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Broadcom Inc. (NASDAQ:AVGO)
Q3 2018 Earnings Conference Call
Sep. 6, 2018, 5:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Welcome to Broadcom Inc.'s third quarter fiscal year 2018 financial results conference call. At this time, for opening remarks and introductions, I would like to turn the call over to Tom Krause, Chief Financial Officer of Broadcom, Inc. Please go ahead, sir.

Tom Krause -- Chief Financial Officer

Thank you, operator, and good afternoon everyone. Joining me today is Hock Tan, President and CEO of Broadcom. Today, Hock is going to give you a detailed review of our core business and spend some time outlining the industrial logic behind our recently announced acquisition of CA. I will then spend time reviewing our Q3 results and Q4 outlook and most importantly, our financial model and capital allocation policies. Quickly on the formalities.

Today's call will primarily refer to non-GAAP financial results, a reconciliation the US GAAP measures is included in today's press release which is available in the investors' section of our website at Broadcom.com. Information on risks that could cause actual results to differ materially from the forward-looking statements made on this call is also available in today's press release and in our recent SEC filings. This conference call is being webcast live. A recording will be available via telephone playback for one week and archived in the investors' section of our website at Broadcom.com. At this time, I'd like to turn the call over to Hock.

Hock Tan -- Chief Executive Officer

Thank you, Tom. The strength of our business model delivered another quarter of very sustained revenues, strong earnings, and free cash flows. Consolidated net revenue for the third quarter was $5.07 billion, a 13% increase from a year ago and EPS came in at $4.98, a 21% increase from a year ago. While free cash flow at 2.13 billion is 42% of revenues. We have a lot to cover today so let's dive right into the segments. Starting with wired. In the third quarter, wired revenue was $2.3 billion growing 4% year-over-year and this segment represented 45% of our total revenue. Third quarter wired results reflect strong year-on-year growth for both our networking and compute offload businesses driven by robust demand from the cloud data center markets as well as traditional enterprises.

Networking and compute offload represented approximately 60% of our total wired segment in the quarter and grew over 10% year-over-year in the quarter. This is off the back of growing over 15% annually in the second quarter. So this part of the wired segment is doing really well. However, cyclical headwinds in certain parts of our broadband businesses has impacted year-on-year growth for the wired segment. While digital subscriber LAN or DSL demand remains stable, demand for PON fiber to the home in China as well as video access particularly North America has been soft compared to a very strong 2017. As a result, broadband was down year-over-year in the third quarter after been down in Q2 as well.

Turning to the fourth quarter fiscal 2018, we expect networking and compute offload to continue to grow double-digits year-on-year as strong demand from both the cloud and digital enterprise sustain. However, cyclical headwinds we have seen in video access including cable and satellite are persisting into the fourth quarter and as a result, in the fourth quarter, we expect wired to grow only mid-single digits year-on-year. But on the other hand, we are very encouraged by the prospects of fiscal 2019. We expect strong growth in our networking business to continue driven by new product ramps of our Tomahawk 3 Switch and our Jericho2 router platform.

We also continue to see strength from our deep learning A6 with our cloud customers. And we focused broadband video world bottom this fourth quarter as we start to enter an up cycle in 2019. On enterprise, wireless access to we expect to be the first to enable integrated 802.11ax chipsets during this coming year among service providers, enterprises, and homes. Let me now turn to enterprise storage. For the third quarter 2018, enterprise storage revenue was $1.25 billion representing 25% of revenue. As we have experienced and mention in our wired networking businesses, robust enterprise IP spending growth over a 70% year-on-year revenue increased.

This, of course, includes a contribution from brocade but even without brocade storage was robust year-on-year in the third quarter. Looking at the fourth quarter, strong demand from enterprise continues to be good and we expect year-on-year storage revenue growth to accelerate. Moving on now to wireless. In the third quarter, wireless revenue was $1.3 billion, which was flat year-over-year. The wireless segment represented about 25% of our total revenue. In aggregate, wireless revenue in line with our expectations for the third quarter we benefited from the initial seasonal RAM at our North American OEM customer, which was partially offset by anticipated decline in our other large wireless customer.

We expect DRAM in our North America OEM customer to drive wireless revenue to be over 25% sequentially even as it may be down single-digit year-on-year. Let me take some time to put this in perspective. Like all of our franchises, our RS frontend business which makes up roughly half of our wireless segment competes and competes very well based on its technology, leadership, and its ability to deliver different shaded high-performance products generation after every generation. To generate the high returns we expect on our substantial R&D and manufacturing investments, we focus on delivering the best SVOT technology in every new generation of smartphones.

Nonetheless, from time to time -- not that often -- but time to time, the same technology platform used by our customer may extend beyond one generation. And when this happens, it does create an opportunity for our customer to temporarily use lower performance alternatives in selected skews. With the benefit of hindsight, this may be precisely what happened with this 2018 generation. But every indication we have is that the cadence of annual platform upgrades will resume in the upcoming 2019 smartphone generation and we believe we are very well positioned to win back the platform. And with 5G on the horizon, we expect this cadence of annual upgrades to sustain.

