Long-Term Play: How AVGO's Focus on Artificial Intelligence Drives Growth

Broadcom Inc. (AVGO), a global tech leader that develops and supplies semiconductor and infrastructure software solutions, exceeded analysts’ expectations for both revenue and earnings in the first quarter of fiscal year 2024. Its revenue and EPS came in at $11.96 billion and $10.99, surpassing the analysts’ estimates of $11.72 billion and $10.42, respectively.

For the quarter that ended February 4, 2024, the company’s net revenue witnessed a 34.2% increase year-over-year. The revenue increase was primarily driven by AVGO’s acquisition of VMware in November 2023, which accelerated growth in its infrastructure software segment. Also, the company saw a high demand for its networking products, particularly in AI data centers and custom AI accelerators from hyperscalers.

AVGO’s first-quarter non-GAAP net income and non-GAAP earnings per common share rose 17.2% and 6.4% from the prior year’s period to $5.25 billion and $10.99, respectively. Furthermore, the company’s adjusted EBITDA grew 26% from the year-ago value to $7.16 billion.

Broadcom’s fiscal 2024 software revenue guidance is set at an impressive $20 billion. Additionally, fueled by the sustained robust demand for AI NAND, the company anticipates networking revenue to exceed 35% year-on-year growth, surpassing its early projection of 30% annual growth.

Moreover, it projects moderate to strong single-digit percentage year-over-year growth in its Semiconductor Solutions division for fiscal 2024. AVGO has reiterated its consolidated revenue target of $50 billion, representing a 40% increase year-over-year. It has also reiterated its adjusted EBITDA forecast of $30 billion for the year, a 60% growth rate.

In addition, Streets expects Broadcom’s revenue and earnings per share for the second quarter of fiscal 2024, ending April 2024, to rise by 37.3% and 4.9% to $11.99 billion and $10.82, respectively.

Several Cutting-Edge Innovations and Breakthroughs

On March 14, 2024, AVGO launched Bailly, the industry's first groundbreaking 51.2 Tbps CPO Ethernet switch. The innovation would allow hyperscalers to establish energy-efficient and cost-effective large-scale AI and computing clusters.

AVGO’s technology leadership and manufacturing innovations will ensure that Bailly delivers 70% better power efficiency and an optical I/O roadmap that aligns with the future bandwidth and power needs of AI infrastructure.

Furthermore, the tech company’s March 13 announcements showcased vital advancements extending its market leadership with an expanded portfolio of optical interconnect solutions for AI and ML applications. The cutting-edge optics support high-speed data transfers in large-scale generative AI compute clusters, connecting front-end and back-end networks.

Key achievements unveiled by Broadcom include the production release of 200-Gbps per lane electro-absorption modulated laser (EML) to pair with next-gen GPUs, the demonstration of the industry’s first 200G/lane vertical-cavity surface-emitting laser (VCSEL), and the shipment of over 20 million channels of 100G/lane high-speed optical components used in AI/ML systems.

Moreover, AVGO showcased the continuous wave (CW) laser with high efficiency and high linearity for silicon photonics (SiPh) modulation at 200G. These breakthroughs will revolutionize high-speed interconnects within AI clusters, facilitating front-end and back-end generative AI compute networks.

“Generative AI has unleashed a network transformation necessitating an order of magnitude increase in high-speed optical links compared to standard network requirements,” said Near Margalit, vice president and general manager of the Optical Systems Division at AVGO. “We will continue to invest in VCSEL, EML and CW laser technologies to deliver disruptive innovation in bandwidth, power and latency for optical interconnects in next generation AI links.”

According to Dr. Vladimir Kozlov, founder and CEO of LightCounting Market Research, Alphabet Inc. (GOOGL) and NVIDIA Corporation (NVDA) will lead the way as the initial adopters of 200G per lane optics for linking GPUs and TPUs in AI clusters, which is currently a highly sought-after segment in the market.

Kozlov added that Broadcom, known for pioneering innovative components, is once again at the forefront by supplying the necessary technology for the next generation of optical transceivers, supporting the rapid evolution of AI infrastructure.

“NVIDIA is at the forefront of photonics innovation, and Broadcom has been an important optical-component partner, matching the pace and scale required as we advance our HPC and AI optical-interconnect technology,” said Craig Thompson, vice president of LinkX products at NVDA. 

