ADVANCED MICRO DEVICES AMD
July 12, 2011 - 5:20pm EST by
cam121
2011 2012
Price: 0.35 EPS $0.00 $0.00
Shares Out. (in M): 687 P/E 0.0x 0.0x
Market Cap (in $M): 4,500 P/FCF 0.0x 0.0x
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 4,500 TEV/EBIT 0.0x 0.0x

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Description

AMD Jan 2013 $5/$7.50 Split Strike Syn Long / $0.35 net debit / 7/12/2011
 
Overview
YCOMBINATOR provided a good write-up and follow-up coverage on AMD already, I am admittedly not providing a different perspective, but instead a different way to profit from a similar thesis.  Let me repeat the basic long thesis on AMD:
  • AMD's market share vs Intel is near an all time low
  • AMD's Llano and Bulldozer chips will be as good as or better than Intel's for most tasks, especially graphically intensive tasks
  • AMD's stock traditionally trades based on market share.  From a JP Morgan report in January:
Our long-held view on AMD stock is based on whether the company's mainstream microprocessors are gaining or losing share to Intel. In the past, AMD has only been consistently profitable when it has gained share versus Intel and been consistently unprofitable when it is losing or not gaining share versus Intel, except during the bubble. We do not believe the company's mainstream microprocessors will gain share until 2H11 at the earliest

Recent Developments
So we've now reached 2H11 and it's time for AMD to start gaining share.  But despite a recent decline, the stock was downgraded yesterday by JMP because ARM is becoming more relevant than AMD because tablets are taking share.  I'm having a hard time seeing a server rack replaced by a tablet, but maybe that's just me.  I just bought a new laptop because a tablet was not powerful enough to do what I needed, but that might change in a few years.  I don't think servers, notebooks, and desktops are going to be eliminated any time soon, however.  

Despite some positive press (like the Heard on the Street Column this week), AMD continues to be universally hated.  I proposed AMD as a stock to a long only manager who owns Intel and his response was, "too many scars with that one for me to ever buy it again."   Heck, even the guy with the best hair on Wall St says it's "practically impossible AMD will give Intel trouble again anytime soon."  I think that sums up the popular opinion quite well.

The reviews on AMD's new processors continue to come in and they continue to be more positive than negative, but definitely mixed.  Then you have the fact that all big names have apparently turned down the opportunity to be CEO.  Throw on a downgrade mixed with a weak tech/semi environment and even positive press and the Longbow analyst rebutting the downgrade don't have any effect.

Alternative to Stock
But I still believe the thesis that AMD will take share from Intel with Llano and Bulldozer chips and I don't see why AMD's stock won't trade higher based on market share gains this time as well. On the downside, AMD has some debt but I don't see this going to zero even if the market share gains don't materialize (operating income is very positive).  AMD doesn't pay a dividend and Implied Volatility is in-line with historical volatility at 45%, so I see this as a great situation to play with options, and that is exactly what I've done.

A split strike synthetic long selling Jan 2013 $5 puts and buying $7.50 calls costs about $0.35 (it was more yesterday when I added to my position purchased last week - why didn't anyone tell me there would be a downgrade yesterday?).  You've got upside over $7.85 and your loss is limited to the $0.35 debit as long as the stock stays over $5 (allows for over 20% further decline from here) with 18 months for the situation to play out with a few catalysts coming up:

1.) New CEO named.  When it was rumored someone from IBM would be named CEO the stock had a 5%+ gain.  When someone is actually named I think it could reverse the recent trend.
2.) Earnings July 21st.  I don't think what they report matters nearly as much as what they say about demand for new chips.
3.) Market share gains. This isn't a specific date but should play out before the options expire.

On any rise in price, the $5 put should be able to be bought back and higher calls can be sold to turn the syn long into a spread and eliminating your risk.

Target
I place fair value around $14 today based on a scenario analysis of Bulldozer Server market share gains.  My upside case puts fair value at about $16.50 including 15% market share and 8x EV/EBITDA multiple.  I view servers as the big opportunity; notebooks provide additional upside potential to these numbers (as do market share gains in servers over 15% -- the last cycle got to almost 25%). I'm not one to get greedy so I'll be looking to sell $15 calls and buy back the $5 puts at a net credit of $0.35 to eliminate my risk as soon as possible (if possible).  The goal is to end up with a $7.50-$15 spread at no net cost.

