How Close is Advanced Micro Devices Inc. to Bankruptcy?

Advanced Micro Devices recently reported its first quarter earnings, and they were ugly. The PC segment continued to collapse, with revenue from CPUs and GPUs falling by 38% year-over-year. The Enterprise, Embedded, and Semi-Custom segment, which includes AMD's game console business, shrunk as well, with revenue falling by 7% and operating profit nearly cut in half.

AMD doesn't expect things to get better anytime soon. The company has guided for a 3% sequential decline in total revenue during the second quarter, equivalent to a 30% year-over-year decline. The second half of this year may prove to be a bit better for AMD, with new graphics cards expected to launch in June, but big revenue declines are still likely, as are continued losses.

With AMD burning cash as it attempts to turn around its business, how long does the company have before bankruptcy becomes a real possibility?

A painful declineAMD still had about $900 million in cash and investments at the end of the first quarter, and the company has done a good job at maintaining a sizable cash balance despite its poor results. AMD has taken a few steps over the past few years to prevent its cash balance from falling too low. In 2013, the company sold its campus in Austin, Texas and leased it back, raising about $164 million in the process.

AMD has also slashed its capital expenditures, spending just $95 million in 2014 compared to $250 million in 2011. It's difficult to say for sure, but AMD may be underspending on capex in an effort to conserve cash, given that the company's depreciation expense was twice its capital expenditures in 2014. While this helps the situation in the short-term, it's unlikely to be sustainable in the long-run.

Here's how some key balance sheet figures have changed from 2010 to 2014:

All values in millions USD

AMD has managed to avoid taking on additional debt, and in fact has reduced its debt slightly over the past five years. But the book value of the company has plummeted, and after the first quarter, AMD is on the cusp of having a negative book value.

The balance sheet may not look all that concerning, given the big cash balance and the steady levels of debt, but things have actually gotten quite a bit worse over the past five years. The Altman Z-Score, a number calculated from various items on a company's balance sheet, is a useful way to determine whether a company is at risk of going bankrupt. A Z-Score below 1.81 means that the company is likely headed toward bankruptcy within the next few years.

Here's how AMD's Z-Score has evolved from 2010 to 2014:

Author's calculations. Data from AMD financial reports

In 2010, AMD's Z-Score indicated that it was distressed, but barely so. Since then, the Z-Score has plummeted, turning negative in 2014. The Altman Z-Score is a far from perfect metric, but it does help show that AMD's balance sheet has truly deteriorated over the past five years.

A few years leftDespite the bleakness of AMD's balance sheet, the good news is that AMD has until 2019 before it has to repay any significant portion of its outstanding debt, with $600 million worth of notes maturing that year. This buys AMD some time to turn things around before it needs to refinance that debt.

The problem is that the deterioration of AMD's business doesn't seem to be slowing down. First quarter results were awful by any measure, much worse compared to the first quarter of 2014, and the second quarter won't be any better.

Delays are starting to plague the company, not surprising given that research and development spending has been slashed continually over the past few years. AMD's 64-bit ARM server chips, supposed to be the savior of AMD's languishing server business, have been pushed back to the second half of this year, one year later than initially planned. Meanwhile, AMD's upcoming discrete graphics cards are now expected sometime in June. Competitor NVIDIA has had the high-end of the market essentially to itself since last September when it launched the GTX 970 and 980, and AMD has yet to respond with anything at all.

There's no real threat that AMD goes bankrupt in the next few years -- the company has plenty of cash remaining and no major debt repayments coming up. But that cash balance will continue to dwindle as AMD tries to remain competitive in too many markets with too few resources, battling Intel and NVIDIA simultaneously. By the time 2019 rolls around, AMD's financial position will likely be even more precarious than it is today. If the company hasn't come up with some sort of strategy to return to profitability by then, bankruptcy will become very likely, if not inevitable.

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Timothy Green owns shares of Nvidia. The Motley Fool recommends Intel and Nvidia. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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