Along with the rest of the technology sector, shares of Broadcom Inc. (AVGO, Financial) are down for the year.
Still, Broadcom’s nearly 18% decline is less than half of the drop the technology sector has endured. Better yet, shares of the company are up more than 8% over the last three months while the tech sector is lower by more than 10%.
Some of this gain occurred on Friday as the company reported fourth-quarter results that the market found to be positive. Broadcom then increased its dividend by a double-digit rate, something that should appeal to income investors.
Even after the gain in the short term, Broadcom is trading with a very reasonable valuation and is below its GF Value, implying the potential for solid total returns moving forward.
Let’s look closer at the company and its recent performance to see why I expect Broadcom to continue to outperform its sector.
Takeaways from recent earnings results
Broadcom reported fourth-quarter and fiscal year 2022 results on Dec. 8 that were above analysts’ already heightened expectations. Revenue surged 20.5% to $8.93 billion, beating estimates by $30 million. Adjusted earnings per share of $10.45 compared to $7.81 per share in the prior year and were 17 cents more than anticipated.
For the fiscal year, revenue grew 21% to $33.2 billion while adjusted earnings per share of $37.64 compared very favorably to $28.01 per share in the previous fiscal year.
A good portion of this growth comes from the Semiconductor Solutions business, which accounted for almost 80% of fourth-quarter sales. This segment grew 26% in most recent period. The switching platforms were a primary driving force, with the products up a combined 30%. The demand for server storage remains elevated as revenue was up 50%. The continued rollout of 5G coupled with the release of Apple Inc.’s (AAPL, Financial) iPhone 14 drove a 13% gain in wireless. Infrastructure Software, a much smaller portion of the overall business for now, grew just 4% to $1.8 billion.
Full-year numbers were similar, with Semiconductor Solutions up 27% to $25.8 billion and Infrastructure Software improving 4% to $7.4 billion.
It should be stated that growth has not always been in a straight line for the company.
While revenue growth has been steady over the medium term, this was not always the case. The same can be said for net income. It wasn’t until Avago purchased Broadcom Ltd. in early 2016 that both revenue and net income experienced more stability.
Overall earnings improvement was very impressive over the last decade, growing from $2.19 in 2013 to nearly $38 last year, but growth has been far from linear with declines in 2016, 2019 and 2020.
That said, fourth-quarter numbers show Broadcom’s products are very much in demand. Case in point, the most recent quarter showed revenue growth of nearly 21%, which follows the 15% growth that Broadcom generated in the fourth quarter of fiscal year 2021. Adjusted earnings per share were higher by 34.3% for the fiscal year and adds to the 26.4% gain seen in 2021. This performance clearly shows that growth on both the top and bottom lines is accelerating.
This performance is paying off handsomely for Broadcom. The company’s cash and cash equivalents increased 24.5% to $12.4 billion, giving it plenty of capital to return to shareholders in the form of buybacks and dividends and to make future acquisitions.
The company is in the midst of making use of its capital for all three purposes. The same day that quarterly earnings were released, Broadcom announced that it was raising its dividend by 12.2% for the Dec. 30 payment date. This extends the company’s dividend growth streak to 12 consecutive years. The dividend should be well supported as free cash flow grew 22.4% to $16.3 billion.
Broadcom repurchased $7 billion worth of shares during the fiscal year and has an additional $13 billion, or 5.6% of its current market capitalization, remaining on its share repurchase authorization.
Finally, the company has been no stranger to acquisitions over the years. After acquiring the namesake Broadcom in 2016, the company purchased CA Technologies for $18.9 billion in 2018 and Symantec Enterprise Security for $10.7 billion in 2019. CA Technologies added to Broadcom’s leadership position in semiconductor and infrastructure software solutions, while Symantec added to the company’s security portfolio. Both acquisitions have proved fruitful and acted as tailwinds during the most recent quarter.
More recently, the company announced it agreed to acquire VMware Inc. (VMW, Financial) for $61 billion on May 26. This deal would greatly increase the size of Broadcom’s software business. The company estimated that pro forma revenue from the transaction would be more than $40 billion, a sizeable uptick from fiscal 2022 levels.
Broadcom has successfully integrated acquisitions in the past, so adding VMware would likely be achievable. It should be noted the transaction appears to have regulatory hurdles. Antitrust regulators in the European Union will be opening an investigation into the agreement to see how such a transaction would hinder competition. Other regions could also take an interest in the deal as well.
Regardless of if the deal is approved, Broadcom’s business is on very stable ground and growth is expected to continue. According to Yahoo Finance, analysts expect the company to earn $40.34 per share in fiscal 2023, which would represent a 7.2% improvement from the most recent fiscal year. This expected growth rate is below that of the last two years, but is still impressive when considering the strength of the business over the last 24 months. If achieved, earnings per share will have almost doubled since 2020.
Given all of these tailwinds, it is not surprising that GuruFocus believes the stock has potential for outperformance. Broadcom has a GF Score of 93 out of 100, driven by strong scores for profitability, growth and momentum, which are offset by middling scores for value and financial strength.
Broadcom’s top areas of note include strong scores for future earnings growth, margins, return on equity and return on invested capital. The company’s metric also shows that bankruptcy is not likely to occur. The weakest areas of the company are all related to debt, as debt levels exploded from just $1 million in 2013 to more than $39 billion in the most recent fiscal year. This is largely due to acquisitions, most of which have directly benefited business performance.
Valuation and dividend analysis
Based on Friday’s closing price of $544.72 and estimates for the new fiscal year, Broadcom trades with a forward price-earnings ratio of 13.5. The stock’s valuation over the long term has been volatile, ranging from the mid-teens to as high as 42 times earnings. Valuation over the last decade is not as useful as it normally would be because the company underwent a significant transformation when folding Broadcom into the business.
The GF Value Line says the stock is trading at fair value based on its historical ratios, past financial performance and analysts' future earnings projections.
With a GF Value of $595.77, Broadcom has a price-to-GF Value ratio of 0.91, implying a potential return of 9.4%.
Also aiding returns are the stock’s dividend yield.
Dividend growth has been very aggressive for the company, with annual payments growing from 35 cents in fiscal 2011 to $16.40 last fiscal year. While this type of growth, nearly 50% annualized, is not sustainable, the double-digit increase speaks to the quality nature of Broadcom’s business. Shares yield 3.4% on a forward basis, implying nearly 13% total return from current levels.
Final thoughts
Broadcom’s most recent quarter showed another period of high growth, something the company has enjoyed over the past few years. This stands in contrast to a somewhat uneven history, but the company is expected to benefit from the strength of demand in its largest business.
This success has allowed for the dividend to grow at a high rate, buybacks to be plentiful and acquisitions to bolster the business to be completed.
Despite this, the forward price-earnings ratio is very reasonable and the stock trades at a discount to its GF Value.
These positives working in the company’s favor are the driving force behind Broadcom’s ability to outshine the technology sector as a whole.
Investors looking for a tech name that has outperformed its peer group, trades at a discount to its intrinsic value and offers a safe, market-beating dividend yield should consider adding Broadcom to their watchlist.
