Broadcom beat across the board with highlights including “just over” $11B in AI revenue expected and networking growth raised to 40% YoY growth, up from “over 35% growth” previously guided. The VMWare acquisition is one of the more intriguing points with management stating: “VMware revenue in Q1 was $2.1 billion, grew to $2.7 billion in Q2 and will accelerate towards a $4 billion per quarter run rate.”
As of now, Broadcom is expected to report over $11 billion in AI revenue this year, up from $10 billion. Additionally, the company beat on the top line and bottom line, and raised full year guidance.
Revenue and EPS:
Note: Broadcom completed the acquisition of VMware on Nov 22, 2023 and 11 months contribution from VMware is expected to be $12B for FY24
Revenue growth of 42.99% beat estimates for growth of 37.5% for revenue of $12.5 billion. Next quarter, Broadcom is expected to report revenue of $12.7 billion for growth of 43%.
For the fiscal year, the company is expected to report $51 billion in revenue for growth of 42.4%, up from a guide for $50 billion last quarter.
Adjusted EPS of $10.96 beat estimates of $10.84, which was flat QoQ yet was up $10.32 in the year ago quarter. Next quarter’s adjusted EPS is expected to be $11.90, for growth of 13%. GAAP EPS is lower than usual for Broadcom at $4.42 due to costs associated with the VMW acquisition. Per the CFO: “For modeling purposes, please keep in mind that GAAP net income and cash flows in fiscal year 2024 are impacted by restructuring and integration-related cash costs due to the VMware acquisition.”
Adjusted EBITDA was $7.4 billion, up from $7.15 billion last quarter. Adjusted EBITDA margin is 59.5% with management raising the guide for FY2024 to 61%, up from 60% previously guided. This is down from FY2023, which was 65% without VMWare.
Margins:
Margins expanded across the board with operating margin expanded 633 basis points QoQ. Per our pre-earnings writeup: “The merger integration process is expected to take a year and will initially have a drag on profit margins due to transition costs and VMware's lower margin profile. However, cost-cutting measures and merger synergies are anticipated to improve margins in the long term.”
- Gross Margin of 62.27% increased QoQ from 61.66% although high 60% is more typical. This led to gross profit of $7.78 billion.
- Adjusted gross margin of 76.2% expanded 84 basis points for adjusted gross profit of $9.51 billion.
- GAAP operating margin of 23.74% expanded from 17.41% for operating income of $2.12 billion. This is typically in the mid-40% with the lower OPM being from costs associated with the VMW acquisition.
- Adjusted operating margin of 57.3% was up 20 bps QoQ from 57.1% for adjusted operating profits of $7.14 billion. This is typically in the low 60-percent range.
- Net margin of 16.99% is up 591 basis points for $2.12 billion in net income. This is typically in the high 30% range.
- Adjusted net margin was 43.20% down 73 basis points for adjusted net income of $5.4 billion.
Cash:
Broadcom reported operating cash flow of $4.58 billion for OCF margin of 36.7%. Free cash flow of $4.45 billion represents a margin of 35.6%. The company has $9.8 billion in cash on the balance sheet and $74 billion in debt. This is up from $39 billion in debt two quarters ago due to the VMWare acquisition.
The company paid $2.4B in cash dividends based on a quarterly dividend of $5.25 per share. The company repaid $2B in debt in the quarter. Last quarter, the company stated they intend to continue paying $2 billion on the floating rate debt every quarter this year. Even though Broadcom has a high cash flow margin, the high debt is not ideal. You can find more details about the floating rate in our pre-earnings writeup.
Days sales outstanding is 40 days, down from 41 days last quarter. Inventory is at $1.8 billion compared to $1.9 billion last quarter.
Key Segments:
Semiconductor solutions grew 6% YoY to $7.2 billion and infrastructure software grew 175% YoY to $5.28 billion. As stated under the revenue section, 11 months contribution from VMWare is expected to be $12B or about $3.3 billion if we assume all things are equal, which means non-VMWare software revenue was flat. What’s important to monitor is the 15% QoQ growth as the restructuring VMWare is going through is expected to result in accelerating revenue. Last quarter, infrastructure software was $4.6 billion.
