My Best Large Cap Stocks Portfolio: Consider Broadcom

| About: Broadcom Limited (AVGO)

Summary

I have developed a large-cap stock selection strategy that has beaten the market by a large margin.

I also focus, in this article, on one of the companies in the portfolio - Broadcom.

The average target price of the top analysts for AVGO is at $174.68, up 13.1% from its March 31 close price, which appears reasonable, in my opinion.

Usually, my investment strategy is based on buying a stock only after studying the company and analyzing the prospects of its business. However, I have also developed some formulas for stock selection through screening and backtesting, and I have created six portfolios based on those formulas. One of those formulas has turned to be very successful with my real money, and in this article, I describe that strategy. In this article, I also focus on one of the companies in the portfolio Broadcom Limited (NASDAQ:AVGO).

The strategy is based on ranking stocks. A Ranking system sorts stocks from best to worst based on a set of weighted factors. Portfolio123 has a powerful ranking system that allows the user to create complex formulas according to many different criteria. They also have highly useful several groups of pre-built ranking systems; I used one of them the "ValueSheet" in my strategy.

The"ValueSheet" ranking system is quite complex, and it takes into account many factors such as valuation ratios, growth rates, profitability ratios, financial strength, asset utilization, technical rank, industry rank and industry leadership, as shown in Portfolio123's chart below.

For my portfolio, I have selected the top twenty S&P 500-ranked stocks by this ranking system. Every four weeks, I rebalance the portfolio by replacing the stocks whose ranks have deteriorated with new stocks with a higher rank. I started this strategy, with real money, on August 8, 2014. The strategy has given a net gain after commission expenses of 15.28% until March 31 while the S&P 500 index has increased only 6.63% during that period, as shown in Portfolio123's table and chart below. In retrospect, I wish I had put more money in this portfolio.

The current holdings of the portfolio is shown in the table below.

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Broadcom Limited is the successor to Avago Technologies. Following Avago's acquisition of Broadcom Corporation on February 1, 2016, Broadcom Limited became the ultimate parent company of Avago and BRCM. On March 03, AVGO reported its first-quarter fiscal 2016 financial results. This was the first release of financial results following the acquisition and relates solely to the predecessor, Avago, for the fiscal periods before the acquisition. In the quarter, AVGO beat EPS expectations by $0.11 (4.8%). Revenue climbed 8% year-over-year to $1.78 billion, exceeding the consensus estimates of $1.75 billion. AVGO showed significant earnings per share surprise in all its last eleven quarters, as shown in the table below.

Source: Yahoo Finance

In the report, Hock Tan, President and CEO of Broadcom, said:

The completion of Avago's acquisition of Broadcom Corporation has created the world's leading diversified communications semiconductor company and marks another major milestone for us. The combined company presents significant opportunities to further increase shareholder returns, with a much larger scale and increased exposure within our attractive end markets that we address through a number of category-leading product franchises.

Although last quarter gross margin of 61% was 1% lower than that of the previous quarter, it was 2.2% higher year-over-year. In my opinion, It is quite impressing that AVGO has been able to achieve a gross margin of above 60% in all its last four quarters, as shown in the chart below.

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Source: company reports

AVGO provided above expectations outlook for the second quarter of the fiscal year 2016, ending May 1, 2016, including projected contributions from the combined Avago and BRCM businesses. Net revenue is expected to be $3.55 billion plus or minus $75 million. Gross margin is expected to be 59% plus or minus one percentage point. Operating expenses are estimated to be approximate $832 million. Taxes are forecasted to be approximate $50 million. Net interest expense and other is expected to be approximate $161 million. The diluted share count forecast is for 443 million shares, and cash balance is expected to be in the range of $1.7 billion to $2 billion.

According to the company, in this second quarter, it is expecting strength on multiple fronts in the wired segment. It is expecting growth to resume in its custom ASIC business, driven by increasing shipments to wireless base stations and the start of a product ramp into the new data center switches. AVGO's standard ASSP [Application-Specific Standard Parts] switching, routing, and physical layer products are seeing an increase from enterprise demand. Broadband carrier access is experiencing strong activity, driven by fiber-to-the-home and DSL deployments in multiple regions, including China. The company also expects its set-top box business also to benefit from some seasonal refresh cycles at key customers. In aggregate, it expects second quarter revenues from wired segment to be approximately 55% of its total revenue from continuing operations. AVGO also noted that it is already pre-building FBAR parts for the iPhone7 ramp which it expects to start shipping in September 2016. It expects at least 20% content growth in the new model.

I see continued high growth prospects for the company. Avago has shown faster growth than the market in the last few years through acquisitions and organic development. After the successful integration of LSI Logic and Emulex to the company, AVGO appears to be ahead of plan in integrating the much larger chip company Broadcom. Based on positive demand trends and an accelerated forecast for operating cost synergies. With this major acquisition, AVGO is even better positioned to service its two major clients Apple (NASDAQ:AAPL) and Samsung (OTC:SSNLF). I believe that the company will achieve its synergy targets given its high track record in integrating acquisitions. The Broadcom acquisition along with Avago's proprietary technologies, strong IP, and diverse customer base in several growth markets position the combined companies for high long-term sales and earnings growth with industry-leading margins.

Valuation

Since the beginning of the year, AVGO's stock is up 6.4% while the S&P 500 Index has increased 0.8%, and the Nasdaq Composite Index has lost 2.7%. Moreover, since the beginning of 2012, AVGO's stock has gained an astounding 396%. In this period, the S&P 500 Index has increased 63.8%, and the Nasdaq Composite Index has risen 86.9%. According to TipRanks, the average target price of the top analysts is at $174.68, up 13.1% from its March 31 close price, which appears reasonable, in my opinion.

AVGO Daily Chart

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AVGO Weekly Chart

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Charts: TradeStation Group, Inc.

AVGO's valuation is very good, the forward P/E is very low at 12.27, and its current ratio is very high at 4.60. Furthermore, its PEG ratio is very low at 0.80.

AVGO has recorded substantial growth in the last few years. The company's annual average sales growth over the last five years was very high at 26.7%, and the average EPS growth was also very high at 24%. The estimated EPS growth for the next year is high at 19.3%, and the average annual estimated EPS growth for the next five years is also high at 18.3%.

In addition, AVGO's Margins, Growth Rates and Return on Capital parameters have been much better than its industry median, its sector median and the S&P 500 median as shown in the tables below.

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Source: Portfolio123

In March 2016, AVGO raised its quarterly dividend by 11.4% to $0.49. The forward annual dividend yield is at 1.27%, and the payout ratio is at only 31.8%. The annual rate of dividend growth over the past three years was very high at 40.4%.

AVGO Dividend Chart

Summary

AVGO delivered another strong quarter financial results; the company showed significant earnings per share surprise in all its last eleven quarters. I see continued high growth prospects for the company. AVGO has shown faster growth than the market in the last few years through acquisitions and organic development, and it appears to be ahead of plan in integrating the large chip company Broadcom. AVGO's valuation is very good, the forward P/E is very low at 12.27, and the PEG ratio is very low at 0.80. The average target price of the top analysts is at $174.68, up 13.1% from its March 31 close price, which appears reasonable, in my opinion.

Disclosure: I am/we are long AMAT, AAPL, AVGO, CTXS, DAL, DRI, GILD, INTU, KIM, KLAC, KORS, LEG, MCHP, MDLZ, MPC, NUE, ORCL, T, TSO, UPS, VZ.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.