Sep 18, 1998
AMD: Riding the Cheap PC Wave
In its "David v. Goliath" battle against Intel (Nasdaq:INTC - news) ,
victories have been scarce for Advanced Micro Devices (NYSE:AMD -
news) . Even the occasional wins have often turned out to be little more
than silver clouds with a dark lining. For example, when it landed orders
from several major PC makers for its K6 microprocessor over the past year, AMD struggled with
production problems that resulted in massive operating losses and, at times, inability to keep up with
demand. But the beleagured stock got a boost Thursday from Merrill Lynch's Thomas Kurlak when the
widely-followed PC industry analyst raised his earnings estimates for AMD because of favorable sales
trends for the K6. The news lifted AMD one point to $17.75, not a huge move but still noteworthy on a
day when the Dow lost over 200.
Merrill's Kurlak raised his 1999 earnings forecast for AMD to $0.70 per share from break even. He cited
strong sales of the second generation K6, and noted that renewed demand was fueling higher average
prices on microprocessors. This at a time when Intel has stepped up the frequency of its price cuts to a
near-monthly cycle, the latest of which came Monday. Kurlak also said AMD is gaining ground on Intel,
with 30% sequential unit growth in the third quarter compared to 10% for Intel.
Demand for AMD's relatively less-expensive K6 microprocessor has been fueled by the explosive growth
in sub-$1000 PCs. A survey by Ziff-Davis Market Intelligence released Thursday showed that 42% of PC
sales in the second quarter were sub-$1000, a dramatic gain from what was considered a respectable
13% in the first quarter. Little more than a year ago many industry experts scoffed at the notion of
sub-$1000 machines making a meaningful dent in the market. Even Intel appeared to be caught by
surprise, allowing AMD and National Semiconductor's Cyrix (NYSE:NSM - news) to establish
themselves at the low end.
Not only is AMD benefitting from the low-end explosion, but some say it is now well positioned to gain
ground in the high-end with the addition of new 3-D features in its chips. AMD began shipping K6-2
chips with 3DNow! technology in late-August. Intel isn't expected to add comparable 3-D technology
until next year.
Intel is hardly standing still, though. The chip titan is aiming low with Celeron, its first Pentium II line of
microprocessors designed especially for low-end computers. So the good news is that AMD got the
jump on Intel in this hot new segment with deals to supply K6 chips to IBM (NYSE:IBM - news) ,
Hewlett-Packard (NYSE:HWP - news) , Digital Equipment, Toshiba, and Compaq (NYSE:CPQ - news) .
The bad news is that Intel won't concede defeat.
Apart from AMD's battle with Intel, the company has struggled with production problems that are
hurting, actually precluding, profitability. AMD has run into these manufacturing problems before, and its
shift to 0.25 micron production technology this year added a whole new wrinkle. A co-production pact
with IBM announced in March should help, but it may not have a significant impact on AMD's business
until the next generation of chips. According to AMD, the deal will "somewhat augment" capacity for K6
production, but volume shipments aren't expected from IBM until the end of 1998. Without the IBM deal,
AMD might have faced an all-or-nothing proposition -- either fix the K6 production woes quickly or get
out of the microprocessor business all together. Now they should at least be in the game for a few more
years.
AMD also has more than just the microprocessor business to depend on. In fact, even with the jump in
K6 sales last quarter, computation products accounted for just 42% of revenues. The rest came from
memory chips, communications (network and wireless chips) and programmable logic devices, but
these areas are languishing currently and it is the computation products that are expected to drive AMD
back into profitability by the fourth quarter.
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