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Micron Technology Stock Upgraded: What You Need to Know

By Rich Smith - Jul 22, 2019 at 2:48PM

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It's still early days, but Goldman Sachs thinks the next DRAM cycle could kick-start the market.

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...

Micron Technology ( MU -1.52% ) stock is on fire.

Since the flash memory specialist crushed Q3 earnings estimates last month, shares have surged 44% in value (helped in part by an upgrade from Needham & Company, which especially liked Micron's guidance for Q4).

Now, with two months still remaining in the fourth quarter, a second analyst -- Goldman Sachs -- is lending a hand, and helping to move Micron stock up a further 3% or so in Monday trading. Here's what you need to know.

Glowing semiconductor chip

Image source: Getty Images.

No flash in the pan

One month ago, Needham noted that Micron stock was still suffering from "excess DRAM supply" on the market, and "oversupply" of NAND memory as well. However, even at that early date, Needham said it was seeing "signs of improvement" in DRAM demand, leading it to predict "strong growth in DRAM bit shipments in F4Q." NAND sales, too, were forecast to grow in "most" markets.

One month later, at least some of those predictions appear to be coming true.

Last week, for example, StreetInsider.com quoted stock researcher Edgewater reporting on price "relief" in NAND flash memory -- albeit DRAM prices were still down on oversupply and weak demand. While not a 100% validation of Needham's hypothesis, the news was still good enough to elicit price target hikes for Micron stock from Merrill Lynch and Barclays Capital. 

Goldman Sachs chimes in

What's more, as Goldman Sachs argues in today's note, an increase in demand for NAND memory could be a leading indicator foreshadowing improvement in the DRAM market as well. Although the analyst doesn't think we'll see real improvement in DRAM before, say, H2 2020, it does believe that improvement is on the way. 

So what is causing this shift?

"We now believe that inventory [of computer memory] ... is being depleted faster than we previously expected," says Goldman, as computer memory makers respond logically to the decline in demand by downshifting their production rates. As the rate of production of new memory decelerates, the analyst forecasts that production will ultimately "fall below longer-term demand growth in 2020," transforming a market characterized by oversupply into one characterized by undersupply.

This should, in turn, reverse recent price declines and raise memory prices as buyers compete to get hold of scarce supply. 

Things will get worse before they get better

Admittedly, even Goldman doesn't think we'll see this dynamic make itself felt before the second half of next year. As a result, the analyst says it is actually forecasting full-year 2020 earnings for Micron to be below what the rest of Wall Street is expecting. Where the story gets good is that Goldman thinks 2021 earnings for Micron could shoot up as much as 30% beyond consensus forecasts. 

What it means to investors

According to data from S&P Global Market Intelligence, current consensus estimates call for Micron to earn only $5.41 per share this fiscal year, followed by a further decline to $2.55 in 2020. The fact that Goldman Sachs is predicting below-consensus earnings suggests that Micron's profits next year could look ugly indeed.

On the other hand, Goldman's peers on average predict earnings of $4.28 per share for Micron in 2021. But if Goldman is right and earnings actually come in 30% above that number, investors could be treated to a fiscal 2021 report with earnings closer to $5.56 a share.

The analyst's new price target of $56 (raised in conjunction with the new buy rating) suggests that Goldman is valuing Micron stock at about 10 times fiscal 2021 earnings, which doesn't seem like a too-aggressive target to me. Indeed, if you assume that in the cyclical market for computer memory, 2021 will be the first year of recovery, and that demand for (and pricing of) computer memory will continue to rise for a few years before the cycle turns back down again, I think 10 times earnings might even turn out to be a conservative valuation on Micron stock.

If I'm right about that, then this latest upgrade could turn out very well indeed for Goldman Sachs -- and for investors who take the analyst's advice and buy Micron shares.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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