US chipmaker Broadcom has announced plans to acquire cloud provider VMware in what could be one of the biggest deals of 2022.
This would see Broadcom diversify into the enterprise software sector, but could it improve the weak market appetite that has driven its share price down since late 2021?
Broadcom likes to grow by acquisition
Acquisitions of other companies play a very important role in Broadcom's growth strategy, as the company relies on purchases of other companies to grow rapidly and to compete in the increasingly fierce semiconductor industry.
Broadcom acquired Brocade Communications in 2016 for USD5.9 billion, bought CA Technologies in 2018 for about USD18 billion and landed Symantec, which is active in cybersecurity, in 2019 for USD11 billion.
The company also tried to buy US chip giant Qualcomm for USD117bn in 2018, although it had to withdraw its offer after the deal was blocked by the Trump administration on national security grounds, and was in talks last year to acquire software company SAS Institute Inc. valued at between USD15 billion and USD20 billion, but the talks ended without a deal.
Today, Broadcom is one of the leading US chipmakers with a market capitalisation of about USD240 billion, more than Intel and AMD, which are worth USD182 billion and USD165 billion respectively, but well below Nvidia, which is worth about USD471 billion after losing half its value over the past six months.
The VMware Acquisition
VMware, which was spun off from Dell Technologies last November, is known for creating virtualisation software, which allows a computer to act like many machines to make it more efficient. The company has also diversified to expand into making a range of data centre software, which has seen an explosion in demand in recent years.
Today, VMware is considered one of the most important companies in the industry and is a partner of Amazon Web Services, which is the current market leader.
As a result, a potential takeover of VMware would give Broadcom a much larger presence in cloud computing. That's why Broadcom sees value in snapping up the company, even if it means spending a whopping USD61 billion to do so. So the VMWare deal would be far larger than Broadcom's last few acquisitions, but it wouldn't be out of budget compared to the Qualcomm deal that didn't see the light of day in 2018.
As for discussions with VMware, numerous reports have disclosed that negotiations between Broadcom and VMware are still ongoing, however there is no guarantee that a deal will be reached at this time.
Broadcom's shares have risen more than 10% since the news, while VMware has jumped 35%.
Would the VMware acquisition reverse the negative trend?
Like many popular chipmakers, Broadcom has experienced a fantastic pandemic rally, as Covid's measures have increased digital activity, also increasing demand for chips.
In addition, the limited activity of the pandemic reduced chip production, giving way to a global chip crisis, which boosted the profits of the major players in the sector.
As a result, chipmakers recorded an impressive rally between March 2020 and the last quarter of 2021. Broadcom gained over 330% during this period.
Part of this impressive rally was due to higher demand for chips and a global shortage of chips, but the rest was certainly due to speculation, which was stimulated by ultra-lax monetary conditions and an extremely cheap liquidity environment.
Broadcom share price (source: Trading View)
Broadcom has lost up to 25% of its valuation since its all-time high in December 2021, and is trading about 13% below that level. A much more hawkish US Fed policy and the prospect of higher interest rates have hit Broadcom's share price, as they have most chip stocks. But Broadcom has fared relatively better than the competition in the massive sell-off of recent months.
In comparison, Qualcomm has lost up to 35% of its value and Nvidia, one of the most popular names in the industry, has seen its valuation plummet by up to 55% since last November.
Therefore, the VMware deal, even if it comes to fruition, may not help Broadcom reverse the current negative trend unless the industry-wide sell-off ends.
In the long term...
In the medium to long term, Broadcom will continue to grow, entering more M&A deals to remain a major player in the US chip industry. And the experts' forecasts are optimistic. According to the CNN Money survey, the median share price estimate for Broadcom is USD700 per share over the next 12 months, which would mean a 20% increase from current levels. The highest estimate indicates a potential upside of 34%, while the most pessimistic analysts see Broadcom gaining more than 5% over the next year. No one in this survey expects Broadcom to drop in price over the next twelve months.