(Most Of) The Pros Love Avago

May 29, 2015

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Avago Technologies Ltd (NASDAQ: AVGO) announced on Thursday its intention to acquire Broadcom Corporation (NASDAQ: BRCM) for $37 billion.

Analyst reaction following the announcement was for the most part positive.

Jefferies: Acquisition Creates $14 Of EPS Power

Mark Lipacis of Jefferies commented in a note that the combined company would create the third largest semiconductor firm under his coverage with $17 billion in annual revenues and $6 billion in net income. The acquisition will position Avago as a "leading" supplier in Smartphones and Data Center infrastructure.

According to Lipacis' calculations, assuming 8 percent operating expenditure synergies (consistent with other deals in the space), a combined Avago and Broadcom would have over $14 in earnings per share power exiting 2017. In addition, the analyst estimated the combined company would have over $6 billion in annual free cash flow and become a "potential capital return play."

Shares of Avago were upgraded to Buy from Hold with a price target raised to $179 from a previous $125.

UBS: Deal Better Than Expected

Stephen Chin of UBS commented in a note that Avago's plan to acquire Broadcom proved to be "much better than expected."

Chin noted that key positives from the acquisition and commentary from its conference call consist of:

An estimated earnings per share accretion in calendar year 2016 of $2.30 given cost synergies.
A combined IP and product portfolio that holds the potential to create new revenue growth opportunities in data and networking.
Wireless RF sales are seeing seasonal demand from next-gen iPhone procurement with likely high content.
HDD storage controllers are seeing demand improve into the bottom half of 2015.

Chin continued that a key theme of the acquisition consists of a lack of product overlap that would improve Avago's sales diversification. The company expects at least $750 million in cost synergies from its acquisition and the analyst suggested two thirds of this could come from the 10 percent improvement in wafer costs with the remainder from SG&A.

Shares remain Buy rated with a price target raised to $170 from a previous $138.

JMP Securities: ‘Sensible' Merger Does Not Change Views

Alex Gauna of JMP Securities commented in a note that Avago's proposed acquisition of Broadcom will only add $1.00 per share in accretive earnings power in calendar year 2016.

According to Gauna, there are numerous "natural" synergies between Avago and Broadcom with "exceptionally" little overlap. However there are risks that investors need to be mindful of including the potential for rapid business model "dislocation" in the "same disappointing fashion" when Broadcom acquired NetLogic. In addition, recent R&D cutbacks and "shortcomings" by Broadcom include the failure of its Tomahawk switching chipset and gaps in its 4K video front-end solutions.

As such, the analyst suggested that the 42 percent rise in Avago's stock year to date "adequately" prices in its strong business performance this year and potential expense and product synergies it may achieve from the Broadcom acquisition.

Shares remain Market Perform rated with no assigned price target.