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AMD (NASDAQ:AMD) Surprises With Strong Q3, Provides Optimistic Guidance For Next Quarter


Full Report / November 02, 2021
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Computer processor maker AMD (NASDAQ:AMD) reported Q3 FY2021 results topping analyst expectations, with revenue up 53.9% year on year to $4.31 billion. Guidance for next quarter's revenue was surprisingly good, being $4.5 billion at the midpoint, 5.94% above what analysts were expecting. AMD made a GAAP profit of $923 million, improving on its profit of $390 million, in the same quarter last year.

AMD (AMD) Q3 FY2021 Highlights:

  • Revenue: $4.31 billion vs analyst estimates of $4.11 billion (4.85% beat)
  • EPS (non-GAAP): $0.73 vs analyst estimates of $0.66 (10% beat)
  • Revenue guidance for Q4 2021 is $4.5 billion at the midpoint, above analyst estimates of $4.24 billion
  • Free cash flow of $764 million, down 13.9% from previous quarter
  • Inventory Days Outstanding: 78, down from 80 previous quarter
  • Gross Margin (GAAP): 48.3%, up from 43.9% same quarter last year

Founded in 1969 by a group of former Fairchild semiconductor executives led by Jerry Sanders, Advanced Micro Devices or AMD (NASDAQ:AMD) is one of the leading designers of computer processors and graphics chips used in PCs and data centers.

AMD began producing computer processors (CPUs) as a second source supplier for Intel as part of Intel’s original processor deal with IBM for the first PCs in the early 1980s.

For the next few decades, AMD would have intermittent success in creating its own chips that could better run Intel's own x86 processor architecture, at times grabbing market share from Intel in the data center with innovative designs like Athlon or Opteron, it was not able to find enduring competitive success.

Faced with bankruptcy after the Great Financial Crisis, AMD spun out its manufacturing arm, Global Foundries, becoming a far less capital intensive designer of semiconductors, allowing for higher profit margins The entrance of Dr. Lisa Su as CEO in 2016 led to a turning point in chip designs, AMD’s Epyc datacenter CPUs and the Ryzen PC CPUs would eventually surpass Intel due to superior higher performance at lower cost.

Where AMD traditionally could only compete with Intel at the low end, in the years since 2016 it has captured share in the most profitable portion of the business — high-end PCs and data center servers, where performance is paramount. Essentially, AMD improved the economics of its business by outsourcing its manufacturing, and competing successfully, but partnerships with chip manufacturers like Taiwan Semiconductor Manufacturing Company will be important for enduring success.

AMD’s primary competitors are Intel (NASDAQ:INTC), Nvidia (NASDAQ:NVDA), and Qualcomm (NASDAQ:QCOM).

Processors and Graphics Chips

Chips need to keep getting smaller in order to advance on Moore’s law, and that is proving increasingly more complicated and expensive to achieve with time. That has caused most digital chip makers to become “fabless” designers, rather than manufacturers, instead relying on contracted foundries like TSMC to manufacture their designs. This has benefitted the digital chip makers’ free cash flow margins, as exiting the manufacturing business has removed large cash expenses from their business models. Read More The semiconductor industry is broadly divided into analog and digital semiconductors. Digital chips are what most people think of as the brains of almost every electronic device. Their primary purpose is to either store (memory chips) or process (CPUs/GPUs) data. Digital chips derive their processing power from the number of transistors that can be packed on an individual chip. In chip design, nanometers or “nm” refers to the length of a transistor gate – the smaller the gate the more processing power that can be packed into a given space. In 1965, Intel’s founder Gordon Moore famously predicted a doubling of transistors on a chip every two years. The concept, known as Moore’s Law, was based on his belief that the technology used to create semiconductors would improve continuously, allowing chips to become ever smaller and ever more powerful.