Networking revenue also grew 15% QoQ from $3.3 billion to $3.8 billion. This represents YoY growth of 44%. There were some strong statements about networking on the call, primarily this one: “Next year, we expect all mega-scale GPU deployments to be on Ethernet. We expect the strength in AI to continue, and because of that, we now expect networking revenue to grow 40% year-on-year compared to our prior guidance of over 35% growth.”Next year, we expect all mega-scale GPU deployments to be on Ethernet. We expect the strength in AI to continue, and because of that, we now expect networking revenue to grow 40% year-on-year compared to our prior guidance of over 35% growth.”
This quarter, Broadcom reported $3.1 billion in AI revenue with management stating they expect to end the year with “just over $11 billion in AI revenue.” Per discussions in the Q&A, this should be a minimum of $11.6 billion, with management being coy when asked why they weren’t guiding higher given H2 is supposed to be larger than H1: “So you may be right. You may estimate it better than I do, but the general trajectory is getting better. […] That's the best forecast I have at this point, Stacy.”
Server storage connectivity declined (27%) YoY to $824 million, which is a nominal improvement from last quarter when the segment declined (29%) YoY to $887 million. Per management, Q2 is expected to be a bottom in server storage and “we expected a modest recovery in the second half of the year.”
Broadband declined (39%) YoY to $730 million, which is steeper than last quarter when this segment declined (-23%) to $940 million. Broadband is “expected to bottom in H2 with a recovery in 2025.”
Wireless grew 2% YoY to $1.6 billion but was down QoQ due to seasonality. The company expects FY2024 to be flat this year.
Per a Bloomberg report, Apple is expected to replace some of its Broadcom chips with custom chips in 2025. This will reduce the customer concentration of Apple from 20% to 12%-15%.
Note on Valuation:
Broadcom is trading above historic averages with PS ratio prior to earnings of 16 compared to historic 5-year average of 8. The PE Ratio prior to earnings was 52 compared to a historic average of 40. AI semis have been seeing higher-than-usual valuations and where the market settles on this long-term is anyone’s guess, but over the past year or so, the market has given a premium valuation to AI-related semis.
Q&A:
Networking Update:
The statement that: “next year, we expect all mega-scale GPU deployments to be on Ethernet” is when Broadcom saw even stronger price action after hours. This is sooner than most expected. We covered the differences between InfiniBand and Ethernet in our Broadcom writeup here: “Broadcom: Networking/ASICs Giant and Second Largest By AI Revenue.”
That comment is interesting because InfiniBand accounts for over $10 billion in revenue for Nvidia. There were questions on how Broadcom plans to compete with Nvidia, with the CEO pointing out that they’ve been a leader in Ethernet for decades.
Per the opening remarks: “Networking these AI accelerators is very challenging but the technology does exist today. In Broadcom, we have the deepest and broadest understanding of what it takes for complex, large workloads to be scaled out in an AI fabric. Proof in point, 7 of the largest 8 AI clusters in deployment today use Broadcom Ethernet solutions.”
From my perspective, the impetus for the market moving toward Ethernet is to shake up Nvidia’s iron grip on the market, and thus, Broadcom should be a first-place contender. That’s speculative, but a reasonable and investable assumption. Per my previous write-up: “[Benefits of Ethernet]: Large pool of vendors whereas InfiniBand increases dependency on Nvidia. For this reason, AWS and Google Cloud have remained on Ethernet as they prioritize custom silicon.”
In other words, despite being an Nvidia bull, I do not think Spectrum X will take the Ethernet market. I think Broadcom will remain the leader.
Here is the Q&A portion on this topic. We are interested in the second part as it’s understood that ASICs and GPUs do not compete, rather they are going to coexist.
