AMD (NASDAQ: AMD) Earnings Preview: Fundamentals and Looking Ahead

Jan 28, 2020
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AMD (NASDAQ:AMD) will report its fourth-quarter and full-year 2019 earnings results today after the close of trading.

Disclaimer: I am long $NVDA call options expiring in February.

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Five key facts to remember:

  • Wall Street consensus is looking for earnings of 31 cents per share and $2.1 billion in revenue
  • AMD's market traction with latest "Rome" EPYC server chips is going to be critical considering Intel's very solid showing in the datacenter 
  • Gross margin improvement is a big focus at AMD - 45% is the magical number for this quarter
  • Analysts are looking for somewhere around $1.84 billion in guidance for Q1-2020

While I may stop short of calling it "make or break" time for AMD, this is simply a massive earnings release for AMD. Analysts and investors are expecting a monster quarter from AMD in both earnings and revenue. The last time AMD broached $2.1 billion in quarterly revenue was... never.

If AMD does make good on hitting $2.1 billion (plus or minus $50 million per both company guidance from Q3-'19 and consensus expectations) this would be its biggest quarter ever since the company was founded in 1969. Despite a fairly poor first quarter of $1.27 billion, its worst first quarter since before first-generation Ryzen parts launched back in 2017, would make 2019 a record-breaking year at $6.7 billion.

Earnings of 31 cents per share represent a near 300% increase from the same period a year ago, finally marking a clear uptick in the company's profitability, and coupled with a 48% YoY improvement in revenue to $2.1B, is nothing to sneeze at.

In other words, expectations are through the roof and the stock is already trading at all-time highs as many are placing a lot of confidence in AMD that it can make good on its promises.

I last looked at AMD in a piece where I asked the question, is AMD overvalued? I have to admit to you, my analysis was flawed. I mistakenly used its quarterly P:E instead of the more widely adopted trailing twelve-month price to earnings, so we'll fix that today and try to paint a clearer picture of where this growth stock is in terms of valuation.

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As discussed in that article (I did use the correct current P:E), AMD was at the time trading at a P:E of 268x, which is indeed very high. When it comes to the valuation of a growth stock, it's not about a company's current profitability but what lies in the future so the question begs, how much can it grow its revenue and how much more can it squeeze out of that revenue, as measured by its gross margins?

What AMD is telling us to expect

AMD has multi-month long fabrication cycles to contend with, and with major OEMs and enterprise customers coming on board, it must be able to efficiently forecast and log orders with its fab partners, namely TSMC (NASDAQ:TSM)and GlobalFoundries, in order to secure wafers and resulting chips to meet customer deadlines. Per accounting rules, revenue can't be recognized in most cases until products are put on trucks and shipped out to customers.

This helps the company deliver accurate sales forecasts and the company did indeed guide to a 48% year-over-year increase of $2.1 billion during its last earnings call. In fact, if you go back and look at the company's historical guidance forecasts versus actual you'll see what I mean:

AMD Quarterly Revenue (millions) Company Guidance Actual
Q4 2018 $1,450 $1,412
Q1 2019 $1,250 $1,272
Q2 2019 $1,510 $1,531
Q3 2019 $1,800 $1,801
Q4 2019 $2,100 (+-$50) ???

 

What analysts are telling us to expect

The sentiment is mostly mixed with it comes to Wall Street analysts. Since its last earnings 14 analysts have upgraded their earnings estimates, while 11 have downgraded them. Revenue is actually a slight bit more bearish among those, with over 20 downgrading their expectation for revenue with only a handful upgrading.

The street is expecting EPS anywhere from 28 cents to 33 cents per share, while revenue is expected to land anywhere from $2.05 billion to $2.11, marking AMD's own guidance towards the top of that range.

When it comes to AMD's stock price, Analysts are expecting a pullback in 2020 if their price targets are to be believed. Average PT for $AMD is $41.50 which would indicate they feel a correction down by a whopping 17.6% is appropriate. Some of this might be analysts simply acting conservatively, as they often do, since AMD has seen a rather dramatic 50% gain since its last earnings. It should be mentioned that at least a third of analysts are maintaining a Buy or Overweight rating on the stock.

Some analysts such as Matthew Ramsay at Cowen see things differently. Ramsay has a $60 price target for AMD and has recently reiterated his Outperform rating for the Santa Clara chip company citing strong execution on AMD's roadmap and "stability while offering premier technological specs and total cost of ownership". By that, he means AMD's chips are fast and energy-efficient.

