I finally bought this fast-growing dividend stock that had been on my radar for a while. It was a case of the price just getting away from me when I had funds available to me previously. The coronavirus-induced stock market drop presented an opportunity to finally purchase this stock for my dividend portfolio. This purchase will add around 2.5% to my estimated passive dividend income.
The company
The company I initiated a position in is Broadcom.
Broadcom is an infrastructure technology company. They design, develop and supply a variety of semiconductor and infrastructure software solutions. Broadcom’s products are found in data centres, software, automation, broadband, wireless, security, smartphone components and more.
Broadcom has done a fantastic job of growing its business organically and through acquiring companies. The 5-year data below demonstrates just how fast the growth has been across all metrics.
One of Broadcom’s customers is Apple, with the company announcing in January that they will supply $15 billion worth of wireless components to Apple. The parts will be used in Apple’s products launching in the next 3 and a half years.
Broadcom is well-placed in growing industries. That has helped them achieve fantastic profitability. The company has turned an average of 26% of each sale into free cash flow over the last decade. As the dividend is paid out of free cash flow, this is great news for dividend growth investors.
Dividend
The yearly dividend payments are up 787% from 2015. That is an incredible growth rate. The latest dividend raise came in at 22.6%. These are incredible growth metrics for a high-yielding stock. Especially taking into account that the dividend is well-covered by 2020e free cash flow. By analysts FCF estimations for 2020, the free cash flow payout ratio will be around 58%. The potential reward does come with some risks attached though, as I will discuss in the “risks” section below.
Valuation
We have identified that Broadcom is a great company. They are also rewarding shareholders generously through dividends.
But there is another side to investing – buying the quality companies at good prices.
Based on forward estimated earnings for 2020, Broadcom’s shares trade at 11.4 times earnings. That is well-below the broader market and below the company’s own 5-yr average of 13 P/E.
Looking at cash flow, AVGO shares can be bought at 11.4 times cash flow.
I am happy to buy a quality dividend-paying company at that valuation.
I initiated a position at $250 per share.
Risks
The biggest risk to my investment thesis in Broadcom is their debt levels. As the company has made acquisitions over the last years, they have used a lot of leverage to fund it.
Currently, the balance sheet is heavily levered. Debt-to-Equity is at 1.3 and Debt-to-EBITDA is at 3.5. Interest payments are covered just 3 times over by yearly EBITDA.
Normally, these ratios would put me off from investing.
However, we have to put the current balance sheet shape into context.
This is a temporary situation due to the acquisition of Symantec.
If the company achieves its 2020 guidance, the debt levels will decrease significantly. We will be looking at total debt/EBITDA of just over 2 in that case. If the guidance is achieved, the interest payments would be covered more than 10x over by EBITDA.
Broadcom is also looking to sell its RF business. If Broadcom manages to sell the RF unit and uses the funds from it to delever further, that would significantly improve the balance sheet.
I will be monitoring the debt situation closely and tuning in to future earnings calls for updates. If everything moves in the right direction, I am open to increasing my position in this company.
Summary
I am glad to finally have bought this fast-growing dividend stock and added it to my portfolio. Broadcom is a company that fits my investment criteria. It is a well-positioned company that is building a fantastic dividend growth record. The acquisition-related debt is a concern though and 2020 is an important year for the company. The bullish case sees the company paying down a ton of debt this year and the debt ratios returning to more conservative levels.
Broadcom is a worthy addition to my income-producing portfolio and will hopefully help me fund my lifestyle in retirement.
Disclaimer: I am long AVGO. This is NOT a recommendation to buy or sell any shares. You can lose a part of or all your invested capital. I am not responsible for the accuracy of any of the figures presented in the article. I am not a financial professional of any kind. Any stock transactions or analysis published should NOT be considered to be investing recommendations. Before making any investing or financial decisions, contact an appropriate professional. This website should be viewed for entertainment purposes only.
