In my last Micron (NASDAQ:MU) article I talked about how brutal the memory market can be to both buyer and seller and how the recent price increase in DRAM is likely to lead to an earnings surprise when Micron reports earnings in March.
There's much more to the Micron story. First, a price increase of 50% in 60 days indicates a fundamental imbalance in supply and demand of DRAM in the marketplace. In that case, price could (I'm just saying could) continue to increase with no real negative impact to the primary user market which is the PC market. Even after the 50% price increase, the DRAM average content in a PC is only about $20 (16 2Gb chips for 4GB of total memory.) That represents 2.5% of an $800 PC. Over time the DRAM dollar content in PCs has been 5% and higher. So DRAM memory has the potential to double again in the short term, and probably will. In that case, and with the present Micron, quarterly earnings will be over $1/share and could reach up into the $1.50/share area. (You can track the daily market price of DRAM on DRAMeXchange.)
I admit that the above story is hard to believe, but I have seen these violent pricing sea changes several times in my career. One day, years ago, after a Micron earnings release I sat at my desk and watched the Micron share price double in a day! As I recall the price rose from $30 to $60. Every time I clicked the refresh on AOL, the price was up another buck or two.
As good as the above sounds, the real story is the Micron acquisition of Elpida, which should close any day now.
Elpida is a consolidation of the entire Japanese DRAM industry including Hitachi, NEC, Mitsubishi. The company filed bankruptcy on February 27, 2012. On July 2, 2012, Micron announced that they were the successful bidder for the Elpida business and assets for $2.5 billion. The deal requires payment of $700 Million on closing and further payments over the next six years. The $2.5 billion is about 25% of the replacement cost of the Elpida assets. Bondholders immediately filed suit in Japanese courts insisting the price was too low. In September it was disclosed that Apple (NASDAQ:AAPL) was moving some or all of its mobile DRAM business from Samsung (OTC:SSNLF) to Elpida. Each iToy uses about $12.50 worth of mobile DRAM. This single deal will grow to be worth over $3 billion to Elpida and probably instantly turned the company profitable. On November 1, 2012, the Japanese court found in favor of Micron and ordered the acquisition to proceed. Micron has announced the deal should close, "sometime in the first half of 2013." Apparently neither company is in a rush to conclude the deal. The Japanese way is slow and methodical, and Micron has its own reasons to be in no hurry.
OK, now for the fun stuff:
The deal is denominated in yen. Since the signing of the agreement the yen has declined about 20%, making the current purchase price in dollars about $2 billion. Current efforts in Japan are to force the yen to decline even further in order to jump start exports. Some think the government goal is a further 50% decline in the yen. All those six yearly payments mentioned above will be much lower in terms of dollars. Elpida, with rising prices and a declining yen could become the low cost manufacturer of DRAM.
There is no way to know with certainty what the profitability of Elpida is at the moment, but with the Apple business and higher DRAM prices, the company could be running at an annual sales rate of $5 billion. The Apple mobile DRAM sells for twice the price of PC DRAM with little or no additional manufacturing cost and Elpida is a leader in this low power technology. Given the above a 15% net profit margin at Elpida is reasonable.
Now for the real entertainment; if the closing of this deal is dragged out far enough, Elpida will have probably generated enough cash to make the $700 million first payment (which is now $560 million due to the yen decline.)
If DRAM prices continue to increase, as seems likely, Elpida (100% DRAM) could grow to $10 billion revenue and $3-5 billion of profit, or another $3-5/per Micron share after the deal is closed. And you can follow the progress of price increases and decreases by logging the daily prices on DRAMeXchange.
The combined Micron and Elpida annual earnings could and probably will grow to $7-11/share if DRAM prices double again.
When I first heard of the Elpida acquisition, I thought Micron management had gone mad. As it has turned out this deal is a potential stroke of genius.
A couple of other nuggets: During the conference call the comment was made that sales of the Hybrid Memory Cube was gaining traction. This is a joint development with Intel (NASDAQ:INTC) that is a stacked DRAM product that increases memory bandwidth 15 times while reducing power per bit by 70%. The first application for this technology will be in supercomputing at very high unit prices.
Another new technology product that is now shipping in volume is Micron's PCM (Phase Change Memory).
This is a type of memory that has the potential to replace both NAND flash and DRAM in certain applications. The current shipments are going into Nokia smartphones in a power saving application.
During the first quarter earnings conference call, analysts had exactly no questions about operations at Elpida or either HMC or PCM memory.
There is a lot of speculation on Elpida and memory prices in this article, but one needs to remember that all memory price increases flow unimpeded and instantly to the micron bottom line.
I'm long Micron stock and Micron call option.