As a result, we are maintaining our high level of investment at the market transitions to 5G. Meanwhile, in Wi-Fi, Bluetooth, the transition to 802.11ax continues to keep us in the lead. We believe we are very well positioned to sustain this particular franchise over the next several years and accordingly, we expect to see our wireless revenue returning to double-digit growth in fiscal 2020 following a temporary dip in fiscal 2019. Finally, our last segment: industrial. In the third quarter, the industrial segment represented 5% of total revenues excluding IP licensing, industrial business was up over 10% year-on-year. Distribution resales continue to be strong with double-digit Q3 year-on-year growth.

We expect the demand environment for industrial to remain strong and industrial resale to maintain double-digit year-on-year growth during the fourth quarter. So, in summary, we continue to execute well on our business model. More than half of our consolidated revenue you may note is benefiting from strong clout and enterprise data center spending. This coupled with a seasonal uptick in wireless will drive our focused revenue in the fourth quarter to be $5.4 billion, an increase of 11% from a year ago. In the meantime, our margins continue to expand due to our focus on technology, leadership, and high-performance products.

This is all driving exceptional cash flows, which provide us great flexibility in our capital allocation model of returning cash to shareholders through dividends and share repurchases while enabling us to pursue strategic acquisitions to expand our earnings capacity going forward. Speaking of acquisitions, before I turn this call back to Tom to talk about the financials in greater detail, let me perhaps take a few moments and talk about CA technologies. The number one question we get with CA is why did we choose to buy it? Cut to the chase. We are buying CA because of their customers and their importance to these customers.

CA sells mission-critical software to virtually all of the world's largest enterprises. These are global leaders in key verticals including financial services, telecoms, insurance, healthcare, and retail. And CA does it at a scale fairly unique to the infrastructures of web space. This can only come from long-standing relationships with these customers that spend several decades. In other words, these guys are deeply embedded. Now Broadcom does a lot of business with the cloud companies building the digital economy, the leaders -- Google, Amazon, Microsoft -- are all large customers for us. They are growing rapidly and we are, as you noticed, growing with them.

They use our leading-edge silicon solutions to develop their next-generation data centers to enable many businesses worldwide. On the other hand, when you look at the largest enterprises, which comprise CA key customers, these guys really have limited direct access to our mission-critical technology. In-depth lies what we think is a new and huge opportunity. Just as we have done with hyper clout players, we believe we can bring our compute offload solutions, our Tomahawk switches, Jericho routers, fiber optics, and our server storage connectivity portfolio directly to these same large enterprises that are buying CA software. These launch end users invest tens of billions of dollars on IT infrastructure every year.

Through CA, we believe we have a big doorway to engage strategically with these customers and provide them direct access at very compelling economics to the same leading-edge networking, storage, and computer technology that are used to enable the cloud service providers today. Beyond this industrial logic, I might note CA by itself is a great franchise. Mainframes remain the backbone of the enterprise-computing environment and are relied on to run mission-critical applications. Mainframe process approximate mainframes process approximately 30 billion transactions per day and $7 trillion of credit card payments.

Contrary to popular belief, over the last ten years, mainframe web loads have actually increased 3.5 times driven actually by increasing amounts of data generated with every single transaction. Given mainframe's part of the most important parts of large enterprises, we believe this will remain strong and stable market opportunity for us for a long time. CA's a leader in delivering a suite of mainframe solutions across application development and ITOM too. So bottom line, we actually see this opportunity, a great opportunity I might say, to double down for future growth. With that, let me turn the call over to Tom.

Tom Krause -- Chief Financial Officer

Thank you, Hock, and good afternoon, everyone. My comments today will focus primarily on our non-GAAP results from continuing operations unless otherwise specifically noted. Let me walk through our results for the third quarter of fiscal 2018. Third quarter net revenue was 5.07 billion just ahead of the midpoint of our guidance. Our gross margin from continuing operations was at the high end of our guidance at 67.3% as we benefited from the more favorable product mix in the quarter. Operating expenses were slightly lower than we expected at 874 million driven by lower SGNA.

As a result, operating income from continuing operations for the quarter was 2.54 billion and represented 50.1% of net revenue. Adjusted EBITDA for the quarter was 2.71 billion and represented 53.4% of net revenue. For housekeeping purposes, Q3 depreciation was 129 million in the quarter. Below the line, net interest expense was slightly better than guidance due to higher interest income from our cash deposits. The tax provision was in line at 7% of operating income from continuing operations to 170 million. The diluted share count was 453 million shares and includes the weighted average impact of the stock repurposes completed in the quarter.

As a result, the company delivered $4.98 of EPS in the quarter. This represents a 21% year-on-year growth including the impact of share repurchases. Working capital, excluding cash and cash equivalents, increased approximately 209 million compared to the prior quarter due primarily to an increase in receivables. This increase was driven by seasonally higher shipments in the last month of the quarter as well as the effective distributor consolidation program for the brocade business where we are providing a temporary extension of payment terms to facilitate the consolidation. In addition, cash restructuring expenses were 18 million as we are now at the tail end of the brocade integration.

