The severe downturn gripping the memory-chip industry appears to be letting up just a bit. Micron (MU +6.43%) beat analyst estimates across the board with its results for the fiscal third quarter, which ended June 1, and its guidance called for a small sequential increase in revenue to close out the fiscal year.
On an absolute basis, Micron's results were downright awful:
- Revenue plunged 57% year over year
- Gross margin was negative 17.8% as tumbling selling prices required inventory write-downs
- Adjusted free cash flow was a loss of $1.36 billion
Micron's inventory levels rose slightly during the quarter despite the write-downs and further production cuts. This is a testament to how weak demand is right now.
This downturn will eventually end as Micron's customers whittle down their own inventories. The company expects its total addressable market to reach record levels in calendar year 2025, partly driven by booming demand for artificial intelligence (AI). But the market for memory chips is likely to remain weak into 2024, and Micron's China conundrum will only slow down the company's recovery.
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Key Data Points
Volumes are rising, but prices are still dropping fast
Micron sold around 10% more bits of DRAM and more than 30% more bits of NAND in the third quarter, compared to the second quarter, but pricing weakened considerably. The average selling price for DRAM dropped around 10%, while NAND prices plunged by a mid-teens percentage.
Micron's overloaded inventory of chips produced when prices were higher needs to be continually written down in value to account for plunging prices. The company wrote down inventory by $401 million in the third quarter, bringing its total write-downs for the first nine months of fiscal 2023 to $1.83 billion.
These write-downs hurt Micron's gross margin, but even if you excluded them, gross margin would have still been negative during the third quarter. It's costing Micron more to produce a bit of memory than it can sell it for right now. The company pushes down per-bit manufacturing costs over time by investing in new manufacturing processes, but when prices fall much faster than costs, there's nothing Micron can do but slash production and try to limit the bleeding.
With its latest production cuts, Micron's wafer starts for both DRAM and NAND are now down nearly 30% since the downturn began. The company is seeing improvements in demand from data center customers, particularly those running AI workloads. An AI server has as much as 8x the DRAM content and 3x the NAND content as a standard server.
The PC and mobile segments are still struggling, while the automotive and industrial segments are doing better. Overall, Micron believes the memory industry has reached bottom. However, the PC and mobile businesses are likely to drag down the company's results into 2024.
The China wildcard
While AI could help boost demand for Micron's server memory chips, China's recent move to ban purchases of Micron products for crucial infrastructure operators has the potential to take a big bite out of revenue.
Micron disclosed that multiple customers, including smartphone manufacturers, have been contacted by the Chinese government regarding the use of Micron products. About one-quarter of Micron's revenue comes from companies headquartered in China and Hong Kong, including direct sales and indirect sales through distributors. While the company notes that there's a lot of uncertainty, it believes that half of this revenue is at risk.
A double-digit drop in revenue is the last thing Micron needs right now. If the worst-case scenario plays out, Micron's recovery is going to take much longer to play out.
More bad than good
While the memory-chip markets appear to be bottoming out overall, Micron is likely facing a prolonged period of tepid demand that could be made even worse by lower sales to Chinese companies. Micron expects its gross margin to remain negative in the fourth quarter, and free cash flow will likely remain deeply negative, as well.
With Micron stock still well above pre-pandemic levels, the market may not be adequately pricing in the scope of this downturn and the risks facing the memory-chip company.
