Broadcom (NASDAQ: AVGO) has been on a monster run over the past year, rising more than 100% since the start of 2024. This rise has propelled it into an exclusive club: the $1 trillion club. While this group is starting to grow, there are still only 11 companies worldwide that exceed the $1 trillion threshold.
Many of these companies are heavily involved in the artificial intelligence (AI) arms race, and Broadcom is no exception. With massive AI spending planned by many tech giants, Broadcom looks primed to benefit. But is that enough to send its stock soaring after March 6?
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Broadcom's custom AI accelerator growth will steer the stock
Summarizing what Broadcom does is incredibly difficult. It has a vast product lineup, ranging from enterprise software to cybersecurity to data center connectivity solutions. However, a few business segments steer the stock, and their continued success is key to Broadcom's current stock price.
First is Broadcom's connectivity switches. Its Tomahawk and Jericho switches are key to data centers, as they direct information flow. In fiscal year (FY) 2024 (ending Nov. 3), sales of these switches grew at around a 300% pace.
Next is Broadcom's custom accelerators. Broadcom has helped AI giants like Amazon (NASDAQ: AMZN) and Meta Platforms (NASDAQ: META) design custom AI accelerators, which are optimized for AI-specific workloads. These devices far outperform Nvidia's (NASDAQ: NVDA) GPUs but are much less flexible in what tasks they can do. Broadcom's CEO estimates that these devices' service addressable market could be between $60 billion and $90 billion in FY 2027, which would be a massive rise from FY 2024's $12.2 billion base.
With Broadcom's FY 2024 revenue totaling $51.5 billion, that's a clear indication that they believe their revenue will more than double by FY 2027, just three years away.
This growth is why investors are excited about Broadcom's stock. Many investors will be watching Broadcom's Q1 results for an update to see how fast these custom accelerators are growing. If there's any slip-up in the growth, it could spell disaster for Broadcom's stock, as it has a premium valuation compared to its peers.
The stock is more expensive than many big tech firms
While investors are clearly excited about Braodcom's prospects, they need to keep in mind that it's just a portion of today's business. In Q4, Broadcom's revenue was $14 billion. Of that total, $4.5 billion came from its networking division, and 76% of that division can be attributed to its custom accelerators and connectivity switches.
If Broadcom's projection of $60 billion to $90 billion in custom accelerator revenue pans out, then that will become the dominant division in Broadcom. But until then, it's still just a fraction of the overall business.
Knowing this helps keep Broadcom's valuation in perspective. The stock is far from cheap, trading at 36 times forward earnings.
AVGO PE Ratio (Forward) data by YCharts
For reference, Nvidia trades at 31 times forward earnings. Because Nvidia will be one of Broadcom's key competitors in the AI computing market, it shows that the market thinks that Broadcom's chances of growing faster than Nvidia are much higher.
So, Broadcom will have to continue posting strong growth in its custom accelerator division to maintain this premium valuation. If it doesn't, don't be surprised if the stock sells off following its March 6 earnings announcement. But if it reports strong growth and predicts a massive 2025 for this division, then don't be surprised if the shares skyrocket after the report.
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Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool's board of directors. John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Keithen Drury has positions in Amazon and Nvidia. The Motley Fool has positions in and recommends Amazon, Meta Platforms, and Nvidia. The Motley Fool recommends Broadcom. The Motley Fool has a disclosure policy.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
