2023-04-24 19:16:27 ET
Summary
- Semiconductor players are starting to see industry recovery toward the end of 2023, which will likely mean that Advanced Micro Devices, Inc. will also report similar views in the coming earnings report.
- As the market recovers, AMD is expected to have an outsized gain as the company takes further market share while benefiting from the industry recovery.
- AMD has a fair valuation, warranting a buy thesis.
Introduction
The global semiconductor industry is seeing signs of recovery. This view has been strengthening in recent weeks with earnings reports from companies like Micron Technology, Inc. ( MU ) and Taiwan Semiconductor Manufacturing Company Limited ( TSM , "TSMC")), as they have guided for a better second half of 2023 compared to the first half.
Similarly, I believe Advanced Micro Devices, Inc. ( AMD ), in its coming Q1 earnings report ( expected May 2 post-market), likely will guide a similarly bullish outlook, creating a positive investor sentiment as the semiconductor industry is highly intertwined. Memory chip complements logic chips AMD designs and TSMC's production increase is directly correlated to AMD's demand as TSMC manufactures all AMD chips. Thus, this industry recovery will likely create a positive tailwind for AMD.
Intel Corporation ( INTC ) and AMD today have a duopoly in the X86 chip market, and as AMD incrementally takes more market share for the foreseeable future, AMD can see outsized benefits. Therefore, although the company's valuation multiple is significantly higher than at the beginning of the year, I believe AMD is a buy as the semiconductor industry recovers and AMD continues to incrementally increase its market share.
Industry Outlook
So far, the industry outlook is positive, which is great news for AMD.
Starting with TSMC, the company reported earnings on April 20th. During the earnings call , the company gave a downbeat forecast for the upcoming second quarter while providing a more optimistic view for the second half of the year. The company said that the "second quarter revenue" will represent "a 6.7% sequential decline at the midpoint." Then, when asked the question about what are the "drivers behind [the] 25% growth in revenue from the first half into the second half," the management team said that "ramp[ing] up 3-nanometer...to meet customer demand" will lead the "increase in the second half." This view is significant to AMD, because TSMC manufactures the majority of the chips for AMD. TSMC having a positive demand outlook for a 3nm product could mean that the company is seeing continued strong demand for the most advanced and innovative products. Further, because both AMD and TSMC are closely correlated together, the optimistic view of one company likely correlates to the other.
Beyond TSMC's outlook, memory chip maker Micron showed a similarly optimistic view. Despite Micron's continued decline in earnings due to depressed memory chip market demand and bloated customer inventories, during the earnings call , the company said that they "are close to [the] transition to sequential revenue growth in [the] quarterly results" providing an optimistic view in the coming quarters. Although of a different magnitude, because computing in data centers or retail consumer electronics requires both memory chips and logic chips like the ones AMD makes, I believe Micron's positive view could also be the case for AMD. Memory chip demand tends to move alongside logic chip demand.
Intel, AMD's biggest CPU rival, had a similarly bullish view. During the conference call held on March 29th, the company said that:
"we see the data center CPU market and the x86 market, in particular, as a solid growth market as the demand for compute and especially compute cores continues to accelerate."
Since AMD, too, compete in the X86 market, Intel's view of a positive demand environment for the industry will naturally benefit AMD as well.
Overall, my view is similar. Compiling viewpoints from major players within the semiconductor industry, I believe that the industry is moving toward its trough phase. The industry may see a few more months of contraction, but given the positive outlooks and recovering consumer confidence data [need evidence] as shown below, the industry is likely moving toward a sequential growth or recovery phase in the coming months. Thus, I believe it is likely that AMD will also share this view in AMD's upcoming earnings report on May 2nd, potentially leading to a positive market and investor sentiment since stocks tend to move in anticipation of the future outlook.
Market and AMD's Growth
The recovery in the overall semiconductor market as the cycle moves from the trough to the recovery phase will directly benefit AMD, as AMD and Intel hold the duopoly in the CPU industry today. Whether it is data center or retail CPU demand, Intel and AMD hold the majority of the market share. Thus, any growth or recovery in the industry will directly benefit both companies.
