In general, I don't like buying stocks which have seen sharp stock price appreciation and look for stocks which are disliked by Mr. Market. However, in Micron's case I am still highly positive about the stock's prospects as I feel that the upward trend still has a lot of legs left. I have earlier rated Micron Technology (MU) as one of my top technology picks and the recent performance has only increased my confidence.
Consolidation is boosting memory prices
My principal reason for buying MU is the ongoing consolidation in the memory industry. The number of players in the ~$50 billion memory industry have been constantly decreasing in the last 2 decades. Now there are only 4 players of consequence and Micron remains the only western manufacturer amongst these 4 companies. The reduction in competition has already started affecting the memory prices in a positive way. DRAM and NAND prices have kept going up in the past few months. DRAM prices have been surprisingly strong, considering the fact that PC shipments are declining faster than expected. With its major consumer market facing a secular decline, you would have expected DRAM prices to go down instead of up. The reason for the DRAM price strength is the takeover of Elpida by Micron. This has reduced the number of major companies producing DRAM chips to just three. This has brought supply rationalization leading to better prices and margins for the DRAM producers. NAND memory has seen demand skyrocketing due to the growth in mobile devices such as smartphones and tablets. Even the newer ultrabooks use NAND Flash memory to improve their speed. Micron, along with Sandisk Technology (SNDK), has seen their stock prices go up in the last 2 quarters, as the stock market has started taking notice of increasing memory ASPs.
Why we are so bullish about Micron
FQ213 Results - Micron reported better than expected FQ213 results though the company still reported an overall loss. The company's gross margins (GM) improved quite dramatically by more than 500 bps from the last quarter. The reason was better pricing and lower costs. This trend is set to continue as memory ASPs are strengthening.
Revenues from sales of DRAM products in the second quarter of fiscal 2013 were 24 percent higher compared to the first quarter of fiscal 2013, due to a 38 percent increase in sales volume partially offset by a 10 percent decrease in average selling prices. Revenues from sales of NAND Flash products were 8 percent higher in the second quarter of fiscal 2013 compared to the first quarter of fiscal 2013, primarily due to a 13 percent increase in Trade NAND Flash sales volume. Sales of NOR Flash products were 14 percent lower in the second quarter of fiscal 2013, compared to the first quarter of fiscal 2013, due to decreases in sales volumes and average selling price
Micron has also managed to decrease its operating expenses over the last year which has helped the margins improve.
NAND and DRAM Prices going up - DRAM and NAND prices are seeing an upward trend with capex getting reduced and industry consolidating. DRAM prices were up by ~20% in January 2013 while NAND prices were up by ~37% year on year. The spot price increase has a lagging effect on Micron's finances since most of MU's sales come through contract sales to PC and mobile OEMs. The price increase will start to be reflected in MU's numbers in the latter half of 2013. The current improvement in gross margins is mainly due to decreasing costs. GM will continue to improve as the price increases start to boost GM as well.
Successful merger with Elpida - Micron has become the 2nd largest DRAM producer in the world post the Elpida acquisition. The company has acquired not only Elpida's large 300mm chip facilities but also its equity interest in the Taiwanese JV Rexchip. Micron is now becoming a formidable owner of a huge amount of DRAM capacity as it has also got the right to the entire production volumes of its own Taiwanese JV Inotera. Micron has managed to bolster its technology and product offerings in mobile DRAM through the Elpida acquisition. Mobile DRAM has been growing faster than commodity DRAM which goes into PCs and laptops. The reason is the much faster growth of mobile devices such as smartphones and tablets. Though the DRAM unit size used by mobile devices is smaller than the 2-4 GB RAM that goes into PCs and laptops, the faster growth of mobile devices is compensating for the smaller unit size.
Intel Partnership - Intel and Micron have partnered successfully in developing NAND flash memory on the 20 nm process node. Intel has sold its stake in the JV IM Flash to Micron for highly favorable terms and has committed to buy a significant portion of MU's NAND memory output. This deal has improved MU's position on both NAND manufacturing and technology. Micron has got two fabs in Singapore and Manassas as a part of the new deal. The total deal value at $600 million is a steal for Micron as it has to pay only half of that in cash, while the rest will be adjusted against Intel's future purchase of NAND memory from Micron.
Micron is up almost ~30% since the time I had recommended buying Micron due to the changed industry landscape. The company is now just trading near its 52 week at ~$10. However, I think that the stock price has the potential to climb much higher as the Street starts to become more confident about Micron's prospects. The recent results confirm my assessment about the memory industry's brighter prospects.
Micron's valuation seems quite cheap to me with the P/S and P/B ratio of 1.1x and 1.2x, respectively. The company's forward P/E has come down quite considerably from ~31x to ~20x currently, as the forward earnings estimates have been revised upwards by sell side analysts. The forward P/E has come down despite the stock price rallying by 20% during this period.
I think that Micron is one of the best picks in the technology hardware space along with Intel (INTC). While Intel has to fight against the competition to carve out a market share in the mobile chip sector, Micron faces a more benign competitive environment. Micron has also benefited by acquiring the assets of one of its main competitors Elpida for a bargain basement price. This will allow Micron to almost double its revenues to ~$16 billion from the current annual run rate of ~$8 billion. I think that the MU stock run has just started and it has a long way to go up. For comparison, one might see an upward trend in Seagate (STX)'s stock price after the consolidation happened in the hard drive industry. A capex heavy commodity industry can be very profitable once the competition starts reducing.