3 Reasons Broadcom Corporation's Stock Could Fall

Though Broadcom has done well in recent months, here are three reasons the company's shares could pull back.

Aug 19, 2014 at 1:00PM

Investors in Broadcom (NASDAQ:BRCM) have enjoyed a very nice 28% gain in their investment year to date. Though there are plenty of reasons to be bullish (in fact, I think the stock has much more room to run), there's always both a bullish and a bearish case to be made, and bulls and bears alike benefit from understanding both sides of the story. With that in mind, here are three reasons Broadcom's stock could fall from current levels.

Broadcom's higher end connectivity business could be at risk
When Broadcom announced it would be exiting the cellular business, one of the major concerns voiced by many was that not having a full cellular platform would put it at a disadvantage in its connectivity chip business.

In fact, Broadcom's management -- when it still intended to go after this market -- emphasized how important having the complete platform was in order to be a viable supplier to the low end of the mobile market. Driving this point home is the following statement from CFO Eric Brandt at a Morgan Stanley conference:

On the low-end of the market and that's where I think last year you saw most of the growth on low-end of smartphones, those really are a platform sell. And so to the extent that you are not in the baseband part of that business you are not going to sell the connectivity.

Brcm Connectivity Share

Broadcom had looked forward to increased handset content share with cellular. Source: Broadcom.

Though management has emphasized that it is primarily the low end of the market that is at risk as a result of the cellular divestiture (Broadcom sees this business as being worth between $500 million and $800 million in annual sales) the company's position at the high end of the connectivity chip market -- though impressive -- is not invulnerable.

At the high end of the connectivity chip market, Broadcom's fiercest competitor is Qualcomm, which bought its way into the connectivity business with the acquisition of Atheros in 2011.

Since then, Qualcomm been very aggressively investing in its low-power connectivity technology for mobile devices. Though it has seen little success to date in displacing Broadcom in "hero" devices, Qualcomm has been highly successful at the low end of the market, noting on its recent earnings call that its Wi-Fi chip shipments are on track to grow over 40% this fiscal year.

Further, while Qualcomm today offers discrete connectivity chips alongside its high-end applications processor and modem platforms, even the high end may eventually move to solutions where the connectivity is integrated with the apps processor and modem. In this case, assuming competitive technology from Qualcomm, Broadcom would have a tough time winning that battle.

Infrastructure and Networking could see growth slowdown, slight margin compression
One of the biggest success stories for Broadcom's business has been its Infrastructure and Networking operating segment. The success this year, according to management, has been driven approximately two thirds due to data center related sales and about a third from telecom service providers.

The business has seen pretty phenomenal growth year to date, with the first and second quarters registering 34.6% and 24.5% year-over-year growth, respectively. Further, in the most recent quarter, the operating segment saw operating margins just shy of 40%.

Offsetting this good news, though, is that even in light of the very impressive share gain and secular growth story Broadcom has experienced to date, these kinds of growth rates are unlikely to be sustainable.

Further, with Broadcom's cellular business wound down, management has expressed a desire to increase operating expenses in this division. This is a potential long-term positive in that it could lead to even greater revenue growth down the road, but management has indicated that 40% operating margin in the Infrastructure and Networking business is probably not the long-term target. 

Another risk to Infrastructure and Networking
In addition to a potential slowdown and margin compression in the Infrastructure and Networking group, there's another risk: potentially increased competitive pressures.

Though Broadcom has been outgrowing the market (and CEO Scott McGregor, on the company's most recent call, "expects to continue to outgrow peers"), there have been early signs that the competition may get tougher. For instance, Intel (NASDAQ:INTC) recently picked up LSI's Axxia team and IP, which could, over time, enable Intel to become a very formidable network chip player.

Competing with Marvell, Cavium Networks, and Freescale -- whose combined market capitalizations is actually smaller than Broadcom's -- is one thing. Going up against Intel over the long haul is another thing entirely.

Do keep in mind, though, that Broadcom's technology in this space is top notch, and it would be very difficult for even Intel to put together the breadth and depth of networking related solutions Broadcom has. Further, any direct threat from Intel in a number of areas is likely years away, but this is something long-term investors should keep a close eye on.

Foolish bottom line
Though Broadcom has managed to address quite a lot of what Wall Street seemed to be unhappy with, as with any business, risks and challenges remain. Broadcom will need to move quickly to stay ahead of Qualcomm in its connectivity business, and the secular trends in the Infrastructure and Networking business will need to remain robust (and the competitive environment favorable) in order to drive some of the very impressive profit growth investors have seen in this critical business unit.

Leaked: Apple's next smart device (warning, it may shock you)
Apple recently recruited a secret-development "dream team" to guarantee its newest smart device was kept hidden from the public for as long as possible. But the secret is out, and some early viewers are claiming its everyday impact could trump the iPod, iPhone, and the iPad. In fact, ABI Research predicts 485 million of this type of device will be sold per year. But one small company makes Apple's gadget possible. And its stock price has nearly unlimited room to run for early, in-the-know investors. To be one of them, and see Apple's newest smart gizmo, just click here!

Ashraf Eassa has no position in any stocks mentioned. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple and Qualcomm. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of fool.com.

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to www.fool.com/beginners, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at www.fool.com/podcasts.

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.

Compare Brokers