Advanced Micro Devices, Inc. Stock Has Value, But Not THAT Much Value

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AMD stock - Advanced Micro Devices, Inc. Stock Has Value, But Not THAT Much Value

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When it comes to battleground stocks, I now think that chipmaker Advanced Micro Devices, Inc. (NASDAQ:AMD) might take the cake.

I used to think that Tesla Inc (NASDAQ:TSLA) was the ultimate battleground stock. There are ton of bulls who resolutely believe in the long-term growth narrative of electric vehicles and solar-powered technology. There are a ton of bears to resolutely believe the company is a quasi-scam that constantly over-promises and under-delivers. And there is a whole bunch of arguing between the two sides.

Meanwhile, AMD stock also has a ton of bulls who resolutely believe in the long-term growth narrative of providing components for every hyper-growth technology field in the world. The stock also has a ton of bears who resolutely believe that the valuation makes no sense, and that the company will start to run into fierce competition in critical high-end markets.

The arguing between the two sides never seems to stop, or lessen in magnitude — AMD’s violent swings reflect that.

This battleground nature inherently makes AMD stock risky. Just look at the what the stock has done over the past year. Ultimately AMD has gone nowhere, but it’s violently bounced between $10 and $15 multiple times. Sharp moves to the upside are followed by equally sharp moves to the downside. Big drops inevitably follow big rallies.

Ultimately, that is why I’m not a buyer of this stock. Too much risk.

And there isn’t enough potential reward. If you look past all the noise and look at the numbers behind this company, you’ll discover that any prices above $20 for AMD stock are a big stretch, even in a multi-year window.

Let’s take a deeper look.

AMD Stock By The Numbers

AMD’s revenue growth was 25% this year. It’s expected to be 32% next quarter. Both analyst and management expect growth to slow meaningfully after that given tough laps, especially in the back half of the year. Overall, management is guiding for double-digit revenue growth in 2018, while analysts are modeling for 18% revenue growth. That is a sizable step-down from 2017’s 25% growth rate.

The slowdown is reasonably expected to continue thereafter. After all, this hyper-growth data center tailwind can’t last forever, and AMD will be more aggressively rubbing elbows with competitors. That is why the 2019 revenue growth rate is pegged at just under 8%.

So what happens after that?

Well, post-2019, you’re looking at an AMD with single-digit revenue growth potential, barring some super-charged demand tailwind. The problem here is that single-digit revenue growth is good, but not good enough to drive tremendous expense leveraging. Consequently, most margin expansion post-2019 will come from gross margin expansion.

But if you look at gross margins, they are starting to act pretty maxed out.

Gross margins were stable in the back half of 2017 at 35%. They are expected to jump to 36% in the first quarter, but that is up only 200 basis points year-over-year, versus a 300 basis point jump last quarter. The rate of gross margin expansion is slowing. Moreover, in 2018, gross margins are simply expected to be above 36%, versus 34% in 2017.

While gross margins may expand a few hundred basis points between now and 2019, after that, it is likely that gross margin expansion will be less than 100 basis points per year.

In totality, then, AMD is looking at super-charged earnings growth this year (+130% to $0.39), but that is expected to cool in subsequent years (+40% in 2019 to $0.55, and +30% in 2020 to $0.72).

So at that point in time, revenue growth will be in the high single-digit range, gross margins will be largely tapped out, and the opex rate won’t have much room to fall. At best, that combination leads to AMD being a 20% earnings growth story post-2020.

Bottom Line on AMD Stock

Over the past 20-plus years, the market’s average price-to-earnings/growth (PEG) ratio has been roughly 1.25. Taking that as a baseline, then a fair forward earnings multiple for a 20% growth stock is 25. A 25 forward multiple on 2020 earnings estimates of $0.72 implies a 2019-end price target of $18. Discount that back by 10% per year, and you get to a present value of roughly $15 for AMD stock.

Based on the numbers, I continue to believe that AMD is a sideways stock capped by a $15 price tag. That means buying now might not be a bad move. I could easily see broad market strength pushing this stock back to its $15 cap over the next several months.

But then AMD stock will drop again. And this whole sideways cycle will repeat.

Long term, I don’t see much reason to own this name.

As of this writing, Luke Lango was long TSLA.


Article printed from InvestorPlace Media, https://investorplace.com/2018/02/amd-stock-value-not-much/.

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