Broadcom's AI Strength and VMware Acquisition Drive Positive Outlook: Citi Maintains Buy Rating

Key Metrics for Broadcom

Stock Rating: Buy
Revised Price Target: $1,560.00 (remained unchanged)
Stock Price (June 10, 2024): $1,440.47

Summary Points

• Broadcom's price target is set at $1,560, driven by AI growth and VMware acquisition synergies, reflecting an 8.3% expected share price return.
• AI revenue forecast for FY24 has been raised to over $10 billion, with potential to exceed $11 billion as the third AI customer ramps up.
• Citi expects Broadcom's F2Q24 sales to reach $12.3 billion, driven by AI and software business, with gross margins projected to exceed 74%.

Broadcom's AI Strength and VMware Acquisition Drive Positive Outlook

Broadcom Inc. (AVGO.O) is poised to deliver strong F2Q24 results, driven by robust AI sales and the accretive impact of its VMware acquisition. Citi has reiterated its Buy rating on Broadcom, maintaining a price target of $1,560, which represents an 8.3% expected share price return and a 9.8% total return, including dividends. The investment thesis hinges on the company's ability to capitalize on AI growth and the successful integration of VMware, which is expected to significantly boost EPS.

Revised Price Target Reflects AI and VMware Synergies

Citi's price target of $1,560 is based on a 32x C25 EPS multiple, reflecting a 10% discount to AI peers. This valuation is supported by Broadcom's dominant position in the custom ASIC market, which is projected to reach approximately $40 billion by 2027. The company's AI revenue forecast for FY24 has been raised from $8 billion to over $10 billion, and Citi expects this to be further increased to $11+ billion as the third AI customer ramps up. This upward revision underscores the significant growth potential in Broadcom's AI segment.

As Citi noted, "We reiterate our Buy rating on AVGO given upside from AI strength and EPS accretion from the VMware acquisition."

AI and Software Business Drive Revenue Growth

Broadcom's F2Q24 sales are expected to reach $12.3 billion, up 2% quarter-over-quarter, surpassing the consensus estimate of $12.0 billion. This growth is primarily driven by higher AI sales, which now constitute 22% of FY24 sales. The company's gross margin, including stock-based compensation (SBC), is projected to exceed 74.0%, benefiting from a mix shift towards the software business. For F3Q24, Broadcom is expected to guide revenue to $13.0 billion, up 6% quarter-over-quarter, again above the consensus estimate of $12.7 billion.

Citi's analysis highlights, "We expect AVGO to report gross margin (incl. SBC) above our estimate of 74.0% given the mix shift to the software business."

VMware Acquisition Enhances Earnings Potential

The VMware acquisition is a critical component of Broadcom's growth strategy, expected to contribute significantly to EPS accretion. VMware's performance is anticipated to track incrementally better, with no changes to its guidance. The acquisition is expected to drive double-digit growth in VMware's revenue through FY24, as more enterprises expand their AI workloads on-premises via VMware Cloud Foundation. This synergy is a key factor in Broadcom's optimistic earnings outlook.

Outlook

Citi remains bullish on Broadcom's long-term prospects, driven by the strength in its AI business and the accretive impact of the VMware acquisition. However, the firm identifies two primary risks to its price target: customer concentration, particularly with Apple, which accounts for over 20% of Broadcom's sales, and the company's ambitious SG&A target of less than 3% of revenue. Any significant fluctuations in demand from Apple or failure to achieve the SG&A target could pose downside risks to Broadcom's estimates and rating.

Defending their price target, Citi noted, "We believe AVGO will continue to dominate the custom ASIC market, which we forecast to be roughly $40 billion by 2027."