Advanced Micro Devices (AMD 1.94%) investors are sitting on solid gains of almost 70% in 2023 thanks mainly to the broader surge in semiconductor stocks, even as the company's financial performance has left a lot to be desired.
AMD's revenue in the first six months of 2023 dropped almost 14% year over year to $10.7 billion. This decline can be attributed to weak sales of personal computers (PCs), a market that considerably influences AMD's overall business. The company's processors and graphics cards are used in PCs, a market that fell 29% year over year in the first quarter followed by a smaller drop of 13% in the second quarter, according to market research firm IDC.
The good news for AMD is that the PC market's decline has slowed down. However, a closer look indicates that AMD's reliance on this space means that the bearish argument against an investment in the stock still holds ground. Let's see why that's the case.
The bearish argument against AMD
We have already seen that AMD's business has been in decline this year. The stock, however, has jumped significantly, which explains why it is trading at 8 times sales right now as compared to the S&P 500's price-to-sales ratio of 2.5. For comparison, AMD was trading at 4 times sales at the end of last year when its business was in better health and annual revenue grew 44% to $23.6 billion.
AMD's performance in 2023 doesn't justify its expensive valuation. The PC market is to be blamed for the tepid performance as its revenue from the client-processor segment was down a whopping 54% year over year to $1 billion in Q2. The company pointed out that it is suffering on account of "reduced processor shipments resulting from a weaker PC market and a significant inventory correction across the PC supply chain."
Weak PC sales also affected AMD's graphics card shipments. This was evident from a 4% year-over-year decline in the company's gaming revenue to $1.6 billion. While the PC market has shown signs of regaining stability of late with a much smaller decline in shipments in Q2 as compared to Q1, it isn't out of the woods yet.
Earnings reports from industry bellwether HP and consumer electronics retailer Best Buy suggest that the market will continue to remain under stress. HP, for instance, lowered its full-year earnings and cash-flow outlook recently on account of poor demand from China as well as tepid enterprise demand. Best Buy, on the other hand, says that even though the PC market is showing signs of stability, its recovery is likely to be erratic. Even IDC estimates that the PC market is unlikely to return to growth until next year.
Given that AMD generated $5.4 billion in revenue last quarter, and a nice chunk of that came from PC-related businesses, the challenging conditions in this market strengthen the bearish case against AMD. The company's top line is expected to shrink 3% this year to $22.8 billion, per consensus estimates, while its earnings could drop 21% from 2022 to $2.76 per share in 2023, and that could weigh on the stock considering its valuation.
Why the bulls still have a reason to cheer
AMD's full-year revenue estimate suggests that the company is expected to deliver a much better performance in the second half of the year. Its Q3 revenue guidance of $5.7 billion also indicates the same as that would translate into a small improvement over the year-ago period's revenue of $5.6 billion.
Analysts are expecting the company to finish the year on a much stronger note with a 14% year-over-year increase in revenue in Q4. One key reason why that may be the case is because of the company's anticipated launch of new artificial intelligence (AI) chips which are expected to go into production in the fourth quarter of the year.
AMD believes that it is sitting on a massive addressable-revenue opportunity in this space as it estimates that the AI accelerator market could be worth $150 billion in 2027. The good part is that AMD is going after market leader Nvidia in the AI chip market with its MI300X accelerator with more powerful specs. Additionally, supply chain chatter suggests that AMD could reportedly secure a nice chunk of AI chips from its foundry partner next year, a move that has the potential to significantly boost AMD's growth.
Throw in the fact that AMD has seen a significant jump in customer interest in its AI chips, with CEO Lisa Su pointing out on the August earnings conference call that "AI cluster engagements grew by more than seven times sequentially as multiple customers initiated or expanded programs supporting future deployments," it is not surprising to see why analysts are anticipating a turnaround from next year.
AMD's revenue is expected to increase by 20% in 2024 to $27.5 billion, while earnings could increase an impressive 50% to $4.15 per share as per analysts' estimates. So there is a chance that AMD may be able to sustain its stock market rally once there is evidence that AI is moving the needle in a significant way for the company, giving bulls a solid reason to hold on to this chipmaker after its healthy gains this year.
