Blowout Beat-And-Raise Quarter

AMD (NASDAQ:AMD) shares are up ~10% to ~$75/share in after-hours trading right now off the back of a strong 2Q print and strong 3Q and FY20 guidance. Let’s break down the numbers:

  • C&G revenue: $1.37 billion vs. $1.37 billion expected (in-line)
  • EESC revenue: $565 million vs. $479 million expected (beat)
  • Gross Margin: 44.0% vs. 44.4% expected (miss)
  • Q3 Revenue Guide: $2.45-$2.65 billion vs. $2.3 billion expected (beat)
  • FY20 Revenue Guide: 32% y/y growth vs. 20-30% y/y prior guide (beat)
  • FY20 Gross Margin Guide: 45%

Ryzen- and Radeon-related revenue was relatively in line relative to expectations. The big beat came from AMD’s EESC (enterprise, embedded, and semi-custom) business segment. As work-from-home trends accelerated in 2Q, this prompted a whole new set of cloud workloads to see a massive increase in usage. So, datacenter Capex growth reaccelerated in 2Q. This likely lead to an increase in AMD’s x86 silicon offerings (i.e., EPYC) as well as GPU offerings (i.e., Radeon Instinct). The beat would’ve likely been more pronounced had AMD not seen a steep decline in console-related revenue.

Gross margins were in line with company guidance, but slightly weaker than the high expectations the Street put on the company. The guidance is where things got juicy.

AMD is guiding $2.55 billion (midpoint) in revenue for 3Q. This is relative to expectations for $2.3 billion in revenue, an ~11% beat. Notice the contrast with Intel’s (NASDAQ:INTC) lukewarm guide from last week.

One could argue AMD’s full-year guide was even more impressive. The company previously had a wide guidance range of 20-30% y/y growth. Now, however, it is guiding to 32% y/y growth, above even the top-end of its previous guided range. This implies revenues of $8.885 billion for 2020, versus the prior range of $8.077-8.75 billion (midpoint of $8.413 billion). This represents a full-year beat of ~6% relative to its previous guide and the consensus $8.33 billion. This is again a monster beat, and combined with a strong full-year gross margin of ~45%, it is no wonder the stock is reacting the way it is.

Some Conference Call Notes

The stock was able to maintain its upside after the close, in large part because of the conference call. Let’s break down some key points. (Emphasis added by author)

We accelerated our server and mobile processor businesses significantly in the quarter, resulting in Ryzen and EPYC processor revenue more than doubling year-over-year. Importantly, we met our double-digit server processor market share goal, as Datacenter products accounted for more than 20% of our second quarter revenue.

– Lisa Su, CEO

This paragraph alone has a lot of important points for the AMD story. First of all, Ryzen and EPYC revenues both grew at an astonishing pace, both more than doubling. EPYC acceleration was likely driven by increased cloud workloads (as mentioned earlier) and accelerated adoption of 7nm Rome. Ryzen growth was likely a combination of expanding market share in desktop and HEDT (high-end desktop, i.e., Threadripper), notebook, and improving ASP mix. AMD’s push into the high-performance end of the x86 market meant it was able to leverage greater pricing power, and thus, higher ASPs and margins. And finally, AMD hit double-digit market share in the server market. I assume management is referring to x86 market share rather than a blend of x86 and GPU. This is a goal management set out to achieve in the shareholder meeting, and sure enough, they succeeded. This, more than anything is a testament to AMD’s technology portfolio and strategic prowess in grabbing market share from Intel. This is now being reflected in the business, with ~$386 million+ of AMD’s revenue coming from the datacenter segment. This means AMD’s datacenter business is on a ~$1.544 billion+ annual revenue run rate. That’s quite impressive considering there is only more market share upside to come.

We delivered our highest client processor revenue in more than 12 years. Increased working and schooling from home due to COVID-19 resulted in a strong PC market in the quarter. Although, we believe our growth was largely driven by our 11th straight quarter of market share gains.

– Lisa Su, CEO

AMD indicates that client processor revenue hit a high not seen in more than 12 years on the x86 front. The company indicated that while the PC market’s strong growth in the quarter was a driver of this growth, the core driver was market share expansion vis-a-vis Intel. This indicates that in one of AMD’s strongest quarters for their x86 processors, the growth wasn’t just driven by an extremely strong market, but even stronger positioning within that market.

