Broadcom Q1 2024 Earnings Call Transcript

Quartr
Provided by Quartr
March 7, 2024

There are 15 speakers on the call.

Operator

Hello, and welcome to Broadcom's Inc. 1st Quarter Fiscal Year 20 24 Financial Results Conference Call. At this time, for opening remarks and introductions, I will turn the call over to Ji Yu, Head of Investor Relations of Broadcom Inc. You may begin.

Speaker 1

Thank you, operator, and good afternoon, everyone. Joining me on today's call are Hock Tan, President and CEO Kirsten Spears, Chief Financial Officer and Charlie Kawaz, President, Semiconductor Solutions Group. Broadcom distributed a press release and financial tables after the market closed describing our financial performance for the Q1 of fiscal year 2024. If you did not receive a copy, you may obtain the information from the Investors section of Broadcom's website atbroadcom.com. This conference call is being webcast live and an audio replay of the call can be accessed for 1 year through the Investors section of Broadcom's website.

Speaker 1

During the prepared comments, Haak and Kiersten will be providing details of our Q1 fiscal year 2024 results, guidance for our fiscal year 2024 as well as commentary regarding the business environment. We'll take questions after the end of our prepared comments. Please refer to our press release today and our recent filings with the SEC for information on the specific risk factors that could cause our actual results to differ materially from the forward looking statements made on this call. In addition to U. S.

Speaker 1

GAAP reporting, Broadcom reports certain financial measures on a non GAAP basis. A reconciliation between GAAP and non GAAP measures is included in the tables attached to today's press release. Comments made during today's call will primarily refer to our non GAAP financial results. I'll now turn the call over to Hock.

Speaker 2

Thank you, Gee, and thank you everyone for joining us today. In our fiscal Q1 2024, consolidated net revenue was $12,000,000,000 up 34% year on year as revenue included 10.5 weeks of contribution from VMware. Excluding VMware, consolidated revenue was up 11% year on year. Semiconductor Solutions revenue increased 4% year on year to 7,400,000,000 dollars and infrastructure software revenue grew 153% year on year to 4,600,000,000 dollars With respect to infrastructure software, revenue contribution from consolidating VMware drove a sequential jump in revenue by 132%. We expect continued strong bookings at VMware will accelerate revenue growth through the rest of fiscal 2024.

Speaker 2

In semiconductors, AI revenue quadrupled year on year to $2,300,000,000 during the quarter, more than offsetting the current cyclical slowdown in enterprise and telcos. Now let me give you more color on our 2 reporting segments. Starting with software. Q1, software segment revenue of $4,600,000,000 was up 156% year on year and included $2,100,000,000 in revenue contribution from VMware. Consolidated bookings in software grew sequentially from less than $600,000,000 to $1,800,000,000 in Q1 and is expected to grow to over $3,000,000,000 in Q2.

Speaker 2

Revenue from VMware will grow double digit percentage sequentially quarter over quarter through the rest of the fiscal year. This is simply a result of our strategy with VMware. We are focused on upselling customers, particularly those who are already running their compute workloads with vSphere virtualization tools to upgrade to VMware Cloud Foundation, otherwise branded as VCF. VCF is the complete software stack integrating compute, storage and networking that virtualizes and modernizes our customers' data centers. This on prem self-service cloud platform provides our customers a complement and an alternative to public cloud.

Speaker 2

And in fact, on VM Explore last August, VMware and NVIDIA entered into a partnership called VMware Private AI Foundation, which enables VCF to run GPUs. This allows customers to deploy their AI models on prem and wherever they do business without having to compromise on privacy and data in control of their data. And we are seeing this capability drive strong demand for VCF from enterprises seeking to run their growing AI workloads on prem. Reflecting all these factors, for the full year, we reiterate our fiscal 2024 guidance for software revenue of $20,000,000,000 Turning to semiconductors. Before I give you an overall assessment of this segment, let me provide more color by end markets.

Speaker 2

Q1 networking revenue of $3,300,000,000 grew 46% year on year, representing 45% of our semiconductor revenue. This was largely driven by strong demand for our custom AI accelerators at our 2 hyperscale customers. This strength extends beyond AI accelerators. Our latest generation Tomahawk 5 800 gs switches, THA2 Ethernet NICs, retimers, DSPs and optical components are experiencing strong demand at hyperscale customers as well as large scale enterprises deploying AI data centers. For fiscal 2024, given continued strength of AI networking demand, we now expect networking revenue to grow over 35% year on year compared to our prior guidance for 30% annual growth.

