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Posted 11/6/98
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Price
86 1/2
Change
+2 1/4
Research Wizard
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As the computing
market moves away
from PCs and toward
networks, one of the
companies with the
most to gain appears
to be Broadcom.
Company Focus
Broadcom: Top chipmaker for network era?
Key technology for cable modems, ADSL and Ethernet make
the young semiconductor company look like the Intel of the
2000s. As digital communications explodes, it's one
high-priced stock that could be worth the money.
By Sal Habash
Many potential customers of Dell Computer (DELL) and
Compaq Computer (CPQ) have been wondering lately why
they should spend top dollar for a high-performance PC if they
spend most of their time surfing the Web rather than
crunching differential equations.
Lower-end machines have become popular because the
computing experience no longer is being limited by the speed
of the computer. The bottleneck has moved away from the
processor toward the network; there's not a darn thing a
450-megahertz processor can do about slow Web surfing if
it's connected to the Internet by a 56K modem.
New digital technologies are
coming online in an effort to
alleviate the network
bottleneck -- resulting in high
bandwidth into homes and
small offices via innovations
such as cable modems and a
new phone transmission technology called ADSL. We are on
the dawn of a new age, "shifting from the era of processing
dominated by Intel (INTC) to the era of broadband
transmission," says CS First Boston analyst Paul Weinstein.
As the computing market moves away from PCs and toward
networks, one of the companies with the most to gain
appears to be communications chipmaker Broadcom
(BRCM). The company's technology can be used across all
type of networks (LANs, cable, telephony and satellite) and is
the heart of products for networking, digital cable set-top
boxes, cable modems, xDSL and broadcast satellite.
According to Mark Edelstone, semiconductor analyst at
Morgan Stanley Dean Witter, Broadcom may be the "most
powerful chipmaker in terms of technology and execution
since Intel." Although he emphasizes that this is very different
from calling Broadcom "the next Intel," that hasn't prevented
other enthusiastic supporters from doing so.
Replacing several chips with just one
Broadcom's strength is its ability to integrate more functions
on a single piece of silicon -- meaning that Broadcom is able
to replace several separate chips with just one. Elliott
Kopstein, an analyst at BT Alex. Brown, says that silicon
"can account for as much as 75% of a total system's cost."
His findings show that Broadcom's effect of reducing the
number of chips within a switch or modem can lower costs by
as much as 60%. System vendors love what Broadcom's
"integrated silicon solutions" can do for their cost and margin
structures, especially because their industries are subject to
pricing competition.
Based in Irvine, Calif., and staffed with a pack of former
research professors, Broadcom has forged design wins with
the most-important customers in each of its key markets. Its
integrated circuits are incorporated into every major
networking, cable set-top box and cable modem supplier in
the industry. Major customers include: Cisco Systems
(CSCO), Northern Telecom (NT) and 3Com (COMS) in
networking; General Instrument (GIC) and Scientific-Atlanta
(SFA) in set-top boxes; and General Instrument/NextLevel,
Scientific Atlanta, Motorola (MOT), 3Com, Nortel and Cisco in
cable modems. It's hard to argue with that customer list, and
Broadcom likes to take it a step further, calling them
"partners."
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These partners/customers are attracted to Broadcom's
convincing value proposition. Not only will they lower costs by
embedding fewer chips within their products, but Broadcom's
design expertise is said to yield excellent performance,
speed time-to-market for new products and allow system
vendors to allocate resources elsewhere.
The company currently is enjoying strong momentum
throughout its product lines. But many apt competitors are
determined to succeed in what is sure to be a lucrative
industry. Analysts agree that Ethernet networking is
Broadcom's most competitive segment, with scrappy Level
One Communications (LEVL) and giant Lucent Technologies
(LU) posing the most serious threats. Other major companies
are watching Broadcom's markets, including Texas
Instruments (TXN), National Semiconductor (NSM), Rockwell
International (ROK), Advanced Micro Devices (AMD) and
STMicroelectronics (STM).
