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August 17, 2000
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Re: Broadcom's Competitive Advantage
Interesting debate, I guess I'm a little late but I didn't even know about it until I saw Spammer's latest response. I've just read over most of the thread and found it quite interesting. Despite the fact that at one point the arguments started to get a little to personal for my liking, overall, it seemed very informative. We had a very similar discussion over on the Network Appliance board concerning NetApp vs EMC. It was one of the most interesting discussions that I've ever seen at The Fool. Here's the link if you're interested, if you follow the thread through you'll find a wealth of great information related to both NAS vs SAN and NetApp vs EMC. One of Network Appliance's founder, Michael Malcolm, sent me an email concerning the discussion.
Here's the link to the first post of the debate:
Anyway, back to the task at hand. I've recently written a soapbox.com report, which contains a section on Broadcom. While conducting my research, I came across some interesting information that was not discussed to any great lengths during this debate. Contrary to popular belief, I believe it is actually Broadcom's long term advantage that is the most appealing part of its business. I worry about the short-term advantage because it relies solely on the company's ability to produce better, faster and cheaper chips. It will be during this period that the company will make or break their long-term competitive position within the market. Spammer's earlier arguments pertaining to Broadcom's susceptibility to competition are valid concerns. Unlike some other communications integrated circuit companies (like PMC-Sierra), Broadcom is not protected in a narrow niche market by inherent barriers to entry. For these other companies, the combination of extremely long design-in cycles coupled with dozens of small individual markets tends to ward of many potential competitors from entering the market. Since these companies rely on so many products, each of which result in only a small percentage of overall revenues, many potential challengers decided that is not worth the extensive R&D efforts needed to challenge the incumbent's position. For instance, a company like Intel is not particularly interested in spending the time and money necessary to develop a large number of small products that will not contribute substantially to either the top or bottom line. Unfortunately, Broadcom does not have this luxury, all of its markets are highly visible and potentially enormous opportunities, characteristics that tend to attract many new participants. Therefore, Broadcom must generate its own barriers to entry.
Execution is the most important word in the company's immediate vocabulary. Since the market's barriers are not significant, Broadcom must differentiate itself from the competition through superior and less expensive products, so far they have been successful in this department. It is throughout this early period that the company will be most susceptible to competitive threats, if another company like Conexant is able to one-up them for only a single generation of products, Broadcom will experience significant erosion in market share.
Despite the apparent negative connotation of the above statement, these potential hurdles have yet to adversely effect the company in any way. The aggressiveness with which they attack segments, combined with incredible foresight and time to market advantages has enabled Broadcom to maintain their dominance in many of the most lucrative opportunities in the communications sector. The Nicholas' insight has been often demonstrated by them being the first to enter the right markets at the right time. They have also shown their ability to successfully penetrate established segments, and take market share away from the early leaders. Another contributing factor has been the active role that Broadcom has taken in the definition of industry standards. For example, the company was a primary contributor in the development of the DOCSIS (Data Over Cable Service Interface Specification) standard for cable modems. In this case, they were able to be the first to market with modems that met the new standard and thus gained the first mover advantage.
As Broadcom continues to grow, it will begin to establish a set of very formidable barriers to entry. It is at this point, several years down the road that the company's significant competitive advantage will begin to emerge. Similar to "execution" being the most important word in Broadcom's immediate vocabulary, two words will define its future success: Integration and Convergence. The convergence of key market segments, like voice and data, TV and Computer, etc, will open an entirely new opportunity for the company. The combination of these technologies will enable Broadcom to leverage its wide ranging expertise to develop highly integrated, high-performance chips. Tinker discussed this integration trend in his response but I thought that I'd expand on his thoughts. Many of the world's most dominant companies have recognized the power of integration and used it to dominate their respective markets. I can still remember last year when I attended the JDS Fitel shareholder meeting to cast my vote on the upcoming merger proposition with Uniphase. The most important argument made by Strauss and the other executives was the possibilities offered by the combined and integrated product offering that would be made possible by the combination of the two companies. As hindsight has clearly shown, JDS was right on the money. The combined JDS Uniphase entity was able to dominate the Optical Component market by offering integrated modules and system-on-a-chip products. This is exactly where Broadcom is headed.
Not only does Broadcom integrate their own products into combined solutions but they have also made many significant strategic acquisitions to gain important technologies and IP that can be integrated with its own offering. This is another area where the it has an advantage over smaller competitors like Conexant (at least on a market value basis). Broadcom is valued at around $55 Billion, around 8X that of Conexant. This high price has enabled Broadcom to use its stock as currency for countless strategic acquisitions. With Conexant's much lower price, these types of purchases are simply not a practical option. An example of this acquisition prowess relates to the encryption technology that the company gained from its recent purchase of BlueSteel Networks or the voice over IP functionality gained through the Hot Haus deal. These features will be incorporated into many of the company's existing products. For instance, Broadcom's residential digital broadband gateway will include the company's cable modem, home networking, Fast Ethernet, Voice over IP and BlueSteel encryption technology. This ability to rapidly integrate additionally functionality and expand its target market is bringing the company closer to its ultimate goal of providing complete system-on-a-chip functionality to its customers. As the combinations continue to increase, fewer semiconductor companies will be able to participate effectively in these markets, leaving Broadcom in a very favorable position.
One last advantage that cannot be overlooked is the quality of management. The company's two founders were among the original architects of the HDSL technology. The engineering design team has over 50 PhDs with unrivalled experience in the communications industry. In addition, 60% of the company's employees are in the research and development area, while approximately 80% of these hold advanced degrees.
In addition to these advantages, Broadcom's most recent acquisitions have positioned Broadcom as the front runner in the race to offer an end to end integrated circuit product portfolio. The companies ability to offer customers like Cisco, Lucent and Nortel a complete LAN/MAN/WAN network solution will give them a significant advantage over other players in the market (ie PMCS, VTSS, AMCC and CNXT).
From my perspective, if Broadcom can make it through the next couple of years they should be well on their way to becoming one of the premier technology companies of the next century. Due to the their overwhelming market dominance in many of its markets, the company's near-term prospects seem more dependent on their own ability to execute than they are on any outside competitive threat. As long as they have competitive products on the market, customers will continue to purchase their proven solutions. It would require a considerable management error to cause any long significant market share erosion. The simple fact that Broadcom's future lies squarely in the hands of one of the best management teams in the industry provides me with a great deal of confidence in both the short-term and the long.
I hope this has been helpful
Check out my "Ten Companies That Will Rule The World" at soapbox.com http://www.soapbox.com/english_exec/v?op=a&a=MEM0000000196
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