Broadcom More Undervalued Than Qulacomm, But Both "Buys"
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
With many telecom firms seeking consolidation and intense innovation in the smartphone market, investors are naturally eyeing producers in the communications industry. In my view, Broadcom (NASDAQ: BRCM), which is a semiconductors in the business, is more undervalued than Qualcomm (NASDAQ: QCOM). Below, I review the fundamentals of each firm.
Broadcom trades at a respective 25.9x and 11.7x past and forward earnings with a 1.1% dividend yield. It is 30% more volatile than the broader market and is rated around a "buy" on the Street. Analysts forecast EPS growing annually by 15.5% over the next 5 years, which implies 2016 EPS of $4.70. At a 13x multiple, the future value of the stock is $61.10. Discounting backwards by 10% yields a present value roughly in-line with the current market assessment.
Broadcom is generating low double-digit ROE and ROI while maintaining excellent liquidity, as evidenced by the respective quick and current ratios of 2.1x and 2.5x. Profit margins have been very volatile, trended between 10% and 18% since 1Q10, but started to dip in early 2012. Free cash flow over the TTM ending 2Q12 was $1.5B versus - slightly below the same quarter last year but more than $500M more than 2Q10. During 2Q12, Broadcom realized record revenue of $2B, which was up 8% sequentially.
More importantly, the company was able to outperform the semiconductor industry for several reasons. First, there was fast end-market growth driven by PON subscribers, rising smartphone demand, and data center buildouts. Second, market share has been rising in communications processors, wireless connectivity & broadband access, and 3G baseboards. Finally, content per platform is rising from the expanding IP portfolio. Put differently, Broadcom is riding the positive secular trends while cutting costs to improve margins - third quarter margins are expected to be up 200 bps sequentially.
While still somewhat attractive, Qualcomm has lower upside than Broadcom. It trades at a respective 20.7x and 15x past and forward earnings with a dividend yield of 1.6%. The target price is not at a significant premium to the current market assessment, but analysts still rate the stock optimistically at a 1.9 out of 5 where 1 is a "buy".
ROA, ROE, and ROI are in the 15% to 17% range while the quick and current ratios are north of 2.8x. The firm has virtually no debt and thus is fairly safe as an investment. Analysts forecast 14.3% annual EPS growth over the next 5 years, which is lower than what is expected for Broadcom but comes surprisingly at higher multiples.
During the 3Q, management reported strong y-o-y revenue growth of 28%. With adoption of 3G and 4G technologies up across the world, licensees have seen stronger-than-expected device sales through the high-end smartphone market. Qualcomm is ramping up supply of 28 nanometer chipsets despite a reduced outlook for semiconductor volumes. They believe that this ramp up will help meet demand in the presumed active December holiday season. In the meanwhile, demand continues to grow in the new Snapdragon S4 and other 28 nanometer chipsets.
At the same time, the company is well positioned to penetrate emerging markets. 3G growth in these markets have been particularly strong with a 42% y-o-y growth of 8000M 3G connections. Handset opportunities represent a major catalyst for the firm going forward. While I recommend opening a position in the firm, I still believe you should weight your portfolio more towards Broadcom for its lower multiples and greater forecasted growth.
TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of 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.If you have questions about this post or the Fool’s blog network, click here for information.