TARGET TWD1,310.00HTC Corp 2498 TT PRIOR TP CLOSE TWD1,500.00 TWD870.00 BUYTAIWAN / TECHNOLOGY HARDWARE & EQUIPMENT UP/DOWNSIDE +50.6% UNCHANGED HOW WE DIFFER FROM THE STREET INDUSTRY OUTLOOK CHANGE IN NUMBERS BNP Consensus % Diff Target Price (TWD) EPS 2011 (TWD) 1,310.00 81.65 1381.52 86.38 (5.2) (5.5) Uncertainties priced in EPS 2012 (TWD) 104 107.77 (3.9) Retain BUY with a new TP of TWD1,310 Positive Neutral Negative Apple lawsuit: first ruling likely on 15 July, limited downside potential Market Recs. 26 7 2 Growth outlook for the Android camp remains intact KEY STOCK DATA Negatives appear priced in YE Dec (TWD m) 2011E 2012E 2013E BUY with TP of TWD1310 Revenue 512,254 685,874 922,749 HTC’s share price corrected about 16% in Rec. net profit 66,834 84,735 104,198 the recent week on concerns about its S3 Recurring EPS (TWD) 81.65 104 127 deal and a possible patent infringement ruling this Friday, 15 July. To factor in the Prior rec. EPS (TWD) 87.09 114 129 rising uncertainties and increasing Chg. In EPS est. (%) (6.2) (9.1) (1.5) competition, we trim our earning forecasts EPS growth (%) 69.1 26.8 23.0 6% for 2011 and 9% for 2012. While we Recurring P/E (x) 10.7 8.4 6.8 think most of the negatives are priced in, Dividend yield (%) 6.9 7.4 9.0 we retain BUY with a new TP of TWD1,310 (TWD1,500 previously), based Laura Chen EV/EBITDA (x) 8.3 6.3 4.9 +886 2 8729 7052 on 14x 12-month forward P/E. email@example.com Price/book (x) 8.0 6.5 4.8 Net debt/Equity (106.5) (102.8) (100.8) Apple lawsuit: limited downside Yifan Lai +886 2 8729 7056 ROE (%) For the possible first ruling this Friday, firstname.lastname@example.org 80.9 83.9 79.3 even in the worst-case scenario that HTC (TWD) HTC Corp is found having infringed some of Apples patents, we assume royalty fee (%) Rel to MSCI Taiwan of about USD2 per handset (on benchmark touch screen controller IC 1,400 153 pricing), implying a total of USD100m for 50m units shipment in 2011E. 103 Our patent expense estimate of USD1.5b-2b should cover most of the 900 potential upcoming expenses. Apple seems to be keen to rule out all the 53 competitors by suing almost everyone, including Samsung Electronics, 400 3 Nokia, etc. However, the number of related parties involved (Google, Verizon, AT&T, etc) makes it unlikely that Apple will win all the cases Jul-10 Oct-10 Jan-11 Apr-11 Jul-11 related to patent infringements. So, we see room for negotiation. We Share price performance 1 Month 3 Month 12 Month appreciate concerns about corporate governance with HTC’s acquisition Absolute (%) (21.5) (22.1) 72.8 of S3 Graphics, but we are positive about the merger as it should Relative to country (%) (16.8) (16.9) 62.7 strengthen HTC’s bargaining power in patent-related issues. Next results August 2011 Growth outlook remains intact for the Android camp Mkt cap (USD m) 24,895 The positive growth outlook for Android remains intact, as the penetration 3m avg daily turnover (USD m) 230.6 rate of Android and iOS smartphones in the US is still below 40%. Free float (%) 73 Smartphones generate higher profit and sales contributions, thus we Major shareholder Fidelity (7%) believe telecom operators will continue to market smartphones 12m high/low (TWD) 1,300.00/519.05 aggressively to boost data revenue. Google is seeing 500K Android 3m historic vol. (%) 55.1 phone activations per day currently and it is growing 4.4% every week, implying at least 200m Android phones in 2011. We believe HTC’s ADR ticker - growth outlook is intact given its leadership in the rising Android camp. ADR closing price (USD) - Sources : Bloomberg consensus; BNP Paribas estimates Negatives appear priced in Given the recent sharp correction in HTC’s share price, we believe most RECENT COMPANY & SECTOR RESEARCH uncertainties, such as the potential losing of the Apple lawsuit and rising Upbeat outlook on track ........................................ 6 Jul 2011 competition, are largely priced in. We expect the volatility in the share Fundamentals remain solid................................20 Jun 2011 price to reduce after the initial ruling is announced, possibly on 15 July. We maintain BUY on improved visibility into 2H11. We also expect the Semicon West SPE wrap up................................ 13 Jul 2011 share price to be supported by 80%+ ROE through 2012E, 6-7% Outlook remains uncertain.................................. 13 Jul 2011 prospective dividend yields, and attractive valuations as the stock trades at just 7x 2012E P/E, excluding cash on hand.BNP Paribas Securities Asia research is available on Thomson One, Bloomberg, TheMarkets.com, Factset and on http://equities.bnpparibas.com. Please contact yoursalesperson for authorisation. Please see the important notice on the back page. PREPARED BY BNP PARIBAS SECURITIES ASIA 14 July 2011 THIS MATERIAL HAS BEEN APPROVED FOR U.S DISTRIBUTION. IMPORTANT DISCLOSURES CAN BE FOUND IN THE DISCLOSURES APPENDIX.
