Micron Technology (MU, Financial) released the third-quarter results after the bell on Thursday, comprehensively beating the consensus estimates.
The company reported revenue of $5.57 billion, up 92.1% on a year-over-year basis. Analysts were expecting a revenue figure around $5.41 billion. Earnings were up 80% sequentially leading to a non-GAAP EPS of $1.62 beating analysts by 11 cents.
Micron is guiding for a midpoint EPS of $1.80 as compared to a consensus of a mere $1.57. Full-year EPS is expected to be around $4.64 translating into a 7% gain over analyst estimates.
After-hours reaction was neutral after a down day for semiconductor stocks. Update to the economic value added (EVA) model, based on current earnings outlook, reveals material upside for the stock.
The last time I wrote about Micron, the stock was beaten down amid challenges in the DRAM market.
The thesis was intact amid cheap valuation and increasing future ASPs. The original thesis was that Micron will double due to low valuation. The stock did double but took a little longer than I expected. The situation is changed now. High single-digit growth is expected during the next few years. The company is beating consensus with consistency; forward guidance is also solid. Therefore, the revisions in earnings expectation mean that even after doubling since late 2015, Micron still has room to run.
Performance update
Sequential growth in revenue was supported by a 14% increase in average selling price of DRAM; NAND sales volume grew by 17%. Year-over-year revenue growth can be explained by the consolidation of Inotera (TPE:3474, Financial) results, quadrupled revenue from cloud customers, record quarterly revenue in auto and connected home and more than 30% growth in solid state drives (SSD). Following is the revenue classification for the third quarter of 2017.
Source: Micron’s SEC Filings
Earnings grew amid strong revenue growth and outstanding margin expansion. Gross margin was 48% during the third quarter as compared to 38.5% the last quarter. Increase in DRAM average selling price (ASP) and manufacturing cost reductions for NAND and DRAM contributed to the margin expansion.
Industry update
Regarding industry outlook, DRAM supply growth of 15% to 20% and NAND supply growth of around 40% is expected during calendar year 2017. Micron notes that healthy industry demand will persist in 2018.
It’s plausible as IC Insights forecasts the memory market to reach $109.9 billion, a CAGR of 7.3% during 2016-2021. Moreover, nonvolatile NAND market is set to grow at CAGR of 9.93% during 2016-2022. Overall the market outlook remains on track due to increasing ASPs and demand for memory products.
Valuation update
See the valuation below. Note that same valuation method was used to forecast the doubling of Micron’s stock previously.
Assumptions
- Earnings are expected to grow at 7% annually from 2018 to 2022.
- No growth is assumed in perpetuity.
- Cost of equity is assumed to grow in line with earnings growth.
- CAPM is used to calculate cost of equity.
| Projections | Â | Â | 2017 | 2018 | 2019 | 2020 | 2021 | Perpetuity |
| Dollars in millions except price target | Â | Notes | Â | Â | Â | Â | Â | Â |
| Net Income | Â | Â | 5425.97 | 5805.79 | 6212.19 | 6647.05 | 7112.34 | 7610.20 |
| Â | Cost of capital | r*capital invested | 1286.82 | 1809.34 | 2368.44 | 2966.67 | 3606.78 | 4291.70 |
| Adjusted Net Income | Â | Â | 4139.15 | 3996.45 | 3843.75 | 3680.37 | 3505.56 | 3318.50 |
| Discount factor | Â | Â | 1.00 | 0.92 | 0.84 | 0.77 | 0.71 | 7.87 |
| Economic Value Added | Â | Â | 4139.15 | 3666.47 | 3235.21 | 2841.92 | 2483.42 | 26121.23 |
| Period | Â | Â | 0 | 1 | 2 | 3 | 4 | 5 |
| Â | Â | Â | Â | Â | Market value added | 42487 | ||
| Â | Â | Â | Â | Â | Invested Capital | 14298 | ||
| Â | Â | Â | Â | Â | Value of the equity | 56785 | ||
| Perpetual Growth in Residual Earnings | -0.4% | Â | Price Target | $48.2 | ||||
Focus Equity Estimates
Valuation reveals an upside of around 50% over the current stock price. Note that this is a cautious estimate as only 7% earnings growth is assumed. Further, EPS of $4.9 is assumed for 2018 as compared to a consensus of $5.25 – not to mention that Micron is beating consensus consistently. The stock is trading quite cheaply as earning revisions, ASP growth and future NAND outlook isn’t priced for Micron.
Bottom line
Strong earnings beat signals a positive outlook for the memory industry, especially Micron. High single-digit growth of memory industry will support Micron’s top line going forward. Analyst earnings revisions will be a strong catalyst for positive price action going forward. Moreover, Micron is a steal from a valuation perspective as earnings residual valuation model indicates substantial upside. Micron is a strong buy despite the current weakness in the semiconductor sector.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