Desktop processor sales decreased sequentially as anticipated, while revenue in {and} ASP increased year-over-year, as demand for our higher end Ryzen processors drove a richer mix. In mobile, we had record quarterly notebook processor unit shipment and revenue.

Sales of our latest Ryzen 4000 Series processors grew significantly in the quarter, resulting in mobile revenue growing by a strong double-digit percentage sequentially and more than doubling from a year ago as both unit shipments and ASP increased significantly.

Multiple third party reviewers have consistently highlighted that our latest notebook processors deliver superior performance and longer battery life, compared to the competition. As a result of this strong performance, I’m pleased to report that Ryzen 4000 processor revenue has ramped faster than any mobile processor in our history.

There are now 54 Ryzen 4000 powered notebooks in the market. We expect to continue accelerating our mobile processor business in the second half of the year as HP and Lenovo ramp their first commercial notebooks powered by Ryzen PRO-4000 Series processors and the second wave of more than 30 ultrathin premium and gaming consumer notebooks launch for multiple OEMs.

– Lisa Su, CEO

Again, this is another very bullish few paragraphs. AMD admits that unit sales for desktop CPUs decreased in 2Q. That being said, the company had already anticipated this in its guidance. The bright spot is that both revenues and ASPs trended higher on a y/y basis because of demand for high-performance Ryzen. Anyone who has followed this company for a long time knows that in the past, it was limited to the low-performance, low-ASP, low-margin end of the CPU market. AMD’s entrance into the high end with highly competitive offerings has yielded ASP-driven growth, margin expansion, and just general market share expansion. On the Ryzen Mobile side (i.e., notebooks and laptops), the company saw record unit shipments and revenues. The catalyst for this explosion in demand/revenue was the launch of AMD’s Ryzen 4000 mobile processors. Increases in unit shipments and general ASPs on the mobile side led to revenues doubling y/y in this segment. The best part is, the best is yet to come. AMD only has 54 Ryzen 4000-powered laptops on the market as of now. Two major laptop OEMs, HP (HPQ) and Lenovo (LNVGY), are yet to ramp their Ryzen PRO offerings. In addition, another wave of new laptop designs is set to come, with 30 new Ryzen 4000 based designs set to come to market. This means greater notebook market share, ASPs, and overall revenue.

In Graphics, second quarter revenue declined year-over-year, as strong double-digit increase in mobile GPU sales was more than offset by lower desktop channel sales. While desktop GPU shipments were lower year-over-year, channel sellout accelerated in the quarter. Mobile GPU revenue growth was driven by a reduction of our RDNA GPUs, highlighted by the launches of new Apple professional and Dell gaming notebooks, featuring our Radeon 5000 M series mobile GPUs.

Data center GPU revenue decreased year-over-year. We expect revenue to increase in the second half of the year, as additional cloud-based visual computing wins ramp and we launch our new CDNA data center GPU architecture optimized for next generation exascale and machine learning workloads.

– Lisa Su, CEO

The same trend we saw play out in the x86 server business played out in a similar fashion in graphics. Desktop GPU sales were weak, but mobile demand was strong. AMD saw new design wins from both Dell and Apple (AAPL). The more concerning trend is the y/y decrease in datacenter GPU revenues. This means that the EESC beat we saw earlier was driven entirely by x86 market share growth. The GPU decline is worrisome, but management tries to assuage these concerns, telling us that the new compute-optimized CDNA architecture and increased client wins will boost GPU compute revenues.

In semi-custom, we passed an important milestone in the second quarter as we began initial production and shipments of our next generation game console SOCs. We expect strong second half semi-custom growth as we ramp production to support the holiday launches of the new PlayStation 5 and Xbox series X consoles.

– Lisa Su, CEO

As I noted previously, AMD will likely see significant upside from semi-custom console revenues. This, along with datacenter, likely drove the strong guidance. The company is beginning initial silicon production in 2Q, with a 2H ramp-up.

