As Semiconductor Sector Expects A Plague Of Profit Warnings, Broadcom Looks Firm

Sep.28.11 | About: Broadcom Limited (AVGO)

On the macro front, the new trading week-- the last of the third quarter-- will be less about the U.S. and more about Greece, while on the micro front, it is liable to be a week of profit warnings. This month we have had fifteen warnings in the microprocessor industry for the quarter now ending, and presumably the electronic systems manufacturing food chain means that there will be warnings from hardware manufacturers too, those who have been ordering fewer chips in the quarter.

Since the beginning of the month, the Nasdaq index has fallen, but the semiconductor stocks index has actually risen, despite the many profit warnings. The rises were led by Intel (NASDAQ:INTC), up 10%, Micron (NASDAQ:MU), up 12.5%, SanDisk (SNDK), up 15%, and Marvell (NASDAQ:MRVL), up 16%.

Micron, which produces all kinds of memory chips, will publish results on Thursday, after trading closes, for the quarter and the financial year ending in August. The background to the rise in its share price this month is the view that the August quarter was a nadir, and that business will improve substantially in the coming quarters.

Goldman Sachs sees a big miss from Micron, a loss of $0.09 per share, compared with market expectations of a $0.03 per share profit, because of DRAM prices, which plunged by up to 40% in the quarter. This is also the reason that it recommends buying only SanDisk, because it deals only in NAND chips-- the most stable of all chip types-- which may be in short supply next year, leading to a rise in prices.

As always, and especially now, when there is a lot of talk of a recession, Micron and SanDisk shares will respond chiefly to the guidance for the fourth quarter. UBS estimates that at least in the case of SanDisk, which will report in under a month, it can be sure of an acceleration in sales in the final quarter. This will happen because SanDisk and Toshiba's (OTCPK:TOSBF) Fab 5 has been expanded, and will be able to provide more solutions for smartphones and tablet computers, solutions for which SanDisk continues to experience high demand.

In its latest SEC filing, SanDisk states that, in the second quarter and the first half of 2011, it had a single customer that accounted for 10% and 12% of sales, respectively. UBS believes that the customer in question is Samsung (OTC:SSNLF). Samsung competes with SanDisk, but prefers SanDisk's unique solutions to its own for some of its computers, smartphones, and tablets.

I am waiting patiently for Apple (NASDAQ:AAPL) too to be a 10% customer at SanDisk, but meanwhile, I am adding another leading semiconductor company to the portfolio, one that reported to the SEC in its filings for 2010 that Apple was its largest customer, accounting for 11.1% of sales. The company is Broadcom (BRCM).

Broadcom's second biggest customer last year was Samsung, at 10%, and the company states that its biggest customers will be similarly important ones in 2011 as well. We have to wait until February 2012 for the 2011 annual report in order to know Apple's precise share of the Broadcom sales cake. I am adding Broadcom at this particular point, one the eve of the reporting season, because it is one of the few semiconductor companies to have confirmed its third quarter guidance as early as the beginning of September, at a Citi conference. In addition, it was reported fairly reliably by Bloomberg eleven days ago that the reason that Taiwanese chip maker TSMC (NYSE:TSM) raised it guidance for the current quarter was large orders received from Broadcom and intended for Apple.

Double rival Marvell's sales

Broadcom's quarterly sales are around $2 billion, and its market cap is over $18 billion, both exactly double the corresponding numbers for rival Marvell (MRVL). Both companies are traded at attractive p/e ratios of around 11 for the coming year. Both deal in processors for fixed-line and wireless telecommunications infrastructures, computers, telephones, and smartphones; the differences are that only Marvell is in disk processors, and only Broadcom is in processors for set-top boxes of various kinds.

Like Marvell, Broadcom has a large presence in Israel, but while Marvell achieved this through single, $2.7 billion acquisition, that of Galileo (then a public company) a decade ago, Broadcom has acquired nine privately-held companies here in various fields, out of 50 companies that it has acquired around the world. The most recent large Israeli acquisition was Provigent, in April, for $314 million, an acquisition that expanded Broadcom's offering in solutions for cellular network infrastructures, most of which are switching to LTE.

Perhaps the large proportion of its acquisitions that have been made in Israel can be attributed to the fact that, for a decade, Broadcom has had an Israeli vice president, Colonel (Res.) Dr. Shlomo Markel, who, although he lives in Israel, reports to company founder and CTO Dr. Henry Samueli, who is responsible for, among other things, mergers and acquisitions, and for setting the company's technological direction, from which future acquisition will naturally derive. Dr. Markel was presumably part of the team that decided on the extraordinarily large acquisition that Broadcom announced this month, that of NetLogic Microsystems (NASDAQ:NETL), for $3.7 billion cash.

Published by Globes [online], Israel business news - - on September 27, 2011 Reprinted on Seeking Alpha with permission; © Copyright of Globes Publisher Itonut (1983) Ltd. 2011