"Broadcom: The New Gorilla on the Block?"---Morning Star
news.morningstar.com
>>>by Jeremy Lopez | 08-25-2000 |
In analyzing technology companies, it's often easy to lose sight of the bigger picture. In fact, the market almost trains us to think this way: Acme Technology Inc. misses earnings expectations by a penny! SELL, SELL, SELL! The stock tanks by 40%. What gives?
As my colleague Pat Dorsey wrote in a recent Technology Bytes column, sometimes it pays to block out the day-to-day rigmarole and just think about how the world is changing. This resonates with a speech I heard back in June by technology guru George Gilder. He emphasized the importance of seeing investments through the lens of a bigger paradigm.
Without going into esoteric psychobabble, by paradigm, I simply mean a framework or series of ideas that one can use to evaluate whether a particular company will make a good or bad investment over time. In the chip sector, I see several trends developing, many of which are being driven by the communication sector. And Broadcom BRCM seems to be emerging as one of the next true gorillas in the chip industry.
Surveying the landscape (or paradigm) specific to communication chips, here's where I think the industry is headed:
...The communication industry will be the primary growth engine in the chip sector for the next few years. Also, large equipment firms like Lucent LU are outsourcing more and more of their chip design.
...Right now the communication chip industry is fairly fragmented, with many small players in small niches. However, the competitive lines between niche players will probably blur, as one company's products overlap into another's territory. In the end, being small probably won't cut it.
...An eventual shakeout will occur between the "haves" and the "have nots." Communication chipmakers that are rich in technology and have an ability to reach several different segments will get richer. Bottom line: A select group of firms will eventually emerge as dominant players.
A Little More Background
To understand why Broadcom may become a gorilla in the chip industry, we must differentiate between the types of end markets that chipmakers supply communication chips to. Think of the communication networks' infrastructure as a series of concentric circles, or layers. For simplicity's sake, I classify the major segments of communications infrastructure into three categories: WANs, LANs, and access equipment. The WAN, or wide-area network, lies at the center and transports voice and data from one geographic location to another. Then access gear carries it over the last mile to homes and businesses. Finally a LAN, or local-area network, moves the voice and data around their ultimate destination, such as an office.
Why Broadcom?
Broadcom is already entrenched in the LAN and access equipment markets. Broadcom is the heavyweight champ of the access layer, with dominant share supplying chips for high-speed cable modems and TV set-top boxes. The firm's strategy and technological reach fit the dynamics of the industry, which is characterized mostly by high-volume, price-sensitive product cycles. Broadcom has already demonstrated an uncanny ability to compete in a very fast-paced market.
Broadcom also knows how to play the LAN sector, which has a lot of the same end-market characteristics of the access layer. The firm was the first out with gigabit Ethernet (an emerging networking standard) products for use over traditional copper lines. This was not technologically easy, and Broadcom is still the only firm able to ship such products in volume.
Three guesses as to which market Broadcom is targeting now. Can you say the WAN, boys and girls? I knew you could.
Over the past several weeks, Broadcom has spent a combined $2.5 billion in stock to buy two private firms, Silicon Spice and Newport Communications, whose products will be mostly targeted at the WAN. Newport gives Broadcom an optical-networking product akin to what Vitesse Semiconductor VTSS and Applied Micro Circuits AMCC are selling to equipment makers like Nortel NT.
Given the traditionally long cycles of WAN equipment, it might be some time before Broadcom can gain a significant presence in optical networking. But there are good reasons why Broadcom should eventually succeed, especially since it can leverage its own credibility and Newport's technology with potential customers.
Scarcity and Abundance
Another common theme of Gilder's is that companies exploiting scarcities over the long run are likely to be very successful. Two things in the chip sector that are becoming increasingly scarce are time and talent. Broadcom is well stacked with talent in management and engineering resources, a factor that will become an increasing barrier to entry for competitors. Meanwhile, Broadcom is also gaining a significant scale advantage when it comes to technology reach. With its stock trading at well over 350 times current earnings, Broadcom also has a pretty valuable currency to continue making acquisitions.
I'm not saying that everyone should call his or her broker and load up on Broadcom right now. After all, at 350 times earnings, the stock is about as risky as it gets. But another thing that is scarce in this tech market is quality, a measure where Broadcom scores very high marks.
Etc.
From the Gratuitous Plug Department: Those who get a kick out of reading about the "big picture" should check out our new Morningstar Industry Reports. Did I mention there's one on semiconductors? <<< |
