Advanced Micro Devices' (AMD +11.44%) stock price has declined nearly 20% this year as rising interest rates have caused investors to cash out of higher-growth tech stocks. AMD also faces concerns about slower PC sales in a post-lockdown market, as well as tougher competition from Intel (INTC +13.96%) and Nvidia (NVDA +1.73%) in CPUs and GPUs, respectively.
AMD is also still slogging through the ongoing chip shortage, which is causing traffic jams at its main manufacturing partner Taiwan Semiconductor Manufacturing (TSM 0.84%) (TSMC), and facing unresolved regulatory challenges for its planned takeover of Xilinx (XLNX +0.00%).
Image source: AMD.
AMD remains a polarizing stock. The bulls believe it will remain ahead of Intel in the CPU race by relying on TSMC's smaller and denser chipmaking technologies, and that it will keep pace with Nvidia by selling cheaper GPUs that provide comparable performance. They also believe it will benefit from the secular growth of the data center, gaming console, and PC gaming markets. The bears believe that it's only a matter of time before Intel catches up to TSMC in the process race and Nvidia chips away at AMD's lower-end market.
AMD's long-term performance favors the bulls, but its short-term performance definitely supports the bears. That probably won't change anytime soon, but investors should focus on two recent developments -- a green flag and a red one -- that provide fresh support to both camps.
The green flag: China could approve the Xilinx deal soon
AMD agreed to buy Xilinx, one of the world's largest producers of field-programmable gate arrays (FPGAs), for $35 billion in an all-stock deal in October 2020. At the time, AMD claimed it would close the deal by the end of 2021. But last month, it postponed the deal closing to the first quarter of 2022.
The deal has been approved in every market except for China. Buying Xilinx would make AMD much more competitive against Intel, which acquired Xilinx's top FPGA competitor Altera for $16.7 billion in 2015.
Unlike CPUs, which are programmed for specific markets, FPGAs can be reprogrammed after being manufactured, which means they can be customized for a much wider range of devices. In data centers, they can complement CPUs by accelerating certain processing tasks.
Therefore, AMD's purchase of Xilinx could complement its Epyc server chips and make it more competitive in the data center market against Intel. However, Xilinx and Intel already hold a near-duopoly in FPGA chips, and letting AMD purchase Xilinx would effectively split the FPGA market between the world's two largest suppliers of x86 CPUs for data centers.
However, AMD still only controls a low-single-digit share of the data center CPU market, according to PassMark Software, so the acquisition should be less controversial than Intel's purchase of Altera -- which was approved in China before the trade and tech wars escalated under the Trump administration.
That's why investors likely breathed a sigh of relief when Dealreporter claimed that China's State Administration for Market Regulation (SAMR) was finally getting ready to approve the deal. Investors should take that green flag with a grain of salt, but China's approval of the deal should remove a major roadblock for AMD's fledgling data center business.
The red flag: Piper Sandler downgrades AMD
Meanwhile, a bright red flag appeared when a prolific analyst suddenly downgraded AMD. On Jan. 20, Piper Sandler's Harsh Kumar downgraded AMD from "overweight" to "neutral" while reducing his share price target from $140 to $130 -- which implies an upside potential of less than 10%.
Kumar attributed that downgrade to the potential slowdown of the PC market as fewer people worked from home, with the Xilinx acquisition throttling its near-term earnings growth and "broader market dynamics" (such as rising inflation and interest rates) capping the gains of pricier growth stocks.
Those concerns are valid, but I think they're overblown. HP's latest results indicated that robust commercial sales of PCs could offset declining sales of consumer PCs, and AMD previously said the Xilinx acquisition would be "immediately accretive" to its margins, cash flow, and earnings per share.
As for rising inflation and higher interest rates, I believe AMD will remain better-insulated from those macro headwinds than other high-growth tech companies because it's still firmly profitable on a generally accepted accounting principles (GAAP) basis. In addition, AMD's stock isn't particularly expensive at 42 times forward earnings -- especially when analysts expect its earnings to more than double in 2021 and grow another 27% in 2022.
Does the good news outweigh the bad news?
I believe the long-awaited approval of the Xilinx deal matters a lot more to investors than Piper's downgrade of the stock. If AMD finally seals the Xilinx deal, it will easily outweigh Piper's near-term concerns about a temporary slowdown in PC sales, acquisition-related costs, and macro-related headwinds.