LAURA CHEN HTC CORP 14 JULY 2011 —— Base —— —— Best —— —— Worst —— Key Earnings Drivers & SensitivityYear-end 31 Dec 2011E 2012E 2011E 2012E 2011E 2012E Key earning drivers are handset shipment growth andSales (TWD b) 512 686 522 705 502 666 operating margin. We estimate a 4ppt increase in handsetChange (%) 1.97 2.86 (1.97) (2.86) shipment growth alone would increase EPS by about 2.0%Handset spmt gwth (%) 102.7 40.0 106.7 44.0 98.7 36.0 and 2.8% and sales by about 2.0% and 2.9% in 2011 and 2012, respectively.Change (%) 4.0 4.0 (4.0) (4.0)OPM (%) 14.7 14.0 15.7 15.0 13.7 113.0 Changes in operating margin have a significant impact onEPS (TWD) 81.65 103.52 88.85 114.04 74.67 93.42 EPS. We estimate a 1% increase/decrease in operatingChange (%) 8.8 10.2 (8.5) (9.8) margin, all else being equal, would increase/decrease EPS by about 6.7% in 2011 and 7.1% in 2012.Sources: BNP Paribas estimates HTC Corp and MediaTek (3M and 6M realised-Vol) Regression – HTC Corp to MXTW Index (%) 24.00% 80 70 14.00% 60 50 4.00% HTC Corp 40 -12.00% -7.00% -2.00% 3.00% 8.00% -6.00% 30 20 -16.00% 10 0 -26.00% Jul-03 Jul-04 Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 MSCI Taiwan HTC Corp - 3M Realised - Vol HTC Corp - 6M Realised - Vol HTC Corp = 138 + 1.2226 * MXTW Index MediaTek - 3M Realised - Vol MediaTek - 6M Realised - Vol R Square = 0.3131 Regression based on 261 observations of 5 years weekly data. Sources: Bloomberg; BNP Paribas Sources: Bloomberg; BNP Paribas Taiwan sector correlation matrix at 31 March 2011 Banks PetroChem Hardware Semiconductors Building materials TelecomsBanks 1.00 0.57 0.67 0.63 0.73 0.41PetroChem 1.00 0.53 0.55 0.60 0.43Hardware 1.00 0.75 0.65 0.36Semiconductors 1.00 0.61 0.35Building materials 1.00 0.36Telecoms 1.00Source: BNP Paribas Sector Strategy Long/short chart The risk experts (x) The Risk Experts • Our starting point for this page is a recognition of the 4.14 3.64 macro factors that can have a significant impact on stock- +2s 3.14 price performance, sometimes independently of bottom-up 2.64 +1s factors. 2.14 1.64 Mean 1.14 • With our Risk Expert page, we identify the key macro risks -1s 0.64 that can impact stock performance. 0.14 -2s-0.36 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 • This analysis enhances the fundamental work laid out in HTC Corp - MediaTek the rest of this report, giving investors yet another resource to use in their decision-making process.Sources: Bloomberg, BNP Paribas 2 BNP PARIBAS
LAURA CHEN HTC CORP 14 JULY 2011Reiterate BUY with a lower TP of TWD1,310.00While a preliminary ruling of Apple’s first patent lawsuit against HTC may be announcedon 15 July, Apple filed another lawsuit on 8 July, claiming patent infringement on HTC’sportable electronic devices and related software. HTC responded with a statementsaying that it denies all of Apple’s past and present claims against it and that it willcontinue to protect and defend its own intellectual property (IP).HTC’s share price has corrected about 16% in the recent week on concerns about theS3 deal and a possible patent infringement ruling this Friday. To factor in the risinguncertainties, we trim our earning forecasts 6% for 2011 and 9% for 2012. We alsoprune our handset shipment estimates to 13m units (from 15m) for 3Q11 and to 15m(from 16.5m) for 4Q11 on rising uncertainties on soft tech demand. But we believeHTC’s growth outlook remains intact given its leadership in the rising Android camp. Weretain our BUY rating. We cut our TP to TWD1310 (from