Broadcom’s Hidden Risk: VMware Under Pressure?

Broadcom (AVGO) has become one of the AI trade’s big winners, with the stock up 75% over the past year as investors bet aggressively on its custom AI chips. But beneath the AI narrative, VMware has become the financial backbone supporting that valuation. See a Closer look at AVGO’s software business.

Broadcom has built a software business with exceptional pricing power, capable of pushing through rate increases of 4x to 5x while leaving most customers with limited near-term alternatives. In FY2025, software revenue reached $27 billion, roughly 42% of total sales, growing 26% year-over-year. The segment posted 93% gross margins and close to 80% operating margins, compared to the chip division’s roughly 50% operating margins.

That cash flow matters. While AI chips drive the growth story and investor enthusiasm, the software business supplies the stable, high-margin earnings base underwriting Broadcom’s aggressive AI expansion and premium valuation. Broadcom currently trades at roughly 37x forward earnings, well above peers such as Nvidia (NVDA) at 24x. That multiple rests heavily on the assumption that VMware revenue is durable, recurring, and largely captive. That assumption is now under pressure on multiple fronts.

European Regulatory Pressure

European trade groups have filed formal antitrust complaints alleging that Broadcom’s post-acquisition elimination of perpetual VMware licenses – and forced bundling of products many customers did not previously purchase – drove procurement costs up by as much as tenfold. The immediate risk is procedural. European cloud vendors have requested interim protective measures, which would let the Commission compel Broadcom to roll back subscription mandates before the full investigation concludes. This matters more than the headline. European enforcement typically sets global precedent through the Brussels Effect. Once Broadcom is forced to offer concessions in one major jurisdiction, customers in the US, UK, and Asia immediately demand parity. A fixed fine may be manageable, but the bigger risk is that regulators could force Broadcom to unbundle VMware products, restore legacy licensing options, or reinstate partner access, undermining the economics that justified the acquisition in the first place.

Hyperscaler-Funded Exit Programs

Broadcom’s pricing reset created an opening that the hyperscalers moved quickly to exploit. AWS, Microsoft Azure, and Alphabet’s (GOOG) Google Cloud are actively financing VMware migrations through credits, free professional services, and assessment tooling specifically designed to move workloads off VMware. Azure VMware Solution is increasingly positioned as a transition path to native Azure rather than a permanent destination. This is structurally different from competing against Nutanix or Proxmox. The hyperscalers have both the balance sheet and the strategic motivation to subsidize the exit, because every VMware workload migrated becomes a long-term consumption customer for their own infrastructure. Broadcom is effectively competing against trillion-dollar companies willing to lose money in the short term to win the workload.

The Reference Customer Cascade

The 2026 and 2027 renewal window, when three-year bridge contracts signed after the 2023 acquisition expire, will produce the first real test of customer price tolerance. VMware retention has historically been protected by switching costs – the need for parallel capital expenditure, staff retraining, and the rebuilding of automation workflows. But those costs are as much psychological as practical, and they erode once peer organizations demonstrate successful exits. If large banks, government agencies, and healthcare systems leave VMware, it lowers the perceived execution risk for everyone else. Nutanix, Red Hat OpenShift, and Microsoft are openly courting these reference wins.

That dynamic is sharpest at the top of the market. As part of its post-acquisition restructuring, Broadcom explicitly exited the small and mid-market segment to concentrate on the top 2,000 enterprise accounts. This boosts margins but makes every renewal matter more. Losing 50 of those accounts is materially worse than losing 50,000 smaller ones. The largest customers also carry the most negotiating leverage and the most internal capacity to fund a migration. Churn of even 10% to 15% in this group would materially weaken the recurring revenue narrative.

Your Next Move

For investors who want exposure to the software sector without concentration risk in any single name, the Trefis HQ strategy offers one such approach, having outperformed its blended benchmark (S&P 500, S&P MidCap, and Russell 2000) with over 105% returns since inception. Why did HQ outperform? See HQ performance metrics with five reasons why – for the full story.