Broadcom Tanks on Inventory Talk

The CEO makes cautionary comments about the fourth quarter.
Author:
Publish date:

Updated from 10:00 a.m. EDT

Broadcom

(BRCM)

shares were sinking 12% a day after the chipmaker warned of a double-digit slide in revenue for the fourth quarter now under way.

Among the biggest problems it cited were an ongoing inventory correction and competitive losses to

Intel

(INTC) - Get Report

in the server chipset business.

Broadcom shares were recently down $3.75 to $26.72.

The news prompted a slew of analysts to sharply chop their earnings estimates, backing off earlier predictions that Broadcom will be able to deliver earnings growth next year. It also led to a downgrade Friday morning, as Pacific Growth Equities analyst Brian Alger dropped his rating to equal weight from overweight.

He cut his EPS expectation for fiscal '04 to $1.21 from $1.33 and, more dramatically, reduced his '05 outlook to $1 from $1.50. His firm hasn't done recent investment banking for Broadcom.

In an interview after the close Thursday, Alger said he was taken aback by Broadcom's report about inventory buildups in areas like digital video recorders and personal video recorders, given other data that suggested those areas were relatively healthy. Nor was he expecting Broadcom to pinpoint significant weakness in the enterprise market.

Needham's Charlie Glavin cut his EPS estimate for the current fiscal year to $1.21 from $1.32, while knocking down his FY05 estimate to $1.06 from $1.43. He has a hold rating on the stock.

In a Friday morning note, he wrote, "We would probably be outright sellers of BRCM post its third-quarter earnings and low fourth-quarter guidance, given its high valuation, but the potential for a first-quarter '05 snapback (given strong October order patterns) should limit the downside."

Though Broadcom didn't give first-quarter guidance, its comments on a recent pickup in October orders and reports of strong end-demand for its customers "seem to imply that BRCM believes revenue would grow in the first quarter -- the question now will be how much," said Glavin. Needham hasn't done recent investment banking for Broadcom.

For its third quarter ended Sept. 30, the Irvine, Calif., communications chip company earned $49 million, or 14 cents a share. That reverses the year-ago loss of $6 million, or 2 cents a share.

Excluding certain costs, latest-quarter earnings jumped to 36 cents a share from 14 cents a year earlier. Pro forma earnings were 2 cents ahead of the Thomson First Call analyst consensus estimate and a penny above second-quarter levels.

Revenue jumped to $646 million, up 52% from year-ago levels and 1% from the prior quarter. The top-line results were in line with Broadcom's own

lowered guidance, which had called for sales to be flat to slightly up from the prior quarter.

In July, before an inventory correction sunk Broadcom along with the rest of the entire chip sector, the company forecast quarterly revenue growth of 5% to 6%.

At the time of its revenue warning in September, Broadcom said two-thirds of the reason for the shortfall was weak sales of satellite and cable set-top boxes, with the remaining one-third due to an inventory buildup in low-end Chinese handsets. Late Thursday, Broadcom executives said its assessment of end market weakness was on target.

In addition, Chief Executive Officer Alan Ross said Broadcom suffered the "first real impact of the long-anticipated decline in our chipset business for servers based on Intel processors."

Back in August 2003, Broadcom

first warned analysts that increasing competition from Intel would put a serious dent in its server chipset business. At the time it said the percent of sales from the division should decline from 28% in 2002 to less than 10% of sales by the last quarter of 2004.

"We predicted a precipitous drop in Serverworks in the second half of 2004. We saw the first increment in the quarter just ended, with revenue decreasing about $10 million from Serverworks," said Chief Financial Officer William Ruehle. He said the division had previously averaged about $75 million in quarterly revenue.

Broadcom is currently at work developing silicon to complement

AMD's

(AMD) - Get Report

well-received Opteron server chip, but doesn't expect to see related revenue until sometime in the first half of 2005.

Despite the pressure on some of its leading business lines in the third quarter, Broadcom said it had seen growth as expected in wireless LAN and Bluetooth revenue.

About 46% of Broadcom's revenue in the period came from enterprise networking, 34% from broadband and 20% from mobile and wireless.

Though the inventory buildup was a major drain on growth, CEO Ross said Broadcom saw record revenue and strong cash generation in the third quarter.

The comments came at the end of a day in which Broadcom shares surged 8% amid optimism about the company's prospects. But the stock slipped in after-hours trading after Ross said Broadcom would see a further slowdown as its customers continue to work off inventory. Compounding the inventory correction, Broadcom told investors to prepare for further declines in its server chipset business.

After the bell, the company guided for overall sales to dive 16% to 18% to a range of $530 million to $540 million. The outlook falls miles below the Street consensus estimate of $655 million.

Though Broadcom didn't provide EPS guidance, analysts had been looking for 34 cents in earnings on the higher revenue outlook.

Of the estimated $110 million reduction in revenue, about $40 million is due to an additional drop in the server chipset business. Another $40 million is due to fallout from customer inventory corrections in the satellite set-top box and personal video recorder business, and the remaining $30 million is from inventory corrections in enterprise networking products.

Despite the abysmal sales dropoff, Broadcom said it had actually seen orders (excluding Serverworks) pick up during the first three weeks of October. Orders are currently at their highest monthly run rate since April, the company said.

Trying to assure analysts on the call that its problems stem from an inventory correction rather than a longer-term demand dropoff, Broadcom executives said the company's major hardware customers had almost all issued guidance for sequential growth in the fourth quarter, which they viewed as a "good leading indicator" for their own business.