Finally, we spent 120 million on capital expenditures, which was slightly below expectations. As a result, free cash flow from operations was 2.13 billion or 42% of revenue. This represents a 52% year-over-year growth in free cash flow from operations. In the quarter, we returned $754 million in the form of cash dividends and spent 5.38 billion repurchasing 24 million AVGO shares. We did not pay down any debt in the quarter. We ended the quarter with 4.14 billion of cash, 17.6 billion of total debt, and 438 million fully diluted shares outstanding.

Now let me turn to our non-GAAP guidance for the fourth quarter of the fiscal year 2018. This guidance reflects our current assessment of business conditions and we do not intend to update this guidance. This guidance is for results from continuing operations only. Net revenue was expected to be 5.4 billion plus or minus 75 million. Gross margins expected to be 67% plus or minus 1 percentage point. Operating expenses are estimated to be approximately 394 million. Tax provision is forecasted to be approximately 7%. Net interest expense and others expected to be approximately 125 million. The diluted share count forecast is for 436 million shares. Capex will be approximately 110 million.

Before we open the call for questions, I want to update you on our financial model and capital allocation policy. On the financial model, there has been a lot of questions regarding our long-term growth and concerns about the growth rate of our core semiconductor business. The intention with the CA announcement has not been the signal of change in the growth rate of our core business. On the contrary, we believe our long-term growth rate for the semiconductor segment will remain mid-single digits driven by end market growth and content increases from new product introductions.

As we acquire businesses outside of semiconductors, including brocade and more recently CA, we are taking a conservative approach relative to our internal expectations on revenue growth. The returns we modeled do not require growth to hit our targets but make no mistake; we do expect to grow these businesses. So the important message is that we do not see any fundamental changes in our long-term growth rate. Now, on the capital allocation. Here at Broadcom, we have a set of complementary highly profitable technology franchises that require limited capital expenditures and sit on top of an efficient corporate platform.

This, in turn, spits out a substantial and sustainable base of cash flows that we expect will grow over time. This expected cash flow generation provides us with a lot of flexibility on how we allocate capital to create value for you, the shareholders. We are committed to our policy distributing 50% of our prior fiscal year free cash flow to shareholders in the form of cash dividends. Given our fourth quarter outlook and expected full fiscal year '18 results, we anticipate another substantial increase in the quarterly dividend for calendar 2019.

Now, with the remaining free cash flow, we see the opportunity to do a couple of things. One, we plan to continue to buy back shares. We currently have 6.3 billion left in our 12 billion stock repurchase authorization that extends through the end of FY19. And two, with a focus on maintaining our investment grade credit rating; we believe we also have the cash flow and the borrowing capacity to continue to expand our earnings base through strategic and accretive acquisitions.

Finally, as previously announced, we have cleared HSR with respect to the CA transaction in July. The transaction is still subject to CA shareholder approval and antitrust approvals in the EU and Japan. We expect to close in the fourth calendar quarter of 2018. That concludes my prepared remarks. During the Q&A portion of today's call, we request that you limit yourself to one question each. So with that, operator, could you please open up the call for questions?

Questions and Answers:

Operator

Certainly. Ladies and gentlemen, if you have a question at this time, please press the * and the number 1 key on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, please press the # key.

Again, in the interest of time, we do ask that you please limit yourself to one question before rejoining the queue for any follow-up questions. And to prevent any background noise we also ask that you please press your line on mute once your question has been stated. Thank you. And our first question will come from the line of Tim Arcuri with UBS.

Tim Arcuri -- UBS -- Analyst

I had a question more on the longer-term view of CA and how do you -- sorry with CA and the wireless solutions group and how you view the wireless solutions group from a strategic standpoint given that the CA acquisition is kind of focusing you guys toward more of an infrastructure company.

Hock Tan -- Chief Executive Officer

That is a very interesting question and affords me the opportunity to clarify how we look at -- as Tom calls it -- set of businesses. Our business model is very much focused on putting together a portfolio of what we consider product technology product franchises. And that's not necessarily limited to IT infrastructure or networking or data centers in any particular specifics. As you noticed, we have a range of products that sells into multiple end markets which ranges from wired and even in wired we make a distinction as I said of networking data centers as well as more service provider spending as it relates to carrier access. PON and video delivery.

And that's two sets of end markets by itself. Then we have enterprise storage, which is very data center-centric. You're right, we have wireless, as we define it, is very focused on motilities on smartphones. Where we put out the best latest technology and finally we have industrial. We have a set of products that goes to various industrial product honestly to make the data centers. So they are very disparate, they are very diverse. And they, in our view, lies our strength. It's a very set of diverse product franchises and that's the key to operative word. Franchises. But each of them is very a set of common characteristics.

One is, they operate in niche markets typically. Those on each markets have become mass markets because mass markets have moved over to this niche market. And two, we have the technology and modern technology. We have the leading technology in each of these niche markets and we tend to have the highest market share, too, in each of these end markets. The common thing we do is we all sit on a platform but each of those niches keep investing, and you've seen the level of dollars we invest.