TWD1,500) to reflect theearnings revision. Our TP is based on 14x 12-month forward P/E, which is the high-endof the stock’s historical trading band to reflect the strong earnings growth momentum.Key downside risks to our TP are margin pressure from an increase in competition,which will likely lead to price wars, and slower-than-assumed smartphone growth. Exhibit 1: Earnings revision Year-end Dec-31 –————— Prior –————— –————— Revised –————— –————— Change –————— 2011E 2012E 2011E 2012E 2011E 2012E (TWD m) (TWD m) (TWD m) (TWD m) (%) (%) Revenue 547,858 754,479 512,254 685,874 (6.5) (9.1) Gross Profit 157,487 210,188 147,309 191,077 (6.5) (9.1) Operating Profit 80,332 105,637 75,272 96,029 (6.3) (9.1) Pre-tax Profit 81,202 106,025 76,142 96,417 (6.2) (9.1) Net Profit 71,287 93,187 66,834 84,735 (6.2) (9.1) EPS (TWD) 87.09 113.85 81.65 103.52 (6.2) (9.1) GM (%) 28.7 27.9 28.8 27.9 OPM (%) 14.7 14.0 14.7 14.0 Net margin (%) 13.0 12.4 13.0 12.4 Source: BNP Paribas estimates Exhibit 2: Peer valuation Name BBG code Rating TP Price — P/E — —— EPS —— — Div yeld — —— ROE —— EPS growth Mkt cap ‘11E ‘12E ‘11E ‘12E ‘11E ‘12E ‘11E ‘12E ‘11E ‘12E (LC) (LC) (x) (x) (LC) (LC) (%) (%) (%) (%) (%) (%) (USD m) Asian Handset HTC 2498 TT BUY 1310.00 870.0 10.7 8.4 81.7 103.5 6.6 7.0 80.9 83.9 69.1 26.8 24,620 ZTE 763 HK HOLD 31.00 27.1 25.7 22.7 1.1 1.2 1.0 1.1 13.5 13.5 (0.9) 13.1 12,262 SEC 005930 KS BUY 1160000.0 843,000.0 10.1 7.3 83,220.2 115,137.5 1.0 1.0 15.4 18.2 (12.3) 38.4 116,990 LGE 066570 KS BUY 103000.00 81,000.0 24.5 7.6 3,305.1 10,692.9 0.3 0.3 4.2 12.4 (58.3) 223.5 11,039 AAC Acoustic 2018 HK NR NA 18.1 13.4 10.8 1.4 1.7 3.0 3.8 29.6 31.0 40.0 24.1 2,853 Silitech 3311 TT BUY 88.00 67.2 8.4 7.8 8.0 8.6 8.3 8.9 23.5 23.4 (2.9) 7.4 417 Mediatek 2454 TT REDUCE 245.00 247.0 18.2 15.1 13.6 16.4 6.9 3.3 13.8 16.5 (51.9) 20.3 9,403 Largan 3008 TT NR NA 940.0 19.7 15.1 47.8 62.1 2.2 3.0 33.8 35.5 58.5 29.9 4,364 FIH 2038 HK REDUCE 2.70 3.5 NA 110.7 (0.0) 0.0 - - (0.9) 0.8 NA NA 3,216 Global brands NOKIA NOK US NR NA 5.8 9.2 7.5 0.6 0.8 9.6 9.9 6.3 8.4 (16.5) 23.3 21,721 APPLE AAPL US NR NA 353.8 14.2 12.2 25.0 29.1 - - 36.7 30.3 62.2 16.4 327,132 RIM RIMM US NR NA 28.5 5.4 5.3 5.2 5.4 - - 27.4 23.3 (17.8) 3.4 14,927 Motorola MMI US NR NA 21.0 29.5 13.4 0.7 1.6 - - 3.2 6.6 NA 119.3 6,206 Price close of 13 July 2011 Sources: Bloomberg consensus for NR (not rated) companies; BNP Paribas estimates for others 3 BNP PARIBAS
LAURA CHEN HTC CORP 14 JULY 2011 Exhibit 3: P/E band chart (TWD) 18x 1,400 14x 1,200 1,000 10x 800 600 6x 400 200 0 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Sources: TEJ; BNP Paribas estimatesLimited potential for extra payment if ruled patent infringementBased on our estimate of 50m unit shipment this year, we estimate HTC will have topay USD1.5b-2b in royalties and license fee to essential IP owners like Nokia and SonyEricsson (6758 JP; not rated) and software companies like Microsoft (MSFT US; notrated). For essential IP, the payment is 5-10% of transaction price. Assuming ASP ofaround USD350 with 50m unit shipments in 2011, HTC might need to pay as high asUSD1.75b for essential IP. For Microsoft license fee, HTC needs to pay USD400m-750m in 2011, based on 50m unit shipment and USD8-15 per unit, even for Androidphone.HTC recently announced to pay USD300m in cash (about 9% of its cash on hand) toacquire S3 Graphics from Via (2388 TT, Not rated). S3 focuses on innovative graphicsvisualisation technologies. We appreciate the market’s concerns