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3 Reasons Advanced Micro Devices, Inc. (AMD) Stock Will Rebound

AMD stock was punished after Q1 earnings, but the long-term story still holds

For a little over a year, Advanced Micro Devices, Inc. (NASDAQ:AMD) could do no wrong. AMD stock dipped below $2 in early February 2016. Over the next twelve and a half months, AMD stock rose about 700%, clearing $15 at the end of February 2017. It was a stunning run for a stock that had been “dead money” since the financial crisis.

3 Reasons Advanced Micro Devices, Inc. (AMD) Stock Will Rebound
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The sentiment toward AMD stock has changed quickly, however. Advanced Micro Devices has declined about 32% since those late February highs, including a punishing 24% decline after Q1 earnings last week.

The recent declines seem like too much. The core story that sent AMD stock rocketing higher in 2016 still holds. And there are still a number of reasons to believe that Advanced Micro Devices will rebound from the recent weakness — even if investors might need to be patient.

AMD’s Ryzen Launch Is Working And Continuing

The selloff in AMD stock didn’t come from Q1 numbers, which essentially were in line with expectations. And the best news in the first quarter was the strength in the recently launched Ryzen 7 CPU.

Revenue in the Computing and Graphics segment increased 18% year-over-year, which Advanced Micro Devices management attributed to the Ryzen launch. Gross margin company-wide expanded 200 bps — again, due to Ryzen. Margin concerns long have kept a lid on AMD stock, as the Advanced Micro Devices historically has struggled with consistent profitability. The new Ryzen line has the ability to improve overall margins, and mitigate that problem.

As Bank of America pointed out, Ryzen 7 allowed AMD to both take pricing and take share in desktop from Intel Corporation (NASDAQ:INTC). The Ryzen line more generally has made Advanced Micro Devices a stronger competitor. And with Ryzen 5 launched in Q2 and Ryzen 3 due in the back half, the benefits to AMD stock haven’t been fully realized yet.

Advanced Micro Devices: Naples Is On The Way

Advanced Micro Devices is going after Intel in another area: datacenters. The Naples server CPU will be launched in late Q2, per CEO Lisa Su on the AMD Q1 conference call. And Naples seems a legitimate competitor to Intel’s Broadwell.

And in datacenter, pretty much any kind of a win for Naples should benefit both AMD earnings and AMD stock. Advanced Micro Devices has basically no presence in servers, with its market share declining from 25% a decade ago to under 1% at the moment.

Even single-digit share gains alone have the possibility of  driving double-digit revenue growth for AMD. Combined with operating leverage, any success from Naples — where early reviews seem reasonably strong — should set the stage for stronger earnings growth in the second half of 2017 and beyond.

This Isn’t the ‘Same Old’ AMD Stock

The big concern from investors coming out of Q1 was non-GAAP gross margin guidance of 33%. That figure was down quarter-over-quarter, and the reaction to that number stems from one simple thought: “Same old AMD”. Again, this is a company that historically hasn’t generated consistent earnings or free cash flow. Even in a strong 2016, free cash flow was just $13 million — and that was the first positive year for Advanced Micro Devices since 2011.

But Su argued on the Q1 call that Q2 gross margin guidance was due to higher console shipments, which temporarily push those margins down. With Ryzen 7 already helping pricing and margins, and Ryzen, Naples and the Vega GPU (a competitor to the dominant position of Nvidia Corporation (NASDAQ:NVDA)) on the way, that looks like a temporary issue.

Meanwhile, the run from $2 to $15+ was based in large part on the idea that this isn’t the same old Advanced Micro Devices. Q2 margin guidance aside, there’s plenty of evidence for that argument. Ryzen and Naples create legitimate competition for Intel. EBITDA margins turned positive in the seasonally weak Q1.

On a near-term earnings basis, AMD stock still isn’t cheap above $10. The stock trades at 35x next year’s earnings. But the contribution from new chips and the benefits of better cost control aren’t ending in 2018, let alone in Q2. The reaction to a single quarter’s guidance looks like an overreaction from here. And it looks like a buying opportunity for Advanced Micro Devices stock.

As of this writing, Vince Martin has no positions in any securities mentioned.

Article printed from InvestorPlace Media, https://investorplace.com/2017/05/3-reasons-advanced-micro-devices-inc-amd-stock-rebound/.

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