Stock of the Week
Nasdaq Symbol: AVGO
Price as of 9/18: $127.59
Thursday the 17th felt like an Inflection point. The major averages pushed right up to the resistance levels ahead the Fed meeting. After the Fed left rates unchanged the averages initially broke resistance only to falter by the close. A nearly 2% decline on Friday put us solidly back below resistance with the real chance of retesting the August lows or worse in the coming weeks or months. If this scenario plays out investors will want to tread cautiously in the short term. One sector to continue to avoid is energy and anything commodity related. But this is a good time to make a shopping list. A lot of blue chips and the stocks we've recently highlighted still look good for the long term. This week we'll light a stock in a sector out of favor. The stock of the week is Avago Technologies. Avago is in the semiconductor space. Most chip stocks are working through inventory glut right now, but Avago which sells their chips to Apple for their iphones continues to see robust growth. On top of that Avago recently purchased chip company Broadcom which the analyst community believes will become accretive to earnings over the coming years producing another catalyst for earnings growth. With some analyst price targets as high as $200, Avago looks like a great stock for price appreciation once the correction is over.
Back on August 26th the Singapore-based company reported adjusted earnings of $2.24 per share beating estimates of $2.13 a share. Revenue of $1.74 billion was in line with Street forecasts. For the coming quarter Avago reiterated guidance. Nothing too exciting about the quarter, but looking forward to the completion of the Broadcom merger, analysts expect meaningful earnings growth. With synergies from the merger earnings estimates are being ratcheted higher to $13 to $15 a share in earnings over the coming years verse 2015 earnings estimate of just $8.85 this year. Impressive growth prospects. The analysts also see significant free cash flow growth of nearly $6 billion a year by 2017 or nearly a triple from current $2 billion cash flow and 17% of the current market cap. With this kind of free cash flow growth, Avago will have the luxury of hiking their dividend or initiating a significant share buyback plan.
Currently, Avago trades for 14 times earnings, 13 times conservative 2016 earnings and 4.6 times sales. If the analysts are right about 2017 or 2018 earnings estimates, Avago is currently trading for just 10 to 8 times earnings. If the stock can trade for 13 times 2017 to 2018 earnings estimates, Avago has the chance to get to $170 to $195 a share which is why analysts have price targets of $175 to $200 a share. In the short term, the stock may remain under pressure due to the market correction, but this won't change the long term fundamentals for Avago and only make the stock more attractive if it pulls back further.