At Innolight, we have been deploying leading-edge optical interconnect solutions for AI, ML and HPC applications,” stated Osa Mok, CMO at Innolight Technology. “We are excited to continue our partnership with Broadcom to develop advanced terabit optical modules for generative AI, enabling AI clusters to scale and support the next generation of LLMs.”

Also, Sean Davies, vice president of sales at Eoptolink Technology, said, “We are excited to partner with Broadcom to bring to market state-of-the-art solutions to enable terabit connectivity and drive new generative AI architectures.”

Dividend Growth Trajectory

AVGO recently declared a quarterly dividend of $5.25 per share, payable on March 29, 2024, to shareholders on record as of March 21, 2024. This increase brings the annual dividend to $21 per share. The company has increased its dividends for 13 consecutive years.

Moreover, over the past five years, the company’s dividend payouts have grown at a CAGR of 19.3%. AVGO’s annual dividend translates to a yield of 1.70% at the prevailing stock price.

The company's strong financial performance and success in the AI chips market, along with synergies from a recent merger, suggest ongoing earnings growth, which supports the potential for future dividend increases.

Valuation Concerns

While all seems well, AVGO's substantial surge over the past year has led to a lofty valuation. Its forward P/E ratio stands at 61.45x, 118.2% higher than the industry average of 28.16x. Likewise, the stock’s forward EV/Sales and forward Price/Sales of 12.68x and 11.41x are 337.4% and 295.7% higher than the industry averages of 2.90x and 2.88x, respectively.

Thus, buying shares of AVGO at the moment might not be the best investment decision. However, one could closely monitor this stock as its strong AI business could drive significant growth in the future.

Favorable Analyst Estimates

Citigroup (C) analyst Christopher Danely strongly recommends buying AVGO stock, with a price target of $1,100. The upgrade is based on the company's solid core business performance and the positive impact expected from its VMware acquisition after the release of its fourth quarter and fiscal year 2023 earnings.

AVGO’s impressive financial results, particularly the contributions from AI, played a key role in this decision. Notably, the management has significantly increased its AI spending target from $4 billion in 2023 to more than $8 billion in 2024.

Currently, 86.7% of top-rated analysts rate AVGO as a Strong Buy or Buy, while 13.3% consider it a Hold. None suggest selling the stock. Analysts forecast AVGO’s upcoming year to yield earnings per share of $39.68, marking an 18.5% year-over-year increase if predictions hold true.

Bottom Line

AVGO’s impact on global connectivity is profound. The semiconductor giant supplies chips for virtually all internet-connected devices and is evolving into a software solutions provider for businesses. Broadcom has been primarily benefiting from the robust adoption of AI. The stock has gained more than 45% over the past six months and around 97% over the past year.

During the first quarter of fiscal 2024, the company’s AI revenues under its semiconductor segment quadrupled year-over-year to $2.30 billion. Further, AVGO projects fiscal 2024 AI revenues of nearly $10 billion, higher than the prior guidance of $7.50 billion and account for about 35% of semiconductor revenues, up from previous guidance of 25%.

AVGO recently announced key accomplishments, extending its market leadership with an expanded portfolio of optical interconnect solutions for AI and ML applications. These developments signify significant progress in incorporating state-of-the-art optical technologies into the constantly shifting realm of AI infrastructure.

The collaboration between Broadcom and key industry leaders like NVIDIA, Innolight Technology, and Eoptolink Technology further highlights the cooperative approach toward advancing AI/ML optical transceiver technologies. This joint endeavor seeks to meet the increasing need for larger AI clusters while fostering innovation in generative AI architectures.

Despite its high valuation, the company boasts strong business fundamentals and prospects amid emerging AI capabilities, making it a reliable long-term investment option.

AVGO Stock: Crisis or Major Chip Investment?

Broadcom Inc. (AVGO), a leading semiconductor and infrastructure software company, recently completed its acquisition of VMware, Inc., a provider of multi-cloud services, for $69 billion. This acquisition, first announced in May last year, formally closed on November 22, 2023. The deal received regulatory clearance from various countries, including the U.S., United Kingdom, and China.

Hock Tan, President and CEO of Broadcom, said, “We are excited to welcome VMware to Broadcom and bring together our engineering-first, innovation-centric teams as we take another important step forward in building the world's leading infrastructure technology company.”

