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Advanced Micro Devices (AMD) is an important player in the microprocessor market and has been facing headwinds from the major personal computer, or PC, market due to decline in demand for notebooks and desktops. To reduce the negative impact of this decline, the company is increasing its product offering in non-PC markets, resulting in development of chips for servers and gaming consoles, and it recently entered the tablet market. These market segments have opened new revenue growth avenues for the company, and it is important for Advanced Micro Devices to capitalize on growth in these market segments in order to generate good value for investors.

Play and win revenue growth

The video gaming industry is becoming an important market segment for Advanced Micro Devices. This market provides an opportunity for the company to move away from the declining PC market. According to IDC, second quarter PC shipments declined 11.4% year over year. This slump was because of the growing demand for tablets, which are overtaking the PC market. The company is expected to offset this negative trend in the PC market with growth in game console chips. The upcoming Microsoft (MSFT) Xbox One and Sony (SNE) PlayStation 4, or PS4, will both feature Advanced Micro Devices' custom x86 based CPU architecture, also called System on a chip, or SOC. This type of CPU architecture is used to combine all available features of a computer on a single chip, ranging from audio to graphics. This type of technology is used in compact devices like smartphones since it takes less space and reduces power consumption.

Microsoft used Advanced Micro Devices' CPU and graphical processing unit architecture, or GPU, in its earlier gaming console, Xbox 360. However, Sony was using its own CELL processor and Nvidia's (NVDA) graphics chips in its earlier console model, but it decided to use Advanced Micro Devices' products for the first time in the PS4. Nintendo's Wii U gaming console, which launched last year, is also using Advanced Micro Devices' GPU. Having its processor in all three major gaming consoles makes Advanced Micro Devices a major player in this industry.

The launch of PS4 and Xbox One on November 15, and November 22, respectively will provide a significant revenue growth opportunity for Advanced Micro Devices. As per analysts at Futuresource Consulting, PS4 game console sales will reach 36 million and Xbox One's sales will reach 30 million units worldwide by 2018. If we take analysts' estimate and Advanced Micro Devices processor price of $70 per unit, then the company can generate $4.6 billion in revenue by 2018.

This next generation game console is an important product launch for Microsoft and Sony. The giants are stiff competitors. Sony launched its first PlayStation game console in 1994 and has been a major player in this industry ever since. The tough competition began with Microsoft's launch of Xbox in 2001 and Xbox 360 in 2005. As per Games Industry International, Playstation 3, or PS3, surpassed Xbox 360 in terms of shipments in 2012. Sony shipped 77 million PS3 consoles since its launch in 2006 compared to Microsoft's 76 million Xbox 360 shipments since its launch in 2005, further evidence of the intense competition.

Upon launch of Xbox One and PS4 later this year, it is expected that Sony will take a marginal lead in sales. Sony is offering its PS4 console for $100 less than Xbox One, this price differentiation is expected to be the biggest sales driver for the company. In addition, the company is launching its console in the U.S. a week earlier than Xbox One. Therefore, PS4 is expected to get the first mover advantage. The following is a comparison chart for the consoles:

Details

Xbox One

PS4

Price of Console

$499

$399

Release Date

November 22, 2013

November 15, 2013

Expected Shipments by 2018

30 million

36 million

Expected Revenue by 2018

$14.97 billion

$14.36 billion

Looking at the expected revenue comparison, Xbox One is expected to take a marginal lead due to its price differentiation. Both the consoles are expected to grab a significant piece of the growing video gaming market. This will provide an opportunity for both companies to take the lead in the market with their respective product launch.

Late entry into Android and Chrome OS market

As a Windows exclusive semiconductor company, Advanced Micro Devices is late in entering the Android Operating System. In June this year, Advanced Micro Devices announced development of Android and Chrome OS compatible chips. The company entered the growing tablet market in May with launch of its Temash chips designed for Windows 8 OS, which has a low presence in the tablet market compared to Android.

Lisa Su, senior vice president and general manager of global business units at Advanced Micro Devices, stated in an interview at the Computex trade show in Taiwan,

Advanced Micro Devices is expanding OS options as it designs chips based on x86 and ARM architecture, which run multiple Oses. Advanced Micro Devices is also expanding its custom-chip business, and Android and Chrome OS offer flexibility for third-party chip design and integration. We are very committed to Windows 8; we think it's a great operating system, but we also see a market for Android and Chrome developing as well.

The company still hasn't made an update on the launch of its Android supportive chips, but this announcement is expected to increase its presence in the tablet market. As per reports, the company is working with developers to make Android apps compatible with its chips; therefore, we are expecting that this product may hit the market soon. Android commands 62.6% market share in the tablet market, with 162.9% year-over-year growth in unit shipments powered by Android in the second quarter of this year, as per IDC. Entry into the Android tablet market is expected to provide ample revenue growth potential for Advanced Micro Devices.

Conclusion

Advanced Micro Devices' processor in major gaming consoles and possible entry into Android and Chrome OS will be a catalyst for the company's top line growth. As the PC market declines, it is important for the company to offset this negative impact. It is suffering from negative earnings, but with sales growth in Xbox One and PS4, it is expected that it will post positive earnings in the coming months. This can be supported by its forward P/E of 27.50 compared to negative trailing 12-months earnings, which denotes that the company will post positive earnings in the future.

Source: Can Advanced Micro Devices Survive The Declining PC Market?

Additional disclosure: Fusion Research is a team of equity analysts. This article was written by Rohit Gupta, one of our research analysts. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.