We're investing over $3.2 billion a year just on R&D and product development as you move to each product generation and evolves with technology for use of end customers. And we make sure we lead in each of those. And so, we believe -- to answer your question specifically on wireless. We believe our position in wireless, in those wireless products and markets that we are very much in the lead technology. We lead in market share in the niches range. So it's satisfying, those considerations of our franchises and in those specific markets as you, the client, to switching and routing in data centers where we are very well represented, too. And the benefit of all this particular franchises is they all are enormously profitable and they all continue to grow.

Operator

Thank you. Our next question will come from the line of Pierre Ferragu with New Street Research. Your line is open.

Pierre Ferragu -- New Street Research -- Analyst

Hey, thanks for taking my question. You have demonstrated in the past, a rather unmatched ability to create value from your acquisitions and this is something you've mostly done in the semiconductor industry and that's what you got, what other investors and how you fuse choose so today really feels like we need to better understand the outcome, what outcome can create so much value from acquisition and how it can apply to CA?

In that spirit, my question to the two of you, Hock and Tom, would be: Can you tell us what you guys do like nobody else? What makes you unique at integrating of these nets you acquire and create value from these businesses like nobody else? In particular, like a private equity fund. So instance would not be able to do. And then of course for that, in the context of competition. How are you going to apply this unique capabilities to competition?

Hock Tan -- Chief Executive Officer

Thank you. Interesting question. Let me try to address that if I could. One of which to start off with, we are not private equity by no means, are we? Why? We understand the businesses that operates in Broadcom very well and we operate those businesses. We are not financial investors. The financial performance, the capital allocation that comes out of here is exceptional cash flow we generate of those making those businesses very successful. Happens to be just the end product. We run those businesses and we run them as a group. That's the biggest difference between us and private equity. Very much so.

So where we see some different shaping traits in how we identify and acquire those businesses and then integrate them into a whole as part of Broadcom is simply this. I think we're very aware of our ecosystem, what product lines, what markets are very sustainable, very good. Has potential profit and growth opportunities. And we're very focused. That's a key thing. We are very focused in determining what businesses make sense to invest in and what businesses we do not or should not invest in because it won't generate a return. Which is why, to expand on my reply to the earlier question, today Broadcom comprises of 19 separate product divisions.

Each of them leader in their own right in each of those niche markets they are in. and by being extremely focused on continuing to be the technology and market leader, which basically means delivering generation after generation because one advantage of technology is you keep having to evolve with better and better products that your customers can use and ask for. As you do that, you actually create more and more value to your customers.

And the extension of that is shown by the fact that if you look at our financials over the last several years, we expand our gross margin as a collective whole. A 100 basis points approximately every year. This is the same product. It's not about adding new acquisitions, which accrete the gross margin. If you look organically at the same products that we have three, four, five years ago, you will see that margins expands as a whole. And the reason it can expand is because you're delivering more value to your customers.

And so the real basic thing is be very focused, stick to what you do very well, and focus on where you are very successful and keep doing the same thing. And what we do when we look at acquisitions very simply is we look at companies where the opposite is actually sometimes happening. Where the core business of the company are not so focused on or neglected in many ways. And instead, the bright shiny objects get focused on where the strength of that capital campaign may not be so good. And we basically pull them back to their roots and put them into as part of the overall Broadcom portfolio. That's really what we have.

Operator

Thank you. And our next question comes from the line of William Stein with SunTrust. Your line is open.

William Stein -- SunTrust -- Analyst

Great. Thanks for taking my question. Hock, one of the biggest questions that we've gotten, especially more recently is on the semi-cycle. Now, I understand you have 19 or so franchises that you could argue are more specialized but I think you're certainly exposed to the broader trends in the industry.

And there's an expectation that we're seeing a slowdown in particular in China, potentially related to tariffs. I'm wondering if you can offer a comment as to where you think we are in that cycle, what you see going on in that regard? Thank you.

Hock Tan -- Chief Executive Officer

That's a very, very good question and very timely question. I'm not trying to look out far nor try to basically postulate a vision but what we're seeing now and what we've seen recently, and looking at what we're seeing now, is that the dynamics of the semiconductor space is constantly changing. I know that's an obvious answer but what I mean is by different end markets. We in some ways are fortunate in selling to four, five end markets. Very, very different end markets. And I can tell you over the last two years the behavior of all those five end markets have been very different. So it's hard for me to say how's the whole semiconductor industry because it does cover into a lot of spaces.

And two years ago, I did say that in 2016, 2017 broadband was very strong. But part of the, I guess, of service providers spending level worldwide -- but also in leading to business that kind of cyclical. It's a business on my end that's relatively flat but sustainable and cyclical. So today, as I say, broadband is not so strong anymore. Now, last year, two years ago data center spending was grew OK. This year, 2018, it's extremely strong and continues to look good. So we see different parts of the cycle just like even wireless. Wireless two years ago, three years ago, was great. Content was growing.

Then, what we've seen over the past year is smartphones, literally not just handset but smartphones just kind of flattened out. Totally flattened out. And where cost becomes a concern of more than that demand on innovation becomes limited. And people are now waiting for perhaps a 5G cycle before we see another uptick. And industrial, automotive was booming away for a few years, drives industrial, continues to do so as we seen. Though we've started to see definitely some slow down from where we are, both in automotive and industrial.

