Nvidia and Broadcom: The Leaders in AI Chipmaking

No chipmaker has benefited more from the rapid rise in artificial intelligence (AI) spending than Nvidia (NASDAQ: NVDA). The company’s graphics processing units (GPUs) are crucial for companies wanting to develop and train large language models and create generative AI applications.

Nvidia’s Remarkable Growth in AI Spending

Nvidia surpassed the $1 trillion market cap milestone in May 2023. Since then, its valuation has tripled, making it one of only three companies with a market capitalization over $3 trillion. Nevertheless, Nvidia is not the only player in this rapidly growing market. Other companies with values exceeding a trillion dollars are also seeing significant increases thanks to AI advancements.

Broadcom Joins the Elite $1 Trillion Club

The latest addition to the ranks of $1 trillion companies is Broadcom (NASDAQ: AVGO). It reached this milestone following a strong fourth-quarter earnings report on December 12. This is how Broadcom has positioned itself as a leading AI chipmaker.

Image source: Getty Images.

Driving AI Chip Innovation

Broadcom is a well-rounded business with segments in enterprise software, such as VMWare and Symantec, alongside its semiconductor production for wireless applications, WiFi, and Bluetooth. However, what really drives the company’s recent success are its networking chips and AI accelerators.

Networking chips form the backbone of AI data centers. While large tech firms are investing billions in Nvidia’s GPUs, they rely on Broadcom’s products to maximize processing efficiency. Devices like the Tomahawk and Jericho switches ensure swift data transfer between servers, reducing downtime. When managing such costly infrastructure, efficiency is paramount.

With such advanced technology, Broadcom has positioned itself as a trusted supplier to hyperscale data centers. The risk of switching to a competitor’s offerings is too great for many data center managers, ensuring Broadcom’s continued growth along with rising AI-related demands.

Broadcom is also gaining traction with its custom AI accelerator business, which represents the next wave of AI chips.

Potential for Future Growth

Broadcom collaborates with major companies to create specialized AI chips tailored for their needs. Its largest clients include Alphabet, Meta Platforms, and ByteDance, the parent company of TikTok. Management estimates that these partnerships could serve a market valued at between $60 billion and $90 billion by 2027. Given the rapid pace of AI advancements, the higher figure seems plausible.

Additionally, Broadcom recently announced agreements with two other clients developing their next-generation chips. While specifics are confidential, speculation suggests these clients may include Apple and OpenAI.

Apple’s work with Google’s Tensor Processing Units (TPUs) indicates familiarity with Broadcom’s offerings. As Apple intensifies its AI efforts across its devices, it could quickly become one of Broadcom’s largest customers, further expanding the company’s market horizons.

Continued Investment Opportunities

Broadcom’s stock surged over 24% after its fourth-quarter earnings were released, but analysts suggest that the business’s future prospects support its valuation.

Management’s estimate of a $60 billion to $90 billion addressable market suggests a compound annual growth rate of over 60% for the AI semiconductor segment. With potential additions to their client base, actual growth may exceed these projections by 2027.

Even though AI semiconductors comprise a smaller portion of Broadcom’s overall business today, they are critical to its future trajectory. After significant growth in AI sales anticipated for 2024, these chips are expected to represent about a quarter of the total revenue by early 2025. Analysts project earnings growth of 28% next year and 20% in 2026.

Investors may find it reasonable to pay a premium for a stock that promises robust earnings growth, with shares trading around 36 times forward earnings at this time. While this represents a premium valuation, potential investors should assess the risks, particularly that AI spending may not continue at its current rapid pace. However, the stock exhibited similar valuations earlier in 2024, demonstrating its worth. For those seeking alternatives to Nvidia, Broadcom could be a compelling option.

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Suzanne Frey, an executive at Alphabet, serves on The Motley Fool’s board of directors. Randi Zuckerberg, a former market development director for Facebook and the sister of Meta Platforms CEO Mark Zuckerberg, is also on the board. Adam Levy has investments in Alphabet, Apple, and Meta Platforms. The Motley Fool holds positions in and recommends Alphabet, Apple, Meta Platforms, and Nvidia, while recommending Broadcom. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are solely those of the author and do not necessarily reflect those of Nasdaq, Inc.