Why You Shouldn’t Count Advanced Micro Devices, Inc. (AMD) Stock Out

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It's about 10 days since Advanced Micro Devices, Inc. (NASDAQ: AMD ) officially launched its Epyc line of server CPUs, and it feels like 2003 all over again. You see, about a decade and a half ago, AMD caught chip rival Intel Corporation (NASDAQ: INTC ), napping, big time.

Why You Shouldn't Count Advanced Micro Devices, Inc. (AMD) Stock Out

Source: AMD

AMD launched the Opteron line of processors, the first consumer x86 64-bit processors based on the famous K8 architecture, in 2003 and suddenly Intel found itself in a completely unfamiliar position - playing second fiddle to a much smaller competitor. That move saw AMD's x86 server market share hit an all-time high of 25% in 2006, all at Intel's expense.

Advanced Micro Devices' share of the market currently sits below 1%.

Given that context, it's hardly surprising that AMD stock has racked up gains of 16% since the launch, while INTC stock has lost about 5%.

Dé·jà vu by INTC Stock?

And the same thing could be on the verge of happening again - at least if Advanced Micro Devices, Wall Street and, of course, AMD stock investors are to be believed. AMD's Epyc sever chips are aimed directly to the top of Intel's highly dominant and profitable Xeon server processors. Epyc has been built on the same fundamental architecture as AMD's Ryzen desktop CPU cores that the company launched in February, only that Epyc is aimed not at the floundering PC market but at the red-hot data center market.

Advanced Micro Devices has been making aggressive performance claims regarding the new chip, including that it can easily make hash out of current Xeon lineups of one- and two-socket configurations with performance gains of 21%-63% over the Xeon processors. The strategy behind Epyc certainly looks highly innovative and not just an iteration of existing architectures. The processors are targeted at the single-socket server niche market (9% of server market), but comes with an integrated GPU server that gives it a performance that compares with double-socket processors.

Essentially, AMD's Epyc strategy is quite similar to its older Opteron strategy, which involved offering high performance, lower latency processors than Intel's lineup at much lower costs.

And of course that worked like a charm. Advanced Micro Devices' Epyc has already signed up big cloud customers such including Microsoft Corporation (NASDAQ: MSFT ) and Baidu Inc (ADR) (NASDAQ: BIDU ).

INTC Stock Resilient

The performance specs by AMD could be a bit of an exaggeration because they do not offer specific numbers, just percentages. No industry benchmark tests are available as yet. Wall Street loves it, nonetheless, and it has been dishing out upgrades for AMD stock while downgrading INTC stock.

While Advanced Micro Devices' upgrades come as no one's surprise, INTC's standout not only because of the magnitude, but also of their possible implications of where AMD stock could go.

Bank of America has downgraded INTC shares from $42 to $38 after the upgrade saying the company's data center sales for FY18 could drop from 11% to 8% on account of competitive pressure by Epyc.

Wall Street though could be underestimating Intel's resilience. Intel's Data Center Group is the company's second largest segment , and brought in 28% of revenue during the first quarter. During the last quarter, Intel's data center revenue clocked in at $4.2 billion, good for a modest 6% growth but way below Wall Street's expectation of 10%. However, Intel still owns 99% of the server processor market.

Intel's data center business is currently on an annual run-rate of $17 billion. BAC's numbers suggest that AMD's Epyc business could grow to half a billion dollars over the next one year. Nipping half a billion dollars from Intel's topline probably doesn't qualify the company for a downgrade because it would still mean Intel owns nearly 97% of the x86 server business.

Moreover Intel's long-suffering PC business has lately come back to life, growing 6% to hit $8 billion during the last quarter. Just a two-percentage point improvement in growth by the PC business would be enough to offset the small shortfall by the data center business, though of course the PC chip business sports lower margins.

Advanced Micro Devices is a currently a fabless company and lacks the wherewithal to ramp up production aggressively to threaten Intel over a short timeframe. This is likely to buy Intel some time to mount a counterattack.

Fabless Model Working for AMD Stock

There are a couple of things working hugely in Advanced Micro Devices' favor this time though. Intel adopted the famous 2-year tick-tock product strategy in a bid to shorten development times and bring new architectures to the market faster. The company dropped this strategy last year because it does not work well with smaller nodes and newer processes.

Intel instead adopted a 3-year development cadence involving process, architecture and optimization. In effect, Intel is effectively not as nimble as it used to be, and this gives AMD ample time to do even more damage.

The second is that Advanced Micro Devices is now a fabless company unlike during the Opteron era. Whereas this model limits how well it can improve manufacturing processes, it offers something far more important - lower development costs, a critical consideration for the company. AMD spent nearly $5 billion between 2001 and 2003 developing its Dresden and AMD Saxony fabs, resulting in the company running out of cash when Intel was launching a counter-offensive. The rest as we know is history - Intel out-muscled and out-flanked Advanced Micro Devices over the next few years and it has never recovered since.

The fabless model certainly plays into AMD's hands at this stage of its transformation.

Bottom Line for AMD Stock

Advanced Micro Devices is probably not in a position to expand production of its Epyc processors at a clip that would threaten Intel. In this regard, AMD has not exactly landed a sucker punch on Intel.

Meanwhile, an incremental revenue of $500-600 million per year might not sound like much, but it would add 12-percentage points to the company's top-line growth. That's nearly double the current growth clip, not to mention it would give Advanced Micro Devices an almost completely new revenue line.

If the company is able to hit $1 billion in Epyc processor sales over the next three years, don't bet against AMD stock breaking $20 in 2018. In the meantime, expect the stock to become much less volatile as the quarters roll on.

As of this writing, Brian Wu did not hold a position in any of the aforementioned securities.

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The post Why You Shouldn't Count Advanced Micro Devices, Inc. (AMD) Stock Out appeared first on InvestorPlace .

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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