AMD, Intel Price War Revisited

I wrote about the battle in the microprocessor market between Advanced Micro Devices (AMD) and market leader Intel (INTC) twice during 2006 (link: “semiconductors” category archive) and in light of the recently announced earnings miss at AMD, it seems like a good time to revisit the situation.

In March, I suggested that AMD’s lead over Intel, and the corresponding bullishness on Wall Street over the company’s prospects would likely be temporary, as has been the case numerous times over the years. Intel’s size gives them much more financial flexibility to initiate price wars and squeeze their smaller competitor. AMD had smooth sailing for a while because their chips were better than Intel’s. Better performance coupled with lower price points resulted in market share gains at Intel’s expense.

However, Intel is the market leader for a reason, and although they were slightly behind AMD, new chips have finally been released. The result has been a free fall in shares of AMD. As you can see from the chart below, since I mentioned this topic back in March, Intel stock is relatively flat at $20 and change, whereas AMD shares have plummeted about 60%, from $39 to $16 each.

While a turnaround at AMD is still several quarters away at least, value investors likely won’t be able to help themselves by taking a closer look at AMD stock. As I have said before, I do not have a technical background, so you won’t find discussion of specific chip specifications on this site. I simply look at the company’s valuation and decide if, at some level, shares of AMD would be an attractive contrarian investment, despite the fact that the company has gone from being very profitable to now posting losses.

Wall Street analysts have been pummeling the stock in recent days ever since AMD’s warning. We have reached the point now where, thanks to recent downgrades (thanks guys, after a 60% tumble) there are more “sell” recommendations than “buy” recommendations within the sell-side community. Even though the stock is trading at $16, down from $42, analysts have put new price targets as low as $10-$13 per share. As is usually the case, I would expect AMD stock to bottom out before the overall business does.

So, at what level does AMD become a buy? I haven’t purchased shares yet, but it looks to me like with a little more selling pressure, the stock could become pretty darn cheap. Looking at other semiconductor companies and taking into consideration their full menu of issues right now, I think a reasonable price to pay for AMD stock is 1.0x revenue. Even with red ink flowing from their income statement, it would be difficult to argue, based on comparable companies and on historical measures, that AMD should trade below that level.

Surprisingly, AMD stock isn’t trading that far away from 1.0x revenue. With a $16 stock price, the company’s current market cap is about $8.5 billion. Sales estimates for 2007 are now around $7.3 billion, including results from newly acquired ATI Technologies. Obviously we will have to monitor how sales expectations progress throughout 2007, but if the stock hits the $13 to $14 range we will likely be close to 1x revenue, and I would strongly consider making a contrarian bet at that point, when most analysts will still have “sell” ratings on the stock.

Full Disclosure: No position in AMD or INTC at time of writing.

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