Speaker 2

Moving on to wireless. Q1 wireless revenue of $2,000,000,000 decreased 1% sequentially and declined 4% year on year, representing 27% of semiconductor revenue. As you all may know, the engagement with our North American customer continues to be very deep, strategic and of course multi year. And in fiscal 2024, helped by content increases, We reiterate our previous guidance for wireless revenue to be flat year on year. Next, our Q1 server storage connectivity revenue was $887,000,000 or 12% of semiconductor revenue, down 29% year on year.

Speaker 2

We are seeing weaker demand in the first half, but expect recovery in the second half. Accordingly, we are revising our outlook for fiscal 2024 server storage revenue to decline in the mid-twenty percentage range year on year compared to prior guidance for high teens percent decline year on year. On broadband, Q1 revenue declined 23% year on year to $940,000,000 and represented 13% of semiconductor revenue. We are seeing a cyclical trough this year for broadband as telco spending continues to weaken and do not expect improvement until late in the year. And accordingly, we're revising our outlook for fiscal 2024 broadband revenue to be down 30% year on year from our prior guidance of down mid teens year on year.

Speaker 2

And finally, Q1 industrial resales of $215,000,000 declined 6% year on year. In fiscal 2024, we continue to expect industrial resales to be down high single digits year upon year. And in summary, with stronger than expected growth from AI, more than offsetting the cyclical weakness in broadband and server storage, Q1 semiconductor revenue grew 4% year over year to 7,400,000,000 dollars Turning to fiscal 2024, we reiterate our guidance for semiconductor solution revenue to be up mid to high single digit percentage year on year. I know we told you in December, our revenue from AI would be 25% of our full year semiconductor revenue. We now expect revenue from AI to be much stronger, representing some 35% of semiconductor revenue at over $10,000,000,000 and this more than offsets weaker than expected demand in broadband and service storage.

Speaker 2

So for fiscal 2024, in summary, we reiterate our guidance for consolidated revenue to be $50,000,000,000 which represents 40% year on year growth. And we reiterate our full year adjusted EBITDA guidance of 60%. Before I turn this call over to Kiersten, who will provide more details of our financial performance this quarter, let me just highlight that Broadcom recently published its 4th annual ESG report available on our corporate citizenship site, which discusses the company's sustainability initiatives. As a global technology leader, we recognize Broadcom's responsibility to connect our customers, employees and communities. Through our product and technology innovation and operational excellence, we remain committed to this mission.

Speaker 2

Kiersten?

Speaker 3

Thank you, Hock. Let me now provide additional detail on our Q1 financial performance, which was a 14 week quarter and included 10.5 weeks of contribution from VMware. Consolidated revenue was $12,000,000,000 for the quarter, up 34% from a year ago. Excluding the contribution from VMware, Q1 revenue increased 11% year on year. Gross margins were 75.4 percent of revenue in the quarter.

Speaker 3

Operating expenses were $2,200,000,000 and R and D was $1,400,000,000 both up year on year primarily due to the contribution from VMware. Q1 operating income including VMware was $6,800,000,000 and was up 26% from a year ago with operating margin at 57 percent of revenue. Excluding transition costs of $226,000,000 in Q1, operating profit of $7,100,000,000 was up 30% from a year ago with operating margin of 59% of revenue. Adjusted EBITDA was $7,200,000,000 or 60 percent of revenue. This figure excludes $139,000,000 of depreciation.

Speaker 3

Now a review of the P and L for our 2 segments, starting with semiconductor. Revenue for our semiconductor solutions segment was $7,400,000,000 and represented 62% of total revenue This was up 4% year on year. Gross margins for our Semiconductor Solutions segment were approximately 67%, down 190 basis points year on year, driven primarily by product mix within our semiconductor end markets. Operating expenses increased 8% year on year to $865,000,000 reflecting a 14 week quarter, resulting in semiconductor operating margins of 56%. Now moving on to our Infrastructure Software segment.