So you're seeing ups and downs across different segments, different end markets which uses semiconductors. And I guess our best saving grace here is because we are fairly diversifying, we kind of keep ourselves stable and secure on a total basis as opposed to writing any particular end market upwards or downwards.

Operator

Thank you. And our next question comes from the line of John Pitzer with Credit Suisse. Your line is open.

John Pitzer -- Credit Suisse -- Analyst

Good afternoon, guys, congratulations on the strong results. Hock, maybe the short way to ask my question is, does this operating margin expansion story have a ceiling at some point? But I guess the longer way to ask the question is, I wonder if you could just talk a little bit about how you think about R&D. I think often times investors get fixated on R&D as a percent of revenue and forget that at your scale your absolute dollar spend is just enormous.

Help me understand, is there something about your IP portfolio that gives it more leverage than a typical digital or SOC company? Why are you able to drive so much more leverage out of your R&D line than many of your large peers? Again, as you answer that question, maybe you can talk about is there a ceiling to this up margin?

Hock Tan -- Chief Executive Officer

That's a great question, John, and I'll try to address it. And you're right, it starts with IP. We sell intellectual property except we use productizing. A lot of our business is semiconductors and we sell IP embedded in silicon is perhaps the best way to describe. That's what we do. Except we don't try to license it out. We make it in the products that addresses what our end users, end customers need to use or make into part of a system. It's that intellectual property that drives the technology evolution because we feeding that machine. We keep enhancing, innovating on those technologies in any particular markets we're in.

And as I mentioned, we're 19 of those markets. In each of them, we behave very commonly. We have a team of people and in many cases, or in most cases, I would add we have the best engineers in the world, architects and engineers in the world in the space they are in. we have among the best. And many of these guys together site to IP takes the IP they have developed over the years and innovate to the next better thing. And we keep doing that. And the customers love to have this product because it makes them successful. It makes them more productive. It makes them do things that otherwise they can't do.

And when you do that, with each evolving technology, each evolving generation of technology, you basically get a higher value added to your product. Always do because it gives the customer more value. You get something more and let me give you an example, right? The well-known Tomahawk 3 Switch is a 12.8 terabyte per second throughput switch. The previous generation Tomahawk 2 was only 6.4. Half. So you are able to put into a data center and on top of a direct of service twice the triple. Twice the capacity, twice the bandwidth. Am I able to charge two extra price? Of course not. That's not the way technology works.

But we are able to obviously improve our value simply on the fact that even as dollars our price per terabyte drops on the total 2x terabyte the value of the product goes up for us, for the customer. And it's the demand, the usage consumption increases to use all 12.8 terabyte -- basically the data center scale gets to scale out tremendously at a very cost effective set of economics. And that's an example that applies across all our 19 product lines.

And at the end of it all because of that our ability to offer better products with more value to our customers, our product margin goes up. And it goes up faster than the amount of R&D we pour in -- and we pour in quite a bit -- to sustain that level improvement. And that leads to an improved operating and expanding operating margin. That's what I saw happen.

Operator

Thank you. Our next question comes from the line of Ross Seymour with Deutsche Bank. Your line is open.

Ross Seymour -- Deutsche Bank -- Analyst

Hi, thanks for letting me ask a question. Hock, I wanted to focus on your wired business both in the near term and the long-term. In the near term, you did a great job of explaining some of the puts and takes between that 60-40 split of the fast-growing and slower-growing businesses. But to the extent it's 45% a year business today and we look forward longer term, how should we think about the growth rates of that 60-40 and what does it mean to the profitability of the company either on the gross or operating margin line as the growth rates seem to be so different between those two sub-segments?

Hock Tan -- Chief Executive Officer

Ross thanks for asking that, too. What you say is true right now. In 2016, I loved broadband. It was on an up cycle. You recall there was this summer Olympics floating around, everyone was signing up for cable access. So we were booming. That thing outperforms data centers. Networking, that is. Today, the cycle turns around. We look at broad bands and say; man that thing is dragging me. It's not. When upcycle happens as we fully explained, within the next 12 months also it'll be great again. That's one of the interesting things about it is looking at say, even wired is on wireless. Every one of it -- a lot of these markets both has their ups and downs. Especially if you look at a quarter in much less annually. Quarterly, even worse.

What we have to keep realizing is these are all technology driven applications. End market driven as better and better more in way of technology comes in. It keeps expanding. Some at a slower pace than others. But what it does, it adopts new technology, which allows us to keep adding more value as we progress through it even though it goes through its ups and downs. And the key thing to all this is sustainability. These are all very sustainable end markets. The product we see today may be much better than the product in this end market we saw five years ago and the product five years from now will be much better than product we see today. But believe me, the end use continues.

Operator

Thank you. Our next question comes from the line of Craig Hettenbach with Morgan Stanley. Your line is open.

Craig Hettenbach -- Morgan Stanley -- Analyst

Yes, thank you. Hock, had a question for wireless RS. You play mostly at the high end of the market. Interesting developments in China when I think of some of the local brands there, some impressive specs coming out and as they start to ramp to volume. Just wanted to know if that potentially could change your opportunities set in RS in the China market over time?

