This article will focus on the rapid transformation of Advanced Micro Devices into a semi-custom/embedded chip company, while Wall St. continues to focus on its PC business.
AMD's Q3 earnings report showed both growth and profits from Semi-custom wins
The long awaited return of AMD to profitability was based upon its new console business wins with Microsoft (MSFT) and Sony (SNE). Here are the confident words from AMD regarding diversifying away from dependence upon PCs:
We achieved 26 percent sequential revenue growth driven by our semi-custom business and remain committed to generating approximately 50 percent of revenue from high-growth markets over the next two years. Developing industry-leading technology remains at our core, and we are in the middle of a multi-year journey to redefine AMD as a leader across a more diverse set of growth markets.
Although there was not a yet a written transcript on Seeking Alpha when I wrote most of this article, I did listen carefully to their replay, pausing and rewinding often, so as to catch the important phrases. Now the Seeking Alpha transcript is available here.
In the following paragraphs, I will discuss some of the important comments from AMD's management during the conference call.
"We generated more than 30% of revenues from our semi-custom and embedded businesses" -CEO Rory Read
While AMD executed well during Q3, by shipping millions of highly complex non PC console chips to Sony and Microsoft, it appears that some investors continue to overly focus on the less than stellar PC business performance.
CEO Read Hints at more custom wins in the pipeline
"Our game console wins are generating a lot of customer interest". "We have several strong semi-custom design opportunities moving through the pipeline, as customers aim to tap into AMD's IP, design, and integration expertise." - CEO Rory Read
Despite the above statement being made during the prepared section of the conference call, I found it curious that no analysts chose to ask questions concerning potential new custom/embedded design wins.
CEO Read again tried to hint at more semi-custom/embedded design wins later on during the Q & A portion of the call:
"These are just the first 2 wins in the semi-custom space. We have a pipeline of additional products. And it's our intention to win, and mix in a whole set of semi-custom offerings, as we build out this exciting and important new business."
Still, none of the analysts on the call pursued the line of bread crumbs that were being laid by AMD's CEO.
"A 10% sequential reduction in the expense to revenue ratio" - CEO Rory Read
In the prepared remarks, CEO Read attempted to outline the beauty of the new semi-custom/embedded business model as it relates to profitably diversifying AMD away from the PC business. It is almost unheard of for a company to grow their revenues 26% sequentially, while reducing their operating expenses.
Since none of the analysts commented about this phenomenon, CEO Read again attempted later in the Q & A to discuss the lack of expenses associated with the growth in the semi-custom/embedded area:
"Look at the expense to revenue ratio. While we historically ran this business at different margin, it was much higher; the high 30s, even into the 40s. And this quarter we saw a 10% reduction in E to R, with that significant revenue gain. And we're going to drive that efficiency moving forward. Think about building that business and how the power of this model continues to grow over time"
The response from the analyst on the line at the time: "OK...Thank you guys"
There were no follow-up questions from any other analysts to what CEO Read was trying so hard to communicate, concerning the elegance of AMD's new business model.
"Verizon was the first major data center win that we could talk about publicly" - Sr. VP Lisa Su
Did anyone listen carefully to the hidden meaning of what VP Su said? If Verizon (VZ) is the first major data center win that can be talked about publicly, doesn't that strongly imply that there are other major data center wins, that AMD cannot yet talk about publicly?
VP Su went on to say: " We continue to see a strong pipeline of opportunities with SeaMicro, as more of the data center guys are looking at how to incorporate these dense servers into their cloud infrastructures."
The cloud/data center is the best growth area in IT, outside of mobile. AMD is the only company besides Intel that is trusted to provide server chips to cloud and data center providers. Therefore, AMD has the best chances of garnering the lion's share of the market for low power, high efficiency ARM 64 server chips. Yet curiously, there were no further in depth questions concerning this massive opportunity for AMD.
Analyst question: "But given the $200 million payment due in Q1, does it mean you expect to generate cash also in Q1 which is seasonally a weaker quarter?
Answer from CFO Devinder Kumar: "And with the ramp in the business that we see here at the level that we came in Q3 and what we are projecting for Q4 and with any levers available to us if wanted, I am very confident we can maintain cash at these levels."
The above comment from AMD's CFO, buttresses the case I made in this prior Seeking Alpha article about AMD's free cash flow.
Even though AMD suffered a 6% sequential revenue decline in their PC division, AMD grew their total revenues by 26%, and is now solidly profitable.
Incredibly, while AMD was able to grow their top line significantly, they were also able to reduce expenses by 10%.
Despite the fantastic transformation of AMD from an unprofitable company, stuck in the declining PC business, to a growing and profitable provider of semi-custom solutions to a couple of the largest consumer electronics companies in the world, Wall Street appears to be disappointed.
Despite the obvious hints from management about other significant semi-custom/embedded design wins, most analysts continue to focus on the segment of AMD that is not growing.
In my opinion, AMD has become the classic tipping point situation. Anyone without institutional bias baggage can see the obvious and dramatic transformational signs at AMD. Yet most of the Wall Street analysts continue to focus on the negatives.
The same thing happened with Apple (AAPL), when they introduced their first non-computer related product, the iPod. Wall Street simply did not want to believe that the perennial computer has been, Apple, could actually become a winner again.