AMD: Markets are underestimating the potential for TAM penetration/expansion

Funding thesis

Superior Micro Gadgets, Inc. (NASDAQ: AMD) lags the general semiconductor mixture of shares by way of 2024, performing according to the broader markets and delivering ~14%, barely increased than 12% year-to-date index of the S&P 500. In distinction, the widespread ETF iShares Semiconductor (SOXX) has returned 25% up to now, whereas the VanEck Semiconductor ETF (SMH) posted features roughly thrice sooner than AMD inventory in 2024.

As I level out in my evaluation beneath, whereas AMD’s information heart confirmed robust development as we moved by way of the preliminary post-pandemic section of enterprise cloud infrastructure spending, the corporate misplaced information heart chip market share because the success of OpenAI ChatGPT was seen the world unexpectedly resulting in a mad sprint for Nvidia (NVDA) GPUs of their respective information heart structure.

The current Computex 2024 occasion additional strengthened my perception within the firm’s development, and I imagine that AMD is undervalued at present ranges. I will start my protection of AMD with a powerful purchase begin on the inventory.

A quick overview of AMD’s income trajectory

AMD was in a position to efficiently take market share from Intel ( INTC ) over the earlier decade within the information heart processor market, which was targeted on the x86 processor structure. As the last decade progressed, AMD additionally reorganized its income segments to raised spotlight new income segments, reminiscent of information heart income, as proven in Appendix B.

Prior to now decade, AMD chips such because the desktop-oriented Ryzen collection, in addition to the EPYC line of microprocessors aimed on the server and embedded markets, have carried the corporate ahead as the corporate continued to achieve market share over Intel, as proven within the determine. within the desk beneath in Appendix C.

Nevertheless, since ChatGPT launched in Q4FY22, the speedy reputation of OpenAI’s AI chat assistant was sufficient to persuade enterprises to improve their information heart structure to learn from the approaching demand for accelerated machine studying workloads, that are required for of most ML fashions. Hyperscalers have led the way in which throughout these speedy capital enlargement phases over the previous 15-18 months.

Sadly, firms like AMD and Intel have fallen behind in demand for chips that may successfully deal with the cloud-accelerated workloads related to ML. I imagine this was as a result of the prevailing line of AMD and Intel chips in the marketplace on the time had been based mostly on the x86 structure and didn’t match the bandwidth effectivity and large-scale information parallelization that Nvidia GPUs may present. preparation of huge fashions. This was additionally seen within the uncommon FY22 earnings report as proven beneath.

So AMD, together with Intel, have been left behind within the new marketplace for AI-accelerated computing chips, as proven within the chart beneath, the place I see additional declines in AMD and Intel’s market share within the low single digits.

AMD is projected to achieve market share in 2024

In Appendix E above, I observe that Nvidia’s GPU penetration peaked in 2023, however AMD and Intel are projected to regain market share from Nvidia this 12 months. Whereas Intel is predicted to regain ~1% market share, AMD is predicted to recapture an extra ~3% of the market.

There are two explanation why I imagine this might backfire for AMD. First, I am inspired by AMD’s chip launches over the previous 6-8 months, which positions the corporate in a greater place. Final December, AMD launched its accelerated MI300 collection processor geared toward competing with Nvidia’s Hopper platform GPU lineup.

In one in every of its earlier earnings calls, AMD’s administration additionally shocked many analysts by growing TAM to $400 billion. Markets had been predicting TAM to be nearer to the ~200 billion vary. On this earnings name, AMD’s CEO added some extra particulars on why they anticipated vital development.

I feel we count on models to develop within the excessive double-digit percentages. However you also needs to count on the content material to develop. So if you consider how essential reminiscence and storage are as we transfer ahead, you’ll be able to think about we’ll see acceleration there and simply basic content material as we transfer to extra superior know-how nodes. So there may be some improve in ASP. And what we additionally do is we plan long-term roadmaps with our prospects by way of how they give thought to the dimensions of studying clusters, the variety of studying clusters. And in addition, the truth that we imagine that the conclusion will really exceed the training as we enter the following couple of years, provided that an increasing number of companies are adopting.

