Broadcom Earnings: AI a Larger Piece of the Pie and Product Suite Remains Resilient

Broadcom Stock at a Glance

• Fair Value Estimate: $640
• Morningstar Rating: 2 stars
• Morningstar Uncertainty Rating: Medium
• Morningstar Economic Moat Rating: Narrow

Broadcom Earnings Update

Narrow-moat Broadcom AVGO reported strong fiscal second-quarter results, slightly below our revenue expectations but significantly surpassing our earnings expectations. Networking demand was again strong on the back of a continued tailwind of generative AI deployment. Management noted that AI-related revenue currently represents approximately 15% of its semiconductor business.

In fiscal 2022, that figure was around 10% of its semiconductor revenue, and management believes it can reach 25% of semiconductor revenue in fiscal 2024, an estimate we view as reasonable and impressive. The immediate hesitation to AI-related growth is the potential for cannibalization of its other product growth. However, we view Broadcom’s networking, storage, and broadband businesses as resilient and view AI-related revenue as a tool to expand on existing growth vectors. We maintain our $640 fair value estimate for Broadcom, which reflects a 50% probability the firm’s pending VMware acquisition will close within fiscal 2023.

AI Spending Boosting Networking Product Demand

Second-quarter sales were $8.7 billion, up 8% year over year. Semiconductor solutions revenue was $6.8 billion, up 9% year over year. Software sales were $1.9 billion, up 3% year over year. Demand for networking products grew 20% year over year as a result of strong growth in Broadcom’s high-speed switches and routers, which are beneficiaries of AI spending. Server storage grew 20% year over year but was down 10% sequentially as enterprise demand moderated in the quarter. Wireless revenue fell 9% year over year, although management guided to 20% year-over-year growth in the third quarter, coinciding with the seasonal ramp of the next iPhone.

In the quarter, GAAP gross margins grew 270 basis points sequentially to 70.0% because of a favorable product mix. Total adjusted operating margin rose 110 basis points sequentially to 62%. For the third quarter, management guided for sales to be $8.85 billion at the midpoint, implying 5% growth year over year. Additionally, gross margins are guided to be down approximately 60 basis points sequentially as a result of a slightly weaker product mix.