Although Broadcom Inc. (NASDAQ: AVGO) has seen an approximate 4% decline year-to-date, reflecting a broader decline in the NASDAQ index influenced by uncertain macroeconomic conditions, including ongoing tariffs and trade tensions, some of these worries have recently lessened. The landmark trade agreement between the U.S. and U.K., along with the recent 90-day pause in high tariffs between the U.S. and China, indicates a possible change in this situation.
Despite this recent downturn, AVGO stock has achieved considerable long-term growth, rising over 300% since the beginning of 2023. This impressive performance is mainly due to the following factors:
- An enormous 190% rise in the company’s price-to-earnings (P/E) ratio, increasing from 14 in 2022 to the present 41.
- An impressive 61% growth in the company’s adjusted net income, climbing from $16 billion to $26 billion; partially counteracting these positive drivers is:
- A 14% increase in the total number of outstanding shares, which is now at 4.8 billion.
We will explore the details of these factors. While AVGO stock has performed remarkably well, if you are looking for an upside with a smoother experience than an individual stock, consider the High Quality portfolio, which has surpassed the S&P, achieving >91% returns since its inception.
AI and VMware: Powering Broadcom’s Revenue Surge
Broadcom’s remarkable recent performance is significantly due to two main factors: its rapidly growing AI product line and the strategic acquisition of VMware in 2023. This collaboration has instigated a noteworthy 64% rise in Broadcom’s revenue, increasing from $33 billion in 2022 to $55 billion over the last twelve months.
A pivotal element contributing to this growth is the company’s AI revenue, which reached $12.2 billion in the fiscal year 2024, showcasing an impressive 220% year-over-year increase. This growth in AI revenue is propelled by robust market demand for Broadcom’s custom AI accelerators (XPUs) along with its Ethernet products.
Through its extensive suite of networking and storage solutions, cybersecurity offerings, and semiconductor products, Broadcom has strategically aligned itself to make the most of the ongoing generative AI surge.
What’s Driving Broadcom’s Profits?
Broadcom has consistently maintained an adjusted net margin exceeding 45% in recent years. This strong recent profitability is a result of its strategic engagement with the expanding AI market, especially through high-demand custom AI accelerators and networking solutions. The transformative acquisition of VMware has further enhanced revenue and margins by incorporating a substantial infrastructure software component with an emphasis on recurring subscriptions. Alongside continued strength in their core semiconductor business and a constant focus on operational efficiency and strong cash flow generation, these aspects have positioned Broadcom for enduring financial success.
What’s Behind The 3x Rise In Valuation Multiple?
Broadcom’s custom AI accelerators (XPUs) have been a vital factor in the company’s financial transformation and a key element in its improved overall valuation. This effect is evident in Broadcom’s adjusted price-to-earnings (P/E) ratio, which has significantly increased threefold, from 14x in 2022 to 41x at present. This rise in investor enthusiasm was driven by the company’s enhanced financial performance, marked by strong sales growth and higher profitability.
This financial change unfolded against a backdrop of a challenging market environment, particularly the inflation shock of 2022 that resulted in a substantial stock market correction. During this tumultuous period, AVGO stock saw a sharp 36% decline, dropping from its January 2022 peak of $67 to a low of $43 by October 2022. This decline was more significant compared to the S&P 500’s 25.4% peak-to-trough drop. AVGO’s recovery was gradual, only returning to its pre-crisis peak by May 2023, reflecting both the harsh market conditions and the company’s inherent resilience.
But What Next? Is AVGO Stock A Buy At $220?
Currently priced at $220, Broadcom’s stock holds a price-to-earnings (P/E) ratio of 41, based on its trailing adjusted earnings per share of $5.36. This multiple is considered steep, and it is considerably higher than the stock’s three-year average P/E ratio of roughly 30x. Nonetheless, this premium valuation seems warranted due to the company’s substantial opportunities in the rapidly growing AI sector.
These AI-driven developments are anticipated to support sales growth. While the company has demonstrated an average sales growth rate of 24% over the last three years, forecasts for the next three years expect mid-teens average growth. Notably, bottom-line growth is projected to be even more pronounced than the revenue increase.
For long-term investors, any retreat in AVGO stock may signify an opportunity, considering the company’s strong fundamentals and positioning in the AI market. However, those apprehensive about near-term volatility should contemplate suitable strategies, such as the Trefis High Quality (HQ) Portfolio strategy, featuring a selection of 30 stocks, that has a history of comfortably outperforming the S&P 500 over the previous four-year span. Why is that? As a collective, HQ Portfolio stocks have delivered superior returns with reduced risk compared to the benchmark index; less of a roller-coaster experience, as shown in HQ Portfolio performance metrics.