Catalyst

New CEO named. 
Earnings July 21st.
Market share gains.
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    Description

    AMD Jan 2013 $5/$7.50 Split Strike Syn Long / $0.35 net debit / 7/12/2011
     
    Overview
    YCOMBINATOR provided a good write-up and follow-up coverage on AMD already, I am admittedly not providing a different perspective, but instead a different way to profit from a similar thesis.  Let me repeat the basic long thesis on AMD:
    • AMD's market share vs Intel is near an all time low
    • AMD's Llano and Bulldozer chips will be as good as or better than Intel's for most tasks, especially graphically intensive tasks
    • AMD's stock traditionally trades based on market share.  From a JP Morgan report in January:
    Our long-held view on AMD stock is based on whether the company's mainstream microprocessors are gaining or losing share to Intel. In the past, AMD has only been consistently profitable when it has gained share versus Intel and been consistently unprofitable when it is losing or not gaining share versus Intel, except during the bubble. We do not believe the company's mainstream microprocessors will gain share until 2H11 at the earliest

    Recent Developments
    So we've now reached 2H11 and it's time for AMD to start gaining share.  But despite a recent decline, the stock was downgraded yesterday by JMP because ARM is becoming more relevant than AMD because tablets are taking share.  I'm having a hard time seeing a server rack replaced by a tablet, but maybe that's just me.  I just bought a new laptop because a tablet was not powerful enough to do what I needed, but that might change in a few years.  I don't think servers, notebooks, and desktops are going to be eliminated any time soon, however.  

    Despite some positive press (like the Heard on the Street Column this week), AMD continues to be universally hated.  I proposed AMD as a stock to a long only manager who owns Intel and his response was, "too many scars with that one for me to ever buy it again."   Heck, even the guy with the best hair on Wall St says it's "practically impossible AMD will give Intel trouble again anytime soon."  I think that sums up the popular opinion quite well.

    The reviews on AMD's new processors continue to come in and they continue to be more positive than negative, but definitely mixed.  Then you have the fact that all big names have apparently turned down the opportunity to be CEO.  Throw on a downgrade mixed with a weak tech/semi environment and even positive press and the Longbow analyst rebutting the downgrade don't have any effect.

    Alternative to Stock
    But I still believe the thesis that AMD will take share from Intel with Llano and Bulldozer chips and I don't see why AMD's stock won't trade higher based on market share gains this time as well. On the downside, AMD has some debt but I don't see this going to zero even if the market share gains don't materialize (operating income is very positive).  AMD doesn't pay a dividend and Implied Volatility is in-line with historical volatility at 45%, so I see this as a great situation to play with options, and that is exactly what I've done.

    A split strike synthetic long selling Jan 2013 $5 puts and buying $7.50 calls costs about $0.35 (it was more yesterday when I added to my position purchased last week - why didn't anyone tell me there would be a downgrade yesterday?).  You've got upside over $7.85 and your loss is limited to the $0.35 debit as long as the stock stays over $5 (allows for over 20% further decline from here) with 18 months for the situation to play out with a few catalysts coming up:

    1.) New CEO named.  When it was rumored someone from IBM would be named CEO the stock had a 5%+ gain.  When someone is actually named I think it could reverse the recent trend.
    2.) Earnings July 21st.  I don't think what they report matters nearly as much as what they say about demand for new chips.
    3.) Market share gains. This isn't a specific date but should play out before the options expire.

    On any rise in price, the $5 put should be able to be bought back and higher calls can be sold to turn the syn long into a spread and eliminating your risk.

    Target
    I place fair value around $14 today based on a scenario analysis of Bulldozer Server market share gains.  My upside case puts fair value at about $16.50 including 15% market share and 8x EV/EBITDA multiple.  I view servers as the big opportunity; notebooks provide additional upside potential to these numbers (as do market share gains in servers over 15% -- the last cycle got to almost 25%). I'm not one to get greedy so I'll be looking to sell $15 calls and buy back the $5 puts at a net credit of $0.35 to eliminate my risk as soon as possible (if possible).  The goal is to end up with a $7.50-$15 spread at no net cost.

    Catalyst

    New CEO named. 
    Earnings July 21st.
    Market share gains.

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