Hock Tan -- Chief Executive Officer

A very interesting question and it is again part of the whole franchise model. Yes, because again in the case of wireless we have very unique technology. We have very different shaped technology that allows us to produce very high-performance products in those smartphones. So far, it's been the super high-end smartphones that tends to use our products. And I could see a situation where, especially with 5G coming into the mix with all this difficult bands showing up, where 5G will start running higher than 3 gigahertz spectrum bandwidth.

You start to need better and better RS components, especially in filtering. Very much so in filtering. And we could see that being required across the board in many next phase or next-generation 5G phones. We can see that happening, in which case then it start to expand beyond just high-end phones and you are exactly right in that regard. And that's happened before a few years ago when there was certain bands that were so critical it can only be done using SVOT. Very difficult technology and for a while that was pretty cool.

Operator

Thank you and our next question comes from the line of Blayne Curtis with Barclays. Your line is open.

Blayne Curtis -- Barclays -- Analyst

Hey, thanks for taking my question. I just want to follow-up on that wireless you were talking about cycles in some years better than others. When you look at wireless, sailor, and then Wi-Fi as two components. Just curious, as you look out you mentioned 5G. What's the content story between now and a couple years from now when 5G will be the majority? And then on the Wi-Fi side, if you could just talk about timing of AI?

Hock Tan -- Chief Executive Officer

Okay. It's actually two questions you're asking here so let me try to address them separately. Wi-Fi in many ways is a more stable, predictable, evolution of the technology trends. Today very much so everybody uses the standard Wi-Fi, called 802.11ac, C as in China. That's great. It's definitely an improvement from what it used to be five years or ten years ago but we have a new thing, new protocol coming in called 802.11ax, which I may have commented on, a couple times in my prepared remarks. What AX does is, in a nutshell, it increases, in laymen language, the bandwidth. Huge.

You can imagine easily running data stream wireless from your handset upwards and up ling and down ling way over one gigabyte per second. Even two gigabytes a second is a tera away. What's even more interesting is it's allowed for multiple users simultaneously, which is something that's always been tricky. It requires a lot of technology hardware and software and we are the lead in doing it, as I indicated. We are the first to out weave our products, they're working, we're designing, and we start launching it with multiple partners starting October this year, starting with the retail routers and going on through the enterprise access point and then operators by early next year. So it's a big thing, 802.11ax.

And I bet you in the Spring, you will find at least one big handset makers coming out big time to push 802.11ax and our chips will be right in those flagship phones. It's more predictable and our technology is so strong, I have to say, that we see ourselves in the roadmap of our key customers over the next two, three years. More predictable. As 802.11ax starts to go to a second wave and upgrade and all that. On RS, it's truly not that much different except that what's happening here more than anything else is over every several years, we go from, as you know 2G, GSM we brought to 3G. And then we had 4G that's been going on now for six years.

And now there's a demand for even higher speeds, higher triples, lower latencies, more connections, that's what 5G is all about. Which leads to IoT applications and all those applications we have dreamed about previously. Those are great; it's just that those are very, very difficult to implement and to make it happen, in a nutshell, it will happen as it had happened in the past on 4G. Your phone already runs 3G, 4G, you now have to put in additional components, additional capability to run an additional set of spectrum that runs that is operating in 5G.

And once you start doing that, you'll really have issues of coexistence. You also have to reach out in 5G to frequencies that are much higher, much more difficult to produce, to put in a phone for communications and data communications. And I'm referring to frequencies that go away about 3 gigahertz now as a first step. And as we go into more and more these 5G phones, you have more frequencies, more requirements of components in the same limited space of a phone.

So you start to have to innovate on your components to be able to spit them in a phone, a limited space, lower power, working very well together. In this way, our capabilities, our technology in RS, especially SBA comes into its own. That's why we see this as a sustainable franchise, especially for someone who is able to design, have the IP to design capability components that few people are able to replicate.

Operator

Thank you. Our next question comes from the line of Chris Caso with Raymond James. Your line is open.

Chris Caso -- Raymond James -- Analyst

Yes, thank you. Just a follow-up question with regard to the wireless in some of the prepared comments that you made. You talked about expectations will return to double-digit wireless growth next year. You also talked about being in a position to win back some of the FBAR business. Can you reconcile those two comments and is one dependent on the other for the double-digit growth you're expecting next year? What are the assumptions behind that?

Tom Krause -- Chief Financial Officer

Let me just clarify the prepared remarks. What we were referring to is double-digit growth in 2020 off the back of a dip in 2019. Just to also clarify, we do feel really good about the prospects of winning back the business that we discussed that we had lost in the current generation phone, which would impact the very back half of '19 but really would have an influence on the 2020 growth rates we discussed.

Operator

Thank you. Our next question comes from the line of Harsh Kumar with Piper Jaffray. Your line is open.

Harsh Kumar -- Piper Jaffray -- Analyst

Hey, guys, thank you. First of all, congratulations. Great numbers. Thank you for the clarity on CA. The big question we're getting is, what is Broadcom's expertise in running a software company? This is the first one for you guys in this area.

