Computer processor maker AMD (NASDAQ:AMD) fell short of analyst expectations in Q3 FY2022 quarter, with revenue up 29% year on year to $5.56 billion. Guidance for the next quarter also missed analyst expectations with revenues guided to $5.5 billion at the midpoint, or 7.34% below analyst estimates. AMD made a GAAP profit of $66 million, down on its profit of $923 million, in the same quarter last year.
AMD (AMD) Q3 FY2022 Highlights:
- Revenue: $5.56 billion vs analyst estimates of $5.64 billion (1.49% miss)
- EPS (non-GAAP): $0.67 vs analyst expectations of $0.70 (4.87% miss)
- Revenue guidance for Q4 2022 is $5.5 billion at the midpoint, below analyst estimates of $5.93 billion
- Free cash flow of $842 million, roughly flat from previous quarter
- Inventory Days Outstanding: 110, up from 77 previous quarter
- Gross Margin (GAAP): 49.7%, up from 48.3% 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.
AMD's revenue growth over the last three years has been exceptional, averaging 57.4% annually. But as you can see below, last year has not been especially strong, with quarterly revenue growing from $4.31 billion to $5.56 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).
Despite missing analyst estimates this quarter, 29% revenue growth for AMD's was still solid. This marks 13 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 continue, and is guiding for revenue to grow 13.9% YoY next quarter, and Wall St analysts are estimating growth 10.3% 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.
This quarter, AMD’s inventory days came in at 110, 26 days above the five year average, suggesting that that inventory has grown to higher levels than what we used to see in the past.
AMD's gross profit margin, how much the company gets to keep after paying the costs of manufacturing its products, came in at 49.7% in Q3, up 1.3 percentage points year on year.
Over the past year, AMD has seen its already reasonably high gross margins continue to rise, averaging 50.8%, indicative of a solid competitive offering, efficient cost controls, and relatively low pricing pressure.
AMD reported an operating margin of 22.7% in Q3, down 1.7 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.
Operating margins have been trending up over the last year, averaging 27.9%. AMD's margins remain one of the highest in the semiconductor industry, driven by its highly efficient operating model's economies of scale.
Earnings, Cash & Competitive Moat
Analysts covering the company are expecting earnings per share to be fairly flat over the next twelve months, although estimates are likely to change post earnings.
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 $842 million in Q3, up 10.2% year on year.
AMD has generated $3.4 billion in free cash flow over the last twelve months. This is a solid result, which translates to 14.9% 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 47.1% 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
Sporting a market capitalization of $96.9 billion, more than $5.59 billion in cash and with positive free cash flow over the last twelve months, we're confident that AMD has the resources it needs to pursue a high growth business strategy.
It was good to see AMD deliver strong revenue growth this quarter. And we were also glad to see the improvement in gross margin. On the other hand, it was unfortunate to see that AMD's revenue guidance for the full year missed analyst's expectations and the revenue guidance for the full year was downgraded. Overall, it seems to us that this was a complicated quarter for AMD. The company is up 2.54% on the results as the numbers were pre-announced and the market was expecting a difficult quarter.
Is Now The Time?
AMD may have had a bad quarter, but investors should also consider its valuation and business qualities, when assessing the investment opportunity. We think AMD is a solid business. We would expect growth rates to moderate from here, but its revenue growth has been exceptional, over the last three 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 impressive operating margins are indicative of an highly efficient business model.
AMD's price to earnings ratio based on the next twelve months is 17.0x. There are definitely things to like about AMD and looking at the semiconductors landscape right now, it seems that the company trades at a pretty interesting price point.
The Wall St analysts covering the company had a one year price target of $92.5 per share right before these results, implying that they saw upside in buying AMD even in the short term.
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