Just like that, Advanced Micro Devices, Inc. (NASDAQ:AMD) is in bear territory. Since its most recent earnings report, AMD stock is down about 23%. Rising competitor Intel Corporation (NASDAQ:INTC), which reported solid quarterly results shortly after AMD, is up about 11% in that time frame.
Clearly, there is a massive shift in sentiment here. Investors are bailing on the hyper-growth, hyper-valued AMD stock and piling into the lower-growth, more-reasonably valued INTC stock.
I don’t think this shift is over. The story the market is listening to is this: NVIDIA Corporation (NASDAQ:NVDA) is the king of this space, while Intel is gradually gaining share on AMD. That story-line implies more weakness ahead for AMD stock.
But when is the right time to start buying AMD stock? After all, this is still a great company that’s successfully executing an impressive turnaround. The company has exposure to multiple secular growth markets like cloud data-centers and automated driving. The stock was just way overvalued at $15.
All else equal, I’m a buyer around $8. Here’s how I get there.
AMD Growth Under Question
AMD will gain ground in high-end markets, such as hyper-scale data centers and automotive, over the next several years. Already, three of the seven big hyper-scale data-center providers have announced intentions to use AMD’s EPYC processors, including Microsoft Corporation (NASDAQ:MSFT), Baidu Inc (ADR) (NASDAQ:BIDU), and Tencent Holdings Ltd (OTCMKTS:TCEHY). Gradual market share gains in these secular growth markets ensure a strong revenue trajectory for AMD.
But just how strong?
That question seems to be coming under intense scrutiny recently. NVDA isn’t ceding much growth. Data-center revenues at NVDA nearly tripled two quarters ago, and grew by more than 2.5x last quarter. Meanwhile, INTC is making a serious push into these markets and driving positive growth in its data-center and Internet of Things (IoT) businesses. The big news, of course, is that Waymo’s newest vehicles feature Intel-based tech.
But as I’ve pointed out earlier, the AMD story doesn’t seem to be gaining momentum in the same way the NVDA or INTC stories are gaining momentum. AMD’s revenue growth appears to be maxed out, and it looks like growth rates will start coming down from here due to increased competition. That is a problem for a stock that still trades at north of 30x next year’s earnings estimate.
It is likely revenue growth over the next several years comes in around the mid-teens range, or about 15%. Gross margins should continue to healthily trend up as the product mix becomes more favorable. Opex should be levered dramatically with robust revenue growth. Overall, it’s not unlikely that 15% revenue growth turns into 30%-40% earnings growth thanks to margin expansion.
But 84x 2017 earnings is a steep price to pay for 35% growth potential. The S&P 500 Index is trading at 19.7x 2017 earnings for 10.7% growth potential. That is a price-to-earnings/growth (PEG) ratio of about 1.8.
Apply that PEG ratio to AMD and you get a “fair” P/E multiple of about 63. A 63x on 13 cents earnings estimates implies a fair value of just over $8.
Bottom Line on AMD Stock
I’ve been bearish on AMD stock for a long time. It’s a great company with phenomenal leadership executing an impressive turnaround, but Wall Street got ahead of itself on this name.
Competition is increasing in a big way, and that is covering AMD’s long-term growth prospects with question marks.
AMD stock is now in the bottom of a well-defined 2017 trading range, so the stock could very likely bounce here. But I’m not pulling the trigger until this thing gets to $8, a level where I feel AMD stock is fairly valued.
Until then, I’ll watch the volatile trading from the sidelines.
As of this writing, Luke Lango was long NVDA and INTC.
