Micron Technology, Inc.’s (NASDAQ:MU) stock is up over 155% in twelve months while the S&P 500 only moved 14% in the same time-frame. But analysts and investors are beginning to question if this semiconductor giant’s stellar performance will continue in the future.
Despite significant near-term challenges, Micron’s long-term prospects remain intact. While the company faces stiff competition, its industry is growing rapidly, and there is still room for innovation and product differentiation – specifically in the burgeoning market for vehicle automation technology.
Micron, with its 25 years of experience, is poised to be a serious contender in the struggle to provide hardware for next-generation automobiles. With that in mind, let’s look under the hood at the fundamentals of the company.
Top Line Valuation
Micron Technologies, despite its twelve-month rally, retains a relatively low valuation compared to two of its most well-known peers, Intel and Advanced Micro Devices. Intel, while a stable and growing, is already too large to deliver the growth most tech investors are looking for. Advanced Micro Devices, while a much younger company than Intel, has a higher valuation than Micron despite significantly worse operating performance.
AMD and Micron posted similar revenue numbers back in 2010, but while AMD’s revenue still languishes at $4.3b seven years later, Micron’s revenue has soared to $14.73b. Both companies also report similar gross margins (sales less cost of sales) on their revenues. With a market cap of $30.22b, Micron has a P/S multiple of 2.00x while AMD’s P/S is 2.50x even though AMD’s top line performance is weaker.
Micron’s biggest red flag is its heavy debt load. The company has around $9.15 billion in long-term debt, and this may scare away some investors. But this debt isn’t as big a deal as one might think at first glance. Almost half of Micron’s total long-term debt is covered by the company’s current liquidity of $4.40 billion (2016 10-k). Interest expense is not a problem at $437 million in 2016, but it is growing rapidly at a CAGR of 7.48% over the last three years.
It is unclear why Micron’s management has decided to rely on debt instead of equity and retained earnings to fund operations. But generally, when companies become this leveraged it tends to make the stock price volatile – such volatility could be a good thing or a bad thing depending on how the business performs.
As long as Micron keeps a large amount of cash on hand, the debt shouldn’t be a problem. But expect Micron’s stock to make unusually wild price swings for a company of its size.
Earnings and Bottom Line Results
Investors and analysts differ on their preferred method for analyzing bottom line results. I personally look at EBITDA instead of net income and net income per share (EPS). The latter two metrics can be irreflective of tangible operating results because they take into account depreciation, amortization, and can be artificially increased or decreased by altering total shares outstanding through buybacks or dilution.
For Micron Technologies, EBITDA is especially relevant because the company has a heavy debt load. EBITDA (earnings before interest, tax, depreciation and amortization) can be used to determine Micron’s interest coverage ratio and its EV/EBITDA ratio. Enterprise Value (EV) is useful because it takes into account, not only a company’s market cap, but its debt load and cash on the balance sheet for a more holistic view of the firm’s valuation from an acquisition perspective.
In 2016, Micron generated $3.2 billion in EBITDA, and that gives it a healthy 7.32x coverage multiple on its interest expense of $437 million in that year. Interest coverage is generally considered low at around a 3.00x multiple. That being said, the company’s relatively high debt load makes its EV – and resulting EV/EBITA high in light of its challenges.
Micron Technologies, like most stocks, is a mix of good and bad. The company is challenged by competition and margin erosion. But it still retains a solid valuation compared to its competitors. The balance sheet is strong despite a heavy debt load, and Micron’s leveraged capital structure is sure to continue delivering growth stock returns if things go well.
But what’s the final verdict? Hold. Micron Technologies looks fairly valued to me, and I can’t recommend a stock I wouldn’t purchase myself. Micron certainly represents a better value than its competitors. But I will need to see how the autonomous driving landscape shapes up before making a confident directional call on this investment.
Disclaimer: The author has no position or business relationship in any stock or company mentioned in this article, and he has no plans to initiate a position at any time. The author is not receiving compensation for this article expect from Smarter Analyst.