Avago Technologies (AVGO, Financial), suffering from short-term weaknesses earlier, bounced back after beating consensus estimates in its last quarter and issued a bright guidance for the ongoing one.
Naturally, analysts started their customary price upgrades and investors were aggressive about the prospects of the company. However, Avago’s long-term growth prospects were always glossy and the weakness in the previous quarter was only driven by seasonality.
Avago’s diversified business, its compelling valuation, an almost perfect balance sheet, and a solid dividend yield are certain reasons to impress investors. More importantly, the company’s end-markets should only get better from here.
Short-Term Weakness
The primary reason behind Avago’s lukewarm outlook three months back was the product transition at Apple that happened a quarter earlier than usual. However, Avago enjoyed strong orders from Samsung, which acted as a hedge against lower orders from Foxconn (aka Apple).
Avago has multiple catalysts to drive its wireless business, which accounts for half of its overall revenue. Firstly, they are at the beginning of a very strong ramp from their North American smartphone OEM customer as they transition to the next-generation platform as reported by management.
Moreover, Avago’s mobile business is bound to benefit from the proliferation of 4G devices and its presence in budget smartphones in regions such as Taiwan, Korea, and China.
Avago also witnessed revenue growth from its wired infrastructure business, which accounted for 27% of total revenue and grew 7% from last year. The jump was fueled by recovery in enterprise spending on the back of data center build outs. Avago is expecting the growth of data centers to drive its infrastructure business with a few design wins, going forward.
In addition, the industrial end market also illustrated an unexpected revenue improvement of 4% on a sequential basis, while Avago had expected a decline. This improvement helped the company beat estimates and Avago expects the trend to continue with growth in mid-single digits in the industrial business in the ongoing quarter.
However, investors must be cautious about a couple of things. Avago is not seeing strong demand from carriers in its wired infrastructure business as telecom spending has failed to pickup as expected. But, the TD-LTE build out network in China may provide it with some more push. Also, although the company is expecting a good performance from its industrial business, a slowdown in the global economy, especially in China might give it a bumpy ride.
There are many more companies in the smartphones and tablets market, but Avago’s exposure to the industrial and wired infrastructure markets, now showing signs of recovery, should further strengthen its balance sheet.
Conclusion
A trailing P/E of just 28x, which is well below the industry average, and a forward P/E of around 16 look pretty appealing for a semiconductor stock that’s offering diversification, growth, stability and a dividend yield of 2%.
