Here’s Why We Believe AMD Is Worth $4

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AMD: Advanced Micro Devices logo
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Advanced Micro Devices

Owing to a decline in PC shipments, market share loss to Intel (NASDAQ:INTC), and a late entry in new emerging markets, AMD (NYSE:AMD) has seen it revenue base shrink in the last two years. The company completed its restructuring phase in 2013, which helped generate strong revenue by successfully ramping up a diverse set of new products. It saw strong growth in the first half of 2014 with revenues growing 26% and a $0.26 improvement in non-GAAP EPS compared to the same period last year.

However, AMD’s stock price has declined by approximately 40% in the last three month. The company reported weak Q3 2014 earnings last month, with revenues down 2.2% year to year and below company guidance.  Moreover,  its Q4 2014 outlook was below analysts expectation. AMD guided a 13% sequential (+/- 3%) decrease in its Q4 2014 revenue, due to lower semi-custom revenue and a weak PC environment. It plans to reduce its workforce by approximately 7% by the end of Q4 2014 and further streamline its global real estate assets to bring in much needed cash for its operations.

In addition to a disappointing Q3 2014 and weak guidance for Q4 2014, just a week prior to the Q3 2014 earnings release, AMD appointed Dr. Lisa Su as president and CEO.  The unexpected change in leadership  led many analysts to believe that the AMD’s turnaround may be taking longer than anticipated. The stock was consequently downgraded by many brokerages.

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Our price estimate of $4.12 for AMD is at a more than 50% premium to the current market price, and we believe in the company’s long-term growth potential. In this article, we explain our rationale behind the same.

See our complete analysis for AMD

AMD’s Increasing Focus On Commercial PCs Can Help Improve Its Market Position

AMD continues to struggle in the Computing and Graphics business due to ongoing weakness in the consumer PC market. The company lost some market share to Intel in Q3 2014, since the latter reported strong growth in PCs despite a relatively flat PC market. In Q2 2014, Intel accounted for 94.7% of the revenue in the PC processor market while AMD accounted for just 5.2%, according to research firm IDC. Intel’s chips powered 84% of desktop units shipped and 88% of laptops in the quarter. [1] Though AMD has significantly lowered its dependence on PCs, it continues to derive a considerable portion of its revenue from the segment.

Earlier this year, AMD laid out several important objectives to improve the financial performance of this segment which includes:  expanding in the commercial client market, improving its mix in consumer notebooks, gaining share in professional graphics and increasing component and AIB (i.e., Add-In Board) channel sales.

AMD believes that its increasing focus on the commercial PC segment will help it improve its performance in this segment. The rate of decline in PC shipments dropped down this year (so far) as Windows XP migration (to machines running newer operating systems) and commercial spending helped offset the weak consumer PC demand. AMD has a larger presence in the consumer PC segment, which still remains weak. AMD launched its Pro A-Series APU in Q2 2014 and claims to have met its goal to double the number of AMD-based commercial client design wins from last year, in Q3 2014. New commercial client offerings from Dell, HP, Lenovo have started ramping, resulting in approximately a 50% sequential increase in AMD’s commercial APU shipments.

The company also claims to have improved its notebook APU mix last quarter, as its Kaveri processors ramped in mobile design wins and its higher-end mobile processor unit shipments increased nearly 50% sequentially. Mobile discrete GPU unit shipments also increased as new design wins entered production. Last month, Apple (NASDAQ:AAPL) announced a number of new iMacs powered by AMDs Radeon GPUs, a trend that AMD believes will play well to its strengths in discrete GPUs. AMD remains committed to this market and has started taking actions in conjunction with its channel partners to improve sell-through in the coming quarters.

New Design Wins In Game Consoles To Get An Additional $1 Billion in Sales

AMD devised a unified gaming strategy in March 2013 that addresses its plan to drive the gaming market across consoles, cloud platforms, tablets and PCs. AMD powers all major next generation consoles including Sony’s PlayStation 4, Nintendo’s Wii U and Microsoft’s Xbox One. In Q3 2014, AMD reported  a 20.9% annual and 5.7% sequential increase in Enterprise, Embedded and Semi-Custom revenue, primary driven by strong growth in its semi-custom division.

The company shipped a record number of units for its game console customers, as Microsoft (NASDAQ:MSFT) and Sony prepared for the holiday season. Additionally, it  secured two new wins, meeting its goal to close one to two semi-custom deals in 2014. The two new semi-custom SoCs are expected to deliver combined total lifetime revenue of approximately $1 billion over approximately three years. Design work for these opportunities has started and AMD anticipates first silicon revenue from these deals in 2016. One of the wins is the first 64-bit ARM-based semi-custom design, building on the company’s growing ARM 64 momentum in the embedded and server markets. The other is an x86 device.

AMD s diversifying its semi-custom business beyond gaming, and claims that the semi-custom design win pipeline remains strong. It expects this division to be an important source of revenue for the company in the future as well.

Embedded & Server Business Also Remain Promising

AMD has a broad range of embedded processors for different segments in its portfolio, offering a number of price, performance and power options to meet the needs of embedded designers. The company intends to take on the different segments in the embedded market by offering its customers a range of solutions to chose from —  from low-power to high-performance — with a broad ecosystem of software and hardware partners supporting multiple operating systems, including Windows and Linux. It witnessed strong embedded processor revenue growth and secured multiple new design wins across priority markets and started sampling its first embedded ARM-based device  in Q3 2014.

After successfully sampling devices for major ecosystem partners such as firmware, OS, and tools providers, AMD announced the immediate availability of its Opteron 64-bit ARM based processor, code-named Seattle, in Q3 2014. AMD is the only provider to offer the standard ARM Cortex-A57 technology. AMD claims that the ARM-based server processors will be faster and more powerful than its existing low-power x86 server processors. The collaboration with ARM makes AMD the only processor provider to bridge the x86 and 64-bit ARM ecosystems. The company believes that ARM CPUs have the potential to account for 20% of the server market (by volume) by 2016 or 2017. [2]

There is a growing need for more advanced embedded solutions in healthcare, finance, education and retails services. We expect new product launches this year to accelerate AMD’s growth in the embedded market.

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AMD’s ARM: A Smart Move?, The Motley Fool, July 29, 2014))
Notes:
  1. AMD to Cut 7% of Staff as Sales Forecast Falls Short, Bloomberg, October 17, 2014 []
  2. AMD reboots server technology strategy with first ARM chips, Tech World, June, 2013 []