about corporategovernance regarding the deal, but we view the acquisition positively as it shouldstrengthen HTC’s bargaining power on patent-related issues, as not only Microsoft,Sony and Nintendo (7974 JP, not rated) are S3’s licensees, but also the USInternational Trade Commission (ITC) has ruled favourably that Apple has infringed twoof S3’s patents.Even in the worst case that HTC needs to make a settlement with Apple, we assume itwould have to pay about USD2 per handset (if benchmark touch screen controller ICpricing), implying a total payment of USD100m for 50m units shipment this year. Ourpatent expense estimate of USD1.5b-2b (or USD30-40 per handset) should cover mostof the potential upcoming expenses. 4 BNP PARIBAS
LAURA CHEN HTC CORP 14 JULY 2011 Exhibit 4: HTC’s patent contracts Patent authorisation contracts Contents IV International Licensing Netherlands, B.V. Patents authorised for wireless-telecom-related products. Royalty is paid according to the contract. ALCATEL LUCENT Specialised technology and patents for 2G (GSM/GPRS/EDGE/CDMA), 3G (CDMA2000/WCDMA), HTML, MPEG and AMR. Royalty is paid according to the contract. Microsoft Patents authorised for embedded operating system software. Royalty is paid according to the contract. Telefonaktiebolaget LM Ericsson Essential patents authorised for manufacturing, applying, and selling GSM products. Royalty is paid according to the contract. Siemens Aktiengesellschaft Specialised technology and patents for GSM/GPRS/EDGE products. Royalty is paid according to the contract. KONINKLIJKE PHILIPS ELECTRONICS N.V. Essential patents authorised for manufacturing GSM or DCS 1800/1900 standard telecom devices. Royalty is paid according to the contract. InterDigital Technology Corporation Patents authorised for digital-telecom-related products based on TDMA and CDMA. Royalty is paid according to the contract. MOTOROLA, Inc. Essential patents authorised for TDMA, NARROWBAND CDMA, WIDEBAND CDMA standard. Royalty is paid according to the contract. Ericsson Mobile Platform AB Patents authorised for wireless telecom technologies including EDGE, etc. Royalty is paid according to the contract. Nokia Corporation Patents authorised for wireless telecom technologies including GSM, etc. Royalty is paid based on quantity manufactured and the amount is according to the contract. Qualcomm Incorporated. Patents authorised for R&D, manufacturing and selling CDMA products. Royalty is paid according to the contract. Source: Company dataGrowth outlook remains intact for the Android campThe positive growth outlook for Android remains intact, as the penetration rate ofAndroid and iOS smartphones in the US is still below 40%. According to latest reportsby AT&T (T US, not rated) and Verizon (VZ US, not rated), the share of smartphones intheir total postpaid base is 46.2% and 32%, respectively. Smartphones generate higherprofit and sales contribution, thus we believe telecom operators will continue to marketsmartphones aggressively to boost data revenue. One piece of hard evidence to see isthat Verizon is offering two-year contract price for HTC Thunderbolt LTE for USD250,which is lower than even the component cost of USD260, according to iSuppli.On the other hand, Google (GOOG US, Not rated) recently announced that there arecurrently 500K Android phone activations per day, up from 400K about one month ago,and the activation is growing 4.4% every week, implying at least 200m Android phonesin 2011, compared to Gartner’s earlier