Further, as Intel attempts to only release Intel 4 later into 2023, AMD is expected to continue to take Intel's market share, allowing AMD to likely show outsized growth in the meantime. According to Counterpoint Research , AMD's global data center CPU market share jumped from 11.74% in 2021 to 19.84% in 2022, showing tremendous growth at the expense of Intel. This trend, for the foreseeable future until Intel 4 release, may continue. During Media and Telecom Conference , AMD's Chief Technology Officer said that the company's "third generation [is still] a performance leader in several cases versus [the] just released competitor of x86 server." Since AMD's competitor is Intel and Intel released Sapphire Rapids in 2023, the CTO was likely referring to Intel in the remarks. Thus, with AMD continuing to have the technological upper hand, the company's growth, as the market potentially recovers from a trough phase, will likely be outsized compared to the closest competitor.
I am expecting this trend to have a profound effect on AMD's coming earnings call. During the previous earnings call , the management team did not provide "specific guidance due to the uncertainty in the macro environment." The company only roughly gave color by saying that AMD expects to see annual revenue growth in Embedded and Data Centers while seeing a revenue decline in the Client and the Gaming segment. These remarks and AMD's March conference call as discussed earlier both anticipate positive growth in the data center business. However, regarding the client side, I believe that management's tone may differ in the coming earnings call from a previously negative tone. Not only are AMD's industry peers like TSMC and Intel guiding for a positive demand environment toward the end of 2023, leading to a reasonable argument that the industry may be passing its trough phase in the coming months, the client-side environment including gaming has been improving.
Gaming companies in Taiwan report monthly sales figures, and as the pictures below show, gaming-focused companies ASUS and MSI have been reporting improving monthly sales figures so far in 2023 showing a positive trend. Both companies saw year-over-year decline moderating while seeing strong sequential growth throughout 2023. Thus, I believe AMD's management's negative tone regarding the client-side business could shift to a more optimistic view in the coming earnings call as the industry is seeing a sign of recovery emerging.
Source - From Investor Relations Page .
Finally, I strongly believe that Intel will not just wait for AMD to take all of its lunch. With the launch of Intel 4 later in the year, the competitive dynamic can shift. However, even in the unlikely scenario that AMD's market share stagnates from current levels, the massive market controlled by the duopoly will likely be enough for AMD to see the benefits of recovering the industry.
Valuation
In terms of valuation, I believe the company's valuation is fair. Although the stock price has gained some support in recent months, I believe the potential upcoming semiconductor market recovery continues to warrant a buy thesis. Today, at the time of writing, AMD has a forward price-to-earnings ratio of about 29, and as the chart below shows, this figure is considerably lower than the bull markets during the pandemic times. With a potential for the trough part in the semiconductor cycle nearing an end, positive investor sentiment could likely push AMD's valuation multiple near optimistic pandemic levels in the coming quarters.
Analysts' estimates support this view. After a contraction of about 12.88% in eps in 2023, analysts are expecting 42.06% and 23.49% growth in 2024 and 2025, respectively. Therefore, as the market recovers and the sentiment surrounding the stock shifts from cautious to positive, I believe there is a fair chance of AMD's valuation continuing its upward trend.
Risk to Thesis
Semiconductors operate in a highly cyclical industry, so any major changes to the macroeconomic conditions from the current forecasted state could have a profound effect on the bullish thesis. With the market forecasting a chance of another rate hike at 80% in May , the already fragile economy may see more pressure leading to a delayed recovery.
I do think that industry currently is moving through the lowest demand phase, or trough, and is expecting to move out to sequential growth or recovery phase in the coming months; however, with further rate hikes and unpredictable macroeconomic challenges, such as the small regional banks we saw with Silicon Valley Bank (SIVB), the current cycle may be lengthened, making the trough longer and recovery phase pushed further back. Further, despite a cautious bullish forecast starting to appear from numerous semiconductor companies, if the consumer sentiments or demand surrounding consumer electronics continue to lack recovery and growth, the current high valuation may not be justified.
Summary
Since the pandemic, the semiconductor industry has been experiencing a significant demand depression. The trend has been ongoing since 2022 and into 2023. However, with several companies pointing to early signs of the industry recovery, Advanced Micro Devices, Inc. will likely report similar views in its upcoming earnings report, instilling more confidence in the market and investors. Further, as the market recovers, AMD is expected to see outsized benefits as the company continues to take the market share away from Intel. Therefore, with a current fair valuation, I believe Advanced Micro Devices, Inc. is a buy.
For further details see:
AMD: A Buy Ahead Of Earnings Report