Better AI Chip Stock: AMD vs. Broadcom

When it comes to artificial intelligence (AI) chip stocks, Nvidia (NASDAQ: NVDA) has been crowned the king by market prognosticators. That doesn't mean there aren't other contenders for the throne.

Two large companies vying to make inroads into the AI infrastructure market and steal some Nvlidia thunder are Advanced Micro Devices (NASDAQ: AMD) and Broadcom (NASDAQ: AVGO). Let's look at which of these two AI contenders is the better stock to own.

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The AI infrastructure market

AMD and Broadcom are taking different approaches to the AI infrastructure market in a bid to take some market share away from Nvidia. Both have been seeing strong growth coming from AI.

AMD holds the No. 2 spot in producing graphics processing units (GPUs) behind Nvidia. These chips have become the backbone of AI infrastructure due to their powerful processing speeds that can handle AI workloads. However, with about a 10% to 17% market share in the GPU space, it greatly trails Nvidia, which controls more than 80% of the market.

AMD's biggest issue has been its inferior software platform compared to Nvidia. The company didn't develop its ROCm (Radeon Open Compute) software until around 2016, a decade after Nvidia created its CUDA platform. Meanwhile, semiconductor research company SemiAnalysis found its GPUs to generally be unusable for AI training out of the box due to software incompatibilities.

AMD's GPUs have been used more for AI inference, as well as as an alternative to Nvidia chips when they aren't available. AMD has found a strong niche in the central processing unit (CPU) data center market, where it has been taking more market share. While GPUs provide the power, CPUs act more as the brains of the operation. It's not as big of a market, but it's still an important one that is growing quickly along with the AI infrastructure market.

Image source: Getty Images.

Broadcom, on the other hand, doesn't make GPUs or CPUs. Instead, it has been attacking the AI infrastructure market by helping customers develop custom AI chips called ASICs (application-specific integrated circuits). While these custom chips lack the flexibility of GPUs and take more time and money to develop, they outperform GPUs for the specific tasks for which they are designed and they consume less power.

The company also participates in the networking side of AI infrastructure where it makes components such as Ethernet switches and network interface cards (NICs). These components are integral in managing the flow of data and distributing AI workloads across servers.

However, Broadcom's biggest opportunity is in the custom AI chip market. The company currently has seven AI chip customers at various stages of development. For the three farthest along in that development, it predicts that it will have a $60 billion to $90 billion serviceable market opportunity in its fiscal year 2026 (ending October 2026) alone, as these customer look to build AI chip clusters consisting of 1 million AI chips. While Broadcom won't get all of that business (some will likely continue to go to Nvidia), it is a big opportunity. Meanwhile, its newer customers should help drive revenue growth in later years.

AMD grew its data center revenue by 69% last quarter to $3.9 billion, while Broadcom increased its AI-related revenue by 77% to $4.1 billion. That's pretty similar, although Broadcom appears to have the larger AI opportunity moving forward. Broadcom has a number of custom AI chip customers ramping up the next few years that should help propel growth, while AMD will have to continue to try and chip away at Nvidia in the GPU market.

Valuations and verdict

AMD is the cheaper of the two stocks. It trades at a forward price-to-earnings (P/E) ratio of about 22 based on this year's analyst estimates compared to 28.6 times for Broadcom.

Data by YCharts.

Meanwhile, both companies grew their overall revenue at a similar rate last quarter, with AMD revenue rising 24% year over year and Broadcom revenue jumping 25%. However, I do think Broadcom has the bigger opportunity in front of it with custom AI chips.

I think both stocks are solid options following the recent market sell-off. I view AMD as a nice leader in the data center CPU market that should also continue to see solid GPU growth, especially as inference becomes more important. That said, I prefer Broadcom between the two given the exciting opportunity with custom AI chips it has ahead.

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Geoffrey Seiler has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Advanced Micro Devices and Nvidia. The Motley Fool recommends Broadcom. The Motley Fool has a disclosure policy.