potential for cost savings. RF Micro estimates that $150 million of expenses can be removed within two years of the merger closing. Along with the improved cost control demonstrated by the company during the past two quarters, this has the potential to boost margins of the combined company.
Increased revenue from additional design wins and a strong focus on keeping costs down is a recipe for rising earnings, although historically RF Micro's profitability record has been erratic. If the combined company can sustain the margins that RF Micro achieved last quarter, which is certainly not guaranteed, earnings and the stock price could continue to grow.
The connected car and the Internet of Things
One area that offers RF Micro both a growth opportunity and a way to diversify beyond smartphones is the automobile market. ABI Research projects that the number of automobiles shipped each year with connected infotainment systems will rise from 9 million today to 62 million in 2018. Some major carmakers, including General Motors, already offer 4G LTE connectivity and Wi-Fi hot spots in quite a few models.
Of course, the annual volume of automobiles is far smaller than the annual volume of smartphones, but with smartphone shipment growth expected to slow in coming years, any new market for RF Micro's products should be welcome news. Connected automobiles are just one part of the Internet of Things, a term encompassing all Internet-connected products that aren't PCs, tablets, or smartphones, and the potential for tens of billions of devices to be connected to the Internet over the next decade could open up huge new markets for RF Micro.
We're in the very early innings of the Internet of Things, so RF Micro is unlikely to see much impact to its top or bottom line from this sector anytime soon. But in the long term, the explosion of devices connected to the Internet could drive significant revenue and earnings growth, and the stock price should follow suit.
Timothy Green has no position in any stocks mentioned. The Motley Fool recommends General Motors. The Motley Fool owns shares of Microsoft and TriQuint Semiconductor. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.