The bullish sentiment for Advanced Micro Devices (NASDAQ:AMD) is so strong that near-term demand uncertainties are barely scaring its investors away. And while the company reported a strong first quarter, the lowered outlook should have sent AMD stock lower.
Why are investors willing to pay so much for the company?
AMD Stock Helped by First Quarter Results
AMD’s 18-cent non-GAAP earnings met analyst consensus estimates. Revenue grew by 40.9% from last year to $1.79 billion. The sales growth impressed investors but Intel (NASDAQ:INTC) is not exactly losing out. Intel posted earnings of $1.45 a share as its revenue grew an impressive 23.2% year-over-year to $19.83 billion. So, with revenue that is 9 times smaller than Intel’s, AMD’s revenue is only 4 times smaller.
AMD is pinning its 20% revenue growth forecast in four areas. Zen 3 CPUs with RDNA 2 graphics cards, its process, packaging, and interconnect technology, data center, and PC/gaming are its business drivers. Among those segments, its PC portfolio has strong prospects.
AMD Ryzen 2 processors offers up to 16 cores. In mobile notebooks, AMD’s processors allow for ultra-thin and gaming solutions. On the high end, AMD Ryzen Threadripper desktop processor is now at 64 Zen 2 cores.
Strong Graphics Segment
In the graphics segment, the RDNA architecture is manufactured at 7 nanometers. AMD said that “we are on track to launch our next-generation gaming GPUs later this year, with a 50% performance per watt increase compared to our current offerings.”
Interestingly enough, product improvement does not give AMD enough confidence to forecast higher revenue growth. Competitor Nvidia (NASDAQ:NVDA) has a better portfolio of products that appeal to gamers. Still, the refreshed, next-generation RDNA GPUs will not add to its revenue until 2021. But its Zen 3 CPU launch alongside the new RDNA should lead to a re-acceleration in revenue growth. Its margins should also expand.
In the first quarter, AMD posted a gross margin of 46%, up from 41% last year.
The Outlook for AMD Stock
AMD expects second-quarter revenue of $1.85 billion. This is a 21% yearly increase and 4% sequentially. EPYC and Ryzen are the primary drivers to its sales growth. Also, semi-custom sales will contribute to its growth.
Yet AMD warned that the novel coronavirus will hurt consumer demand in the second half of the year. So, it issued a revenue growth forecast of around 25%, plus or minus 5%. Gross margin (non-GAAP) for the year will be around 45%.
The unchanged gross margin is a disappointment but expected in light of Covid-19. The company’s profitability could have fared worse with world economies at drops not seen since the Depression era.
AMD’s server business is progressing well. As Q1 ended, AMD saw its cloud business demand accelerated. This momentum should continue into the current quarter. The chip giant will ramp up the server business in the next three months. In doing so to meet demand, it will gain market share.
Given that the data center market is immune from the Covid-19 environment, investors are willing to hold AMD stock at high P/E multiples. But when its largest customers are accelerating data center deployments, the inability to meet demand is probably the only near-term risk.
The work-from-home order probably contributed positively to PC demand. Demand increased throughout April. In the current quarter, notebook demand is already showing strength. People need both a mobile solution and a powerful workstation, so notebooks will fit those requirements.
Price Target and Your Takeaway
At a 10.5% discount rate in a five-year discounted cash flow growth model, AMD cannot post revenue growing at less than 20%. And even at a perpetuity growth rate of 4%, the stock’s downside fair value is $45. Here is my revenue projection:
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Data courtesy of finbox
Chances are high that AMD is issuing a conservative 2020 forecast. Its computer chips benefit from strong demand. Plus, its server chip is in even higher demand, which assures strong sales ahead.
Disclosure: As of this writing, the author did not hold a position in any of the aforementioned securities.