I imagine that within the subsequent stage of AI, AMD chips shall be higher suited to fulfill the wants of enterprise ML inference in a decrease price and better chip effectivity. Here is a graph I’ve tailored for instance how I see the following stage of AI improvement by way of mannequin inference capabilities:

Additionally, on the current Computex 2024 present, I used to be joyful to see extra readability from AMD’s CEO on AMD’s accelerated chip roadmap, which is near my imaginative and prescient for the following section of AI. This 12 months, AMD will transfer to annual releases of its accelerated GPUs, and can finally section out the MI300 collection to make method for the MI400 collection in 2026.

I count on these strategic adjustments from administration to enhance the market penetration I famous earlier in Appendix C. I’ve additionally added AMD’s roadmap for accelerator chips beneath in Appendix G.

An instance of development can already be seen when administration talked about demand for his or her MI3000 chips launched final 12 months. The corporate was in a position to hit $1 billion in gross sales inside 2 quarters. Based mostly on the success, administration raised its forecast steerage for 2024 gross sales of the MI300 chip to $4 billion from a earlier expectation of $3.5 billion. Notice that the MI300 chip was simply launched in December. Here is an excerpt from final week’s BofA Securities 2024 GTC.

We actually launched the MI300X final December, proper? We grew MI300X by $1 billion in lower than two quarters. And if you consider it [Technical Difficulty] and in the present day, as we talked about on the final earnings name, we’ve got over 100 prospects that we’re working with both within the improvement stage or within the deployment stage. So we up to date the quantity by greater than $4 billion over the last earnings report.

AMD has upside potential from present ranges

Based mostly on consensus expectations, I count on AMD to develop its earnings by at the least double digits in 2024 as the corporate advantages from the brand new accelerated chips it’s releasing for its prospects. Many companies have already introduced their intentions to maneuver away from dependence on Nvidia GPUs, and this might pose a short-term risk to AMD’s high line. Additionally, the necessity for low-cost chips to output the fashions can be a long-term tailwind for AMD. As such, I count on AMD to develop according to consensus estimates of 19-20% CAGR for the chip agency over the following three years.

From a profitability perspective, if I take the typical consensus EPS estimate, I see AMD’s earnings per share finally rising within the double digits to $7.6 in FY26. At AMD’s present market cap, because of this the markets are at the moment valuing AMD at 23 instances FY26 earnings.

Evaluating this to the long-term development price of the S&P 500, the inventory ought to be buying and selling at the least at a 5-year common ahead PE of 43 based mostly on the earnings development price, implying a share worth of ~$230.

This implies there may be at the least 40% upside from present ranges.

Dangers and different elements to think about

A slowdown in infrastructure spending poses AMD’s largest danger in the meanwhile. If spending had been to decelerate, it might have an effect on AMD’s development price. One indicator I am searching for is the anticipated capex of Hyperscalers, who’ve beforehand mentioned they’ll replace their information heart structure with up to date chips and associated infrastructure. I talked about this a few months in the past within the macro situations part of my SMH protection.

As well as, Apollo World’s Chief Economist just lately illustrated how the persistence of robust earnings over the previous few quarters factors to increased capital expenditures sooner or later, as proven in Appendix J beneath. Monitoring these macro traits shall be crucial to shaping AMD’s outlook for traders.

Take it away

I see sufficient causes to justify AMD’s inventory worth at present valuation ranges. I am inspired by the extra element and readability in AMD’s accelerator chip roadmap, which can permit AMD to regain market share within the information heart market from 2024, regardless of falling behind Nvidia in 2nd place. Moreover, altering traits within the output wants of machine studying fashions will put AMD in a powerful place to learn from promising traits, and I count on AMD to reap these advantages because of this.

I strongly suggest shopping for AMD at present ranges.