Could you maybe talk about some of the strengths and challenges you see and maybe some of the plan around running this business? And then also for the non-mainframe business, what kind of margin opportunity do you expect to see from, for example, enterprise solutions?

Hock Tan -- Chief Executive Officer

Well, I love this question. I'm almost tempted to tell you, well, the same reason we put together a bunch of businesses in semiconductor -- what you call semiconductor solutions. On one extremity of semiconductor solutions, I have put simple hardware, semiconductors. And a lot of components. To the extreme, it's not even silicon in some cases. It's nanotechnology; it's indium gallium arsenide that's in lasers.

The more well known, well-recognized silicon SOCs, silicon over chip that we build our routers and switches and deep learning chips on with loads of software, by the way. Lots of software. I have in our networking team; I have as many software engineers as I've hardware engineers. In our video delivery business, which is basically set of box with cable modem, I have more software engineers because there's a ton of different kinds of software that goes into a set of box. Compared to hardware engineers. We understand software.

CA, you're right, is all software. But set of box is if I had to put a number, over 60% software. And if I have to look at a switch, I can make a switch simple programmable and it's called software-defined networks and write a lot of software specs to program this and that's 70% software, 30% hardware or I could hot cold chips as I do in certain other versions of my networking business, which are typically lower in switches. And I would say I have 80% hardware and 20-30% software.

So I go -- it costs a lot of spectrum. One thing is common, is technology. It's technology solutions you provide to your customers who cannot operate very productively, very efficiently, sometimes operate at all without that. And technology solutions that evolve over time and your ability to keep up with customer needs over time. We're very good in many things that we're very good at understanding how to monetize intellectual property in technology. I think that's a common thing we have.

Operator

Thank you. Our next question comes from the line of Matt Ramsay with Cowen. Your line is open.

Matt Ramsay -- Cowen -- Analyst

Thank you very much. Good afternoon. I think it would be helpful for either one of you guys to talk a little bit about the M&A philosophy going forward. I think Tom; you did an excellent job in sort of reiterating the capital return policy. It sort of struck me on a lot of the questions that we got from investors were, just sort of a surprise at the size of the CA deal given some of the prior commentary around maybe focusing on smaller M&A deals.

I just kind of open it up and I'd love to hear some philosophy conversation about how you're thinking about verticals or size or any of those things -- if there's anything that's off limits going forward or we should just think about the capital return policy only and nothing's really off the table in terms of M&A? I'll just open it up at that. Thank you very much.

Tom Krause -- Chief Financial Officer

Good question, Matt. I think the important message is, not much has changed. The business model and what we think drives the returns of the acquisitions that we do is very consistent and we understand and appreciate that CA was a bit of a surprise and certainly larger than maybe what many people expected but the reality is it was the right deal for us at the right time as we think about how to grow the earnings base of the company and how to drive value for shareholders over time. And if you think back, and this follows up on Harsh's question a minute ago.

When we bought LSI, we were getting into what you could argue is a very different business. We had a largely mobile business at Avago; RS business that sustained today has grown organically very rapidly. But we're getting into businesses that include rechanneled SOCs, preamps for hard disc drives. We're getting into enterprise storage and fast connectivity delivering to the server market. And these were all businesses that we frankly didn't know very well but it was the characteristics of those businesses, just to follow on what Hock discussed, in terms of the intellectual property, the barriers to entry, the sustainability of the businesses.

And by focusing on those businesses, that's what allowed us to drive the returns we've seen. And we've obviously expanded from there. We've done smaller transactions but we've also more recently done brocade, the systems business is largely software, it has an end user sales force. It's opened our eyes to end customers and what we can do with those end customers. But more importantly, it's proven to use that we can manage these businesses. The performance of brocade over the last year and we've obviously been quite familiar with the business for more than that time period has been quite exceptional.

And so CA is really an extension of a strategy that we've been pursuing for a number of years and has driven tremendous amount of value for shareholders. So we look to continue to do that as a way to drive value. Obviously, we're gonna deliver on the dividends. Which is really important to us. But we have a lot of financial flexibility off the back of significant and substantial operating cash flows to continue to do buybacks and to do accretive M&A and we see opportunities going forward to do that.

Operator

Thank you. And our next question will come from the line of Edward Snyder with Charter Equity Research. Your line is open.

Edward Snyder -- Charter Equity Research -- Analyst

Thanks a lot, Hock. Thanks for the explanation. One of the things that struck me though in your initial comments when you talked about your new customer base with CA because they do open up a lot of clients that you don't have with your semiconductor business, you were talking about porting into some of your networking and compute solutions, storage solutions to them. But right now, you're selling semiconductors and the number of your big customers you mentioned them, Google, Facebook -- or Google, Amazon, Microsoft -- build their own boxes using your silicon.

I would imagine most of the CA's customers do not do this. So how are you going to port your -- how do you think you could port your semiconductor products to these new customers without getting into boxes or are you thinking about that? Or do you think they'll start up such endeavors to start porting through -- I guess I don't understand how your existing products are gonna be port into these new clients without some sort of intermediary or white box guy or something. Maybe I'm confused here but if you could explain that I'd appreciate it.

