6G Expansion Will Expose Overheated Valuation Risks

Key Takeaways

• Optimism around growth in recurring revenue, contract renewals, and expansion into new markets may overstate the sustainability and trajectory of future earnings.
  
• Investor assumptions of seamless diversification and high-margin growth ignore potential headwinds from regulatory, technological, and competitive pressures and uncertain monetization outside core smartphone licensing.
  
• Strong licensing deals with major smartphone and PC manufacturers, successful market diversification, and leadership in wireless standards drive revenue stability and position for long-term growth.

Catalysts

Operates as a global research and development company focuses on wireless, visual, artificial intelligence (AI), and related technologies.

• The recent 67% uplift in the Samsung license and an all-time high annualized recurring revenue, driven by multi-year agreements with major OEMs, have set highly optimistic expectations for continued outsized growth in future contract renewals, potentially inflating valuation multiples and overstating sustainable revenue trajectory.
  
• Investors may be projecting accelerated licensing expansion into non-smartphone verticals (such as automotive, industrial IoT, smart cities, and healthcare) due to the widely anticipated proliferation of connected devices-however, actual monetization and revenue ramp from these adjacent markets remain unproven and could fall short of aggressive assumptions.
  
• The onset of 6G development and InterDigital's leadership in standards bodies are being viewed as a near-certain catalyst for extending royalty streams and patent value; markets may be embedding rapid and broad 6G adoption into forward earnings, though the timing and market scope remain highly speculative.
  
• Expectations for continued high-margin growth and minimal incremental cost in expanding into new verticals or renewing large contracts may underestimate future R&D needs, compliance costs, and risks of margin pressure from regulatory, competitive, or technological changes, possibly leading to eventual net margin disappointment.
  
• The exceptionally strong catch-up revenues and historical use of litigation and arbitration to secure large payments may be interpreted by investors as recurring and repeatable, but as regulatory scrutiny on patent licensing models (e.g., FRAND reforms) intensifies globally, future lump-sum payments and catch-up opportunities are at risk, potentially distorting normalized earnings and cash flow visibility.

InterDigital Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming InterDigital's revenue will decrease by 10.8% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 51.9% today to 27.4% in 3 years time.
• Analysts expect earnings to reach $173.4 million (and earnings per share of $8.95) by about August 2028, down from $463.5 million today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 53.2x on those 2028 earnings, up from 15.0x today. This future PE is greater than the current PE for the US Software industry at 38.9x.
• Analysts expect the number of shares outstanding to grow by 2.68% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.61%, as per the Simply Wall St company report.

InterDigital Future Earnings Per Share Growth

Risks

• The company has secured an 8-year, more-than-$1 billion license agreement with Samsung, the world's largest smartphone manufacturer, representing a 67% increase over the prior agreement, which not only boosts recurring revenue but also sets a higher royal baseline for future contract renewals, potentially supporting stronger revenue growth and higher net margins.
  
• InterDigital now has leading smartphone manufacturers Apple and Samsung licensed through the end of the decade, covering almost 80% of the global smartphone market and bringing smartphone annualized recurring revenue (ARR) to a record $465 million, greatly enhancing revenue stability and reducing earnings volatility.
  
• The company is making rapid progress expanding into Consumer Electronics and IoT markets, exemplified by a recent HP agreement (now over 50% of the PC market under license) and a 175% increase in CE and IoT program revenue in Q2, which points to successful diversification and growing addressable market, supporting topline growth and reducing cyclicality.
  
• InterDigital is actively leading development and standards-setting for 6G and integration of AI into cellular networks, positioning it at the forefront of future wireless technology trends that are expected to drive new verticals such as industrial IoT, smart cities, health care, and automotive, creating significant future licensing and revenue opportunities.
  
• With a business model exhibiting high incremental margins-where major license or renewal agreements can be close to 100% gross margin and significant free cash flow (expected to nearly double to over $400 million in 2025)-the company's strong operational leverage, active share repurchases, and increased dividends enhance its ability to deliver higher earnings per share and shareholder returns over the long-term.

Valuation

• The analysts have a consensus price target of $266.5 for InterDigital based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $311.0, and the most bearish reporting a price target of just $220.0.
  
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $633.9 million, earnings will come to $173.4 million, and it would be trading on a PE ratio of 53.2x, assuming you use a discount rate of 8.6%.
  
• Given the current share price of $270.25, the analyst price target of $266.5 is 1.4% lower. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.