A look at AMD's financial state
It’s no secret that AMD, while beloved by many, is not a profitable company. They haven’t been for the last 5 years, with 2013 being the closest they had to a profitable year at a loss of only $83 million. Since then, AMD has incurred an average yearly loss of around $410 million for the past four years.
It’s not all doom and gloom, though. AMD recently posted strong Q2 (quarter 2) results, which actually sent the stock price up a significant percentage to around its 52-week high. Since then, the stock has returned to around its 50-day moving average, with current signs of it dropping even lower to its 200-day moving average. Those numbers for reference are: $15.65, $13.36, and $12.73, respectively. A $3 difference may not seem like a lot but that $3 is the differences between a market value of $14,789,250,000 and $12,029,850,000, which is $2,759,400,000.
For those interested about AMD's financials, all the information you need to get a good sense of the state of the company is available online. Public earnings calls, press releases, and quarterly earnings reports can all be freely examined (though they aren't always easy to understand for those new to these kinds of documents).
If you’re curious about their stock history AMD’s 52-week range is $5.66 - $15.65. However, in the last 5 years the stock has dipped as low as $1.72 in February 2015, and only since February 2016 has the stock had significant gains. Their all time high since 2000 was around $40 in 2006.
So what is it going to take for AMD to actually become a profitable company? A lot of things need to go their way. And, looking at the current landscape, it actually looks like that might be happening.
Before we move on, let’s define a few financial terms with which you may not be familiar.
Revenue: The money AMD brings in from product sales..
Gross Margin: How much a product sale is worth after all costs associated with making that product are taken out. This figure is calculated before tax.
Net Income: What is left of revenues after all expenses are taken out. This will include things like product cost, marketing, R&D, property leases, and taxes.
Short-term versus Long-term: Short-term will be anything happening within a year. Long-term is anything that takes place after one year.
Bank Notes: This is debt that AMD will pay interest on to the holder.
Quarter-over-quarter/year-over-year: This means we are comparing the current quarter/year to the last quarter/year.
In the 2016 fiscal year AMD had a low gross margin of only 23%, a 4% decrease from 2015’s 27%. What this means is that their cost of sales is incredibly high, at around 75%
So far in 2017 AMD has had a gross margin around 33%, and that has held for the first two quarters of the year. Using their own guidance from their Q2 report, AMD expects their gross margin to remain around 33% ± 3% for Q3. We can assume that it will remain around that point for Q4, too.
For reference, Intel has around a 50-60% gross margin, with no signs of changing in the near future. Their recent Q2 earnings report put them at a 61.6% gross margin.
While you can focus on the gross revenue percentage, it doesn’t tell the whole story. AMD pulled in nearly $200 million more during this Q2 than they did during last year’s Q2. If this trend continues, AMD could see a significant revenue increase throughout the rest of the year, which is already up 19% from this point during 2016.
So what does the rest of this year look like for AMD’s revenues? If the improvements in Q1 and Q2 continue on to Q3 and Q4, then AMD should expect higher revenues for the rest of the year, with a hefty increase for the holiday quarter.
Going by AMD’s own guidance for Q3 we can see that they expect a 23% ± 3% quarter-over-quarter increase in revenue, which would come in at around $1.503 billion. If they come anywhere close to that figure then AMD should easily clear 2016’s $4.272 billion overall revenues.
Where is the money coming from?
The majority of revenues for AMD are still coming from the Computing and Graphics segment of their products. The Ryzen desktop and GPU processors were a major player in their revenue increases in the Computing and Graphics category.
AMD has shown a remarkable improvement in Q2 sales, bringing in 51% more revenue than in Q2 2016. Additionally, unlike Q1, AMD had a $7 million profit in their Computing and Graphics segment in Q2 2017, compared to losses in the previous two quarters. They attribute this hefty increase to the improved product mix.
In the Enterprise, Embedded, and Semi-custom category AMD brought their numbers up 44% when compared to Q1 2017, which brings this quarter’s revenues in line with 2016’s Q2 results. The main driver for this category is the increase of sales of semi-custom SoCs.
