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Micron Technology Stock Upgraded: What You Need to Know

By Rich Smith – Jun 26, 2019 at 1:50PM

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The chipmaker's guidance for Q4 is electric -- and Micron stock is on fire.

Every day, Wall Street analysts upgrade some stocks, downgrade others, and "initiate coverage" on a few more. But do these analysts even know what they're talking about? Today, we're taking one high-profile Wall Street pick and putting it under the microscope...

Flash memory maker Micron Technology (MU -2.29%) had a much better quarter than many investors feared. Although both revenue and earnings declined, the company's $4.79 billion in sales and $1.05 per share in pro forma profit easily exceeded analyst estimates.

And yet, while Micron's earnings beat in fiscal Q3 was nice, arguably even more important was what it had to say about the fiscal fourth quarter currently underway. In fact, it was Micron's guidance that just won the stock an upgrade from hold to buy from Needham & Company.

Semiconductor chip

Image source: Getty Images.

Upgrading Micron Technologies

Our friends at TipRanks were kind enough to provide us a copy of Needham's report, and although only a few lines long, it was chock-full of analytical goodness -- and reasons for investors to be optimistic about Micron stock. (And they are optimistic. Already, Micron shares are up 13.5% in afternoon trading.)

For example, there's been a lot of talk about how the Trump administration's trade war with China -- and with Chinese tech company Huawei in particular -- is going to be bad news for chip stocks. Many of the biggest names in America's tech sector supply Huawei with the technology needed to manufacture its cellphones and 5G internet equipment. Bans on the export of such technology to Huawei are expected to do a real number on sales to China.

And yet, despite the wide-ranging export bans, Needham points out, Micron has figured out that it can still "lawfully ship a subset of its products to Huawei while being in compliance with Entity List restrictions." Indeed, the company resumed shipments of a limited number of tech items to Huawei two weeks ago, and the more it continues to ship, the less its revenue stream will be affected by the export bans going forward.

Flash memory: Bad news and good news

China aside, Needham says that all is still not well in the chip industry. In particular, the analyst notes that there is still "excess DRAM supply" on the market, and "oversupply" of NAND memory as well. Conditions of oversupply tend to spark price wars to capture what demand there is, and this is depressing memory prices -- to the detriment of Micron's sales and profits.

That being said, Needham notes that Micron sees "signs of improvement in bit demand in most DRAM end-markets, esp. cloud, graphics, and PC," and expects "strong growth in DRAM bit shipments in F4Q, with more regular bit growth following in F1Q20." At the same time, there are "signs of increased elasticity" in NAND sales, "leading to NAND bit demand increasing in most" markets.

Both of these developments -- while not indicating that the market has bottomed just yet -- do suggest that an end to price declines could be not too far off.

Market bottoms and valuation bottoms

Meanwhile, Micron stock's valuation may have already bottomed. Needham notes that shares have historically averaged a price-to-book value of about 2. When Micron last hit a "trough" valuation well below that in November 2012, it was losing money with an operating profit margin of negative 7.5%. At that time, the stock sold for 0.8 times its book value of $7.37 per share.

Conversely, "[i]n Nov. 2014, at the peak of the [last] cycle, [Micron] stock traded at a peak P/B multiple of 3.6x on $10/share of book value and MU generated an operating margin of 23.7%."

Today, Needham notes, Micron stock sells for close to its last "trough" valuation -- one times book value. Yet the company's operating profit margin is closer to its peak level -- 23% -- and its book value is $32 a share.

What this means to investors

The flash memory market hasn't yet bottomed, but neither is it anywhere near its peak. When the flash memory cycle does next peak, though, it shouldn't be unreasonable to expect Micron stock to sell for a price-to-book valuation of 3.6. 

Now, considering that Micron says it's still free-cash-flow positive and is cutting capital spending (which should boost free cash flow even further), it's likely that the book value it has today will remain mostly intact until the peak of the next cycle. And if Micron should sell for 3.6 times book value then (or even anywhere close), it seems reasonable to assume that a valuation of $100 to $115 per share shouldn't be entirely out of the question.

Right now, Needham is only hanging a price target of $50 on Micron shares. If everything works out as planned, however, the stock could eventually go much higher than that.

Rich Smith has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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