Speaker 3

Revenue for Infrastructure Software was $4,600,000,000 up 153% year on year primarily due to the contribution of VMware and represented 38% of revenue. Gross margins for infrastructure software were 88% in the quarter and operating expenses were $1,300,000,000 in the quarter resulting in infrastructure software operating margin of 59%. Excluding transition costs, operating margin was 64%. Moving on to cash flow. Free cash flow in the quarter was $4,700,000,000 and represented 39% of revenues off a higher revenue base.

Speaker 3

Excluding restructuring and integration spend of $658,000,000 free cash flows were 45% of revenue. We spent $122,000,000 on capital expenditures. Day sales outstanding were 41 days in the first quarter compared to 31 days in the 4th quarter on higher accounts receivable due to the VMware acquisition. The accounts receivable we brought on from VMware has payment terms of 60 days unlike Broadcom standard 30 days. We ended the Q1 with inventory of $1,900,000,000 up 1% sequentially.

Speaker 3

We continue to remain disciplined on how we manage inventory across the ecosystem. We ended the Q1 with $11,900,000,000 of cash and $75,900,000,000 of gross debt. The weighted average coupon rate and years to maturity of our $48,000,000,000 in fixed rate debt is 3.5 percent and 8.4 years respectively. The weighted average coupon rate and years to maturity of our $30,000,000,000 in floating rate debt is 6.6% and 3 years respectively. During the quarter, we repaid $934,000,000 of fixed rate debt that came due.

Speaker 3

This week, we repaid $2,000,000,000 of our floating rate debt and we intend to maintain this quarterly repayment of debt throughout fiscal 2024. Turning to capital allocation. In the quarter, we paid stockholders 2,400,000,000

Operator

of cash

Speaker 3

dividends based on a quarterly common stock cash dividend of $5.25 per share. We executed on our plan to complete our remaining share buyback authorization. We repurchased $7,200,000,000 of our common stock and eliminated $1,100,000,000 of common stock for taxes due on vesting of employee equity, resulting in the repurchase and elimination approximately 7,700,000 AVGO shares. To help you with modeling share count, the weighted effect of the 54,000,000 shares issued for the VMware acquisition resulted in a sequential increase in Q1 to 478,000,000 with the Q2 non GAAP diluted share count expected to increase to approximately 492,000,000 as the shares issued are fully weighted in the 2nd quarter. Now on to guidance.

Speaker 3

Regardless of the updated dynamics of our semiconductor and software segments Hock discussed, we choose to reiterate our guidance for fiscal year 2024 consolidated revenue of $50,000,000,000 and adjusted EBITDA of 60%. With regard to VMware, in February, we signed a definitive agreement to divest the end user computing division with the transaction expected to close in 2024 subject to customary closing conditions including regulatory approvals. The EUC division has been classified as discontinued operations in our Q1 financials. We have decided to retain the Carbon Black business and merge Carbon Black with Symantec to form the Enterprise Security Group. The impact on revenue and profitability is not significant.

Speaker 3

That concludes my prepared remarks. Operator, please open up the call for questions.

Operator

Thank you. Our first question comes from the line of Harsh Kumar with Piper Sandler. Your line is open.

Speaker 4

Yes. Hey, thank you, Hock. Once again, tremendous results and tremendous activity that you guys are benefiting from in AI. But my question was on software. I think if I heard you correctly Hock, you mentioned that your software bookings will rise quite dramatically to $3,000,000,000 in 2Q.

Speaker 4

I was hoping that you could explain to us why it would rise almost 100% up, if my math is correct, in 2Q over 1Q? Is it something simple or is it something that you guys are doing from a strategy angle that's making this happen?

Speaker 2

As I indicated, with the acquisition of VMware, we're very focused on selling, upselling and helping customers not just buy, but deploy this private cloud, what we call virtual private cloud solution or platform on their on prem data centers. It has been very successful so far. And I agree, it's early innings still at this point. We just have closed on the deal or we closed on the deal late November and we are now March early March. So we have the benefit of at least 3 months.

Speaker 2

But we have been very prepared to launch and focus on this push initiative on private cloud, VCF. And the results has been very much what we expect it to be, which is very, very successful.

Speaker 4

Thank you, Hock.

Operator

Thank you. Please standby for our next question. Our next question comes from the line of Harlan Sur with JPMorgan. Your line is open.

