Own Micron Technology Inc. (MU) Stock? Don’t Let Go!

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Micron Technology Inc. (NASDAQ:MU) isn’t your typical stock. Most semiconductor stocks are reasonably cyclical — but Micron historically has taken those swings to an extreme. Micron’s dependence on NAND and DRAM pricing leads to huge fluctuations in earnings. And MU stock usually follows.

Own Micron Technology Inc. (MU) Stock? Don't Let Go!

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Indeed, Micron stock in the past four years has gone from $6 to $35 to $11 to $32, settling in around $30 at the moment. Looking at recent earnings gives a good idea why.

In fiscal Q3 (Micron’s May quarter), revenue increased a whopping 92% year-over-year. Non-GAAP EPS increased from a 3-cent loss to a $1.62 profit — in just 12 months!

That reversal to a huge profit came mostly from pricing. Non-GAAP gross margin rose from 18.1% in Q3 FY16 to 48% the following year. And what’s terrifying about MU stock is that those big gains almost always are followed by substantial declines. NAND and/or DRAM prices rise, and so do profits from Micron, SK Hynix Inc (OTCMKTS:HXSCF) and Samsung Electronics (OTCMKTS:SSNLF).

With profits to be made, those majors build up capacity. Prices fall, and so do earnings, and so do shares. It’s a cycle that can play out in only a few quarters, as witnessed by the recent roller-coaster ride in Micron shares.

So the most important question at the moment, with Micron stock trading at barely 6x non-GAAP EPS for FY17, is when that cycle will start anew.

Pricing

An investor can’t just look at Micron’s FY17 EPS of $4.68 (at the midpoint of Q4 guidance), the resulting 6.2x P/E multiple, and argue that Micron stock is cheap. Yes, Nvidia Corporation (NASDAQ:NVDA) trades at 54 times earnings, and even Intel Corporation (NASDAQ:INTC) trades around 14 times.

But that’s apples to oranges. Micron’s FY17 earnings simply aren’t sustainable over the long run.

After all, this same company earned just 6 cents in FY16 on the same non-GAAP basis. And the difference between the two years comes down lately to pricing. DRAM memory prices for PCs reportedly rose 30% just between the fourth quarter of calendar 2016 and the first quarter of this year. Those higher prices basically are free profit for Micron — as witnessed by the huge jump in gross margins so far this year.

That pricing will come down as capacity is built.

It’s fears of that capacity that have led Micron stock to pull back of late. Even a big Q3 beat only led MU stock lower. Micron bears are convinced that FY17 and FY18 (the company does have relative easy comparisons in Q1, in particular) are basically a one-off. Increased capacity from Micron itself (who increased capex ~$1 billion this year) will itself pressure pricing. And Samsung and Hynix likely will follow.

The cycle will turn. And any cyclical investor knows that the time to sell cyclical stocks is near the top.

Why MU Stock Can Hold Up

I argued back in April that this time is different for Micron stock — and I still think that’s the case.

To be sure, there’s still going to be a fair amount of cyclicality, and investors can’t model $4-plus in EPS into the future. That said, the business is different than it was even a few years ago.

Micron is far less reliant on PC memory prices, for one. In Q3, according to the Micron earnings call, PC markets drove roughly 13% of total revenue. Mobile is about 30%, though slower smartphone growth means demand there should be stable.

But over half of DRAM sales come from server and specialty applications – both growing markets. Over 40% of NAND revenue comes from solid state drives (SSDs) and automotive/industrial. Those growing categories should help demand on a unit basis. That in turn should mitigate some of the brutal swings of pricing that make Micron earnings so choppy. And it means that underneath those swings, there’s a business with real, if not spectacular, long-term growth potential here.

The Top Isn’t Here

At its heart, the bull/bear argument over Micron stock comes down to capacity. If the three majors in particular overbuild, prices will plunge, earnings will narrow and MU stock will fall.

But I’m not sure that overcapacity is coming just yet — and demand growth should offset at least some of that build. Micron’s long-term earnings may not match those of FY17, but that doesn’t mean a quick reversal to breakeven a year or two from now, either.

Again, Micron is a cyclical stock, and that needs to be remembered. But the cycle isn’t done, with demand for storage and high-end applications still increasing. Tossing MU over capacity fears seems a bit early – given those fears haven’t yet impacted pricing.

And I believe this stock is worth holding on to until something changes.

As of this writing, Vince Martin did not hold a position in any of the aforementioned securities.

After spending time at a retail brokerage, Vince Martin has covered the financial industry for close to a decade for InvestorPlace.com and other outlets.


Article printed from InvestorPlace Media, https://investorplace.com/2017/08/own-micron-technology-inc-mu-stock-dont-let-go/.

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