With all due respect to famed economist Burton Malkiel, but
stocks don't make a "random walk." His famous book from 1973, A
Random Walk Down
Wall Street
, opined that the stock
market
incorporates all information and there is no such thing as an
overvalued
or undervalued stock. Yet time and again, we've seen perfectly good
companies have their stocks tossed out when investors
indiscriminately sell
shares
. These downdrafts give investors an opportunity to add to their
position in a great company if they already own it, or re-enter
into a position if they've already booked profits in the stock
before.
That's surely the case with chip maker
Broadcom (Nasdaq:
BRCM
)
, which zoomed well higher after I recommended shares
in late December
. The stock, which had traded under $30 when the year ended was on
the cusp of moving into the low $40s in late March.
But the renewed market weakness has forced Broadcom to disgorge
much of its gains. I still see this stock moving into the mid-$40s
-- or higher, and see the pullback as a fresh entry point.
Catalysts galore
It's not enough to simply note that a stock is inexpensive. You
have to find events that will bring investor attention back to a
stock. And Broadcom has plenty of these.
It starts with 802.11ac, which is the name of the newest and
fastest Wi-Fi protocol, enabling computers, smartphones and other
devices to send large streams of data at a very high-speed. Look
for a major upgrade cycle for this Wi-Fi technology to begin in the
next few months, and Broadcom's chips will be at the heart of many
of these devices.
The biggest driver: TV sets. Starting this summer, many new TVs
will be able to act like Internet access devices, streaming
information from wireless routers right onto the screen.
Manufacturers hope this will trigger an upgrade cycle for TVs after
several years of weaker-than-expected sales.
Another key catalyst: Broadcom's systems-on-a-chip approach should
yield
solid results later this year. Smartphone makers want their phones
to be thinner and lighter, while also consuming less power. By
putting a number of capabilities onto one chip, Broadcom has been
able to secure dozens of design wins and should see rising revenue
streams as the next generation of phones hit the market.
But this isn't about just smartphones and TV sets. Broadcom is at
the heart of the entire communications equipment landscape. Its
chips go into wireless base stations and should also play a key
role in upgraded Ethernet and data-transport networks.
Perhaps my top reason to pick up this stock on sell-offs is the
pristine
cash flow statement
. Since I looked at this stock in late December, the company went
on to report
free cash flow
that is even more robust that I thought.
Broadcom has always maintained low costs by outsourcing
manufacturing to other chip foundries), which has enabled the
company to generate a rising tide of free cash flow. In fact,
average capital spending of around $105 million in each of the past
four years is pretty amazing for a company with nearly $8 billion
in sales. The "asset-light"
business model
allows Broadcom to focus its resources among its hundreds of
engineers. The company spent $2 billion in research and development
last year, which sets the stage for further chip innovations in the
years to come.
Risks to Consider:
Chip-making can be fiercely competitive, so rivals may trigger
price wars to defend or take
market share
.
Action to Take -->
The pullback in this stock came at a time when Broadcom delivered
solid first-quarter results and issued guidance above analysts'
forecasts. Whereas analysts had been expecting roughly $1.85
billion sales in the current quarter, Broadcom now says this figure
could be at least $1.9 billion and perhaps even nearly $2 billion.
This tells you the sell-off is more about the market and not about
company-specific concerns. Shares now trade for about 10.5 times
projected 2013 profits. This stock has only rarely gone below 10
times
forward earnings
in the past, and the current multiple has often represented a solid
entry point for investors. History could be repeating itself.
Merrill Lynch notes that Broadcom's peers are valued at between 14
and 20 times forward earnings. The stock would have to shoot up by
about 40% just to get into this neighborhood, which is easily
doable.
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-- David Sterman
David Sterman does not personally hold positions in any
securities mentioned in this article. StreetAuthority LLC does not
hold positions in any securities mentioned in this article.