Goldman Sachs Upgrades Micron Stock: What You Need to Know

By Rich Smith Markets Fool.com

Every day, Wall Street analysts upgrade some stocks, downgrade others, and "initiate coverage" on a few more. But do these analysts even know what they're talking about? Today, we're taking one high-profile Wall Street pick and putting it under the microscope...

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Shares of Micron Technology (NASDAQ: MU) stock are up more than 100% over the past 52 weeks -- a clean double. And that's just the start of the good news.

A new upgrade just announced by Goldman Sachs lays out an exceedingly bullish scenario for Micron going forward. It makes the case that this stock -- unprofitable, and trading for a P/E ratio of negative 78 according to data from Yahoo! Finance today -- could be selling for just five times earnings within a year.

Here are three things you need to know about that.

Image source: Getty Images.

1. Goldman says "buy"

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Previously "neutral" on Micron, Goldman Sachs upgraded the stock to buy and assigned a price target of $29 per share. Already, that target promises a 24% profit from today's price of less than $24 a share -- but in fact, Micron stock could go higher than that.

As explained in a write-up this morning on StreetInsider.com, Goldman believes that Micron shares could "trade above $30" this year. So in assigning the $29 price target, Goldman thinks it's actually being conservative.

2. DRAM profits

What is it that makes Goldman so optimistic about Micron's chances? The story centers on computer memory, and it goes like this: "Recent checks" by Goldman "suggest that server DRAM is [selling] in the $0.90-$1 range per 1 Gb," while "mobile DRAM is in the $0.60 range, PC DRAM is in the $0.75-$0.80 range, and [these] DRAM prices could rise 5-10% ... in March." Blending all the numbers together, Goldman says that average DRAM prices globally "could hit $0.70" this month.

That's about 4.5% above the $0.67 average price that Goldman had previously expected.

3. NAND profits

So how does a 4.5% rise in average selling prices (ASPs) work out to a 24% increase in Micron stock price? Well, that takes us into the second part of Micron's business, NAND flash memory. Here, too, Goldman says that supplies are "tight," and pricing should be healthy this month. When you add up Micron's DRAM profits and its NAND profits, Goldman believes Micron could earn as much as $1 a share this quarter (roughly one-third more than the rest of Wall Street is projecting).

What's more, Goldman sees the potential at least for Micron to earn as much as $4.30 per share this year.

Bonus thing: Memory math

And that's the really big news today. With Micron stock selling for a bit less than $24 this morning, $4.30 per share in estimated profits works out to a potential P/E ratio of as little as 5.5 on Micron stock this year. That's downright cheap already.

But as Goldman points out, Micron stock has historically traded for about eight or nine times its "peak earnings." If you take these multiples and apply them to a projection of $4.30 per share profits, they seem to imply the stock could go as high as $44 or even $50 per share -- nearly twice Goldman's new target price of $29.

So why the "conservative" projection of only a 24% profit on Micron stock? Curbing its enthusiasm somewhat, Goldman notes that while any of the above is possible, it's basing its buy recommendation on the supposition that Micron will earn $3.24 per share this year, grow that number 10% to $3.55 in 2018, and then watch profits subside to $2.55 per share in 2019, as memory supplies swell and prices fade.

All of these numbers, you'll notice, are far short of Goldman's most optimistic hope for $4.30 per share in profits -- but they nonetheless imply that Micron will earn 27% more profit over the next three years than Goldman had previously predicted. After two long years of losses at Micron, the prospect of a roaring return to profits is enough to win Micron stock a buy rating today.

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Rich Smith has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.