Calling Broadcom's (BRCM) recent quarterly performances "disappointing" would be a gross understatement. The stock is down 20% since shares of Broadcom reached a high of $37.40 almost a year ago. During that span, rival Qualcomm (NASDAQ:QCOM) has gone in the opposite direction, soaring more than 22%. But can this divergence continue? More importantly, though, Broadcom investors have to wonder to what extent can management inspire confidence to (at least) stop this bleeding.
But given how well Qualcomm has done, Broadcom investors (or those thinking of taking a position) are in the right spot. While I do love Qualcomm, the value to be gained ($10 per share) seems very limited compared to the potential that Broadcom presents. That said, "potential" is only as good as management's execution.
Plus, given that, the Street seems to assume that Broadcom won't win in the baseband space from Qualcomm, expectations are already low. At least enough for Broadcom to beat. And with the company due to report first-quarter earnings this afternoon, investors should prepare for an upside surprise.
From my vantage point, Broadcom has fallen victim to its own success. The company's strong historical performances, by virtue of its relationship with both Apple (NASDAQ:AAPL) and Samsung (OTC:SSNLF), have commanded high expectations. But given Apple's dominant performance Wednesday, during which it sold 43 million iPhones, I have to suspect some incremental benefits to Broadcom, which has had an extensive relationship with Apple.
And it's no coincidence that Broadcom's declines have mirrored Apple's own struggles with market share. This afternoon, Broadcom management will look to prove this theory correct and demonstrate how the market has been too skeptical about the company's long-term prospects.
The Street will be looking for 46 cents in earnings per share on revenue of $1.96 billion, which assumes a 6% sequential decline. Management's guidance was $1.9 billion to 2.0 billion. But that's not where the focus should be. Given the fiercely competitive landscape of the mobile industry, the stock should hold up pretty well if management can show that Broadcom is keeping up to Qualcomm in areas like integrated 4G mobile solutions.
And if the numbers show that Broadcom has not suffered drastic declines in Mobile & Wireless revenue, this, too, would be a monumental victory. By "drastic," I mean anything more than 10% sequential decline. Consider normal seasonality decline stands at mid-single digits. Despite the expected declines, I remain bullish because Broadcom is more than a chip company.
While I've proclaimed Broadcom's advantage of its relationship with smartphone leaders Apple and Samsung, investors often discount Broadcom's capabilities realm of networking, where one of its biggest customers includes Cisco (NASDAQ:CSCO). Not to mention, the company also generates revenue from satellite and voice-over-IP (VOIP) components.
Given these advantage, I'm looking for potential upside in the Infrastructure & Networking segment, where Broadcom's trends have improved over the last several quarters. From my vantage point, Broadcom should benefit from favorable gross margin mix, which I believe presents meaningful upside to the company's non-GAAP gross margin. Although management guided for a 50 to 100 basis-point decline, I'm projecting a modest beat by one penny above consensus estimates of 46 cents per share.
Although management has been making the best of a bad situation, Broadcom will need to deliver not only a strong quarter in both revenue and profits, but guidance has to suggest that investors' worst fears are over. At around $30 per share, I believe Broadcom offers compelling value and minimal downside risk. The stock remains inexpensive on an absolute basis at 11-times forward consensus earnings. This is a slight discount to the historical average of 13 times estimates, which places shares right around $35 in the next 6 to 12 months.
Disclosure: I am long AAPL.
Business relationship disclosure: The article has been written by Wall Street Playbook's tech sector analyst. Wall Street Playbook is not receiving compensation for it (other than from Seeking Alpha). Wall Street Playbook has no business relationship with any company whose stock is mentioned in this article.
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