“With a shared focus on customer success, together we are well positioned to enable global enterprises to embrace private and hybrid cloud environments, making them more secure and resilient. Broadcom has a long track record of investing in the businesses we acquire to drive sustainable growth, and that will continue with VMware for the benefit of the stakeholders we serve,” he added.

AVGO’s main focus is to allow enterprise customers to create and modernize their private and hybrid cloud environments. As a result, the company will invest in VMware Cloud Foundation, the software stack that serves as the foundation of private and hybrid clouds.

In addition to Broadcom’s investment in VMware Cloud Foundation, VMware will provide a list of services to modernize and optimize cloud and edge environments like VMware Tanzu to help accelerate the deployment of applications, Application Networking (Load Balancing) and Advanced Security services, and VMware Software-Defined Edge for Telco and enterprise edges.

Wall Street analysts believe AVGO’s stock will increase following the VMware acquisition.

On December 4, Oppenheimer analyst Rick Schafer presented a positive outlook for Broadcom by maintaining an Outperform rating and revising his price target to $1,100.

Also, on November 24, KeyBanc Capital Markets analyst John Vinh raised his price target on AVGO by 20% from $1,000 to $1,200. Also, the analyst maintained his “Strong Buy” rating on the stock. In a note to clients, Vinh expects the acquisition to be immediately accretive to the company’s earnings and gross margin.

John Vinh commented that KeyBanc is “constructive on the acquisition because it is highly complementary to Broadcom’s infrastructure and semiconductor franchises.”

Further, according to Evercore ASI analyst Matthew Prisco, Broadcom’s software sales will increase to nearly 40% of its total revenue in the first year after the acquisition closes. Prisco rated AVGO’s stock as Outperform with a price target of $1,050.

Shares of AVGO have gained more than 15% over the past six months and nearly 66% year-to-date. Also, the stock has surged approximately 74% over the past year.

Now, let’s discuss some of the factors that could impact AVGO’s performance in the near term:

Solid Financial Performance in the Last Reported Quarter

For the third quarter that ended July 30, 2023, AVGO reported net revenue of $8.88 billion, beating analysts’ estimate of $8.86 billion. This compared to net revenue of $8.46 billion in the same quarter of 2022. Its non-GAAP gross margin grew 3.7% year-over-year to $6.67 billion.

Broadcom’s non-GAAP operating income came in at $5.54 billion, an increase of 6.5% from the prior year’s quarter. Its adjusted EBITDA rose 7.9% from the year-ago value to $5.80 billion. The company’s non-GAAP net income rose 8.4% year-over-year to $4.60 billion. It posted non-GAAP net income per share of $10.54, compared to the consensus estimate of $10.43.

Furthermore, net cash provided by operating activities increased 6.7% year-over-year to $4.72 billion. AVGO’s free cash flow stood at $4.60 billion, up 6.7% from the same period last year.

Upbeat Fiscal 2023 Fourth-Quarter Guidance

“Broadcom’s third quarter results were driven by demand for next generation networking technologies as hyperscale customers scale out and network their AI clusters within data centers,” said CEO Hock Tan. “Our fourth quarter outlook projects year-over-year growth, reflecting continued leadership in networking for generative AI.”

After solid third-quarter earnings and confidence in continued business progress, AVGO expressed an optimistic view on the fiscal 2023 fourth quarter ended October 29, 2023. The company expects its fourth-quarter revenue to be nearly $9.27 billion, an increase of around 4% from the previous year’s period. AVGO’s adjusted EBITDA is expected to be approximately 65% of projected revenue.

“We generated $4.6 billion in free cash flow in the third quarter, and expect cash flows to remain solid for Q4,” said Kirsten Spears, CFO of Broadcom.

Impressive Historical Growth

Over the past three years, AVGO’s revenue and EBITDA grew at CAGRs of 15.2% and 24.7%, respectively. The company’s EBIT improved at a CAGR of 61.4% over the same period. Moreover, its net income and EPS increased at CAGRs of 77.6% and 83.2% over the same timeframe, respectively.

Also, the company’s levered free cash flow grew at a 6.9% CAGR over the same period.

Positive Recent Developments

On November 30, AVGO introduced the industry’s first switch with an on-chip neutral network, NetGNT (Networking General-purpose Neutral-network Traffic-analyzer), in its new, software-programmable Trident 5-X12 chip. The new Trident 5-X12 will double bandwidth, reduce power by 25%, and add a neutral network to enable next-generation telemetry, security, and traffic engineering.