Speaker 5

Yes, good afternoon. Thanks for taking my question. Hock, on the AI outlook being revised from greater than $7,500,000,000 I think last quarter to $10,000,000,000 plus this quarter. As you mentioned, AI Compute pulls your ASICs, but it also pulls your networking, optical, PCIe connectivity solutions as well. So you can just help us understand like of that $2,500,000,000 increase in outlook, is it stronger AI ASIC demand, stronger networking, stronger optical, etcetera?

Speaker 5

But more importantly, are you also seeing a similar acceleration in your forward ASIC design win pipeline as well?

Speaker 2

There's a lot of questions and a lot of information you want me to discuss. Let's take them 1 at a time, shall we? Yes, the increase as we have said before and we have shown before, it's roughly 2 thirds, 1 third or seventy-thirty, which is AI accelerators, which are custom ASIC AI accelerators with a couple of hyperscalers compared to network compared to the other components, which I collectively consider as networking components. And it's about 70%, 30% mix. And that increase of almost $3,000,000,000 that you mentioned is a similar combination.

Speaker 5

And then are you seeing a similar acceleration on the forward design win pipeline and customer engagements?

Speaker 2

I only I have indicated I only have 2, really only have 2, seriously. I don't count anybody. I do not go into production as a rail customer at this point.

Speaker 5

Okay. Thanks, Hawk. Thanks.

Operator

Please standby for our next question. Our next question comes from the line of Vivek Arya with Bank of America Securities. Your line is open.

Speaker 6

Thank you for taking my question. Hock on again on the over $10,000,000,000 for AI, is this still a supply constrained number? Or do you think that this is kind of a very project driven number, so it's not really supply that gates it.

Speaker 7

So if you were

Speaker 6

to get, let's say, increased supply, could there be upside? And then kind of Part B of that is on the switching side, have you already started to see benefits from the 51 terabit per second switches? Is that something that comes along later? Like what is the contribution of 51T to the switching upside that you mentioned for this year?

Speaker 2

Yes. No, Our Tomahawk 5 is going great guns. Now it's not driven unlike in the past Tomahawk 3, Tomahawk 4 by traditional scale out in hyperscalers on their cloud environment. This is all largely coming from AI scaling out of AI data centers. The building of larger and larger clusters to enable generative AI computing functionality and you're going for bigger and bigger pipes.

Speaker 2

Hence, the Tomahawk 5, 51 Terabit is a perfect solution and we're seeing a lot of demand. And in many cases, we are basically they are surpassing the rate of adoption that we had previously thought. So it's a very good solution in connecting GPUs. And with respect to AI accelerators where I think you're focusing on is that a constraint on supply chain? We do get enough lead time out of our hyperscale customers that we do not have a supply chain constraint.

Speaker 8

Thank you.

Operator

Thank you. Please standby for our next question. Our next question comes from the line of Stacy with Bernstein Research. Your line is open.

Speaker 8

Hi, guys. Thanks for taking my question. I had a question on the core software business. So you said VMware for the 2 months that was in there was $2,100,000,000 Would you put the rest of the software CA Symantec and Brocade at like 2.5 almost to be up 25% sequentially and almost 40% year over year. I guess the question is do I have my math right?

Speaker 8

And if so, like how can that be? What's going on

Speaker 9

in the core business?

Speaker 8

And how should we be thinking about the growth of the core business in VMware as we go through the year? Is it VMware still $12,000,000,000 or

Speaker 2

just Yes. Don't get too excited over that. Don't get too excited over that. I think it's certain products, contracts we obtain and but it's very strong. Contract renewals in the older from old Broadcom contracts, especially in mainframes, were very strong as was some of our other distributed software platform.

Speaker 2

So that has also accelerated, but that's not the start of this show, Stacy. Star of this show is the accelerating bookings and backlog we're accumulating on VMware.

Speaker 8

Okay. So VMware is still running at like an $11,000,000,000 or $12,000,000,000 run rate benefit. So that sounds like that should accelerate. So the overall for VMware should be more than the $12,000,000,000 you talked about. So the core business, the strength of this core, that was kind of a one time, we should model that kind of like falling off because you still got the overall software at 20?

Speaker 2

Correct.

Speaker 8

Got it. Okay. Thank you.

Speaker 2

Thanks.

Operator

Please standby for our next question. Our next question comes from the line of Aaron Rakers with Wells Fargo. Your line is open.