Hock Tan -- Chief Executive Officer

Sure. I think that's a very insightful question you came up with and you're right 100%. We're not interested in going to the boxes. You got that right. We don't need to do that. But we have the key ingredients. We have the chips, the engine. So take a box, be it a switch router or any of those things. And we have the software. Or if you want to some of these end users now and you're probably aware of that to some extent. Some of the big operators now are starting to want to build their own data centers and have come to us and ask us to enable them to build their own data centers. And these guys are very aware how the port guys do.

The port guys use our own silicon engine, our own merchant silicon in many cases, some of our initial software as dictated by many cases they even write their own software. And they then go to ODMs in Taiwan, in China, anywhere else. Put a box to built a system, a box. We have to enable that, obviously, we have to. And that's how guys do it. There's no reason why an operator like AT&T with domain 2.0 cannot and in fact execute things on that basis. Or any other large enterprise who use us who have to build out on their own scale, fairly substantial data centers when they can't even do that on their own.

Because the core IT, the core technology, which is the engine, the software, everything else ties together and there are lots of ODM out there, we call that white boxes, I believe. And they have a choice of doing that or continuing to buy from their traditional sources. What we are able to do now with our direct access to CA customers is establish strong strategic and strong engagements with those end users and substantial end-user enterprises or end users who would want to start doing it themselves.

In order to not just do it at low economics, but in order to access directly the latest -- I call it leading edge -- silicon software products, technology, which will enable them to build data centers just as leading edge as what's available in the cloud. But we are seeing the requests coming in and we are basically responding to it, it's not a pipe dream.

Operator

Thank you. And we have time for one more question on today's call. Our last question will come from the line of Romit Shah with Nomura Instinet. Your line is open.

Romit Shah -- Nomura Instinet -- Analyst

Yes, thank you. Thanks for squeezing me in. I definitely appreciate that you guys think very strategically about the deals you do. But I fi just go back and think about your M&A track record over the last several years, it just struck me as being financial deals first and foremost. And Hock, the playbook has been -- at least my impression -- has been you'd flash SGNA by a significant amount, you'd cut R&D while basically raising prices at the same time.

And CA, given the legacy nature of their technology, has a lot of people believing that this business may turn out to not be as sticky as you take the same approach. Could you just comment on that, please? Thank you.

Hock Tan -- Chief Executive Officer

That's a question that's wrong in so many fronts I don't know where to begin. Let me start, let me try. Number one, we have a history of acquisitions and integrating very, very well. Those are not financial deals, great financial returns -- they're not. We operate them under single umbrella, we operate them, I hate to say it, very well but we also operate them very focused. And when you're focused, as I said before, you don't overinvest in R&D. When you focus, you don't overinvest in even selling.

When you run your company in the business model that is simple, you don't need huge amounts of SGNA. It's not about cutting SGNA. It's about simplifying a business process with very strong portfolio, very strong businesses where you focus your spending on R&D to enable you to keep being ahead of the pack. And that's really our model, a business model that we've executed over the last six years to multiple acquisitions. And is also, as I mentioned in an earlier response, how well we integrate into the model which ties to being very focused on what you pick as core businesses you want to keep investing in. And divesting that you don't have. The services that you do not see as been sustainable.

Part of it, as I said, is reach end up the franchise. When we buy companies over the last five, six years, just as many companies and businesses we add in, if you look at the finer print and we have that data, we divest as many businesses out there. Just let it go. Because those are businesses we believe are not sustainable. Are not strong. Are commoditized. And where you don't have an advantage for whatever reasons that comes into play. So in that sense, you might call it financial, I don't. I call it very strategic focus on businesses you can win.

And that's how we look at even looking toward CA, which is an interesting part of what I say because believe me, the mainframe business is very alive and well. Investments are still continuing in the mainframe business. And to put it in simple terms, transactions -- online transactions, a lot of them -- in the largest enterprises in the world cannot run without mainframe. With hardware or the software to use that drive it. So that's basically all I say to that. But obviously, some operating model and the business model and the financials is what come out of a very strong sustainable and secure business model.

Tom Krause -- Chief Financial Officer

Okay. Thank you, everybody, for participating in today's earnings call.

Operator

That concludes Broadcom's conference call for today. You may now disconnect.

Duration: 71 minutes

Call participants:

Tom Krause -- Chief Financial Officer

Hock Tan -- Chief Executive Officer

Tim Arcuri -- UBS -- Analyst

Pierre Ferragu -- New Street Research -- Analyst

William Stein -- SunTrust -- Analyst

John Pitzer -- Credit Suisse -- Analyst

Ross Seymour -- Deutsche Bank -- Analyst

Craig Hettenbach -- Morgan Stanley -- Analyst

Blayne Curtis -- Barclays -- Analyst

Chris Caso -- Raymond James -- Analyst

Harsh Kumar -- Piper Jaffray -- Analyst

Matt Ramsay -- Cowen -- Analyst

Edward Snyder -- Charter Equity Research -- Analyst

Romit Shah -- Nomura Instinet -- Analyst

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