We are pleased with the momentum in our server business and expect to continue gaining share as additional second Gen EPYC platforms and cloud deployments ramp to volume in the second half of the year. We remain on track to begin shipping our next generation Milan server processor featuring ZEN3 late this year.

– Lisa Su, CEO

AMD’s next generation after Rome will be Milan. While it will be years before Intel has a 7nm x86 server offering on the market, AMD already has one, and is planning to iterate on 7nm with its Milan offerings. This serves to only grow market share.

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The next part of this conference call is from the Q&A section. Dr. Su is asked about the gaming GPU business and, specifically, next-generation “Big Navi”, or RDNA 2. I found her response interesting.

So I think gaming overall is good. We are in the process of a product transition. We are on track to launch RDNA 2 or as you call it big Navi late this year. We’re excited about the RDNA 2 architecture. I think it’s a full refresh for us from the top of the stack through the rest of the stack. And so I think that will be more of a contributor here as we go into later this year and into next year.

– Lisa Su, CEO

So on top of all the catalysts AMD already has loaded in 2H, Big Navi is just another one. The company is on track to launch late this year. If I had to guess, an unveil in late 3Q, with sales beginning in 4Q, around the holiday season. The other part that is interesting is that this is a full-stack refresh, meaning the refresh targets high-performance all the way to low-performance models. This could drive ASP growth, market share expansion, and overall revenue growth at AMD’s graphics division. Dr. Su somewhat confirms this by saying it will be a greater contributor as time goes on.

Yes, so I will say that our upside is balanced across the segments. There is no question that there is a strong ramp in the second half of the year for consoles. We’re continuing to increase supply to meet – to meet that demand. But overall, I view it as again consoles are multi-year cycle. And the first year I mean there is a lot of pent-up demand for consoles, but we should think about this as really a multi-year cycle and this is just the beginning of the ramp.

– Lisa Su, CEO

While this comment confirms my thesis from my console-related article recently, it could have even more bullish implications. The idea that the console business could be far more consistent than in the past is an interesting idea. If it pans out, this could de-risk the story and create more business stability.

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To be clear, there is more to the conference call. I just wanted to point out the things I found strategically interesting and of note.

Valuation, Price Target, And Rating

My biggest hurdle with being a bull on this stock has been the valuation. While I have been fundamentally constructive for quite some time, and more recently outright bullish, I am downgrading today on valuation concerns. My valuation methodology involves looking out to 2023 and discounting back to year-end 2021.

  • PC TAM of $32 billion @ 30% market share (vs. 17% end of 2019)
  • Gaming TAM of $12 billion @ 25% market share (vs. 19% end of 2019)
  • x86 Datacenter TAM of $19 billion @ 30% market share (vs. double-digit currently)
  • GPU Datacenter TAM of $11 billion @ 15% market share (currently minuscule)
  • Telco Datacenter TAM of $5 billion @ 10% market share (currently minuscule)

This brings me to total revenues of $20.45 billion in FY’23. These total addressable market figures are sourced from AMD’s financial analyst day.

At a 51% gross margin, and with 26% of revenue be directed to opex, I come to operating margins of 25%. This means that I’m forecasting $5.112 billion in operating income for 2023. Factoring in a non-GAAP tax rate of 15%, net income is $4.345 billion. The company currently has 1.23 billion shares outstanding. This means, I’m modeling ~$3.53/share in EPS.

By 2023, AMD’s growth rate will be much slower, as the majority of the market share grab opportunity will likely have dried up. That being said, considering the fact that the company still won’t be at the majority of the market by then, and will still ride secular tailwinds like GPU compute in the datacenter, long-term growth will be above average. For this reason, I’m electing to go with an above-average multiple of 25x earnings. On 25x earnings, AMD is valued at $88.25/share by the end of 2023. Discounting this 12% per year (to reflect execution risk) back to year-end 2021, we get a valuation of $68.34/share. Hence, my $68 price target. Considering the lacking risk/reward profile at this price, I can no longer advocate that the stock is a Buy at ~$75/share.

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(Source: AMD)

TipRanks: Hold.

Disclosure: I am/we are long INTC. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am not a financial advisor. This is not financial advice. Please do not interpret anything I say here as financial advice. Do your own due diligence before initiating a position in any of the securities mentioned.