Inventory and Trade Victories Mean Smooth Sailing for Micron Stock

Bulls rejoiced and Micron stock responded to some good news recently

After spending much of June stuck in the $32 – $34 range, shares of Micron (NASDAQ:MU) broke out and traded in the $40 range when the company reported third-quarter 2019 results. And when the U.S. agreed at the G20 meeting to back down on banning Huawei products, this sent semiconductor chip stocks flying higher. How much more upside does Micron stock have from here?

Micron MU stock
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Markets fretted over the supply glut and weak demand and investors took out their frustration on Micron stock. But in the third quarter, Micron highlighted the strong long-term growth outlook for memory and storage, driven by AI, G5, IoT, and autonomous (ADAS) vehicles.

The bright outlook suggests NXP Semiconductors N.V. (NASDAQ: NXPI) is well-positioned as it sells chips to the ADAS markets. Qualcomm Incorporated (NASDAQ: QCOM) is also poised to resume growth in the long-term as smartphone makers move to 5G.

Market Equilibrium for Micron

After customers corrected inventory levels to align with demand, Micron now expects most end markets will return to healthy DRAM demand growth for the rest of 2019.

NAND bit demand is also increasing for the same reason. Also, to align its output with the lower demand levels, Micron is cutting capex in the second half of the calendar year. This will have an impact on industry supply and will benefit all players.

Lower pricing pressures will support EBITDA margin improvements. In the third quarter, Micron’s EBITDA margin grew 2000 base points over 2016 levels.

Lower Capex and Micron Stock

Micron’s capex will fall from the previously forecast $10.5 billion to around $9 billion in fiscal 2019. For the upcoming fiscal 2020, capex will fall meaningfully lower than FY 2019.

In Q3, capex of $500 million fell sharply lower from last year’s $2.2 billion levels. And in the quarter, Micron used the excess cash to buy back 3.8 million shares for $157 million. For the fiscal year-to-date, Micron used 70% of its cash flow to buy around $2.7 billion worth of shares.

The 8% reduction in the outstanding share count will help Micron’s future EPS numbers, which benefits shareholders.

On October 31, Micron will close its IMFT joint venture. Micron expects to pay around $1.4 billion for Intel Corporation’s (NASDAQ: INTC) share of IMFT (“Intel Micron Flash Technologies”).  Micron will use a portion of the payment to repay the $860 million in member debt financing.

Brighter Outlook

Micron reiterated the DRAM and NAND markets are still oversupplied. It also said that demand improvement will lead to stronger growth for its DRAM bit shipment. This is due to demand from customers in the cloud, graphics, and PC markets.

Conversely, NAND shipment growth is limited due to the ongoing transition for Micron’s SSD portfolio. For the current fourth quarter period, Micron expects revenue of around $4.5 billion, gross margin of 29% +/- 150 basis points, and an EPS of $0.45 +/- $0.07.

With any new U.S. and China tariffs on hold, Micron’s customers may now return to “business as usual.” It may resume its investments in cloud computing and other memory and storage-intensive development. With the cloud of uncertainty lifted, chances are good that Micron could continue rallying longer.

Of course, a pullback due to profit-taking may follow. Any short-term drop creates a buying opportunity for investors who missed the recent rally.

The Bottom Line on Micron Stock

Micron has elevated inventory, part of which it is drawing down. Still, its NAND inventory levels are deliberately higher. It wants more inventory heading into fiscal 2020 because it is making a transition to replacement gate.

On the DRAM front, Micron expects higher customer demand will accelerate the drop in inventory. Investors should note that Micron wrote down $40 million of DRAM inventory due to the Huawei ban. Now that the ban is temporarily lifted, Micron may report a revenue level that is higher than previously forecast.

The cloud over Micron and the rest of the chip stocks lifted after a favorable discord between the U.S. and China. As the two countries resume trade and work out a deal, Micron’s customers will resume their orders.

Disclosure: The author owns shares of NXP Semiconductors.

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