Despite A Dismal Q1’15, AMD Remains Optimistic About Its Long-Term Growth Potential

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Advanced Micro Devices

As pointed out in our pre-earnings article, the weaker than expected PC sales and a seasonal decline in the semi-custom business led to a disappointing Q1 2015 for AMD (NYSE:AMD). At $1.03 billion, the company’s net revenue for the quarter came in at the lower end of its guided range, declining 17% sequentially and 26% annually. The reduced client and graphics product sales along with the lower game console royalties in the quarter led to a 3% decline in gross margin. AMD reported non-GAAP loss of 9 cents per share, lower than Wall Street expectation. Though AMD was up marginally after the earnings release, the stock was down almost 10% in after hours trading.

Despite the grim results, AMD remains optimistic about its long-term growth opportunities. Though the company agrees that the next several quarters will be challenging due to the adverse market environment, it remains focused on its strategy to improve its financial performance and building on its strengths by continued investment in its technology and IP, which will drive product innovation and differentiation. AMD expects the second half of 2015 to be stronger than the first half, across the board for all its businesses.

In an effort to prioritize its R&D investments and simplify its business, AMD has decided to exit the dense server systems business to increase investments in its server processor development. The company has retained the fabric technology as a part of its overall IP portfolio. It believes that there are strong opportunities for next-generation high-performance x86 and ARM processors for the enterprise datacenter and infrastructure markets, and will continue to invest strongly in these areas. The exit from the Seamicro branded dense server business resulted in additional restructuring charges of $75 million in Q1 2015, including $7 million in cash.

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Our price estimate of $3.76 for AMD is at a considerable premium to the current market price. We are in the process of updating our model for the Q1 2015 earnings release.

See our complete analysis for AMD

PC Environment Remains Uncertain; AMD To Focus On Re-Balancing Its Channel Inventory, Expanding Its Product Portfolio & Growing Its Commercial Client Sales

AMD’s Computing and Graphics business segment reported revenue of $532 million, down 20% sequentially primarily due to decreased desktop and notebook processor sales, as a challenging market environment was compounded by adverse currency fluctuations. Original equipment manufacturers’s (OEM) demand was below seasonal expectations in the quarter, as customers actively managed inventory levels amid uncertain end-user demand. AMD claims to have reduced its downstream channel inventory levels in Q1 2015 and is on track to return to normal inventory levels by the end of the current quarter. The operating loss for the segment increased from $56 million in Q4 2014 to $75 million in Q1 2015.

On the positive side, AMD saw progress in several of its strategic initiatives. Mobile APU ASPs and revenue increased compared to Q4 2014, highlighted by increases in commercial client APU shipments and revenue, setting a record for commercial client processor sales. AMD is currently over indexed in the consumer and channel space, which has impacted its revenue base in the Computing and Graphics business in the last few quarters (even when the PC market stabilized). The company believes that its focused commercial client strategy is gaining momentum and its investments are driving awareness and generating pull with commercial and government buyers.

Given the ongoing macroeconomic and currency uncertainties, AMD believes that the PC market will remain challenging as its OEM customers and channel partners focus on carrying lean inventories based on the uncertain market conditions. Nevertheless, the company is preparing for the second half of the year, when PC demand is expected to pick up post the Windows 10 launch and the consequent new products in the market.

Irrespective of market consitions, AMD intends to complete its channel inventory re-balancing, introduce new APU and graphics products, and continuing to grow commercial client sales. The company is focusing on introducing a strong product portfolio in 2015, and plans to launch Carrizo this quarter. AMD claims that Carrizo delivers the largest ever generational leap in performance per watt for its mainstream APUs, and the design win momentum for Carrizo continues to grow.

Despite Short-Term Weakness, The Semi-Custom & Embedded Business Will Continue To Be A Key Growth Driver

Due to a seasonal decline in sales of semi-custom SOCs and lower game console royalties, AMD’s Enterprise Embedded and Semi-Custom revenues declined 14% sequentially in Q1 2015, to $498 million. Lower sales, along with an unfavorable product mix, lowered operating income for the segment from $109 million in Q4 2014 to $45 million in Q1 2015. Embedded processor sales were roughly flat year-on-year, with weaker than expected thin client demand offset by continued adoption of the company’s embedded APUs across targeted market segments.

The game console business has a cycle of three to four years. Microsoft and Sony launched new products in late 2013 and thus AMD expects another few years of strong game-console revenue growth from them. Last year, AMD announced securing two new wins in the segment, which are expected to deliver combined total lifetime revenue of approximately $1 billion over approximately three years. Design work for these opportunities is underway and AMD anticipates first silicon revenue from these deals by mid-2016.

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. The embedded market is a very competitive market and AMD’s strategy is to play to its strengths. The company is focusing on its strengths in efficient computing and image processing, factors that it believes differentiates it from other players and will fuel its growth in the embedded market.

In Q1 2015, Samsung introduced a new AMD powered digital signage solution, and both Fujitsu and GE intelligent platforms released new industrial computing boards powered by AMD embedded SoCs.

AMD continues to align larger portions of its R&D investments to take advantage of the long-term growth opportunities in the Enterprise Embedded and Semi-Custom segment.

Q2 2015 Outlook

– Revenue to decrease 3% sequentially, +/- 3%.

– Non-GAAP gross margin of 32%.

– Non-GAAP operating expenses of $355 million.

– Interest expense, taxes and other to be approximately $35 million.

– Inventory to be approximately up $100 million sequentially.

2015 Outlook

– Non-GAAP operating expenses to be between $340 million and $370 million per quarter.

– Taxes of approximately $3 million per quarter.

– Cash equivalents and marketable securities to be in the range of $600 million to $1 billion.

– Capex of approximately $100 million.

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