Don't Count AMD Out Yet

Some days, the markets leave me scratching my head. Take yesterday's reaction to Advanced Micro Devices (NYSE: AMD  ) . Despite a blowout quarter, the stock was down more than 9%. There are various theories as to why, but most appear to say that AMD has run its course. Intel, after all, has finally gotten serious and brought its own dual-core server chips to market.

In fact, UBS (NYSE: UBS  ) research was so bold as to say rival Intel (Nasdaq: INTC  ) would leapfrog AMD next year with new processors based on its 65 nanometer process. These server chips would theoretically provide a major leap forward in performance and would, therefore, put Intel back in the lead, relegating AMD back to its role as the lovable loser of the chip industry.

Sounds gloomy, eh? Sure does. But did anyone think to ask whether UBS has a banking relationship with Intel? Not that I saw. So I called UBS's investment banking group to find out for myself. Sure enough, UBS says it has done banking with Intel over the past 12 months. Hmmmm. (Scratches head.)

Is it really over?
What's more mystifying to me is that the pile-on party assumes that AMD's ultimate downfall is based on history. Except there's no precedent for where AMD is today. Think about it: The company made its living for years as the pugnacious straight man to Intel's lead in the x86 chip market. It committed itself to aping Intel's innovations, executing well, and delivering low-cost systems.

Put differently: How do we know AMD can't hold a lead if it's never held a lead? Answer: We don't. Pointing excitedly to a few pieces of paper and calling them a roadmap doesn't mean much, either. Customers can't buy road maps. Unless, of course, they're driving to Utah.

The uncomfortable truth is that AMD has taken on the role of innovator and forced its rival into mistakes. Intel's course correction has been impressive, to be sure. But it's also been rushed. (Seriously, just ask its engineers.) That's why any proclamation of doom for the upstart chip maker, especially over the next year, is extraordinarily short-sighted at best.

Not running scared, yet .
But don't just take my word for it. I asked for a second opinion from Kevin Krewell, editor-in-chief of industry watcher Microprocessor Report. When asked whether UBS's take on Intel was too optimistic, he wrote:

"[The new Xeon] does help Intel, but it's still not caught up with Opteron [AMD's dual-core class of chips]. That happens in 2006, when Intel ships the next server platform, Bensley, with its dual independent (and faster) bus in Q1 '06. At that point, you have a horse race on performance, though AMD will have the edge on better 64-bit performance and lower power. In the [second half] of '06, Intel launches the next-generation micro-architecture, and we have an all-new playing field in performance/watt."

In other words: Intel is charging ahead, and AMD should be worried. But the game is far from over. Predictions of "leapfrogging" be damned.

AMD's 25% solution
So forget the idea that Intel has already eaten AMD's lunch in the server market. It hasn't. More relevant is to examine the upstart chip maker's total opportunity and decide whether the current valuation really is out of hand.

The best proxy may be the second-quarter numbers. According to Mercury Research, AMD came in at $758 million in x86 processor revenue, or 10.3% of the total. Intel, conversely, had $6.6 billion, or 89.3% of the market. There were also roughly 55 million x86 units shipped during the quarter. Mercury pegs Intel's share of those shipments at 82.3%, while AMD accounted for only 16.2%.

Now, couple these data with the projections made by AMD CEO Hector Ruiz in his interview with trade publication InformationWeek. In it, he says that AMD hopes to garner 25% to 30% of the total x86 market by 2008 or 2009, which he estimates to be at least 400 million units. (Interestingly, that would also be double 2004's record 200 million in shipments, according to Mercury.)

Got all that? Good. We now have all the necessary pieces to make a rough guess at AMD's total 2009 market opportunity. Here's the breakdown:

  • If AMD grabbed 16.2% of the market in Q2,
  • and that market totaled 55 million units,
  • then AMD likely shipped 8.9 million units,
  • and if those units totaled $758 million,
  • then AMD's per-unit sales were probably $85 or thereabouts.

If that pricing stays roughly constant, then Ruiz's 100 million shipments in 2009 would result in $8.5 billion in sales. AMD booked $3.2 billion in microprocessor sales over the past 12 months. Do the math, Fool, and you'll find that AMD expects to at least double its processor revenue over the next four years, if you were to assume base projection on market share estimates, and more if we were to employ the assumptions of constant pricing and Ruiz's unit assumption. And this is a stock that's overvalued?

Maybe AMD really is that good
Look, I get it: Intel is a great company. It's flush with cash. It has a new CEO who has rallied the team to go and reclaim what's been lost. No doubt, that should give the shivers to shareholders in the upstart chipmaker. But it's worth noting, too, that AMD hasn't been in the catbird seat before. It seems to relish the role. Don't expect it to relinquish that seat quietly, or soon.

Philip Durell atMotley Fool Inside Valuelikes cheap stocks, much as I do. Find out how his picks are beating the market and get more than a dozen lessons in the art and science of value investing by taking a risk-free trial today. All you have to lose is the prospect of better returns.

Fool contributor Tim Beyers thinks Carl Reiner is great but not, um, as the spokesperson for a semiconductor company. Whoops. Tim didn't own shares in any of the companies mentioned in this story at the time of publication. You can find out what is in his portfolio by checking Tim's Fool profile. The Motley Fool has an ironclad disclosure policy.


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