AMD's future

Intel's struggling to deploy competitive 10nm products for the foreseeable future, its 7nm-based chips are about two years away and AMD is viewed as having lucked into the perfect situation. They are finally firing on all cylinders right when the competition is facing technological hurdles.

The jury is still out on whether or not AMD's Radeon Technology Group can really take the fight to NVIDIA, but for now, that isn't the lifeblood of AMD, CPUs are and really have been for most of the company's history.

As I mentioned above, let's take a fresh look at AMD's possible future performance and its resulting price:earnings.

AMD's Computing and Graphics segment, comprised of Radeon Technology Group, and all consumer CPU product lines such as desktop and notebook Ryzen CPUs, has shown solid growth over the last several quarters.

AMD's Computer and Graphics segment is soaring and has proven what a compelling product stack such as the third-generation of Ryzen can do. There really aren't many questions surrounding this segment, beyond graphics (that's another matter but not too important for now). The question many want to know is when, not so much if, EPYC will start to gain serious traction.

Here's AMD's EESC segment which includes EPYC and semi-conductor console APUs. You'll notice a strong seasonality here as AMD typically ramps up console sales during the second and third quarter:

Here the results are a bit of a mixed bag. It's hard to tell when console sales have started to fall and when EPYC has begun to make up a larger portion of the sales mix for the enterprise group. We can surmise that this late in the PS4 and Xbox One's respective lifecycles that sales have fallen off and indeed we just witnessed AMD's worst third quarter for EESC in the last few years.

Now to rectify what I got wrong in my last article on AMD's financial analysis.

Assumptions in my model:

  • I've used wall street consensus quarterly revenue forecasts for 2020, instead of my own sequential Q-o-Q 15% growth rates.
  • I've used AMD's targeted gross margin of 45% in Q1, and I've allowed it one percentage point of improvement every quarter, leading to an average of 47% in FY2020.
  • Operating expenses I've kept at AMD's FY2019 average of 32% OE:Gross Profit.
  • "Other Expenses" I've kept flat.
AMD projected financials through 2020

Using this I've come up with a trailing twelve month EPS of 97 cents at the end of 2020. Using today's stock price of $50 (rounded), this gives us an NTM P:E of 51x. 

This would place AMD more or less in line with its peers, such as NVIDIA (NASDAQ:NVDA)(a growth stock in its own right admittedly) which currently sits around 60x. So here's my call:

Short term (for those who might be looking at call options)

AMD is probably too risky unless a major correction pulls it back down to around the $40 range. With a very high p:e and even more pronounced expectations on this upcoming earnings report, there probably isn't much value. How can I tell? Options traders can use an old trick to find out what kind of movement is priced in. To do this take "at the money" calls and puts, and add their premiums together, then divide by stock price.

Doing this tells me traders aren't looking for anything more than an 8% move tomorrow, up or down. One would have to go outside that range, and then AMD would need to soar by that much in order to really drive profits on short term options. At near record highs, should AMD miss its earnings by just a tad, or deliver less-than-expected guidance for Q1, its share price could collapse tomorrow since analysis points to the stock being overbought right now.

Long Term - 12+ months

Here AMD's prospects are far less risky, and one that I will go on record as saying its a buy - even at current pricing. I would quickly pounce on any pullback to the $47-48 range and hold long for 12-24 months or longer. AMD is in a good position strategically with consumer and enterprise x86 chips against its lone competitor, Intel. However, take caution as Intel isn't going to stay down forever. They have tens of billions in cash to burn, and I'd imagine by 2022-2023 at the latest, they will have their fabrication lines running well enough to regain the lead in performance.

Despite AMD's lofty valuation, should they stay on track and execute well on their roadmap I would believe their stock is in for further gains as we head through the year.

Finally, things to look for in this evening's earnings:

  1. Easily #1 - how is EPYC fairing in the datacenter? AMD started at <1% market share in 2017 and this is a market worth tens of billions. Reports put AMD at anywhere from 4 to 6% market share as of late 2019. EPYC is the super high price, high margin product that AMD desperately needs to move in volume in order to push itself to the next level.
  2. Will the supply shortage last through 2020? AMD's sole supplier for high-performance chips, TSMC, has a well-known 7nm shortage - it's selling all the 7nm wafers it can process. Hopefully, Dr. Lisa Su and her management team can shed some light on the situation. It's no good if AMD is generating overwhelming demand for its products if it can't increase the supply. With Apple reportedly moving to TSMC's 5nm production lines, AMD may be able to increase its allocation, but we need to hear it from AMD today.

AMD will announce Q4 2019 earnings at 5:30 ET today. See you on the other side!

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