Speaker 10

Yes. Thanks for taking the question. I wanted to ask kind of continuing on the VMware discussion a little bit. Hock, now that you've had the asset for a little while, I'm curious of how you how the go to market strategy looks with VMware relative to the prior software acquisitions that you've done? What I'm really getting at is kind of like how have you kind of thought about the segmentation of the customer base of VMware?

Speaker 10

Are you I know there's been some discussion around your channel engagements, legacy VMware channel in the past. So I'm just kind of curious of how you've been managing that go to market?

Speaker 2

I think now we haven't had it for that long, to be honest, like 3 months, but about 3 months. But yes, it's and it seems to be no, no, there are kings to be worked out, but things seems to be progressing very well as much as we had hoped it would because where we are focusing our go to market and more than go to market, where we are focusing our resources on not just go to market, but on engineering a very improved VCF stack, which we have and selling it out there and being able to then support it and in the process help customers deploy and start to really make it stand up in their data centers. All that focus is on the largest, I would say, 2,000 strategic customers. These are guys who want to still have significant distributed data center on prem. Many of our customers is looking at a hybrid situation.

Speaker 2

I'm not trying to use the word too loosely. Basically, a lot of these customers have some very legacy but critical mainframe. That's an old platform not growing, except it's still vital. Then what they have in modernizing workloads today and in the future is they really have a choice, which they are taking both angles of running a lot of applications in data centers on prem, distributed data centers on prem, which can handle this modernized workloads, while at the same time to because of elastic demand to be able to also put some of these applications into public cloud. Today's environment, most of these customers do not have an on prem data center that resembles what's in the cloud, which is very high availability, very low latency, highly resilient, which is one we are offering with VMware Cloud Foundation of VCF.

Speaker 2

It exactly replicates what they get in a public cloud. And they love it. Now 3 months and but we are seeing it in the level of bookings we are generating over the last 3 months.

Speaker 10

Thank you.

Operator

Thank you. Please standby for our next question. Our next question comes from the line of Chris Danely with Citi. Your line is open.

Speaker 11

Hey, thanks gang for letting me ask a question. Hey Hock, just a question on the AI upside in terms of a customer perspective. How much of the upside is coming from new versus existing customers? And then how do you see the customer base going forward? I think it's going to broaden and we know how you like to price.

Speaker 11

So if you do get a bunch of new customers for these products, could there be some better pricing and better margins as well? Hopefully, they're not listening to the call.

Speaker 2

Chris, thanks for this question. Love it. Because perhaps let me try to perhaps give you a sense how we think of the AI market, the new generative AI market so to speak using it very loosely and generically as well. It's really we see it as 2 end mark 2 broad segments. One segment is hyperscalers, especially very large hyperscalers with huge, huge consumer subscriber base.

Speaker 2

You probably can guess who these few people are. Very large subscriber base and very and almost infinite amount of data. And their model is getting subscribers to keep using this platform they have. And through that, be able to generate a better experience for not only the subscribers, but a better advertising opportunity for their advertising clients. It's a great ROI as we are seeing.

Speaker 2

It's a ROI that comes very quickly. And the investment continues vigorously with those with that segment comprising very few players. But we've got huge subscriber base, but with the scale to invest a lot. And here, ASICs, custom silicon, custom AI accelerators makes plenty of sense and that's where we focus that attention on. They also buy as they scale out those AI accelerators through clusters, increasing large clusters because of the way the models are running, the foundation models run and large language models need to generate those parameters.

Speaker 2

They buy a lot of networking together with it. But in comparison, obviously, to the value of AI accelerators we sell, The network working site while growing is small percentage compared to the size the value of the accelerators. That's one big segment we have. The other segment we have, which is smaller, is enterprise, what I broadly call enterprise segment in AI. Here, you're talking about companies, large, not so large, but large, who wants to do who have AI initiatives going on.

Speaker 2

All this big news and hype about AI being the savior to productivity and all that, gets all these companies on multiple on their own initiatives. And here, short of going to public cloud, they try to run it on prem. If they try to run it on prem, they take standard silicon from AI accelerators as much as possible. And here, in terms of the AI accelerator, we don't have a market. That's the merchant silicon market.

Speaker 2

But in the networking side, as they tie it together with their data centers, they do buy all those our networking components beginning with switches, routers even through people like the Arista 7,800, but switches for sure and the various other components I mentioned. And that's a different sense market that we have. So it's an interesting mix and we see both. Yes. Thanks a lot, Hak.

