Advanced Micro Devices' (NASDAQ:AMD) stock tumbled this week after the chipmaker posted its second-quarter earnings. Its revenue fell 13% annually to $1.53 billion, which beat estimates by $10 million but marked the company's third straight quarter of declining sales. Its adjusted net income fell 41% annually to $92 million, or $0.08 per share, meeting expectations.

Those headline numbers are alarming, but do they indicate that AMD's stock is running out of steam after more than quadrupling over the past three years?

An upset investor takes a break from a trading screen.

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Annual vs. sequential growth

AMD's year-over-year growth looks weak, but its quarter-over-quarter growth looks better. On a sequential basis, AMD's revenue rose 20% and its adjusted net income improved 48%. To understand that disparity, we should take a closer look at its computing and graphics and EESC (enterprise, embedded, and semi-custom) units:

Q2 2019

Revenue

QOQ growth

YOY growth

Computing and graphics

$940 million

13%

(13%)

EESC

$591 million

34%

(12%)

Source: AMD Q2 earnings report. QOQ = Quarter-over-quarter. YOY = Year-over-year.

AMD's computing and graphics revenue fell annually due to lower sales of gaming and professional visualization GPUs, which were partly offset by higher sales of its data center GPUs and x86 CPUs. It attributed the unit's sequential growth to higher overall GPU sales.

Those statements indicate that AMD is gaining ground against its two biggest rivals, NVIDIA (NASDAQ:NVDA) and Intel (NASDAQ:INTC). NVIDIA's sales of data center GPUs fell 17% annually last quarter, while Intel has been frustrating clients with an ongoing shortage of x86 CPUs. These missteps are feeding AMD's growth. AMD's sequential growth in GPU sales also indicates that its latest Radeon cards could hold up well against NVIDIA's newest RTX cards.

The EESC unit attributed its annual sales decline to lower sales of its semi-custom chips (including its APUs for video game consoles), which were partly offset by higher sales of its Epyc CPUs for data centers. It attributed the unit's sequential growth to higher sales of both semi-custom chips and Epyc processors. Rising demand for AMD's Epyc chips is bad news for Intel, which holds a near-monopoly in the data center market with its Xeon chips.

A gamer plays a game on a PC.

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What about prices and margins?

A common criticism of AMD is that it sacrifices its margins to counter NVIDIA and Intel. However, AMD's average selling price (ASP) and margins during the quarter indicate that its pricing power remains stable.

In computing and graphics, the ASP for AMD's CPUs rose annually with a higher mix of Ryzen chips, which indicates that it's gaining pricing power as Intel struggles with its supply issues. However, the ASP for CPUs still declined sequentially due to a higher mix of cheaper mobile processors for laptops and convertibles.

A higher mix of pricier data center GPUs lifted the company's GPU ASP year-over-year, but that figure also fell sequentially as data center GPU sales dipped and it generated more sales from cheaper gaming GPUs.

However, those year-over-year ASP improvements didn't translate to better operating income growth for the computing and graphics unit, mainly because its overall revenue declined. However, robust demand for Epyc CPUs boosted the EESC unit's operating income sequentially and annually.

Q2 2019

Operating income

QOQ growth

YOY growth

Computing and graphics

$22 million

38%

(81%)

EESC

$89 million

31%

29%

Source: AMD Q2 earnings report. QOQ = Quarter-over-quarter. YOY = Year-over-year.

AMD reported an adjusted gross margin of 41% for the second quarter, which was unchanged from the first quarter and a four percentage point jump from a year earlier. It expects that figure to rise to 43% in the third quarter as it sells more Ryzen, Radeon, and Epyc chips.

A decent outlook with a premium valuation

AMD expects its revenue to rise 6%-12% annually (and 14%-21% sequentially) in the third quarter, but that missed the consensus forecast for 18% annual growth and triggered the post-earnings sell-off. It expects its full-year revenue to rise by the mid-single digits, which matches analysts' expectations for 5% growth.

AMD didn't provide any bottom-line guidance, but analysts expect its adjusted earnings to rise 39% this year. At a stock price around $30, AMD trades at 47 times that estimate, which is a bit rich relative to its growth rate. Intel and NVIDIA are also striking back against AMD with new chips, and it could be tough for the underdog to juggle concurrent battles against the two market leaders. AMD isn't running out of steam yet, but investors should be aware of the challenges ahead.