Be Patient With Micron Technology

Micron still has room to move north

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Oct 08, 2018
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When talking about chip stocks and the semiconductor industry in general, Micron Technology (MU, Financial) surely hits one's mind. The stock has traded under pressure the last few months, as various headwinds in the chip industry led investors to exit their investments, bringing the stock down to $43 levels from the high of $64.66 reached in May this year.

Despite the pessimism, Micron’s performance in the recent past has been extraordinary and definitely not in tandem with how the market is valuing it, supporting the bull case. The three-year Ebitda growth rate for the tech giant has been around 49.6% compared with the industry median of 8.4%. Moreover, the three-year revenue growth rate has been around 21.3% for Micron compared with the industry median of 3.7%.

The company recently reported its earnings results on Sept. 20, with earnings per share growing 75% year on year and revenues climbing 38%. But the trade war impacted the company’s guidance and disappointed Micron enthusiasts. Itt expects to generate earnings per share of $2.95 a share on a top line of $8.1 billion compared with the industry’s expectations of $3.06 and $8.44 billion.

Despite the somewhat poor forecasts compared to industry expectations, Micron’s fundamentals demand a second look.

"In the fourth quarter, we set revenue records across all our major markets, from automotive and industrial to mobile and cloud data centers,” CEO Sanjay Mehrotra said in a news release. “The secular and diversified growth drivers in our industry combined with accelerating pace of transformation of the new Micron form a tremendous catalyst for us to create enduring value for our customers and investors in 2019 and the years ahead.”

From an industrial landscape perspective, the dynamics of the chip industry are changing and as Micron’s management believes, this is for the good. Mehrotra believes that memory chips are growing more complex by the day and producers have to constantly be on the edge of their seats to incorporate developments needed by their target customers. While pricing might moderate as the cycle does its rounds, demand is not expected to fall anytime soon.

Moreover, Micron generates 70% of its revenues from the DRAM segment and the rest from NAND chips used in mobiles. The factor playing in Micron’s favor with regards to its business model is that while there are quite a few players in the DRAM segment, Micron is one of the leading producers. And, owing to the market being crowded, DRAM is no longer a margin game. The winner is instead decided by considering who’s topping the volume ranks.

While global economic risks including trade war fears persist, Micron’s stock is still significantly undervalued when compared to the overall industry. The stock is currently trading at a price-earnings ratio of 3.77 compared with the industry median of 19.55. Moreover, its forward price-earnings ratio of 4.12 also significantly lags the overall industry median of 18.55.

Management expects strong demand from increased smartphone sales, automotive computing and cloud computing, leading to strong production levels the remaining part of this year and the next. Also, the company recently announced a $3 billion expansion by setting up a plant in Virginia to count for increased demand from its embedded solutions segment. While this currently accounts for merely 10% of its overall revenues, Micron expects a nearly 140% growth in automotive memory in the next three years.

The expansion will allow Micron to diversify from its high dependence on the DRAM segment and offer more specialized solutions to cater to customer requirements. With exceptional top-line and bottom-line numbers and immense potential to boost existing market share, owing to the vast size of the market that still remains untapped, Micron seems like a great long-term bet. With more and more specialized solutions and a diversified product portfolio, Micron is sure to soar in the longer term.

Disclosure: I do not own any of the stocks mentioned.