Since the middle of February, there’s been significant weakness in the technology sector with the Nasdaq down over 10%. The biggest losers have been the frothy parts of the market such as the EV stocks and SPACs whose losses are in the 30 to 50% range.
This isn’t a big surprise given massive speculative gains in many of these stocks in 2020. Many of which reaching bubble proportions. So as the whole industry takes a beating, there are some innocent victims that are getting pushed down to extraordinarily good prices. Such is the case with a fundamentally sound tech stock such as Broadcom (AVGO).
AVGO offers a tantalizing combination of value and growth. It also features an excellent management team that has a consistent track record of introducing successful products, expanding margins, and beating earnings (for 20 straight quarters!). The company also has exposure to some of the fastest-growing parts of the economy such as 5G equipment, infrastructure spending, and consumer spending.
For these reasons, AVGO is my pick for Stock of the Week. Now, let’s dig a little deeper.
In Broadcom’s recent earnings report, the company delivered 14% revenue growth, 26% earnings growth, and issued 2021 guidance above analysts’ expectations. It forecasts 13% revenue growth in its next quarter. Wall Street analysts have also been revising AVGO’s earnings estimates for 2021 and 2022 by 16% and 12%, respectively.
AVGO’s two primary sources of revenue are semiconductors (74%) and infrastructure software (26%). This infrastructure software is used for mainframes, datacenter, and cybersecurity. Notably, this part of the business is growing at a faster rate and comes with higher margins.
Broadcom’s semiconductors are found in all types of equipment including smartphones, PCs, and network equipment. The company is benefitting from a variety of factors such as increased spending on network equipment as mobile operators upgrade their networks to support 5G. Tech sales have been quite strong and will remain strong especially with stimulus checks arriving in the mail later this month. In fact, this is leading to a supply crunch which should lead to more pricing power for AVGO in 2021.
Usually, there’s a tradeoff between growth and value. Not with AVGO. It has a forward PE of 15 which is cheaper than the S&P 500’s forward PE of 22 and the semiconductor industry’s forward PE of 31.
This type of valuation is attractive, because it means the stock has more upside due to the potential for multiple expansion along with earnings growth. Additionally, it provides a greater cushion in the event of downside. This was recently borne out as AVGO remains slightly positive on a YTD basis, while the Nasdaq is negative.
Wall Street analysts are also bullish on AVGO as it has a price target of $516 which implies 21% upside. Further, many top Wall Street analysts are even more bullish. 5 star analyst, Cody Acree of Loop Capital, today reiterated a Buy rating with a $540 target. On Friday, 5 star analyst, Rick Schaffer of Oppenheimer, reiterated a $570 target. Given the strong fundamentals and catalysts, I believe AVGO will realize this price target later this year.
AVGO has an overall rating of B which equates to a Buy rating. This is consistent with its attractive growth and value profile. The POWR Ratings assesses stocks by 118 different factors, each with its own weighting. B-rated stocks have generated a compound annual return of 19.7%. This is more than 175% of the S&P 500’s compounded annual return of 7.1%.
The POWR Ratings also evaluates stocks by different categories. In terms of Stability, AVGO is rated a B. This fits with the company’s consistent track record of topping analysts’ expectations, compounding earnings growth, and entering new markets. The company is a leader in an expanding market.
In terms of Industry Rank, the Semiconductors & Wireless Chip Industry is rated a B. It’s ranked #8 out of 99 industries. Mobile operators are upgrading their wireless networks as 5G technology becomes the standard. This is driving record sales and earnings for the industry and is the primary reason behind its standing.
The recent selloff in technology stocks is a healthy development for the market. We are seeing the frothiest parts of the market punished which is setting us up for the next advance. AVGO is collateral damage in this process and will be one of the first to bounce back once conditions normalize. And just for good measure you get a 3.2% dividend yield. Truly icing on the cake!
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AVGO shares were trading at $421.25 per share on Monday afternoon, down $28.89 (-6.42%). Year-to-date, AVGO has declined -3.79%, versus a 2.10% rise in the benchmark S&P 500 index during the same period.
About the Author: Steve Reitmeister
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