Surfing The Smartphone Supplier Wave

Cell phone usage all over the world is rapidly transitioning to smartphones.

If you own one of these amazing devices you know why. You can bank, watch videos, listen to music, see notifications, text, create and edit documents, trade stocks, get weather forecasts, take great pictures, interact on social media, and much more. Oh, I almost forgot: you can also use it as a phone. It’s all available with just a swipe or touch of the finger.

The mega-cap leaders in marketing mobile devices are Apple (NASDAQ: AAPL), Google (NASDAQ: GOOG), and Samsung Electronics (Seoul: 5030). US investors can hold Samsung by investing in the Korean ETF iShares MSCI South Korea Capped (NYSE: EWY); Samsung is 21 percent of holdings.

Another way to invest in smartphones is with the component suppliers. Not as large as the leaders, these companies may have more growth potential.

Among the leading companies supplying components and technology to smart devices are Avago Technologies (NASDAQ: AVGO),  ARM Holdings (NASDAQ: ARMH), and Qualcomm (NASDAQ: QCOM).

Avago is a $9.6 billion market cap company that designs, develops, and supplies analog semiconductors, which are leading edge radio frequency (RF) amplifiers, filters, and front-end modules. These semiconductors are found in all smartphones. RF chips enable smartphones and devices to send and receive data wirelessly and are driving a tidal wave of change in mobile communication. The newest RF chips out of Korea, for example, can transmit data up to 200 times faster than Bluetooth.

Avago is among  the world’s largest producers of LEDs and is an industry leader in fiber optics. Avago is a key supplier to Apple and its chips will likely be in Apple’s soon-to-be released budget iphone. Samsung is also a major customer for Avago.

Avago has a forward price-to-earnings (P/E) ratio of 12 and its market cap is 13.2 times operating cash flow. The just increased dividend yields 2.40 percent.

Qualcomm is a large ($117 billion market cap) chip manufacturer. The company designs, develops, manufactures, and markets digital telecommunications products and services. Qualcomm dominates the applications processing market (apps) for smartphones and tablets. Its latest microprocessor family, the Snapdragon, is used in HD video, music, and games. Qualcomm boasts cutting edge  technology and has an unparalleled collection of intellectual property.

The company also has a commanding position in the LTE market. 4G LTE is the relatively new, fast way to transmit data from cellular towers to mobile phones and other devices.

Qualcomm’s most recent news swirls around its imminently unveiled smartwatch: the Toq (pronounced “talk,” an interesting play on words). Worn like a watch, this device works with smartphones and handles notifications, phone calls, messages, and music and more. Many speculate that smartwatch will be the next big thing in mobile computing devices.

Qualcomm has a forward P/E of 13.7 and its market cap is 15.1 times operating cash flow. The dividend yield is currently 2.1 percent.

ARM Holdings is a $19.5 billion market cap British multinational semiconductor company. A leader in microprocessor design. Its core processors are customized and used in all kinds of computer enabled products.

In addition to smartphones, ARM’s processors are used in auto keyless entry, garage openers, toys, security systems, and much more. The company receives royalties each time one of its core microprocessors is sold in a device and some smartphones may have up to 8 of them. Intel (NASDAQ: INTC) is a major competitor.

ARM has struggled recently. Some investors think its valuation is too lofty: its market cap is 58 times operating cash flow and the forward P/E is 32. There is a small dividend which yields 0.4 percent. ARM’s high share price is predicated on holding its growth and margin numbers into the future.

Warren Buffett says don’t invest in a company you don’t understand. Well, if Mr. Buffett’s advice is followed, technology would have few investors. It is nearly impossible to understand all the latest jargon and products (unless you are a bona fide geek). Instead, tech investors are best served by looking at metrics such as revenue and cash flow growth.

At today’s prices, I feel Qualcomm and Avago are the best investments while ARM may be overvalued.

Remember, technology is a high growth, dynamic sector. Fortunes can be made or lost quickly (nothing obsoletes faster than old technology). Be vigilant!

Bruce Vanderveen is a Florida-based investment analyst and writer.