Question
Vivek Arya (Analyst):
Hock, I would appreciate your perspective on the emerging competition between Broadcom and NVIDIA across both accelerators and Ethernet switching. So on the accelerator side, they are going to launch their Blackwell product that many of the same customers that you have a very large position in the custom compute. So I'm curious how you think customers are going to do that allocation decision, just broadly what the visibility is.
And then I think part B of that is as they launch their Spectrum-X Ethernet switch, do you think that poses increasing competition for Broadcom and the Ethernet switching side in AI for next year?
Answer
Hock Tan (Executive):
Very interesting question, Vivek.
On AI accelerators, I think we are operating on a different — to start with scale, much a different model. It is — and on the GPUs, which are the AI accelerator of choice on merchant — in a merchant environment is something that is extremely powerful as a model and it's something that NVIDIA operates in, in a very, very effective manner. We don't even think about competing against them in that space, not in the least. That's where they're very good at and we know where we stand with respect to that.
Now what we do for very selected or selective hyperscalers is if there's a scale and the skills to try to create silicon solutions, which are AI accelerators, to do particular very complex AI workloads, we're happy to use our IP portfolio to create those custom ASIC AI accelerator. So I do not see them as truly competing against each other. And far for me to say I'm trying to position myself to be a competitor on basically GPUs in this market. We're not. We are not a competitor to them. We don't try to be either.
Now on networking, maybe that's different. But again, people may be approaching and they may be approaching it from a different angle. We are, as I indicated all along, very deep in Ethernet as we've been doing Ethernet for over 25 years, Ethernet networking. And we've gone through a lot of market transitions, and we have captured a lot of market transitions from cloud-scale networking to routing and now AI. So it's a natural extension for us to go into AI.
We also recognize that being the AI compute engine of choice in merchants in the ecosystem, which is GPUs, that they are trying to create a platform that is probably end to end very integrated. We take the approach that we don't do those GPUs, but we enable the GPUs to work very well. So if anything else, we supplement and hopefully complement those GPUs with customers who are building bigger and bigger GPU clusters.”
Tomahawk 6 Coming End of 2025:
On the topic of Broadcom’s leadership in Ethernet, this was a key Q&A moment as to how Broadcom intends to stay in the lead on networking:
“Question
Harlan Sur (Analyst)
[…] it's been 2 years since you've introduced Tomahawk 5 product introduction, right, which if I look back historically, means you have silicon and are getting ready to introduce your next-generation 3-nanometer Tomahawk 6 products, which would, I think, puts you 2 to 3 years ahead of your competitors. Can you just give us an update there?
Answer
Hock Tan (Executive)
Harlan, you're pretty insightful there. Yes, we launched Tomahawk 5 '23. So you're right, by late '25, the time we should be coming out with Tomahawk 6, which is the 100-terabit switch, yes.”
VMWare Update:
Management provided a key update on VWM this quarter: “VMware revenue in Q1 was $2.1 billion, grew to $2.7 billion in Q2 and will accelerate towards a $4 billion per quarter run rate. We therefore expect operating margins for VMware to begin to converge towards that of classic Broadcom software by fiscal 2025.”
The restructuring of VMWare has been controversial and bold. Broadcom’s management team terminated partner agreements, laid off thousands of employees and restructured its perpetual licensing terms to narrow its focus from 300,000 customers down to the 10,000 A-list customers that can drive the most revenue. From there, the company forced resellers to reapply and increased pricing for many customers.
To illustrate the overhaul, the CEO stated in the opening remarks: “The integration of VMware is going very well. Since we acquired VMware, we have modernized the product SKUs from over 8,000 disparate SKUs to 4 core product offerings and simplified the go-to-market flow, eliminating a huge amount of channel conflicts.”we have modernized the product SKUs from over 8,000 disparate SKUs to 4 core product offerings and simplified the go-to-market flow, eliminating a huge amount of channel conflicts.”
