Shares of AMD (NASDAQ: AMD) recently surged after the chipmaker posted strong fourth quarter numbers, topped off with solid guidance. Revenue rose 16% annually to $1.11 billion, beating estimates by $40 million. Its non-GAAP loss of $0.01 topped expectations by a penny, and represented a major improvement from its loss of $0.10 per share in the year ago quarter. For the first quarter, AMD expects revenue to rise 18% annually -- crushing analyst estimates for 2% growth.
Continue Reading Below
Image source: AMD.
Those numbers look solid, but investors looking at AMD's 460% rally over the past 12 months might be wondering if most of that good news is already priced in. Let's take a closer look at AMD's recovery, and see if it's sensible to buy AMD at its highest price in over eight years.
A closer look at AMD's growth
AMD's quarterly revenue has risen annually for three straight quarters, marking a remarkable rebound from seven straight quarters of declines. Much of that growth was fueled by the EESC (Enterprise, Embedded, and Semi-Custom) unit, which produces SoCs for non-PC products like Sony's PS4 and Microsoft's Xbox One.
That demand is expected to rise this year as both companies launch upgraded consoles for 4K and VR gaming. Revenue from the EESC business rose 4% annually to $506 million last quarter, but operating income fell 20% to $47 million due to higher R&D investments. In the past, the strength of the EESC business offset the relative weakness of the Computing and Graphics unit, which produces x86 CPUs and GPUs. Both product lines have traditionally struggled against Intel's (NASDAQ: INTC) CPUs and NVIDIA's (NASDAQ: NVDA) GPUs.
But last quarter, AMD's Computing and Graphics revenue rose 28% annually to $600 million on robust sales of its new Polaris-based RX 400 series GPUs. At the time of its launch, the$200 RX 480 was the cheapest VR-capable card on the market -- making it possible to build Rift and Vive-ready desktops for under $1,000. The unit's operating loss of $21 million was also an improvement from its loss of $99 million a year earlier.
The RX 480. Image source: AMD.
The bull case for AMD
Looking ahead, many AMD bulls believe that rising sales of PC and console-based VR headsets can simultaneously lift sales of its custom SoCs and discrete GPUs this year. They also expect AMD's next-gen CPU, Ryzen, to outperform Intel's top-tier i7 processors whenthey arrive in March, and that its high-end Vega GPUs will outperform NVIDIA's premium tier of Pascal-powered GeForce GPUs. If the Ryzen and Vega chips can achieve those lofty goals, AMD's Computing and Graphics unit could become the company's core growth engine again.
AMD could also benefit from the upcoming expiration of a graphics cross-licensing deal between Intel and NVIDIA. Intel hasn't been keen onrenewing that agreement, which boosts NVIDIA's revenue by $66 million per quarter, and rumors suggest that Intel could sign a comparable licensing deal with AMD instead.
AMD also narrowed its losses, reduced its debt, and boosted its cash position in fiscal 2016. Those achievements all counter the bearish argument that AMD's losses will widen, causing it to collapse under its debt load as its cash flows dry up. Lastly, AMD stock remains fundamentally cheap after its massive rally in 2016. It trades with an EV/Sales ratio of 2.8, which is lower than Intel's ratio of 3.1 and NVIDIA's ratio of 9.4. That valuation -- along with its enterprise value of $11.6 billion -- make it a potential buyout or merger target for larger chipmakers.
The bear case against AMD
Those potential catalysts all sound encouraging, but there are also reasons to avoid AMD. First, console sales could stall if consumer demand for 4K and VR games is weaker than expected. Early sales estimates for VR headsets suggest that demand for smartphone and console-based headsets is outweighing demand for PC-based ones.
While that could boost AMD's EESC business, it could throttle demand for its VR-ready GPUs. Meanwhile, Nintendo's upcoming launch of the Switch, whichis powered by an NVIDIA's Tegra X1 SoC, could also disrupt Sony and Microsoft's console sales as the original Wii did a decade ago.
Lastly, too much of AMD's future relies on the Ryzen challenging Intel's GPUs and the Vega countering NVIDIA's. While the Ryzen might beat Intel's current-gen Kaby Lake processors, there's no guarantee that it can topple Intel's 10nm Cannonlake processors, which will launch in late2017. Likewise, the Vega might beat NVIDIA's current-gen Pascal GPUs, but it could be crushed by NVIDIA's next-gen Volta, which is also expected to launch this year. This means that the Ryzen and Vega could respectively become top-tier CPUs and GPUs this year, but those victories might be short lived.
My verdict: Start a small position... for now
I believe that investors with a higher tolerance for risk could start partial positions in AMD at current prices. But I also believe that the chipmaker's future growth depends on it bowling a near-perfect game this year -- which could be very tough as Intel and NVIDIA launch their new competing chips.
10 stocks we like better than Advanced Micro DevicesWhen investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*
David and Tom just revealed what they believe are the 10 best stocks for investors to buy right now and Advanced Micro Devices wasn't one of them! That's right -- they think these 10 stocks are even better buys.
Click here to learn about these picks!
*Stock Advisor returns as of February 6, 2017
Teresa Kersten is an employee of LinkedIn and is a member of The Motley Fool's Board of Directors. LinkedIn is owned by Microsoft. Leo Sun has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Nvidia. The Motley Fool recommends Intel. The Motley Fool has a disclosure policy.