Advanced Micro Devices (NASDAQ:AMD) stock has done quite well this year. At $148.17 as of Dec. 30, AMD stock is now up 61.6% from $91.71 (where it ended 2020). And this is after it recently reached a peak closing price of $161.91 a month ago on Nov. 29.
That is a big turnaround from earlier this year, and in fact as late as July 15, when I wrote an earlier article on AMD stock. At the time it was actually down in terms of performance for the year.
But now, since the release of its third-quarter earnings report on Oct. 26, the stock has been on a tear. One reason for this could be that the company has now had three full quarters of very strong free cash flow (FCF).
For example, in Q3 it made $764 million in FCF, which was substantially higher than the $265 million in FCF it made during last year’s Q3. This can be seen at the bottom of page 10 of its Q3 PDF earnings release.
Moreover, this represented a very high percentage of its revenue for the quarter. Advanced Micro Devices made $4.313 billion in revenue in Q3. So its $764 million in FCF represents a 17.7% margin on that revenue.
By contrast, a year ago, the $265 million in FCF was just 9.46% of its $2.8 billion in revenue in Q3 2020. So its 17.7% Q3 2021 FCF margin was 87% higher than a year earlier.
Where Things Stand Going Forward
Next year, analysts forecast that revenue will climb 18.5% to $19.1 billion by the end of 2022, up from $16.13 billion in 2021. This is based on Seeking Alpha’s survey of over 30 analysts
We can use this to estimate the company’s FCF generation next year. If we use a 17% FCF margin (slightly lower than the 17.7% Q3 margin), we can expect that AMD will produce $3.247 billion in FCF during 2022.
This will be larger than the FCF generated in 2021. For example, for the nine months ending Sept. 25, 2021, Advanced Micro Devices had just $2.484 billion in FCF. If it made the same amount of FCF in Q4 , the total would be $3.248 billion – exactly as we predict for 2022.
Of course, keep in mind that we lowered the FCF margin estimate. Assuming it makes a 20% FCF margin, with some lowering of expenses, AMD would make $3.82 billion in FCF.
So, on average we might estimate $3.5 billion in FCF next year. We can use this to value AMD stock going forward.
What AMD Is Worth Next Year
One way to estimate the value for AMD Stock is to use an FCF yield metric. For example, we can estimate the stock’s value by using a 1.5% FCF yield.
As a result, if we divide the $3.5 billion FCF estimate for 2022 by 1.5% we get a target market capitalization of $233.33 billion.
Compared to its existing $186.41 billion market cap today, AMD has a 25% upside potential (i.e., $233.33b/$186.41b – 1 = 25.1%).
This also implies that AMD stock is worth 25% more. Based on its price today of $148.17, that implies that AMD stock could reach a price of $185.36 per share.
What to Do With AMD Stock
Now that the company is producing substantial free cash flow, the stock has been doing quite well. I expect that this will continue next year. It is also possible that the FCF yield metric will improve as well.
For example, I used a 1.5% FCF yield to value AMD stock. But it would not be out of place for the market to give it a 1% FCF yield. With that metric, it would be valued at $350 billion (i.e., $3.5b FCF / 0.01).
That represents a potential upside of 87.7% for the stock (i.e., $350b/$186.41b -1=0.877). So you can see that the market could push the stock substantially higher with this metric. This would be at the upper end of the valuation spectrum.
Analysts today are not as ebullient on the stock as I am. For example, the average of 38 analysts surveyed by Seeing Alpha gives it an average price target of $140.72. The upper end of their valuation is $180, which is close to my average target value of $185.36 per share.
So, on average you might expect that the stock will at least rise to somewhere between $140 and my target value of $186 over this year. Making a 25% return on investment is not that bad for most investors.
On the date of publication, Mark R. Hake did not hold any position (either directly or indirectly) in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Mark Hake writes about personal finance on mrhake.medium.com and Newsbreak.com runs the Total Yield Value Guide which you can review here.