This was also offered: “We are making good progress in transitioning all VMware products to a subscription licensing model. And since closing the deal, we have actually signed up close to 3,000 of our largest 10,000 customers to enable them to build a self-service virtual private cloud on-prem. Each of these customers typically sign up to a multiyear contract, which we normalize into an annual measure known as annualized booking value or ABV. This metric, ABV, for VMware products accelerated from $1.2 billion in Q1 to $1.9 billion in Q2. For a reference, for the consolidated Broadcom software portfolio, ABV grew from $1.9 billion in Q1 to $2.8 billion over the same period in Q2.”transitioning all VMware products to a subscription licensing model. And since closing the deal, we have actually signed up close to 3,000 of our largest 10,000 customers to enable them to build a self-service virtual private cloud on-prem. Each of these customers typically sign up to a multiyear contract, which we normalize into an annual measure known as annualized booking value or ABV. This metric, ABV, for VMware products accelerated from $1.2 billion in Q1 to $1.9 billion in Q2. For a reference, for the consolidated Broadcom software portfolio, ABV grew from $1.9 billion in Q1 to $2.8 billion over the same period in Q2.”
Custom Silicon Update:
Per Royston’s pre-earnings writeup:
“During its AI Infrastructure Investor meeting held in March, the company announced its third AI ASIC customer. Charlie Kawwas, Broadcom's President, Semiconductor Solutions Group, said, “Well, since you're all here today and you traveled here, we wanted to actually share with you that we actually have a third customer. I don't hear any excitement. Come on. So we're very, very honored and pleased and happy to tell you that third customer is also in the consumer AI space and we are in the ramp phase and we will be shipping products in the next few months to that customer. And this is something that we believe will continue as well over the next few years.”
This is certainly big since the CEO mentioned, “it takes years. It takes a lot of heavy lifting to create that custom silicon because you need to do more than just hardware of silicon to really have a solution for generative…” The company counts Google and Meta as the first two customers and JP Morgan believes that the third could be ByteDance. They also believe that the company has recently won follow-on orders from Google and Meta.
"Overall, we estimate that Google and Meta combined will drive $9B+ in AI ASIC chip revenues for Broadcom this year (Google ~$8B+ and Meta around $500M-$1B), up almost 2.5x over CY23," wrote the analyst. "More importantly, as we said back in 2022, we believe that Meta remains on track to become Broadcom's next multi-billion dollar per year AI ASIC customer potentially starting in CY25." JP Morgan estimates that the AI revenue to be $10 billion to $12 billion for FY2024, driven by the third customer, strong demand for Tomahawk 5 and Jericho 3 switching/routing chipsets and PCIe Gen5/Gen6 switches.
Conclusion:
We are also seeing early shoots on AI software and AI custom silicon. Pick a direction in AI, and if you look closely enough, you’ll see Broadcom is not “standing still.” That’s the CEO’s words, not mine, but I think it perfectly describes an old school networking giant that has managed to innovate and hang with some of the cooler, hipper AI design companies.
Although I have become known for the Nvidia call, the team is working overtime to bring you other AI opportunities. Broadcom is a strong contender and we are pleased to be positioned here ahead of ethernet taking more market share on GPU networking (where InfiniBand is the leader today).
GPU clusters are only going to grow (this was covered last week on the free side). Nvidia will push Spectrum X for its benefits of a tight integration, yet Big Tech may want to resist handing the keys to the kingdom to Nvidia. We will see, but that’s my hunch. Broadcom is number one today on ethernet networking and I don’t think this is going to change.
Pro premium members receive deep-dive research on all the stocks in the portfolio and quarterly earnings kickoff webinars. In addition, the Advanced Market Signals Members receive regular technical and broad market analysis and weekly webinars from our Portfolio Manager, Knox Ridley. We closed Super Micro in early May for an average gain of 275% across all entries and exits. Also, we booked sizable gains in two cybersecurity stocks in April. Learn more here.We closed Super Micro in early May for an average gain of 275% across all entries and exits. Also, we booked sizable gains in two cybersecurity stocks in April. Learn more here.
Recommended Reading: