AMD aims to seize AI opportunity, chips into semiconductor market share
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Advanced Micro Devices, Inc. (NASDAQ: AMD) has been on an acquisition spree in the last few years. Most recently, it reported its acquisition of ZT Systems, a provider of AI infrastructure for computing companies, for $4.9 billion. The deal is still subject to regulatory approval and AMD expects it will close in the first half of 2025. The Silicon Valley semiconductor company aims to capture market share in the growing AI market and its recent acquisitions further that goal. Given its growth strategy and pursuit of AI opportunity, is AMD a stock to consider?
On the ZT Systems acquisition, AMD CEO Lisa Su noted, in a CNBC interview, “ZT systems is one of the most capable hyperscale solutions providers. And they are really focused on the largest data centers in the world. Our strategy is about high-performance computing and AI as the largest growth vector for us over the next couple of years. We believe AI TAM (total addressable market) and data center accelerators alone is over $400 billion by 2027. It’s a huge opportunity and we’ve been investing for the long run. It’s about our silicon solutions which are really capable, our software solutions which are really capable and now we add the third leg of that stool, which is the systems solutions that really wraps it all together.”
Seeking strategic growth in a volatile market
Earlier in August, the firm completed its acquisition of Silo AI, a private AI lab, in a deal valued at about $665 million. On the company’s second quarter 2024 earnings call with analysts, Su noted, “The Silo team significantly expands our capability to service large enterprise customers looking to optimize their AI solutions for AMD hardware. Silo also brings deep expertise in large language model development, which will help accelerate optimization of AMD inference and training solutions.”
AMD’s other acquisitions in recent years include Mipsology, an AI inference software company, Nod.ai,Pensando, and Xilinx, a manufacturer of customized chips called Field-Programmable Gate Arrays (FGPAs).
The company, founded in 1969, has seen its share of ups and downs, and it got on a stronger footing after getting out of chip fabrication, a time-consuming and very expensive endeavor, focusing instead on chip design and testing by 2009. By the 1980s, AMD was a supplier to Intel. After this relationship broke up, AMD reverse engineered Intel semiconductors to make its own chips so that they worked with Intel’s x86 software. Although Intel sued AMD for this, AMD prevailed and was allowed to continue making these Intel-compatible chips as the result of a 1995 settlement.
Even in the late 2010s, AMD was more of a consumer-focused company, deriving as much as about 90% of its revenue from PCs and gaming. After it started focusing more on high-performance computing and data centers, its revenues took off.
AI focus aids growth
According to AMD, “AI is more than just an interesting and powerful new technology; it is the single most important innovation of the last 50 years.”
AMD believes it has “the compute engines, intellectual property and expertise required to power the end-to-end AI infrastructure, from cloud server installations to corporate enterprise clusters and the next generation of intelligent embedded devices and PCs.”
The company focuses its AI gameplan on three strategies. “First, deliver a broad portfolio and multi-generation roadmap of leadership GPUs, CPUs and adaptive computing solutions for AI inferencing and training. Second, extend the open and proven software platform we have established that enables our AI hardware to be deployed broadly and easily. And third, expand the deep and collaborative partnerships we have established across the ecosystem to accelerate deployments of AMD-based AI solutions at scale.”
For its 2024 second quarter, ended June 29, AMD reported revenues of $5.835 billion, up 9% from the previous year, generating net income of $265 million, making for earnings per share of $0.16, up 700% from the 2023 second quarter.
On the company’s second quarter earnings call, Su noted that the growth was driven by sales of its GPU and CPU processors. “We continued accelerating our AI traction as leading cloud and enterprise providers expanded availability of Instinct MI300X solutions, and we also saw positive demand signals for general-purpose compute in both our client and server processor businesses.”
Although the company’s data center and client business segments saw their revenues grow, its gaming segment revenue of $648 million was down 59% from the previous year. The company attributes this to a softening of demand for semi-custom system on a chip (SoC) integrated circuits. Su said, “Semi-custom demand remains soft as we are now in the fifth year of the console cycle, and we expect sales to be lower in the second half of the year compared to the first half.”
Revenues were also down 41% to $861 million for AMD’s embedded business segment, which Su sees as a bottom for that segment, with customers normalizing their inventory. She sees “order patterns” improving and expects revenues to “gradually recover” in the second half of the year for this business segment.
The company emphasis on R&D also drove up its operating expenses to $1.8 billion for the period (after making adjustments to operating expenses of $2.6 billion on a GAAP basis).
About the outlook for the company, Su expects that the company is in a good position to grow its revenue in the second half, led by its data center and client segments, with data center GPU business on a “steep growth trajectory.”
Su said, “Looking ahead, the rapid advances in generative AI and development of more capable models are driving demand for more compute across all markets. Under this backdrop, we see strong growth opportunities over the coming years and are significantly increasing hardware, software, and solutions investments,” focusing on “delivering an annual cadence of leadership data center GPU hardware, integrating industry-leading AI capabilities across our entire product portfolio, enabling full-stack software capabilities, amplifying our ROCm development with the scale and speed of the open source community, and providing customers with turnkey solutions that accelerate the time to market for AMD-based AI systems.”
The firm is forecasting that its third quarter revenue will be about $6.7 billion on a non-GAAP basis (after making adjustments to GAAP to better reflect the firm’s operating performance). This 15% rise from the second quarter, will be led by “strong growth” in its data center and client business segments, making for a gross margin of about 53.5%.
AMD faces multiple risks
While AMD is looking to seize market opportunity, it also faces several risks. For one, it faces competition from Intel and its “aggressive business practices” in the CPU chip market and from Nvidia’s “aggressive business practices” in the AI-focused GPU market. AMD expects to compete based on factors such as “total cost of ownership, timely product introduction, product quality” and features such as energy efficiency. AMD also gets a part of its revenue from GPU sales to the cryptocurrency mining market, which is erratic.
AMD outsources it manufacturing, mostly to Taiwan Semiconductor Manufacturing Company (TSMC) and Global Foundries. Changes in the government’s trade policy could have an impact on such outsourcing activity. With the CHIPS Act, the government is looking to encourage U.S.-based seminconductor production too. And in recent years, the U.S. has also put in policies restricting sales of certain high-power computer chips to countries such as China that are looking to develop AI capabilities. Such restrictions, and any potential tariffs, could impact AMD’s sales. Overseas business also exposes the company to foreign exchange fluctuations, which it hedges with derivatives.
It is also subject to various government regulations relating to data privacy, handling of minerals and environmental impacts. Any potential government regulation of AI could have a negative impact too. It is also subject to certain debt covenants that could restrict its operating flexibility.
The company also has to strategically manage its inventory since customers adjust their orders based on changing demand in their markets. This means demand for AMD’s offerings could change based on economic conditions and market demand. Also, it derives a significant portion of its revenue from a small base of customers, including Microsoft.
Deploying earnings to growth opportunities
Looking into AMD’s financial performance, its current ratio was a strong 2.8 at the end of the second quarter, indicating that its current assets more than cover its current liabilities. Its debt-to-equity position is also very favorable, at less than 4%, even though it is pursuing multiple acquisitions. And the company reports a gross profit margin of 49% for the second quarter. For the last 12 months, AMD’s gross profit margin was 54.5%, but this doesn’t compare favorably with the semiconductor industry average of 67%.
Its closing price of about $154 on August 23, made for a price-to-book value of about 4.4 times, given its book value of $34.94 at the of the second quarter. And its earnings per share of $0.84 for the last 12 months makes for a very inflated price-to-earnings ratio of more than 184. However, on a forward earnings basis, PE is more reasonable, at about 45, and also compares favorably with the semiconductor industry average of about 53.
AMD doesn’t pay a dividend and is redeploying earnings to finance its growth strategy. It does have a share repurchase program, with about $5.2 billion available for share repurchases at the end of the second quarter. During the first six months of the year, AMD spent $356 million on stock repurchases.
Although AMD faces stiff competition from the likes of Nvidia and Intel, it seems it is striving for opportunistic growth. Even if AMD cannot dethrone competitors, it seems it can still grow its revenues if AI market potential continues to hold up. That means this risky bet could pay off for patient investors.
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Note: I do not own any individual AMD stock and I do not intend to take a position in the stock within five days of publication of this article. This write up is my unbiased opinion and not intended as financial advice. All investments carry risks and you should talk to a financial advisor to learn about the suitability of an investment for your portfolio. I did not receive any compensation for this piece that influenced my views.