Is Broadcom Stock Still a Good Value?
Broadcom (NASDAQ: AVGO) has outperformed the broader market by a handsome margin in 2017 (the stock is up 36% so far this year) thanks to broad-based growth across its three core business segments -- wired infrastructure, wireless communications, and enterprise storage. The chipmaker has witnessed a substantial boost in its revenue and earnings in recent quarters, and the shares are close to a 52-week high.
But is Broadcom still a good bet after its rapid rise in recent months? Does it have enough catalysts to justify its sky-high valuation of 189 times trailing earnings? Let's find out.
Wireless will be the biggest catalyst
Broadcom's wireless communications business supplies 29% of its revenue and could be one of the biggest factors powering its growth as it supplies chips for Apple's iPhones. In fact, Broadcom's wireless revenue jumped 27% year-over-year last quarter thanks to "the start of a ramp from our large North American smartphone customer as they started transitioning to their next-generation platform." That's presumed to be Apple.
Furthermore, Broadcom expects wireless momentum to continue in the current quarter, forecasting a 30%-40% sequential jump in revenue. But Apple could drive Broadcom's growth beyond just one or two quarters because of two things: content gains and the iPhone upgrade cycle.
Broadcom has been reportedly gaining more content in Apple devices. The company is expected to supply the wireless charging solution for the latest iPhones as well as RF (radio frequency) components and Wi-Fi/Bluetooth combo chips. Broadcom management indicated on the previous earnings call that the company is witnessing a move toward more sophisticated Wi-Fi standards, which could increase what it makes from each iPhone.
Additionally, the improved cellular capabilities of Apple's latest smartphones could be another catalyst for Broadcom. According to The Motley Fool's Ashraf Eassa, Apple could boost iPhone upload speeds by using carrier aggregation (a term that refers to the combination of different cellular frequencies in a device to increase bandwidth) on the uplink.
This would boost demand for Broadcom's RF filters and multiplexers.
Additionally, Broadcom's wireless business will get a shot in the arm thanks to a massive, pending iPhone upgrade cycle.
Enterprise storage will get bigger
Broadcom's enterprise storage business has shot into the limelight in recent quarters, having grown at a really fast pace. Revenue from this segment was up 39% year-over-year in the latest quarter thanks to strong demand for its storage controllers. The storage business now accounts for 16% of the company's total revenue, and could grow even more thanks to growing demand for server storage, solid-state drives (SSDs), and higher storage density.
Broadcom has developed a full suite of storage controller and connectivity products to take advantage of the potential growth in this space. For instance, the company's storage controllers can help it take advantage of the secular trend of increasing drive capacities. Last year, storage drive capacities were up 30% even though hard-disk drive shipments were down almost 10%.
Looking ahead, the trend will continue as storage companies such as Seagate are transitioning to higher capacity drives. This should boost demand for Broadcom's controllers since they can increase drive density and capacity, setting the company on its way to tap the predicted annual growth of 16% in enterprise storage through 2020.
What about the valuation?
Broadcom's trailing price-to-earnings ratio (P/E) of 189 looks really expensive when compared to the 23.6 industry average. Investors, however, shouldn't forget that Broadcom's high P/E ratio is a result of the huge charges related to the Avago merger, which have knocked down its GAAP earnings substantially.
Broadcom's GAAP earnings are expected to get back on track over the coming year, as its forward P/E of 14 suggests. Moreover, the company's pursuit of fast-growing end markets should boost its earnings in the long run, so investors shouldn't avoid the company just because of its sky-high earnings multiple. Analysts estimate Broadcom's bottom line will grow at over 17% a year for the next five years.
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Harsh Chauhan has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Apple. The Motley Fool recommends Broadcom Ltd. The Motley Fool has a disclosure policy.