Operator

Thank you. Please stand by for our next question. Our next question comes from the line of Karl Ackerman with BNP Paribas. Your line is open.

Speaker 8

Yes, thank you. Hock, weakness in broadband, server and storage customers is understandable given what your peers have said this earnings season. But perhaps you could speak to the backlog visibility you have with your customers in those markets that would indicate those markets could begin to order again and see sequential growth in the second half of your calendar year? Thank you.

Speaker 2

You're correct. We are as I say, we are almost like near the trough. This year, 2024, first half for sure will be the trough. 2nd half, 2024, don't know yet. But tell you what, we have 52 week lead time, as you know.

Speaker 2

We are very disciplined sticking to it. And based on that, we are seeing bookings lately significantly up from bookings a year ago.

Speaker 8

Thank you.

Operator

Please standby for our next question. Our next question comes from the line of Christopher Rolland with Susquehanna. Your line is open.

Speaker 12

Thanks for the question. So Hock, this one's for you on optical. So our checks suggest that you're vertically integrating there. You're now putting in your own drivers, TIAs. You're starting to get traction in PAM4 DSP.

Speaker 12

And I think you kind of had an early lead in 100 gig data center lasers as well. And this is a lot of this should be on the back of AI networking that appears to be exploding here. So I was wondering if you could help us size the market and then also talk about how fast this is growing for you. I think there may have been some clues in that 1 third number of the AI you gave us, but perhaps if you can kind of double click or square that for us, it'd be great. Thanks.

Speaker 2

Okay. Before you get carried away, please, those in the other categories outside AI accelerators, all those things like PAM4, DSPs, optical components, retimers, they are small compared to Tomahawk switches and Jericho routers using AI networks. And also we're in an environment where as you all know traditional enterprise networking is kind of also in a bit of a slowdown law. So all we think is demand driven very much by AI. And that tends to push us in a line of thinking that could be very biased because what it is showing is that the mix and the content on networking relative to compute is very skewed, very different from in an AI data center compared to a traditional CPU based data center.

Speaker 2

So I don't want to get you guys all in the wrong way. But you're right, in the AI data center, there's a lot of there's quite a bit of content on DSPs, PAM4s, optical components and retimers and PCI Express switches. But they're still not that big in the overall scheme of things compared to what we sell in switches and routers. And compared to AI accelerators, they are even small. Think in that ratio.

Speaker 2

As I said, our AI revenue of $10,000,000,000 plus this year, 70% will be AI accelerators, 30% everything else. And within everything else, 30% or so, I would say more than half of that 30%, more like 20% are the switches and routers. And the rest are the various retimer DSP components because we are not unlike what you said, we're not vertically integrated in the sense we do not do the entire transceiver, the optical transceiver. We don't do that. Those are manufactured typically by OEMs, contract manufacturers like Inno Line, Eoptolink guys in China.

Speaker 2

Where those guys are much more competitive. But we provide those key components we talk about. So when you look at it that way, you can understand the kind of the weighting of the various values.

Speaker 12

Super helpful. Thank you, Hock.

Operator

Thank you. Please stand by for our next question. Our next question comes from the line of Toshiya Hari with Goldman Sachs. Your line is open.

Speaker 13

Hi, thank you for taking the question. Hock, I think we all appreciate the capabilities you have in terms of custom compute. I asked this question last quarter on the group call back, but there is one competitor based in Asia who continues to be pretty vocal and adamant that one of the future designs at your largest customer that they may have some share And we're picking up conflicting evidence and we're getting a bunch of investor questions. I was hoping you could address that and your confidence level and sort of maintaining if not extending your position there? Thank you.

Speaker 2

I can't stop somebody from trash talking, okay, is the best way to describe it. Let the numbers speak for themselves, please. Leave it that way. And I add to it, like most things we do in terms of large critical technology products, we tend to always have, as we do here, a very deep strategic and multiyear relationship with our customer.

Speaker 7

Understood.

Speaker 8

Thank you.

Operator

Thank you. Please stand by for our next question. Our next question comes from the line of Jay Rakesh with Mizuho. Your line is open.

Speaker 9

Yes. Hi, Hock. Just on the custom silicon side, obviously, you guys dominate that space. But you mentioned 2 customers you have only 2 major customers. But just wondering what's really holding back other hyperscalers from ramping up their custom silicon side?