That's an intimidating list of competitors, but Broadcom says
it's up to the challenge. "We intend to remain focused on our
technology and execution. Our strategy is to offer the best
and lowest-risk solutions for our customers," says chief
executive Henry Nicholas. And "Broadcom will remain the
pricing leader," he says.
Trading high after months of volatility
The Broadcom story is certainly no secret on Wall Street. In
what has been one of the most successful initial public
offerings of the year, Broadcom was priced at $24 per share
on April 21. Partly fueled by Cisco's decision to purchase
500,000 shares on the deal, and with Intel backing the
company since its venture capital stages, the stock
immediately opened at 62. After reaching a high of 70,
Broadcom shares closed that spectacular day at 53 5/8. After
months of intense volatility, the stock now trades in the
mid-80s, slightly below its all-time high of 89 3/4.
When the discussion turns to valuation, analysts don't mince
words: Broadcom's market capitalization is $4 billion, and no
amount of financial gymnastics can make the stock seem
anything less than expensive. Broadcom is trading at 13
times 1999 revenue projections of $300 million and 96 times
the Zacks consensus earnings-per-share forecast of 86
cents. "The market is obviously expecting material upside [to
the numbers] and discounting Broadcom as a strong Internet
play," says CS First Boston's Weinstein.
Broadcom already has demonstrated hypergrowth and
upside. Third-quarter revenues were $52.5 million, up a
whopping 467% from the $9.3 million reported in the year-ago
period. Net income came in at $8.2 million, compared with a
net loss of $1.8 million. Earnings per share were 17 cents;
13% above the Zacks consensus estimate of 15 cents.
Broadcom's growth is expected to moderate at a
compounded annual rate of 50% over the next five years.
Interestingly, the key driver is that different markets should
offer staggered growth explosions. Right now, the biggest
contributors are in the Ethernet and digital set-top box
segments. Elliott predicts that over the next several years,
cable modems should boom, followed by ADSL and then
satellite revenues.
Actual results, of course, are likely to vary wildly since the
nascent markets that Broadcom targets are difficult to
forecast. Yet there is room for serious upside, as analyst
forecasts are cautious for the ramp-up for each of Broadcom's
segments.
Company Focus
Recent articles:
• Can Toys R Us find
happiness again? by
Risa E. Kaplan, 10/30/98
• Medtronic's in a
rhythm by George S. Mack,
10/23/98
• Despite static, Nokia
making the right calls
by Mike Robbins, 10/16/98
more...
On one hand, the open-endedness and tremendous potential
of Broadcom has led to Wall Street's high valuation of the
company. However, "these are embryonic markets," says
Edelstone. Broadcom is in the lead but the field is wide open.
Another key factor is out of Broadcom's control: The cable
and telephone service companies, which have been promising
greater bandwidth for many years, are just barely beginning to
move. While the recent merger announcement from AT&T (T)
and TCI (TCOMA) has reinvigorated both telco and cable
service providers, the companies are notorious for
over-promising and under-delivering.
Analysts also point to Broadcom's customer concentration
as a potential negative. According to Weinstein, Broadcom's
top five customers represented 86% of revenues in the
second quarter of this year. A problem at any one of these
vendors could adversely affect Broadcom's short-term results.
All caution aside, everyone continues to revert to the great
truths: Broadband transmission is coming and demand for it
is insatiable. The "era of processing" made billionaires in
Silicon Valley. The "era of broadband transmission" is bound
to create tremendous wealth as well. In regard to Broadcom,
that leads to an interesting math exercise: If the company
really can grow earnings at a compounded annual rate of 50%
for the next five years, will a long-term investor make money
buying Broadcom stock at 96 times earnings today? We'll
check back in 2003 to let you know.
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Anyone care to comment on where SRCM fits into this story? I didn't see the company mentioned for some strange reason.
Have fun,
Phil |
