Broadcom designs, develops, and supplies semiconductors and infrastructure software solutions. Its semiconductor chips are used in smart phones, cars, and the devices that send a wireless signal throughout your house. Service providers also use Broadcom’s products to send data to your home. In addition, cloud providers and companies operating data centers use Broadcom’s products to manage their networks. The result is 99% of all internet traffic crosses at least one Broadcom chip.
Broadcom grows as consumers use their phones more, enterprises shift more data to the cloud, tech giants build out their artificial intelligence capabilities, and service providers expand 5G. Broadcom is now one of the largest semiconductor companies in the world, even if it’s not as well-known as smaller companies such as Qualcomm and Intel. In 2017, Broadcom tried to acquire Qualcomm in a deal that was blocked by executive order in 2018 due to concerns about the impact the merger would have on competition in the wireless chip industry. Around this time, the Wall Street Journal reported that Intel was considering a bid for Broadcom.
The company has a long history of mergers and acquisitions (M&A). Broadcom trades under the symbol AVGO because before merging with Broadcom in 2016, AVGO was known as Avago Technologies. In the early 2010s AVGO purchased multiple enterprise storage companies including LSI Corporation, adding a new market, and reducing its dependence on its wireless business. The Broadcom merger more than doubled AVGO’s revenue. After the failed Qualcomm bid, AVGO pivoted to software with its acquisition of CA, Inc and Symantec Enterprise Security. Both companies provide mission critical software (such as network management and security) to large enterprises and a steady revenue stream compared to the cyclical chip business. In 2021, AVGO attempted to buy another company, the privately held analytical software company SAS Institute Inc, and failed. AVGO’s largest acquisition ever, $70B for VMware Inc, is currently pending approval from the UK’s competition authority. The acquisition has been pending for almost a year.
Beyond the M&A history, AVGO is notably one of Apple’s most important suppliers, with Apple being AVGO’s largest customer. In January 2020, AVGO was the only supplier to enter a multi-year agreement with Apple. The agreement is set to expire in 2023 and analysts believe Apple is looking to reduce its dependence on AVGO by developing some of the chips in-house. AVGO’s CEO Hock Tan’s response has been that he believes AVGO has the best technology and is delivering value to their customers. He sees no reason for Apple to go a different route from using the best: AVGO. In fact, Hock Tan never names Apple when discussing wireless sales, instead referring to Apple as the North American customer.
As currently constructed, AVGO generates more than $30B in annual revenue. More than three quarters of that revenue is from the semiconductor segment with the remaining revenue coming from software. The company is extremely profitable with an adjusted net margin of about 50%. The company has a cost-cutting reputation – acquiring then rationalizing expenses, and getting rid of any investments it deems unnecessary. For example, after acquiring CA, AVGO cut down its customer list to only those companies large enough to generate significant revenue and profits to justify the relationship. This slowed sales growth but drove up margins.
The company also has a strict policy of not allowing customers to cancel orders; customers can delay orders, but eventually AVGO will send them the products. This reduces the cyclicality of the semiconductor business. AVGO can enforce the purchase obligations given its dominance in some segments and the breadth of its products. It can offer products at cheaper prices than competitors by bundling – as mentioned, its products are used across the internet from end user device to service provider to network management. Regulators have, of course, noticed this, as evidenced by the failed Qualcomm purchase and delayed VMware acquisition.
Lastly, AVGO treats its shareholders well. As an “asset light” business AVGO outsources its semiconductor manufacturing to foundries. This reduced level of capital investment allows the firm to invest billions in research and development each year. The resulting profits translate to significant cash flow. AVGO generated almost $4B in free cash flow in its most recent quarter with almost half being paid out in dividends and another 40% used for stock buyback. Combine this shareholder friendly capital allocation with the ability to grow revenue, as consumers, enterprises, tech giants and service providers all demand better and faster networks, and you have an attractive investment.