While more than 50% of their revenue in Q2 (and Q1) came from the Computing and Graphics category, it is important to realize that AMD has been diversifying where it gets its money from since Dr. Lisa Su (CEO since October 2014) joined AMD in 2012. Back in 2012, 90% of AMD’s revenue came from the Computing and Graphics category. This diversification will put a lot less pressure on the company to perform in a single category that can rapidly change and make existing inventory obsolete.
Every company has debt, but AMD has a lot of debt for the assets it has. In 2015 and 2016 AMD raised additional capital by issuing common stock in order to pay off some of their bank notes. This is not a long-term solution to raising capital since it will devalue the stock if this trend continues. AMD already has a pretty volatile stock and adding more will only exacerbate the problem.
Thankfully, AMD was able to raise enough capital to rid themselves of their 7.75% bank notes held by Wells Fargo. By doing this, they have been able to completely eliminate their short-term debt until 2019, when their 6.75% bank notes held by Wells Fargo are due.
At the end of 2016 AMD had $1.4 billion in debt, as opposed to the $2.2 billion at the end of the 2015 fiscal year. For now, AMD has secured their future by ridding themselves of short-term debt, and they have freed up their cash to be used in other areas such as R&D, administration, and property investments. The question is: will AMD be able to pay off their long-term debts when they become due in the next nine years?
Signs point to a cautious yes. They have been systematically reducing their debt since 2016 with efficiency. Since the beginning of they year they have reduced their debt by $60 million. It may not be much, but it at least shows us, and investors, that they are trying to head in the right direction. Couple that with their shown increase in overall revenues, and things are looking quite positive.
Research and Development
The biggest issue for AMD is their R&D. In 2016 AMD spent 101% of their gross income on R&D. It isn’t a new thing, either. For the past three years AMD has spent around $1 billion each year on R&D.
That trend is going to continue for the near future, too. For Q2 alone AMD spent $279 million on R&D. That’s 23% of their gross revenue for the one quarter. Back in Q1 2017 AMD spent $266 million, or 27% of their revenue on R&D. If this continues for the rest of the year AMD will be on track to spending around $1 billion or more on R&D, consuming most of their profits from sales. This presents a problem because that leaves nothing to cover AMD’s other expenses, like marketing, property, and administration.
The Intel problem
Without context, numbers don’t really mean anything. Intel is one of AMD's primary competitors, so let’s take a quick look at some of Intel’s numbers to compare to AMD.
In Q2 2017 Intel spent $5.1 billion on R&D, five times what AMD typically spends. In AMD’s 2016 annual report, CEO, Dr. Lisa Su had this to say concerning Intel:
“Intel exerts substantial influence over computer manufacturers and their channels of distribution through various brand and other marketing programs. As a result of Intel’s position in the microprocessor market, Intel has been able to control x86 microprocessor and computer system standards and benchmarks and to dictate the type of products the microprocessor market requires of us.”
The annual report goes on to further say that if Intel chooses to do so they could make AMD irrelevant in many different ways: changing industry standards, making AMD’s existing inventory obsolete, setting marketing standards, and through pricing, to only name a few.
If Intel choses to increase their R&D budget significantly, and if that results in concrete results in the microprocessor market, AMD would have a hard time catching up. AMD simply doesn’t have the money to compete on the R&D side without raising significantly more debt. And it is highly unlikely that they would be able to procure more debt with their B- credit rating from S&P, and their B3 credit rating from Moody’s. If you’re not familiar with credit ratings, those ratings put investments in AMD at highly speculative, and on the border of representing substantial risks to your investment.
In the end, AMD is heading down the right path, albeit slowly. They’ve gotten through the rough years and are starting to make money in areas that haven’t made them money in a long time. If they can reduce their cost of sales and R&D it will go a long way to making them a consistently profitable company. However, if it goes the other way, AMD will once again be headed for serious trouble.