forecast of 180m. HTC has a 25% market sharein Android phones currently, and we believe the company’s growth outlook remainsstrong given its leadership in the rising Android camp.Negatives appear priced inGiven the recent sharp correction in HTC’s share price, we believe most uncertainties,such as the potential losing of the Apple lawsuit and rising competition, are largelypriced in. We expect the volatility in the share price to reduce after the initial ruling isannounced, possibly on 15 July. We maintain BUY on improved visibility into 2H11. Wealso expect the share price to be supported by 80%+ ROE through 2012E, 6-7%prospective dividend yields, and attractive valuations as the stock trades at just 7x2012E P/E excluding cash on hand. 5 BNP PARIBAS
LAURA CHEN HTC CORP 14 JULY 2011BNP Paribas Technology Research Team WEIYEE IN CHARLES CHENG, CFA SZEHO NG, CFA Telecoms, Media & Technology Strategy Technology Strategy Packaging & Testing, Foundry, Displays BNP Paribas Securities (Asia) Ltd BNP Paribas Securities (Asia) Ltd BNP Paribas Securities (Asia) Ltd +852 2825 1813 +852 2825 1825 +852 2825 1167 email@example.com firstname.lastname@example.org email@example.com PETER YU, CFA ALEN LIN JOYCE ZHOU Semiconductors, Displays, Handsets Telecom Services and Equipment Telecom Services and Equipment BNP Paribas Securities Korea Co Ltd BNP Paribas Securities (Asia) Ltd BNP Paribas Securities (Asia) Ltd +822 2125 0535 +852 2825 1801 +852 2825 1120 firstname.lastname@example.org email@example.com firstname.lastname@example.org AVINASH SINGH ABHIRAM ELESWARAPU KEI RAMEAU Tech - IT (Associate) Software & Services Technology BNP Paribas Securities India Pvt Ltd BNP Paribas Securities India Pvt Ltd BNP Paribas Securities (Japan) Ltd +91 22 3370 4350 +91 22 3370 4311 +81 3 6377 2232 email@example.com firstname.lastname@example.org email@example.com CHARLES HSU LAURA CHEN HENRY AI Displays, Touch Panels, LED Handset/Hardware IT services BNP Paribas Securities (Taiwan) Co Ltd BNP Paribas Securities (Taiwan) Co Ltd BNP Paribas Equities (Asia) Ltd +886 2 8729 7055 +886 2 8729 7052 Shanghai Representative Office firstname.lastname@example.org email@example.com +8621 6096 9037 firstname.lastname@example.org KYNA WONG YIFAN LAI YOUNG SHIN Research Associate Research Associate Research Associate BNP Paribas Securities (Asia) Ltd BNP Paribas Securities (Taiwan) Co Ltd BNP Paribas Securities Korea Co Ltd +852 2825 1823 +886 2 8729 7056 +822 2125 0546 email@example.com firstname.lastname@example.org email@example.com 9 BNP PARIBAS
LAURA CHEN HTC CORP 14 JULY 2011HISTORY OF CHANGE IN INVESTMENT RATING AND/OR TARGET PRICE HTC Corporation (2498 TT) (TWD) Date Reco TP HTC Corp Target Price 1-Jul-07 BUY 611 1,600 2-Aug-07 HOLD 636 1,400 2-Jan-08 BUY 719 1,200 30-Jul-09 REDUCE 371 4-Feb-10 HOLD 286 1,000 31-Mar-10 BUY 410 800 13-Sep-10 HOLD 710 600 31-May-11 BUY 1,500 400 200 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11Laura Chen started covering this stock from 31 May 2011Price and TP are in local currencyValuation and risks: Key downside risk to our P/E-based TP would be margin pressure from an increase in competition, which will likely lead to price wars. However, we believe strong segmentgrowth, increased product promotional activities by operators, and several planned launches could mitigate such pressure. Slower-than-assumed smartphone segment growth is another risk.Sources: Bloomberg, BNP Paribas 10 BNP PARIBAS
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