After increasing over 300% in just two-years, shares of Micron Technology (NASDAQ: MU) have started going in the opposite direction. The stock has become quite the lightning rod.
Bears cite the cyclical nature of memory chips, the declining pricing in NAND chips this year, and the possibility that pricing for DRAM (Micron's primary product type) will decline next. Bulls counter that, even after the dramatic run-up in the stock, Micron's one-year trailing P/E is a mere 3.9, and the company's work to specialize its products will help insulate it from historical swings in sales.
The truth is likely somewhere in between. While Micron does have an industry leading portfolio of digital memory products and has made great strides to maximize profits, a downturn has nevertheless already begun. That doesn't mean the stock isn't a buy, but here's how to approach the situation.
The cycles of memory
Micron and other memory-chip makers have enjoyed a two-year run as a surge in demand and shortfall in supply has led to higher prices for memory chip. That, in turn, has pushed Micron's profits to all-time records. During the recently completed 2018 fiscal year, Micron generated a staggering $14.1 billion in net income on $30.4 billion in revenue.
Micron has certainly done its fair share to help itself along the way. The company has worked to differentiate its product portfolio from competitors, developed new products for emerging technologies in data centers and autonomous vehicles, and reduced production costs. Nevertheless, microchips -- and memory chips in particular -- are subject to sales cycles.
Pricing in NAND and DRAM, the two types of memory chips Micron makes its hay off of, have started to head lower. We can't be sure how low prices will go or how well Micron will weather the storm, but a down cycle is coming nonetheless. Demand has started to cool, prices are moderating, and supply is catching up.
Image source: Getty Images.
It's all about averages
Micron's momentum has continued to carry sales and profits higher despite signs that a downturn is already here. However, in anticipation of the inevitable, Micron's stock has tumbled 34% from its highs, a normal occurrence for a cyclical stock ahead of expected turbulence.
That could seem like a great time to buy, especially with management continuing to talk positively about the company's prospects. Micron is paying down debt and is beginning an aggressive share repurchase program, which should help mitigate some of the looming pain. But Micron investors should still approach with caution.
That's because no one can know just how bad the downturn will get. It could be mild, with a rebound just around the corner. Or it could be a prolonged drought where Micron's record profits and share price come under even more pressure -- which has been the case for the memory manufacturer in nearly every industry downturn to date. Thus, buying the stock in small blocks over time through dollar-cost averaging could be the best option.
Micron's memory chips have a future in a large swath of the economy, including legacy products like computers and smartphones and newer stuff like connected cars, connected industrial equipment, and data centers. Owning a slice of the company isn't a bad idea, but buying in all at once -- when the uncertainty of the current pullback in chip pricing is unknown -- might set up a prolonged period of pain.
Thus, buying a small, set dollar amount at regular intervals -- like monthly or quarterly -- until you reach the desired position in your total portfolio is a better way to go.
This makes sense because this is how Micron's own share repurchase program will work as well. The $10 billion in shares aren't going to be purchased overnight; that's currently 20% of Micron's entire market cap. Nevertheless, that high percentage of capital returned to shareholders will have a positive impact and could offset a great deal of negativity. It also should help management mitigate the risk of trying to catch a falling knife.
Rather than go all-in now, it's important for investors to remember that, however optimistic they feel about Micron's prospects, it's business goes through cycles. With another down cycle kicking off, buying the dip with patience and in increments could help generate favorable returns over the long term.
