Semiconductor company Broadcom (AVGO 3.84%) had outstanding results last year compared to many other tech companies; it only produced a loss of 13% in 2022. In comparison, the Technology Select Sector SPDR Fund, an exchange-traded fund that tracks an index of S&P 500 technology stocks, lost 28%, while the whole S&P 500 had an 18.1% loss.
As a result, Broadcom was one of the few tech companies with a better total return than the S&P 500 in 2022.
Considering that the macroeconomic environment is terrible and the chip industry is in the middle of a bad cyclical downturn, it is hard to believe that this company can outperform in this market. Yet, Broadcom bulls think it can continue to do well relative to its peers, even in a recession. Here's why.
The business has a robust free cash flow
The money left over from a company's revenue after it pays all of its financial obligations is the free cash flow (FCF). Companies with poor or negative FCF will eventually lack the ability to maintain operations without raising capital through debt or equity.
The problem is that it is very costly for a company to raise funds in a poor economic environment. And those companies that try will often see their stock fall hard. Therefore, wise investors value FCF more than revenue growth in a terrible economic climate.
The excellent news for Broadcom investors is it has a strong and growing FCF. In the company's fourth-quarter 2022 earnings call, it reported $16.3 billion in FCF, up 23% over the previous year's quarter. In addition, its fiscal 2022 FCF per share increased by 25% year over year.
AVGO Free Cash Flow data by YCharts
The company is confident enough in its FCF to increase the cash it gives back to investors. Accordingly, Broadcom announced in its fourth-quarter 2022 earnings report that it is resuming its share repurchase program for $13 billion while increasing its common stock dividend by 12% each quarter to $4.60 per share for the fiscal year 2023.
Investors often look for stocks like this during a downturn, those capable of raising dividends during bad economic times.
A focus on enterprise and infrastructure
When people say the chip industry is in a downturn, they are referring to chips in consumer items like personal computers or mobile devices. High inflation, rising interest rates, and the threat of recession have lowered consumer demand for many consumer-related devices and services, negatively impacting demand for the chips that go into those devices.
Fortunately for Broadcom, consumer-related chips are only a small part of its business. The company predominantly designs and manufactures semiconductor and software solutions for computing infrastructure and enterprise applications, which continue to be in a bull market. Its products support technologies like cloud computing, cybersecurity, networking, and wireless, which companies consider vital to compete in today's market.
Image source: Broadcom.
Even in a recession, many analysts believe companies will continue prioritizing spending on essential technology like the cloud and cybersecurity. For instance, despite the noise of an impending recession, market research company Gartner still projected at the end of October 2022 that the public cloud would grow 20.7% in 2023, faster than the 18.8% growth it projected for the end of 2022.
The essential nature of many of Broadcom's products makes it recession-resistant, which is a substantial reason many feel comfortable investing in the company in 2023.
The fly in the ointment
One thing that could turn investors off about this company is that it is a serial acquirer. Currently, Broadcom is in the middle of a controversial $61 billion acquisition of VMware, and some investors have mixed feelings about that, as it could weigh the company down with debt.
Additionally, suppose you think this acquisition is an example of Peter Lynch's "diworsification" view that a company that makes too many mergers and acquisitions is risky and can destroy the original business. In that case, you might not like Broadcom.
On the other hand, if you are unconcerned about the company's heavy acquisition strategy and are looking for a growth stock that can outperform in a down market, it is hard to find a stock much better than Broadcom.
