Advanced Micro Devices (NASDAQ:AMD), which trails Intel (NASDAQ:INTC) as the second-largest chip maker, saw its shares rise 19% after reporting better-than-expected earnings Friday. Is AMD going to keep rising, or did it peak last week?

AMD certainly faces some strategic headwinds. These include a declining forecast for PC sales, the question of whether its Fusion chips can compete with Intel’s high-end Sandy Bridge chips, and its inability to find a new, top-talent CEO.

There are three reasons to consider purchasing this stock:

• Great earnings reports. AMD has been able beat analysts’ expectations without fail and has done so in all of its past five earnings reports. Second-quarter net income was $61 million, or 8 cents a share, compared with a loss of $43 million, or 6 cents, a year earlier, AMD said yesterday in a statement. Analysts had predicted profit of 7 cents, the average estimate in a Bloomberg survey.
• Improving long-term financial condition. AMD has enjoyed rising sales, profits and cash while its high debt has declined. AMD has been growing revenues slowly and profits more quickly. Its $6.4 billion in revenues rose at a 2% annual rate during the past five years, and its net income of $828 million has surged at a 23% annual rate in that period. During that time, its debt has risen faster than its cash. Its debt has fallen at a 12% annual rate, from $3.7 billion (2009) to $2.2 billion (2010) – although its debt-to-equity ratio of 1.34 places it near the bottom of its industry – while its cash rose at a 4.7% annual rate, from $1.5 billion (2009) to $1.8 billion (2010).
• It is very cheap. AMD’s price-to-earnings-to-growth ratio of 0.22 (where a PEG of 1.0 is considered fairly priced) means its stock price is incredibly cheap. It currently has a P/E of 6.98 and is expected to grow 29.8% to 73 cents in 2012.

But there is one reason for pause:

• Under-earning its cost of capital. AMD is earning less than its cost of capital – and it’s deteriorating. How so? It produced negative EVA momentum, which measures the change in “economic value added” (essentially, profit after deducting capital costs) divided by sales. In the first half 2011, AMD’s EVA momentum was -9%, based on 2010’s first six months’ annualized revenue of $6.4 billion, and EVA that plunged from $432 million annualizing the first six months of 2010 to -$131 million annualizing the first six months of 2011, using an 11% weighted average cost of capital.

AMD appears not to have overcome investor perception that it is a vulnerable No. 2 in the semiconductor industry. But its valuation is so low that any good news on the company could propel its stock upward. Perhaps this opportunity will convince a strong CEO to take over AMD – a piece of news that would add to AMD’s shareholder value.

Peter Cohan has no financial interest in the securities mentioned.