Advanced Micro Devices (NASDAQ:AMD) stock illustrates one of my problems with the 2020 stock market.
If it works, it costs too much.
AMD is a great company. It had revenue of $6.7 billion in 2019. It may have more in 2020. But its market capitalization of $64 billion is over 9 times that revenue, and it has always been just marginally profitable.
AMD stock opened June 15 near $52.60, down about 1.7% from its June 12 close. The price-earnings ratio on that is a staggering 125. By contrast, Amazon (NASDAQ:AMZN) sells at 121 times earnings, and it doesn’t even want to earn money right now.
That’s a good place to begin our story.
The Cloud Threat to AMD Stock
The biggest danger to chip stocks is cloud computing giants like Amazon might make their own chips.
That’s happening.
Amazon opened for trade June 15 with a market cap of $1.3 trillion. But it’s still only third among the leaders — companies that own their own networks of cloud computing centers. Apple (NASDAQ:AAPL) is worth $1.53 trillion, Microsoft (NASDAQ:MSFT) is worth $1.47 trillion, and Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL) is worth $988 billion.
Facebook (NASDAQ:FB) trails behind at “just” $676 billion.
Four of these companies, including Amazon, have their own chip designs. Microsoft has its own AI processor, competing directly with AMD and Nvidia (NASDAQ:NVDA). Google has its TensorFlow and Tensor chip. Apple is trying to replace its main suppliers on the iPhone.
Amazon’s cloud chip is called Graviton. It’s based on a design from ARM, which SoftBank (OTCMKTS:SFTBY) bought in 2016. Amazon is now offering three new “instances” of the Graviton2 chip on its Elastic Compute Cloud. The new chips, announced last December, have 64 cores and circuit lines 7 nanometers apart, just like AMD’s EPYC.
What About AMD’s Traditional Rivals?
Rather than consider the threat from its largest customers, AMD bulls continue comparing the company to “traditional” rivals like Nvidia and Intel (NASDAQ:INTC).
There, AMD is doing quite well.
AMD produces microprocessors for devices like PCs and graphics chips for game consoles. AMD chips power the coming Sony (NYSE:SNE) Playstation 5.
AMD engages in both competition and cooperation with Nvidia. They compete in graphics while working together on microprocessors. Announcements and deliveries within the channel have become opaque recently as the two, along with Intel, struggle for market share.
Meanwhile, AMD’s Lisa Su is the S&P 500’s best paid CEO, thanks to stock awards. She earned her $58.5 million pay packet because the stock rose 148% in 2019, five times the gain in the average S&P 500 stock. When she became CEO at the end of 2014, AMD was worth just $2 billion. Investors who bet on Su have nothing to complain about.
Su, who was born in Taiwan’s historic capital of Tainan but came to the U.S. as a small child and carries a doctoral degree from MIT, is a great American. She recently drew praise for supporting the move of Taiwan Semiconductor (NYSE:TSM), which makes AMD’s chips, to build a factory in Arizona.
The Bottom Line on Advanced Micro Devices
The problem is that when you buy stock, you’re betting on tomorrow, not yesterday.
AMD has always been a stock bought for capital gains rather than dividends. It still dominates important markets like gaming. It’s where money is made. AMD now has over half the revenue for high-end silicon that goes into game cards and consoles. The PS4 should keep driving these sales.
But analysts are now urging caution. AMD is fully valued, even with its great prospects. The capital requirements of chip design keep increasing, and the leading cloud companies have the cash to wear companies like AMD down.
They seem determined to do so.
Dana Blankenhorn has been a financial and technology journalist since 1978. His latest book is Technology’s Big Bang: Yesterday, Today and Tomorrow with Moore’s Law, essays on technology available at the Amazon Kindle store. Follow him on Twitter at @danablankenhorn. As of this writing he owned shares in MSFT, AAPL FB and AMZN.