 On October 17, Broadcom announced the availability of Qumran3D, the next-gen of the StrataDNX family of single-chip routers. Qumran3D will accelerate the transition to merchant silicon routers by considerably reducing carrier and cloud operator TCO with unprecedented scale.

This new single-chip router will raise the bar for carrier and cloud operator solutions by delivering high-performance, low-power, and security-rich networking. It will meet growing bandwidth and security demands faced by service providers amid increased AI, mobile edge, and other high data deployments.

Also, on September 26, AVGO’s division, Symantec, partnered with Google Cloud to embed generative AI into the Symantec Security platform in a phased rollout that will provide customers a technical edge for detecting, understanding, and remediating sophisticated cyberattacks.

“Our partnership with Google Cloud is part of that continuing journey to put the most innovative security solutions possible into user hands. Our engineers have simplified the process in ways that will enable customers to be much more productive and effective. This is just the beginning of a great collaboration that will help to kickstart the benefits of AI throughout the broader security ecosystem,” said Adam Bromwich, CTO and Head of Engineering, Symantec Enterprise Division, Broadcom.

Broadcom’s Commitment To AI

On October 10, AVGO showcased its vision for AI acceleration and democratization at the 2023 Open Compute Project Global Summit. The company’s commitment to unleashing the AI potential at scale is achieved through a combination of ubiquitous AI connectivity, innovative silicon, and open standards.

This also reflects Broadcom’s commitment to its standardization work toward an open hardware ecosystem for AI workloads.

“Today, AI is pushing technology to its boundaries. Broadcom is focused on innovating to interconnect the key components of an open AI platform within the data center. Our goal is to partner with hyperscalers and enterprise OEMs to build leading-edge AI products and solutions,” said Charlie Kawwas, Ph. D., President, Semiconductor Solutions Group, Broadcom.

AGVO will witness growing demand for its products from companies developing AI capabilities. As per a report by Bloomberg Intelligence (BI), the generative AI market is expected to reach $1.30 trillion over the next ten years from a market size of just $40 billion in 2022, expanding at a CAGR of 42%.

Favorable Analyst Estimates

Analysts expect AVGO’s revenue for the fourth quarter (ended October 2023) to grow 3.9% year-over-year to $9.28 billion. The consensus EPS estimate of $10.96 for the same period indicates a 4.9% year-over-year increase. Moreover, the company has surpassed the consensus revenue and EPS estimates in each of the trailing four quarters, which is impressive.

For the fiscal year 2023, Street expects AVGO’s revenue and EPS to grow 7.8% and 11.7% year-over-year to $35.80 billion and $42.03, respectively. In addition, the company’s revenue and EPS for the fiscal year 2024 are expected to increase 22.7% and 46.2% from the previous year to $52.33 billion and $45.49, respectively.

Attractive Dividend

AVGO pays an annual dividend of $18.40, which translates to a yield of 1.98% at the current share price. Its four-year average dividend yield is 3.04%. Also, the company’s dividend payouts have increased at a CAGR of 21.3% over the past five years. Broadcom has raised its dividends for 12 consecutive years.

Robust Profitability

AVGO’s trailing-12-month gross profit margin of 74.27% is 52.6% higher than the 48.67% industry average. The stock’s trailing-12-month EBIT margin of 45.7% is 874.3% higher than the 4.69% industry average. Likewise, its trailing-12-month net income margin of 39.25% is significantly higher than the 2.20% industry average.

Moreover, the stock’s trailing-12-month ROCE, ROTC, and ROTA of 64.57%, 16.63%, and 19.44% are considerably higher than the industry averages of 1.01%, 2.60%, and 0.26%, respectively. Its trailing-12-month levered FCF margin of 38.97% is 375.16% higher than the industry average of 8.20%.

Bottom Line

Broadcom surpassed analyst estimates on the top and bottom lines in the last reported quarter. The company’s outstanding third-quarter performance was driven by robust demand for next generation networking technologies.

In addition, AVGO’s long-term outlook appears promising, propelled by continued leadership in networking for generative AI, strategic investments, and partnerships. Recently, the chipmaker completed its acquisition of VMware, enabling it to accelerate its adoption of cloud technologies. AVGO’s stock has surged more than 65% year-to-date on the back of the VMware deal closing and AI wave.

Given its solid financials, high profitability, and rosy growth prospects, it could be wise to invest in AVGO now.