Speaker 9

And on the flip side, you're hearing some peers talk about custom silicon roadmaps as well. So if you could hit both. Thanks.

Speaker 2

Well, number 1, we don't dominate this market. I only have 2. I can be dominating with 2, number 1. Number 2, the second point is it's very it takes years. It takes a lot of heavy lifting to create that custom silicon because you need to do more than just hardware or silicon to really have a solution for generative AI or even AI from trying in trying to create those AI capabilities in your data centers.

Speaker 2

It's more than just silicon. You have to invest a lot in creating software models that works on your custom silicon that matches you got to match your business model in the 1st place which leads to and create foundation models, which then needs to work and optimize on the custom silicon you're developing. So it's an iterative process and it's a constant evolving process even for the same customer we deal with. I mentioned that in the last call. So it takes years to really understand or be able to basically reach a point where you can say that, hey, I'm finally delivering production worthy.

Speaker 2

And it's not because silicon is bad, it's because it doesn't work well with the foundation models that a customer put in place and the software layer that works with it. The firmware, the software layer that translates into it. All that has to work almost like creating an entire ecosystem on in a limited basis, which we are recognized very well in X86 CPUs. But in GPUs, those kind of or AI accelerators, something still very early stage. So it takes years.

Speaker 2

And for our 2 customers, we have engaged for years. With one of them, we have engaged for 8 years to get to this point. So it's something you have to be very patient, persevere what and then hope that everything lines up because ultimate success, if you are just a silicon developer, is not just dependent on you, but dependent as much, if not more, on your partner or customer doing it. So just got to be patient guys. I got the 2 rolling so far.

Speaker 9

And on the peers coming getting into that market?

Speaker 2

Who is getting to the market? Please repeat.

Speaker 9

You're talking about some of your peers like I think NVIDIA has been talking about entering the custom

Speaker 2

silicon market. I don't comment to be made on it. All I do say is I have no interest in going into a market where we have a philosophy in running our business, Broadcom, and maybe other people have a different philosophy. Me tell you my simple philosophy, which I articulated over time every now and then, but which is very clear to my management team and to the whole Broadcom. You do what you're good at and you do you keep doubling down on things you know you are better than anybody else.

Speaker 2

And you just keep doubling down because nobody else will catch up to you if you keep running it in of the bank. But do not do something that you think you can do, but somebody else is doing much better job than you are. That's my philosophy.

Speaker 9

Great. Thanks, Hock. Great.

Operator

Thank you. Please stand by for our next question. Our next question comes from the line of Matt Ramsay with TD Cowen. Your line is open.

Speaker 7

Thank you very much for squeezing me in guys. Just kind of a 2 part thing on the custom silicon stuff. I guess, Hock, if some of the merchant leaders in AI were interested in some custom networking stuff from you either in switching routing, would you consider it? And the second question is for Kirsten. The business model around custom silicon for most folks is take NRE payments upfront and sell the end products at a lower gross margin, but a higher operating margin.

Speaker 7

And you guys have ramped this massive custom business with no real impact to gross margin. So maybe you could just unpack the philosophy and the accounting about the way that you guys approach the custom silicon opportunities just from a margin perspective? Thanks guys.

Speaker 2

I'll take that. Because you're asking business model, you're not asking really number crunching. So let me try to answer in this way. No, there's no particular reason short of what constitutes an AI accelerator. An AI accelerator, the way it's configured now, whether it's a merchant or it's custom, has a lot for us, an AI accelerator to run foundation models very well needs not just a whole bunch loads of floating point multipliers to do matrix multiplication, matrix analysis on regression.

Speaker 2

That's the logic part, compute part. It comes you have to come with access to a lot of memory, literally almost cache memory tied to it. The chip is not just a simple multiplier, It has it comes attached to it memory. It's almost a layered three-dimensional chip, which it is. Memory is not something we are any of us in AI accelerators are super good at designing or building.

Speaker 2

So we buy the memory from very specialized high bandwidth memory, you all know about that, from key memory suppliers. Every one of us does that. So you combine the 2 together, that's what an AI accelerator is. So even if I get very good net normal corporate silicon gross margin on my compute logic chip on multipliers, there's no way I can apply that kind of add on margin to the high bandwidth memory, which is a big part of the cost of the total chip. And so naturally, by simple math, it will hold an entire consolidated AI accelerator brings a gross margin below what a traditional silicon product we have out there.

