Upside/Downside Scenario For $47 Trefis Price Estimate For Broadcom

Broadcom (NASDAQ:BRCM), a a global leader and innovator in semiconductors for wired and wireless communications, has seen its stock hover in the $33-$39 range in the last one year. However, we are of the view that the market continues to ignore the fundamental outlook of the company, and with a valuation of $47.21, our price estimate stands at a premium greater than 30% to the current market price.

With the wireless connectivity and baseband divisions contributing close to 54% to our price estimate, our view on how the company fairs in these markets significantly shapes our overall valuation. Additionally, a number of recent acquisitions leave scope for variation in our estimates for the infrastructure and broadband business, which roughly accounts for 43% of our price estimate for Broadcom.

We analyze how a variation in market share in these four key segments could impact Broadcom’s overall valuation.

1. Mobile Baseband and Application Processor Market Share: Broadcom’s market share in 2011 stood at 4.4%, a marginal increase from 2010.

2. Broadcom’s Wireless Connectivity Market Share: At 35%, the market share witnessed an increase of 1% from 2010.

3. Infrastructure and Networking Market Share: Broadcom’s market share in this segment was 60% in 2011, a decline of almost 3% from 2010.

4. Broadcom’s Broadband Market Share: Currently at 31%, Broadcom’s market share saw a marginal decline in 2011.

25% Upside Scenarios | $52.61 Price Estimate

1. Broadcom to Benefit from Texas Instruments’ Baseband Exit (+10%):

Historically, Broadcom has lagged behind competitors in baseband and application processor market. But, recently, it came up to #5 position as a result of an increase in its market share from 3% in 2009 to 4.4% in 2011. The development of power-efficient baseband has led to a number of design wins for Broadcom in the recent past. Moreover, the complete exit of TI from the cellular baseband market by the end of this year leaves a gap to be filled. With Broadcom already supplying baseband to Samsung and Nokia, two of the biggest customers for TI, we believe it has a good chance to leverage this gap. Hence we estimate its market share to cross 7% by the end of our forecast period.

If our estimate turns out to be pessimistic and the market share rises to 12%, there could be a 9% upside to our price estimate.

2. Dominant Position in the Wireless Market(+10%):

With its market share up from 28% in 2009 to 35% in 2011, Broadcom has dominated the wireless connectivity market. It continues to outpace competitors in integrated SoC solutions, and has the ability to deliver connectivity solutions at all price points with its broad product lineup. We estimate Broadcom’s market share to marginally increase in 2012, but remain constant thereon for the period under review.

The company has enjoyed major success with its connectivity solutions in cell phones, with presence in the Apple iPad, Samsung Tab and the Motorola Zoom. With Netgear announcing industry’s first 5G Wi-Fi router powered by Broadcom, it recently extended its lead in 5G Wi-Fi solutions as well. There is a possibility that Broadcom not only retains its leadership in the market, but also registers market growth over the years. If  the company manages to increase its market share to 46% by the end of our forecast period, we could see an upside of 9% to our price estimate.

3. Growth in Infrastructure and Networking Market Share (+2%):

After a significant increase in 2010, Broadcom’s market share saw a marginal decline in 2011. With a 60% market share currently, it retains leadership in the infrastructure market. With the recent acquisition of NetLogic, Broadcom has added leading multi-core embedded processor solutions, market leading knowledge-based processors, and unique digital front-end technology for wireless base stations to its portfolio.

We have adjusted Broadcom’s historicals to account for pro-forma ownership of NetLogic, and we expect its market share to remain constant throughout our forecast period. However, if the market share were to rise to 65%, our estimate could see an upside of 2%.

4. Technology Acquisitions to Further Increase Its Broadband Market Share (+3%):

While Broadcom’s broadband market share increased from 30% in 2008 to 32% in 2010, it registered a marginal decline in 2011. However, we expect the share to come back to the 2010 level and remain more or less constant for the period under review. Broadcom’s breadth of offerings and a wide reach give it an edge over competitors. Moreover, we do not expect the company’s exit from blue-ray players and digital television to have a major impact on its market share.

In the recent past, Broadcom made a number of technology acquisitions which can boost its market share. The acquisition of Gigle has given it access to Powerline technology, and the acquisition of Broadlight is expected to extend its successful broadband access business in the fastest-growing segment of passive optical network (PON). If its market share increases to 38%, there will be an upside of 3% to our price estimate.

23% Downside Scenario | $40.54 Price Estimate

1. High Switching Costs in Baseband Might Limit the Increase in Market Share (-5%):

Due to high switching costs in the cellular industry, changing to a different baseband supplier is cumbersome, and most large handset manufacturers preferably look for companies that can supply long-term. This means the opportunity for smaller players to woo a large handset customer in exchange for a couple of dollars off a baseband chip are bleak. In the event that Broadcom’s market share rises to only 4.5% by the end of Trefis forecast period, we could see a 5% downside to our price estimate.

2. Atheros Acquisition by Qualcomm Could Threaten Broadcom’s Dominance in The Wireless Segment (-7%):

Historically, Qualcomm (NASDAQ:QCOM) has held the dominant position in the baseband and application processor market, whereas Broadcom has been the undisputed leader in the wireless segment. However, the Atheros acquisition has put Qualcomm in a better position to offer SOCs that can compete with Broadcom’s offerings. If Qualcomm’s products turn out to be more efficient, it could eat away some of Broadcom’s market share.

If Broadcom’s share in the wireless connectivity market were to fall to 28%, this would mean a 7% downside to our price estimate.

3. Decline in Infrastructure and Networking Market Share (-6%):

If the positive synergies with NetLogic do not come about as expected, our estimated market share might turn out to be too optimistic. If Broadcom’s market share declines to 45%, there would be a 6% downside to our price estimate.

4. Broadcom Might Lose Out on Growing Opportunity in the Television Segment (-4%):

There is growing demand for smart TVs that can integrate Internet capabilities, and hence Broadcom’s strategy to exit from the television processor market at a time when sales of such devices are expected to pick up could backfire.  Exit from this division could mean a lost opportunity for Broadcom, in turn leading to a decline in its market share. A drop in Broadcom’s home entertainment and broadband market share to 22% will lead to a 4% decline in our price estimate.

See our complete analysis for Broadcom

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