Advanced Micro Devices (AMD) is an international semiconductor leader whose products can be divided into two parts.
The first contains its x86 microprocessors, chipsets, discrete and integrated graphics processing units (GPUs), data center and professional GPUs, and development services. The other includes server and embedded processors, semi-custom System-on-Chip (SoC) products, development services, and technology for game consoles.
The ongoing semiconductor shortage is enduring while the company’s overall technological advancements have enabled it to vigorously compete with its industry peers. Hence, AMD is experiencing great demand for its chips these days.
AMD’s stock impressively rallied from just around $2 in 2015 to around $164 back during its 52-weak highs in November. Shares have corrected substantially following the correction tech stocks are undergoing.
On the one hand, AMD is well positioned to keep growing its revenues and free cash flow. On the other, even following the recent correction, the stock seems to have exhaustively priced in this potential at its current levels. For this reason, I am neutral on the stock.
Free Cash Flow Growth Potential
AMD’s free cash flow generation is a key factor to growing the business, and as an extension, enriching shareholder returns. The company seems to be well-positioned in the current macro-environment to expand its free cash flow greatly as demand for chips remains sky-high.
For context, AMD generated a free cash flow of $764 million on revenues of $4.3 billion during Q3 2021. To demonstrate the positive momentum, AMD is currently enjoying, the third quarter’s free cash flow alone was about 176% larger than the total free cash flow AMD produced in FY 2020.
AMD is now focused on accelerating the production of its next-generation AMD instinct accelerators – -an open-sourced ROCm software — which will aid data center GPU sales expansion in the short term.
Enterprise revenues are also likely to be a more significant segment for AMD going forward, considering that the company is enjoying robust momentum in this area as well.
I wouldn’t be surprised if AMD’s free cash flow margin keeps expanding in the medium term, powered both by the current semiconductor environment and the ever-expanding potency in GPU end-market pricing.
If you have been looking to buy one, you are likely well-aware that prices for high-end graphics cards like AMD’s Radeon RX 6000 and Nvidia’s (NVDA) Geforce RTX 30 series have skyrocketed over the past two years, further powered by cryptocurrency miners and the growing number of gamers.
Wall Street’s Take
Turning to Wall Street, Advanced Micro Devices has a Moderate Buy consensus rating, based on 15 Buys and nine Holds assigned in the past three months. At $146.89, the average Advanced Micro Devices price target implies 32.2% upside potential.
Conclusion
While the current market semiconductor environment could sustain a euphoria in AMD’s financials, the stock appears to have fully priced a strong earnings growth, even after the recent correction. The company is expected to deliver EPS of around $2.65 for the year, which implies a P/E of 41.9.
Even if the bottom line were to continue growing by a double-digit rate through the next three to five years, this is an extreme multiple for the semiconductor industry.
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