Speaker 2

No going away from that because you're adding on memory even though we have to create the access, the IOs that attach it, we do not and could not justify adding that kind of margin to memory. Nobody could for us. So it brings a natural low margin. That's really the simple basis to it. But on the logic part of it, sure, with the kind of content, with the kind of IP and that we develop cutting edge to make those high density floating point multipliers on 800 square millimeters of advanced silicon, we can commend the margin similar to our corporate gross margin.

Operator

Okay? Thank you. Please stand by for our next question. Our next question comes from the line of Edward Snyder with Chardan Equity Research. Your line is open.

Speaker 14

Thanks a lot. First of housekeeping one if I could Hock. You mentioned the second customization customer, but you also mentioned that it takes years of work iteratively. I mean, you can anybody who's looked at the TPU history, I guess, understands that. So and you said before that it takes time to ramp it up.

Speaker 14

So but maybe you could give us a little bit of color. You said phenomenal growth in your custom silicon products. Is much or a material part of that coming from your second customer? And taking into account the lower revenue number, is the growth rate, generally speaking, fairly comparable? And then I had a question about VMware.

Speaker 2

You better go on to VMware customers. And because on the first I don't tell about my customer individually, sorry.

Speaker 14

Okay. Well, okay, never mind. That's a waste of time. So closing VMware held kind of a significant shift in your software strategy from focusing on largest 1,000 or so customers to, well, 100 of 1000 now. Why should we expect once you get through, I don't want to say, the low hanging fruit of selling into the, like you mentioned the first 1,000 customers with the VCS product that your OpEx as a share of sales, especially in sales and marketing, would start to increase because that's the big leverage Broadcom has had over almost all your acquisitions in software and that seems to be changing now.

Speaker 2

We have a shift here. And it's interesting, you're right in all regard. We are spending more on go to market and support because we have a lot of customers in VMware. They have 300,000, but we stratify. So we have the strategic guys.

Speaker 2

We sell, upsell, VCF, private cloud, very good. But the long tail of what we call smaller commercial customers, we continue to support and sell improved versions of just the vSphere, compute virtualization to improve productivity on their servers. We don't attempt to say go build up your old VCF. They don't have the skills, not the scale to do it. But all it adds up is you're right, my cost of my spend, OpEx spend, be it support, services, go to market will increase.

Speaker 2

But the difference between that and say CA, under acquisition we did is we're growing this business very fast and you don't have to increase your spend growing this business. So we have operating leverage through revenue growth over the next 3 years.

Speaker 14

Great. If I could squeeze one more in. You'd mentioned several times actually in the last quarter that there were 2 divisions you're going to divest, including Carbon Black and that's changed. What has changed? Has the market outlook kind of softened and you said wait and see?

Speaker 14

Or did you change your strategy on how you integrate? I'm just curious why last quarter you said you'd probably get rid of it 3 months and now you're keeping it?

Speaker 2

Well, we find out that we could generate more value to you, the shareholders. Assume you are I'm just kidding, but we would generate more value to our shareholders by taking Carbon Black, which is not that big and it integrating it into cementing. That by doing it, we would generate much better value to our shareholders than taking a one shot divestiture on this asset, not particularly large to begin with.

Speaker 14

Great. Thank you.

Operator

Thank you. Ladies and gentlemen, due to the interest of time, I would now like to turn the call back over to GU for closing remarks.

Speaker 1

Thank you, operator. In closing, we would like to highlight our Broadcom Enabling AI and Infrastructure Investor Meeting on Wednesday, March 20, 2024, at 9 a. M. Pacific, 12 p. M.

Speaker 1

Eastern Time. Charlie Khawaz, President of Broadcom Semiconductor Solutions Group and several general managers will present on Broadcom's merchant silicon portfolio. The live webcast and replay of the investor meeting will be available at investors. Broadcom.com. Broadcom currently plans to report its earnings for the Q2 of fiscal 2024 after close of market on Wednesday, June 12, 2024.

Speaker 1

A public webcast of Broadcom's earnings conference call will follow at 2 p. M. Pacific Time. That will conclude our earnings call today. Thank you all for joining.

Speaker 1

Operator, you may end the call.

Operator

Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.

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Earnings Conference Call
Broadcom Q1 2024
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