A lot of what has worried Broadcom (Nasdaq:BRCM) analysts and investors appeared to come home to roost with the company's latest earnings report. Weak guidance has investors fearing that the company is losing more and more share to Qualcomm (Nasdaq:QCOM), with an overall stagnation in high-end devices leading to fears that ASPs and margins are in danger.
 
I can understand these fears, but I think there are still some positives to this story. The company's NFC business appears to be doing pretty well, and the higher-margin broadband and networking businesses are likewise more than just afterthoughts. I'd be nervous making a long-term commitment to any mobile chip company right now, but Broadcom could work as a rebound trade for aggressive investors.
 
Q2's Results Weren't That Bad...
Broadcom reported revenue growth of 6% (year-on-year) and 4% (sequential) for the June quarter, slightly below the average sell-side estimate. While broadband (up 5% and 6%) and infrastructure (up 7% and 19%) were stronger than expected, the mobile/wireless business (up 7% and down 3%) was almost 10% below expectations.
 
While the growth (or lack thereof) of the mobile business pretty much dominates the discussion around Broadcom, the company's other units are actually more profitable, and the company benefited from that mix shift. Gross margin declined 40bp from last year and rose 20bp sequentially. Operating income was up 3% and 10%, though, which was slightly better than expected despite very weak margins in the wireless business.

SEE: Analyzing Operating Margins
 
… But Guidance Was That Bad
Broadcom shares almost certainly weren't going to outperform on the basis of the reported results, but management's guidance and comments on the call seriously spooked the market. Management gave a range of revenue estimates for the third quarter with the midpoint about 5% below the prior sell-side estimate. Even worse, they pushed back the commercialization target for the LTE products by about six months – a significant delay in what many analysts have marked as a key driver of the company's near-term growth prospects.
 
What's Really Going On With Sockets And Shares?
A lot has been made of Broadcom losing connectivity slots in recent Samsung devices to Qualcomm as proof that Broadcom's mobile business is about to face serious trouble. To be sure, I do see some risk that Samsung shifts more business to Qualcomm or Marvell (Nasdaq: MRVL) in the future and/or leverages its purchase of assets from CSR to cut Broadcom out of future designs. Likewise, the announcement of Texas Instruments (NYSE: TXN) selling its connectivity assets to an unnamed buyer (speculation has centered on Apple (Nasdaq: AAPL)) has bears projecting significant share, ASP, and margin losses into the future.
 
That may be premature. It is true that Qualcomm has been winning sockets that were formerly Broadcom's, but it's also true that Broadcom has been winning baseband business elsewhere and this can actually be more lucrative. What's more, Broadcom has been beating NXP Semiconductors (Nasdaq: NXPI) and gaining some share in the NFC chip market.
 
It's also worth noting that Broadcom's non-mobile/wireless businesses aren't exactly chopped liver. Although the company wrote down the NetLogic deal by $501 million, the new Trident II networking chip is ramping with customers like Cisco (Nasdaq: CSCO) and Huawei, and these business can still drive worthwhile higher-margin growth.
 
The Bottom Line
At today's price, I think there's a great deal of bearishness on the company's future in wireless baked into the shares, bearishness that may well overlook the company's strong IP position in system-on-a-chip technologies. While I would not be cavalier about the threat of competition from Qualcomm or Intel (Nasdaq:INTC), nor the risk of “home-grown” solutions from Samsung and/or Apple, I think a lot of the downside may already be in the market.
 
Just 2% long-term annual free cash flow growth would suggest that Broadcom shares should trade closer to $33 or $34, while I think a worst-case scenario would fall around $27 or $28 per share. There are certainly risks tied to shrinking market growth, shrinking margins, and increasing competition, and these are not shares for investors who don't like or tolerate risk. Even so, while I don't think its appropriate to approach Broadcom with a buy-and-forget mentality, I do believe the shares are too cheap below $28.
 
Disclosure – At the time of writing, the author owned no shares of companies mentioned in this article.

Related Articles
  1. Personal Finance

    A Day in the Life of an Equity Research Analyst

    What does an equity research analyst do on an everyday basis?
  2. Mutual Funds & ETFs

    ETF Analysis: PowerShares S&P 500 Downside Hedged

    Find out about the PowerShares S&P 500 Downside Hedged ETF, and learn detailed information about characteristics, suitability and recommendations of it.
  3. Mutual Funds & ETFs

    ETF Analysis: ProShares Large Cap Core Plus

    Learn information about the ProShares Large Cap Core Plus ETF, and explore detailed analysis of its characteristics, suitability and recommendations.
  4. Mutual Funds & ETFs

    ETF Analysis: iShares Core Growth Allocation

    Find out about the iShares Core Growth Allocation Fund, and learn detailed information about its characteristics, suitability and recommendations.
  5. Mutual Funds & ETFs

    ETF Analysis: iShares MSCI USA Minimum Volatility

    Learn about the iShares MSCI USA Minimum Volatility exchange-traded fund, which invests in low-volatility equities traded on the U.S. stock market.
  6. Stock Analysis

    Should You Follow Millionaires into This Sector?

    Millionaire investors—and those who follow them—should take another look at the current economic situation before making any more investment decisions.
  7. Professionals

    What to do During a Market Correction

    The market has corrected...now what? Here's what you should consider rather than panicking.
  8. Mutual Funds & ETFs

    ETF Analysis: Vanguard Mid-Cap Value

    Take an in-depth look at the Vanguard Mid-Cap Value ETF, one of the largest and most popular mid-cap funds in the U.S. equity space.
  9. Mutual Funds & ETFs

    ETF Analysis: Schwab US Broad Market

    Take an in-depth look at the Schwab U.S. Broad Market ETF, an incredibly low-cost fund based on a wide selection of the U.S. equity market.
  10. Professionals

    Tips for Helping Clients Though Market Corrections

    When the stock market sees a steep drop, clients are bound to get anxious. Here are some tips for talking them off the ledge.
RELATED TERMS
  1. Equity

    The value of an asset less the value of all liabilities on that ...
  2. Hard-To-Sell Asset

    An asset that is extremely difficult to dispose of either due ...
  3. Sucker Yield

    When an investor has essentially risked all of his capital for ...
  4. Earnings Per Share - EPS

    The portion of a company's profit allocated to each outstanding ...
  5. PT (Perseroan Terbatas)

    An acronym for Perseroan Terbatas, which is Limited Liability ...
  6. Ltd. (Limited)

    An abbreviation of "limited," Ltd. is a suffix that ...
RELATED FAQS
  1. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  2. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  3. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  4. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  5. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>
  6. What happens to the shares of stock purchased in a tender offer?

    The shares of stock purchased in a tender offer become the property of the purchaser. From that point forward, the purchaser, ... Read Full Answer >>

You May Also Like

COMPANIES IN THIS ARTICLE
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!