I wish the day had more hours in it, there is so much I want to talk about. The week that has just passed (I started writing this on Sept 27th) was full of thrilling news. Tesla had his Battery Day with some big implications for the future of electricity, on the same day China promised to reach net-zero emissions by 2060 (with even bigger implications for just about every industry), and 2 insiders bought shares in chips manufacturers. Because the first 2 events are related in nature, and because it has so many critical implications for my 10 years investing horizon I will start a serie of posts from next week analyzing some of the companies most impacted by this trend, probably building a "Zero Net" portfolio along the way.
Today I will focus on chip makers then, as insider moves are a bit more time sensitive to act upon.
Nvidia and Broadcom saw insider action
You heard it right, it has been some time since Insiders made a move in the Tech sector, so the fact that not one, but three insiders made a move on 2 different chip makers is a big deal. Two directors of Broadcom (AVGO) bought 60k and 37 Million USD of shares each in the past couple of weeks, while another Nvidia´s (NVDA) director bought 224k and 249k USD of shares in the past few weeks.
Update: on December 2020, Nvidia´s CFO bought 100K USD of share for its sons. On March 2021, the same Broadcom Director bought 40K USD more shares of AVGO.
What is Nvidia (NVDA) business about?
87% of Nvidia´s revenues come from the sales of GPU, which are both designed and manufactured by them. GPU was first used to enhance graphical processing for gamers who wanted to play state of the art games, but it has since expanded to every bit of the computer industry where the central processing unit (CPU) needs a "boost", from crypto mining to machine learning model processing.
What is Broadcom (AVGO) business about?
While Nvidia and Broadcom are both in the "semi conductor" industry, their business is quite different. AVGO´s expertise is in radio frequency filters for smartphones and in networking switches, Wi-Fi chips, set-top box chips, enterprise storage chips, and fiber channel switch products. About 25% of Broadcom’s sales come from the high-end smartphone space, and Apple accounts for about 20% of its revenues. Much of this revenue is derived from RF filters that enable today’s wireless communication by ensuring the various transmissions and receptions of voice and data streams do not interfere with one another. Premium smartphones used internationally need to filter 2G, 3G, 4G, 5G, Wi-Fi, and Bluetooth signals. Consequently, today’s smartphones need 30-40 filters each,with future devices likely requiring even more as 5G gets more massive. So while Nvidia provides the sheer power behind processing Artificial Intelligence, Broadcom makes the exchange of the next generation wireless data (WIFI 6 and 5G) possible.
How are Nvidia and Broadcom doing on their fundamentals?
- Nvidia: 👎 SimplyWall.st´s discounted cash flow model suggests a fair value of 180 USD, about -65% from today´s price, which would makes its current evaluation about right. EV-EBITDA is crazy high at 73, both in terms of NVDA´s own benchmark (in the last 10 years it had a median EV-EBITDA of 16) and in terms of the industry median which is around 22.
- Broadcom: 👍 SimplyWall.st´ suggests a fair value of 180 USD, about -15% from today´s price, which would makes its current evaluation about right. EV-EBITDA is at 17, which is average in terms of AVGO´s own benchmark (in the last 10 years it had a median EV-EBITDA of 16) and a good value compared to the industry median of 22.
- Nvidia: 👎 Insignificant at 0.12%
- Broadcom: 👍 Competitive at 3.64% and steadily growing for the past 10 years
- Nvidia: 🤏 NVDA's debt to equity ratio (50%) is high but not that bad considering the crazy growth it has to finance. Debt to equity ratio has increased from 33.4% to 50% over the past 5 years. Debt is well covered by operating cash flow (80.2%), and NVDA earns more interest than it pays, so coverage of interest payments is not a concern. Piotroski score is 4/9 which is average.
