Broadcom: 15% Hike Likely By 2013

| About: Broadcom Limited (AVGO)

Broadcom Corporation (BRCM) is positioning itself for strong top- and bottom-line growth from wireless device sales. Specifically, the company has catered directly to consumer tastes by combining application capabilities and using less power to prolong battery life.

Most recently, Broadcom announced a new generation of its "combo chips" that integrate Bluetooth, Wi-Fi and FM Radio functionality targeted at consumer mobile devices, such as smartphones and tablets. One of the chip's primary advantages is its lower power consumption, which is essential as manufacturers attempt to balance consumers' demand for thin, attractive design with power efficiency.

With Qualcomm's (NASDAQ:QCOM) competing product - which has superior Wi-Fi technology and the benefit of being included as part of its Snapdragon S4 SoC - available by year's-end, Broadcom's combo chips beat it to the punch and thus are more likely to make it into the next generation of Apple's (NASDAQ:AAPL) popular iPhone, which is expected to be unveiled sometime during the third quarter of 2012. According to iFixit's teardown analysis, Broadcom provided the combo chips for Apple's current iPhone, the 4S.

Apple's orders have been a huge deal for Broadcom: Apple sold over 33 million iPhone units in the first quarter alone, with the iPhone 4s becoming the fastest-selling iPhone model ever.

Moreover, demand for the iPhone 5, which is expected to ship with a larger screen and evolved form-factor, should exceed demand for the iPhone 4s. What's more, Broadcom's chips are already present in the latest generation of Apple's iPad.

Of course, Apple isn't Broadcom's only significant source of orders. Handsets and tablets powered by Google's Android mobile operating system and built by Samsung, Acer, Asus and HTC also use Broadcom's wireless combo chips.

In that regard, Broadcom has been a major beneficiary of the growing demand for smartphones. At the same time, with tablet shipments expected to exceed that of Notebook PCs by 2016, Broadcom finds itself in the unique position of having demand for its product assured for the next several product cycles.

Even then, Broadcom should continue to benefit from sales into the traditional PC market. Its chips are needed to provide networking functionality in traditional desktops while also providing notebooks with Wi-Fi and Bluetooth connectivity. Another big shot in the arm for Broadcom should come from the forthcoming release of Microsoft's Windows 8 (and a follow-up mobile version), which should trigger a ramp-up in the sales of traditional PCs and notebooks, after these saw a 2% jump in the first quarter.

Despite all the good news from it various markets, the ubiquity of Broadcom's chips does lend itself to concerns regarding commoditization and competition from low-cost Chinese manufacturers.

'AC' Wi-Fi Standard

Broadcom needs to keep innovating to higher standards to stay steps ahead of generic competition. This is the reason that the very young 'ac' Wi-Fi standard is critical to Broadcom's future. The new standard brings the speed of wireless connections at a par with traditional wired connections at 1 Gigabit, which is why Wi-Fi 'ac' is also called 'Gigabit Wi-Fi.'

In practice, what this technology does is it allows for the faster transfer of large files - such as movies - over a wireless connection. This would open up a new class of wireless-enabled products, such as very high-speed Wi-Fi televisions that can stream videos from home media servers or even smartphones, rendering the physical transfer of files through mobile storage devices superfluous, unlike today, when the Wi-Fi 'n' standard is a bottleneck for data.

It doesn't end there, of course; this new technology also has practical applications in business for companies requiring the wireless back up of large database files to a hybrid-cloud server. It can also be deployed in data centers to reduce the need for wired connections that consume physical space and require maintenance.

With this technology in-hand, Broadcom will be able to continue moving along the high-end of the wireless ecosystem, even as the 'n' standard becomes the province of volume-producers from China.

Competition with Qualcomm

That said, Broadcom's current challenge is getting its own combo 'ac' product faster to market than Qualcomm. The need to do so is particularly acute in markets like the United States, where Qualcomm's ARM-based mobile systems power smartphones that work on CDMA/LTE networks like Verizon's.

Specifically, once Qualcomm produces its combo ac chips in sufficient quantities, it could prompt smartphone makers such as Apple or HTC to eliminate their Broadcom orders (at least for the U.S. and China markets) since Qualcomm's combo chips will already be built into the same Snapdragon S4 System on a Chip (SoC) that is also expected to have Qualcomm's lower-power 28nm cellular modem. This will allow future devices such as the expected 'iPhone 5 LTE' to work with fewer components, thereby reducing overall power consumption.

Broadcom's disadvantage is that it doesn't have a SoC such as Qualcomm's Snapdragon S4, which would have allowed it to compete for orders. That said, there is some promise for Broadcom in this space: its BCM2835 System SoC powers the Raspberry Pi, which is designed to provide a low-cost alternative PC for schools in the United Kingdom. Success there could eventually lead Broadcom to develop an alternative ARM-based SoC for use in smartphones and tablets.

Market Share Boost Is Likely

Broadcom is the beneficiary of having a broad requirement for its product at a time when wireless communication use is growing geometrically. At the same time, it will be able to buttress its position as a leader in the wireless space, with the impending mass adoption of a new wireless standard, Wi-Fi ac.

As a company, Broadcom is very solid: it has the perfect combination of high levels of liquidity and low levels of debt. It won't necessarily qualify as a "value" stock because of its high Price-Earnings (P/E) ratio of nearly 23x compared to the networking equipment industry's P/E of 14 times - as well as its low 1.3% dividend yield. Yet it more than makes up for it with its high sales growth rates of nearly 16% -- more than double the industry's 7%. In short, it's been reinvesting its cash to grow the company.

That said, Broadcom's biggest challenge going forward is finding ways to retain its ubiquity. As it stands, Qualcomm's competing products have the advantage of adding even more to the "combo equation" than Broadcom's own offerings, making them more attractive to Apple.

That said, Apple's products cater more to the high-end of the market. Consumers who don't need the newest technology will be fine with other products, suggesting that there will continue to be strong demand for Broadcom's products, particularly in markets outside the United States and China, where Qualcomm is not entrenched.

Given all this, I believe that Broadcom's share should see at least a 10% to 15% 'pop' in the coming months, as consumers continue to load up on smartphones, tablets and other mobile devices.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.