Sales Growth

AMD's revenue growth over the last three years has been very strong, averaging 37.4% annually. And as you can see below, last year has been especially strong, with quarterly revenue growing from $2.8 billion to $4.31 billion. Semiconductors are a cyclical industry and long-term investors should be prepared for periods of high growth, followed by periods of revenue contractions (which can sometimes offer opportune times to buy).

AMD Total Revenue

This was a fantastic quarter for AMD with 53.9% revenue growth, beating analyst estimates by 4.85%. This marks 9 straight quarters of revenue growth, which means the current upcycle has had a good run, as a typical upcycle tends to be 8-10 quarters.

However, AMD believes the growth is set to even accelerate, and is guiding for revenue to grow 60.6% YoY next quarter, and Wall St analysts are estimating growth 18.8% over the next twelve months.

Product Demand & Outstanding Inventory

Days Inventory Outstanding (DIO) are an important metric for chipmakers, as it reflects the capital intensity of the business and the cyclical nature of semiconductor supply and demand. In a tight supply environment, inventories tend to be stable, allowing chipmakers to exert pricing power. Steadily increasing DIO can be a warning sign that demand is weak, and if inventories continue to rise the company may have to downsize production.

AMD Inventory Days Outstanding

This quarter, AMD’s inventory days came in at 78, 5 days below the five year average, showing no indication of an excessive inventory buildup at the moment.

Pricing Power

AMD's gross profit margin, how much the company gets to keep after paying the costs of manufacturing its products, came in at 48.3% in Q3, up 4.5 percentage points year on year.

AMD Gross Margin (GAAP)

AMD' gross margins have been trending up over the last year, averaging 46.6%. This is around the average of what we typically see in semiconductor businesses, but the rising margin may be indicative of improving cost controls.

Profitability

AMD reported an operating margin of 24.4% in Q3, up 5.7 percentage points year on year. Operating margins are one of the best measures of profitability, telling us how much the company gets to keep after paying the costs of manufacturing the product, selling and marketing it and most importantly, keeping products relevant through research and development spending.

AMD Adjusted Operating Margin

Operating margins have been trending up over the last year, averaging 22.7%. AMD's margins remain towards the high end of semiconductor companies, driven by its efficient operating model's economies of scale.

Earnings, Cash & Competitive Moat

Analysts covering the company are expecting earnings per share to grow 20.7% over the next twelve months.

Earnings are important, but we believe cash is king as you cannot pay bills with accounting profits. AMD's free cash flow came in at $764 million in Q3, up 188% year on year.

AMD Free Cash Flow

AMD has generated $2.96 billion in free cash flow over the last twelve months. This is a solid result, which translates to 19.9% of revenue. That's above average for semiconductor companies, and should put AMD in a relatively strong position to invest in future growth.

AMD’s average return on invested capital (ROIC) over the last 5 years of 41% implies it has a strong competitive position and is able to invest in profitable growth over the long term.

Key Takeaways from AMD's Q3 Results

With a market capitalization of $151 billion, more than $3.6 billion in cash and with free cash flow over the last twelve months being positive, the company is in a very strong position to invest in growth.

We were impressed by how strongly AMD outperformed analysts’ earnings expectations this quarter. And we were also excited to see the really strong revenue growth. Zooming out, we think this was a great quarter and shareholders will likely feel excited about the results. The company currently trades at $125.29 per share.

Is Now The Time?

When considering AMD, investors should take into account its valuation and business qualities, as well as what happened in the latest quarter. We think AMD is a good business. We would expect growth rates to moderate from here, but its revenue growth has been strong, over the last two years. On top of that, its high return on invested capital suggests it is well run and in a strong position for profit growth, and its strong operating margins are indicative of a well run business.

The market is certainly expecting long term growth from AMD given its price to earnings ratio based on the next twelve months is 43.5x. There is definitely a lot of things to like about AMD and looking at the semiconductors landscape right now, it seems that it doesn't trade at an unreasonable price point.

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