Last week, Nvidia’s market cap surpassed $3 trillion, overtaking Apple and sending investor attention into a gravitational singularity that no other chip stock can escape mention. Almost. Broadcom also appears to be big and growing, quietly climbing to 10th place in the S&P 500 index by market cap. Wall Street is predicting further gains for Broadcom for some decidedly Nvidia-like reasons, which we’ll explain in more detail later.
Broadcom is like Turducken, but with chips and software instead of chicken. Hewlett-Packard once spun out a company called Agilent Technologies.
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Private equity then bought the semiconductor unit to form Avago and put a serial acquirer called Hock Tan in charge, who has worked on many smaller deals and some larger ones, including the 2016 purchase of California chipmaker Broadcom.
Avago changed its name to Broadcom but kept the ticker symbol AVGO. Soon after, I Barons As for the stock. It sold for 14 times projected free cash flow. It’s cheap. And Broadcom’s sales of smartphone internals were riding on rising demand for the iPhone.
The follow-up noted that Broadcom’s free cash flow has been surging. That, along with a dividend yield of more than 4%, made the company attractive, even as investors viewed the company’s 2018 acquisition of Computer Associates with skepticism. It is primarily a software company, and there were concerns that Broadcom was straying too far from its core chip expertise. The company then acquired software developer Symantec in 2019 for cybersecurity and VMware last year for cloud computing.
A lot has changed since that initial news. Broadcom has risen 900%, beating the S&P 500 by 700 points. The company has now grown from a third the size of Intel to five times the size, making it the second-largest chipmaker behind Nvidia.
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I’d love to claim to be a stock-picking visionary, but if I were, I’d tell you to forget Broadcom, sell everything but your toothbrush and clothes, and bet on Nvidia, which is up 7,000% in the same period, and whose recent gains have very little to do with the characteristics I listed and a lot to do with artificial intelligence.
Nvidia is dominating the stock market because the highly parallel processing it previously developed for video game graphics has turned out to be ideal for other tasks, such as cryptocurrency mining and especially AI. Founder Jensen Huang explained to me that this is no coincidence: the plan from the beginning was to create a high-speed computing company, and video games were the perfect place to start. Broadcom is benefiting from the current AI arms race and the desire of its largest customers to use their financial muscle to keep costs down.
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For example, for AI acceleration, they have the scale to get outside help and manufacture their own chips. Many of their needs are specific, so they don’t need expensive general-purpose chips from Nvidia. They’d be better off using custom accelerators designed for the job. That’s where something called an application-specific integrated circuit (ASIC) comes in, which is designed to perform a single function or a few related functions. For large-scale buyers, AI ASICs can maximize performance while keeping costs and power consumption down.
Broadcom designs high-end custom ASICs faster than anyone else and has an estimated 55% to 60% market share. Marvell Technology
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It comes in second with about 15%.
Alphabet is the biggest buyer of Broadcom’s AI gear. Meta Platforms is doing well. Broadcom added a third, unnamed customer this year, which analysts say could be TikTok owner ByteDance. Microsoft
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Apple and many other companies are also customers. Beyond ASICs, Broadcom benefits from decades of experience in high-speed networking equipment, which is especially important when thousands of AI chips are thinking together.
Broadcom’s sales are expected to grow to $50.6 billion from $35.8 billion in the fiscal year through October. JPMorgan sees AI contributing to $11 billion to $12 billion of sales this year, rising to $14 billion to $15 billion next year. It sees the stock price rising to $1,700 from a recent $1,400. Melius Research, which began covering Broadcom glowingly last week, predicts earnings per share could reach $70 within a few years, up from $42.25 last year. It has a price target of $1,850 for the company.
On a side note, I haven’t thought about $80/month fiber optic broadband in years. The connection always works, and if you want to save money, you cancel a streaming service or two long before you change your online access. High customer satisfaction makes fiber optic less likely to churn, and it’s economically attractive, especially for providers that are the first to reach new areas and compete with cable, and when governments offer incentives. The internal rate of return for fiber optic installations is estimated at about 11%.
With telecommunications companies already investing heavily in 5G networks, UBS says the US is in the middle of a five-year fiber optic “land grab” led by AT&T and T-Mobile US.
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The company predicts its service area will expand from about 50% of households today to 80% by 2028.
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That’s bad news for cable TV: When bundled customers ditch pay-TV for streaming, they might stick with cable for the broadband, but not if they’re tempted by fiber optics, which allows telecommunications companies to offer discounts to fiber-optic customers who also get cellphone service.
“That’s the new bundle,” says UBS analyst John Hodulik.As cable TV declines, cable companies are working to bundle rebranded cellphone service.But even if telecom companies gain modest market share, cable broadband subscriber numbers could decline modestly after the decade, taking some of the cable bull market with it.
Write Jack Hough (jack.hough@barrons.com) Follow him on X and apply his Barron’s Streetwise podcast.