- Broadcom: 👎 AVGO's debt to equity ratio (186.4%) is considered high. Debt to equity ratio has increased from 88.1% to 186.4% over the past 5 years. AVGO's debt is well covered by operating cash flow (25.5%), but its interest payments on its debt are not well covered by EBIT (2.4x coverage). Piotroski score is 5/9 which is average.
- Nvidia: 👍 NVDA grew its revenues between 40 and 50% for the past 3 Quarters, its average Revenues growth of the past 3 years is 16.5%, high above the median of its peers at 8.5%. The only Semi-conductor company with higher growth is Broadcom. The best analyst covering the stock mostly agree with a strong buy consensus and set an average price target of 553 USD, about +6% from today´s price.
- Broadcom:👍 AVGO grew its revenue between 1 and 6% in the past 3 Quarters, its average revenue growth of the past 3 years is 19.5%, the highest among its peers. The best analyst average target price is 407 USD, about 16% higher than today´s price, with a strong buy consensus.
Culture & Management
- Nvidia: 👍 Insiders own a little more than 4%, which is good. Glassdoor ratings are also impressive, with a 99% approval rate of its CEO. Plus its purpose is dope "Bringing superhuman capabilities to some of the world's toughest problems".
- Broadcom: 👎 Insiders own less than 2% of the company, which is low. Glassdoor CEO approval rating is low at only 56%. I did not find what Broadcom mission/purpose is.
ESG Risk (exposure to climate change and social risks)
- Nvidia: 👍 Low risk according to Sustainalytics
- Broadcom: 🤏 Medium risk
Moat (how difficult it is to copycat)
- Nvidia: 👍 Network effect exists as the more Nvidia GPUs are out there, the more probable any industry will test their own processes, algorithms and products on NVIDIA GPUs, hence creating a virtual circle in terms of performance and compatibility of NVIDIA´s products. Switching costs are high as once you invest in a chip brand and software, changing it is not that simple, less so in the car industry. Intangibles asset are huge because developing such chips require massive investment in R&D, which has been growing an average 26% for NVIDIA in the past 3 years, plus Nvidia has a first mover advantage.
- Broadcom: 👍 Decent network effect, high switching costs for his customers, low production costs (higher gross profit margin than its peers) and low cost of selling. Just as Nvidia, intangibles asset are huge because of high R&D (about 20% of the company revenues), but is desacelerating as its revenue growth is not as impressive as Nvidia´s.
Sino-American war on Tech, epitomized in the past few weeks by the sale of TikTok, puts the semiconductor industry in a very volatile place. China is said to have prepared a list of US companies to be banned from doing business in and with China, but they are waiting to see the outcome of the US election before releasing it. Both Broadcom and Nvidia could be on that list, because of the critical role they have for the 5G race and the domination of the AI space, respectively. Today about 35% of Broadcom´s revenues come from China, and 25% of Nvidia´s.
Another short term risk is that the newly announced ARM acquisition by Nvidia may be blocked by regulators.
Finally, I see a growing risk of seeing Nvidia´s largest clients such as Alphabet, Amazon and Microsoft designing and manufacturing their own GPU, o "TPU" (Tensoflow Processing Unit) as Alphabet calls it.
As far as Broadcom is concerned, its sales revenues concentration in a few smartphone manufacturers is a concern (20% of its revenues come from Apple).
I am betting on just one these stocks
Both companies are great businesses, with its share of volatility though. But all in all, I see Broadcom too dependent and focused on the smartphone market, with a lot of competitors, while Nvidia has made a huge leap forward out of the video game niche into everything-AI, from self driving cars to Data Centers. For its culture and CEO leadership & vision, I see Nvidia a better buy, even at its current lofty valuation. I already have a small position in Nvidia, but I will be actively looking at market volatilities to add to it, unless Nvidia starts falling out of grace in China. I you do not have an Nvidia position just yet, I suggest you do open one. Broadcom is still a good play if you are more income or dividends focused.
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The author of this post owns shares of Nvidia. The Rookie Investor recommends Nvidia. The Rookie Investor has a disclosure policy.