Clever Accounting = AMD profit?
"the FASL benefit appeared to contribute 4 cents or 5 cents of EPS"
After nine straight quarters of losses, underdog Advanced Micro Devices (AMD:NYSE - commentary - research) at last pulled off a generous upside surprise after the close Tuesday, besting by a wide margin Wall Street estimates for a 2-penny loss.
Shares of chipmaker Advanced Micro Devices tumbled Wednesday morning, lately down $1.02, or $5.9%, to $16.36 as Wall Street focused on concerns about the profitability in the company's memory business and the prospects of a looming price war with chip big-daddy Intel (INTC:Nasdaq - commentary - research).
Wednesday morning, analyst reaction to the results was mixed. Even some of those who gave the company credit for progress sounded cautious on AMD's near-term investment potential.
At JMP Securities, analyst Krishna Shankar lowered his rating from strong buy to market outperform, noting the stock has approached his $20 target price, appreciating nearly 150% since Jan. 1, 2003. "As with many semiconductor stocks over the last 12 months, investors have likely ridden the easy money part of the AMD stock appreciation curve," he said in a note. JMP hasn't done recent investment banking for AMD.
Shankar identifies one of the risks for AMD over the next two years as an intensifying price war with Intel in high end 32-bit/64-bit microprocessors. Still, he said he's "long-term bullish" on AMD's processor business.
He believes AMD can maintain a profit of 4 cents a share in the first quarter, based on generally accepted accounting principles, on $1.15 billion in revenue. Shankar thinks AMD can more than double his estimated 2004 GAAP earnings of 45 cents to $1 a share in 2005
Even warier was Oppenheimer's Quinn Bolton, who has a neutral rating on AMD. Among his concerns are the relatively low incremental gross margin in AMD's flash memory business, due to a ramp-up in a facility, a weak dollar-to-yen exchange rate, and an unfavorable mix of memory. With the shares trading near 29 times Oppenheimer's revised calendar year 2004 EPS estimate of $0.60 (down from a prior $0.75), he called the shares "fully valued."
Bolton also estimated that AMD lost about 70 basis points of unit market share to Intel in the quarter and said he wonders whether the adoption of Athlon 64 has been slower than expected. "With AMD sacrificing unit shipments to preserve higher processor [average selling prices] , we believe the company leaves itself vulnerable to a price war initiated by Intel," he wrote. "We believe the low profitability of the flash memory business and unit market share losses in [microprocessor units] will remain an overhang on AMD shares."
Oppenheimer hasn't done any recent investment banking for AMD.
More positive was Needham, which reiterated a buy recommendation on AMD, saying it "remains extremely positive on the potential for the company's new 64-bit microprocessor offerings." The firm also raised its revenue outlook for the March quarter, predicting a 1 penny profit on sales of $1.18 billion in the quarter instead of $1.04 billion in revenues. Needham hasn't done any recent investment banking for AMD.
AMD reported fourth-quarter net income of $43 million, which marked the company's first profit since the June 2001 quarter, or earnings per share of 12 cents a share. Those results reflect a favorable impact of 3 cents a share based on an adjustment in previously recorded restructuring charges and purchase accounting related to AMD's memory-making joint venture with Fujitsu, called FASL.
For the December quarter, analysts were expecting earnings of 4 cents a share.
The chipmaker also reported sales of $1.21 billion, up 76% from last year's levels and substantially above the consensus estimate for $1.08 billion.
"Fourth-quarter profitability was driven by solid sales growth across all business lines," said Robert J. Rivet, AMD's chief financial officer. "Sales increased in all regions, and we saw continued penetration in emerging markets, highlighted by record sales in China and Latin America."
"They're definitely executing well. The strength is really coming from the flash business, driven by wireless," said Tai Nguyen, an analyst at Susquehanna Financial Group.
But Nguyen noted some confusion about the way AMD accounted for a benefit related to FASL, echoing a number of other analysts on the conference call. By his own reckoning, the FASL benefit appeared to contribute 4 cents or 5 cents of EPS. At the very least, the complex accounting for FASL results makes AMD's finances harder to forecast, Nguyen said.
Aside from that, he has a neutral rating on AMD shares due to risk on the microprocessor side. "We expect pricing pressure because they don't have any new product to help bring up blended ASPs. We're also seeing the road map from Intel (INTC:Nasdaq - commentary - research) could force AMD to bring Athlon XP down to the lower market segment to compete," he said. Susquehanna doesn't do investment banking.
