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Blistering AI demand drives a beat and raise at our other chipmaker Broadcom

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6 months ago

June 12, 2024

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Blistering AI demand drives a beat and raise at our other chipmaker Broadcom

Broadcom shares surged more than 14% in extended trading Wednesday after the chip and software maker delivered better-than-expected quarterly results, driven by strong artificial intelligence and VMware demand. Broadcom also raised its full-year outlook and announced a 10-for-1 stock split. Revenue in the Club name’s fiscal 2024 second quarter ended May 5 increased 43% year over year to $12.5 billion, outpacing analysts’ forecasts of $12.06 billion, according to estimates compiled by LSEG, formerly Refinitiv. Excluding the contribution from VMWare, Broadcom’s sales rose 12% year over year. Adjusted earnings per share (EPS) grew 6% from last year to $10.96, which exceeded expectations of $10.85. Adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) came in at $7.43 billion in the quarter, beating the $7.05 billion predicted by Wall Street. Broadcom Why we own it : Broadcom is a high-quality semiconductor and software company run by an incredible CEO in Hock Tan, who is best known for his value-creating M & A strategy. We view Broadcom as one of the biggest AI beneficiaries through its networking and custom chip businesses. The stock trades at a much more reasonable price-to-earnings ratio relative to other chip stocks. The company also has a shareholder-friendly capital allocation strategy with its dividends and buybacks. Competitors : Marvell Technology, Advanced Micro Devices and Nvidia Last buy : Oct. 3, 2023 Initiation date : Aug. 24, 2023 Bottom line This was a strong quarter for Broadcom that cemented our thesis in the company. Broadcom’s AI-related business saw a continued surge in sales, with management raising its full-year outlook to $11 billion backing up our view that this is one of the best AI chip stocks in the market. While the rest of its legacy semiconductor business continues to struggle, there are hopeful signs of bottoming over the next few quarters, setting up for a recovery next year. We also continue to see upside in VMware. The progress Broadcom has made so early in the integration is very encouraging, but we never had a doubt based on management’s experiences with mergers. CEO Hock Tan and his team do an exceptional job finding strong businesses to acquire that can generate both revenue and cost synergies (by slashing costs), thereby generating more free cash flow which it uses to increase dividends, repurchase stock, and find more companies to acquire. To top it all off, Broadcom announced a 10-for-1 forward stock split that will go into effect after the close of July 12. As we’ve said before, in theory stock splits shouldn’t matter. But if you look at the reception Lam Research , Chipotle , Walmart , and most recently fellow Club chipmaker Nvidia, have had with their splits, they clearly don’t hurt. And it’s a good thing that Broadcom wants to make its stock more accessible to investors and employees. As a result of the beat, raise, and stock split (which you cannot deny has had a positive impact on stocks) we are raising our price target to Broadcom to $1,900 a share, from $1,550. The stock’s price-to-earnings multiple is no longer as inexpensive as it used to be, but we can justify its growing premium in the market through its strong AI-driven revenue outlook, strong margin performance, and commitment to returning cash to shareholders. AVGO YTD mountain Broadcom YTD The stock closed Wednesday at a record high just under $1,500 per share and has gained roughly 34% year to date. Based on its current price post-market, the stock could open Wednesday near $1,700. Quarterly commentary Semiconductor solutions revenue grew 6% year over year to $7.2 billion, beating expectations, as continued strength in AI-related sales more than offset ongoing cyclical weakness in revenue from enterprises and telecommunications companies. Networking: Revenue increased 44% year over year to $3.8 billion and made up 53% of semiconductor sales in the quarter. AI spending is the dominant theme here, with networking and custom accelerator revenue up 280% year over year to $3.1% billion. CEO Hock Tan pointed out on the post-earnings call that as AI data center clusters continue to deploy, the company is seeing its revenue mix shift towards an increasing proportion of networking. Broadcom operates an Ethernet network, which differs from Nvidia’s InfiniBand solutions. On the custom chip side, Broadcom said its hyperscale customers are accelerating investment to scale up the performance of its data center clusters. Although the company doesn’t call them out by name, it’s widely believed that Club names Alphabet and Meta Platforms — and more recently, TikTok parent ByteDance — are main customers for these custom AI accelerators. The legacy semiconductor businesses were weak, as expected. Wireless : Revenue increased 2% year over year to $1.6 billion and represented 22% of semiconductor revenue. The company made no change to its prior guidance for flat revenue year over year, but we can’t help but think a new upgrade cycle at Apple, its wireless customer, could help drive sales higher in the future. Server and storage connectivity : Sales fell 27% year over year to $824 million, making up 11% of semiconductor revenue. This business has been brutal for a while, but Tan called this quarter the bottom and reiterated his expectation for a recovery in the second half of the year. Tan now sees storage revenue down around 20% this year, maybe a little better than the down mid-20s the previously expected. Broadband : Sales fell 39% year over year to $730 million and represented 10% of segment revenue. Demand has improved here, and the business is not expected to bottom until the second half of this year. This downbeat view caused management to revise its full-year forecast to sales down high 30s% year over year from down slightly over 30%. Industrial : Sales fell 10% year over year for this small part of the business and management lowered its outlook to down double-digit year over from prior guidance to a single-digit decline. Broadcom’s other segment, Infrastructure Software , revenue beat expectations too, growing 175% year over year to $5.3 billion. VMware was a bright spot, with revenue of $2.7 billion, up from $2.1 billion in the prior quarter. This is still only the beginning of the benefit of the VMware deal, as Broadcom sees revenue accelerating toward a $4 billion per quarter run rate in the future. Tan said the integration of VMware, which it acquired late last year, is going well with its transition to a subscription licensing model. And the results back it up. Not only was there an acceleration in its annualized booking value, but redundant costs were also eliminated, resulting in a nice upside to both revenues and expenses. Broadcom said the spending run rate at VMware was $1.6 billion in the quarter, down from $2.3 billion per quarter pre-acquisition. Tan sees this figure falling to a $1.3 billion run rate exiting the fourth quarter, ahead of its previous plan of $1.4 billion. He then thinks it will stabilize at $1.2 billion post-integration. Capital allocation Overall, Broadcom generated about $4.5 billion in free cash flow in its fiscal 2024 second quarter but that number jumps to $5.3 billion, up 18% year over year, when excluding restructuring and integration in the quarter. This strong cash generation allowed Broadcom to spend $1.55 billion repurchasing shares for tax withholdings on the vesting of equity awards to eliminate 1.2 million shares, pay $2.4 billion in dividends, and retire $2.4 billion worth of debt. There were no formal repurchases of common stock as part of its buyback program, but the company is coming off its fiscal first quarter in which it bought back a hefty $7.1 billion in stock. Outlook Following the strong first half of its fiscal year 2024, Broadcom raised both its revenue and adjusted EBITDA outlook. The company now expects revenue to be $51 billion, up from $50 billion previously, with adjusted EBITDA of approximately 61% of projected revenue, up from 60%. That works out to about $31.11 billion. The positively revised update is above FactSet estimates of $50.58 billion in revenue and $30 billion of adjusted EBITDA. One reason for the raise: Broadcom has a stronger outlook for AI revenue, which it now sees totaling over $11 billion this year, up from its prior guide of about $10 billion. This still seems conservative to us. (Jim Cramer’s Charitable Trust is long AVGO, NVDA. GOOGL, META. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust’s portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

Hock Tan, CEO of Broadcom

Lucas Jackson | Reuters

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