Micron: A Great Opportunity

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About: Micron Technology Inc. (MU)
by: Alberto Wallis
Summary

Q3 results expected to drive diluted EPS to $2.83.

P/E ratio of 6.04 is well below its competitors.

Net profit margin continues to rise and is currently at 38.7%.

Price targets of around $73 represent around 45% upside.

After hitting a high of over $61 this past March, Micron Technology's (MU) stock lost around 17% of its value and currently trades at $50.48. The decline came after the company announced its Q2 results, which didn't quite live up to the hype of investors, even though Micron set company performance records in key metrics such as revenue, gross profit, EPS, and cash generation, driven by a strong demand for their DRAM and NAND products in the automotive market.

Q2 Results and Guidance

In their latest earnings call, Micron announced revenues were $7.35 billion, up 8% from the prior quarter and 58% from the prior year, and non-GAAP operating margin was 49%, up 3% compared to the prior quarter and 24% from the prior year period. This reflects a positive business environment and broad-based demand for Micron's memory and storage solutions (cloud, enterprise, and mobile markets).

As a result of their performance, the company generated $4.3 billion in cash from operations compared to $1.8 billion in the past year. Capex (net of third-party contributions) was $2.1 billion, resulting in a very positive free cash flow of around $2.2 billion, especially when compared to last year's free cash flow of approximately $600 million.

According to the company's guidance, revenue is expected to be in the range of $7.2 billion to $7.6 billion, with a gross margin of 57-60%. An increase in operating expenses is also expected, primarily from an increase in R&D (funding of fourth-generation 3D NAND technology). Based on a share count of approximately 1.25 billion shares, these results should drive diluted EPS to $2.83 (+/- 7 cents). The company will also continue to evaluate additional opportunities to accelerate de-leveraging, while still providing a high rate of return for its investors.

Micron expects DRAM demand, which accounted for about 71% of their revenue this past quarter, to grow by about 20%, while they expect NAND demand to increase by more than 45%.

With smartphones and other devices looking to include and improve features that are data intensive, Micron is offering power efficient LPDRAMs and TLC Managed NANDs. The LPDRAMs, which are great at optimizing battery life, should be in high demand considering battery life is still one of the main problems with smartphones. The TLC Managed NANDs are also great news since Managed NANDs allow for increased speed and system performance while saving resources in hardware and software development.

According to Micron, they are also working with automotive customers to provide the needed components to support the new features that require rapid data analysis and storage, such as machine learning and other AI capabilities. Working directly with automotive customers is great news since this should translate to better integration and performance of their components as well as higher satisfaction from their customers.

Micron's broad technology portfolio and strong innovation engine position us well for these growth trends. We continue to partner with our customers to ensure our technology and engineering roadmaps deliver the critical features for tomorrow's solutions.

- Sanjay Mehrotra - CEO, President & Director

Their increased spending in R&D has resulted in better products and should continue to do so for the foreseeable future. Micron seems to be investing in the technologies with increasing demand, which should translate to increased sales.

Financial Indicators and Comparison

(Chart made with data from Finviz)

Looking at some industry key metrics, we find that Micron's P/E of 6.04 is the lowest of its industry peers, which might indicate Micron is undervalued compared to its competitors. This statement is supported by the PEG ratio (price/earnings to growth ratio), which is used to determine a stock's value while taking into account the company's earnings growth. Ratios lower than 1 (0.20 for Micron) are considered as a sign that the stock is undervalued and thus the company should provide a higher return than its peers. Micron's PEG is also the lowest of its competitors.

The company's debt to equity ratio of 0.36 is healthy, considering that it's close to the average of the comparable companies, and the profit margin of 38.7% is also a very positive sign since it is clearly the highest of the companies analyzed. Also, the company has a solid ROI of 19.20%.

As seen in the liquidity ratios, Micron has a quick ratio of 2.10, which means they can pay their short-term obligations with no problems. Even though this ratio may be a little high, the cash per share ratio of (6.74), which measures the percentage of a firm's share price immediately accessible for spending, tells us that company has available cash to spend on R&D, which is fundamental in this industry. This is also supported by the fact that the company hasn't declared dividends, as they are heavily spending on product and technology qualifications, and the funding of their fourth-generation 3D NAND technology, both of which primarily impact R&D. From 2013 to 2017, Micron increased their R&D by around 77%, and I expect their increased spending in R&D to continue.

DuPont Analysis

(Chart taken from Finbox.io)

The DuPont model breaks down ROE into three separate components: net profit margin (how much profit the company gets out of its revenues), asset turnover (how effectively the company makes use of its assets), and equity multiplier (a measure of how much the company is leveraged). As seen in the table above, MU's net profit margin has increased for the last two fiscal years, reaching 33% in 2017, above each of the comparable companies. Regarding asset turnover, MU's turnover ratio has maintained itself around 0.6x, slightly below the average of its peers. Finally, the equity multiplier has decreased from 2.0x in 2015 to 1.7x in 2017, meaning that the company has been deleveraging. These numbers are positive for MU since they show the ROE of the company is increasing because net profit margin is increasing, and not the equity multiplier.

Price Targets and Fair Value Estimates

(Chart taken from Finbox.io)

Using 6 different models, Finbox.io calculated Micron's average fair value at $66.79, which represents a 32.3% upside. In the chart above, we can also see that the average price target for Wall Street analysts is $72.72 (44.05% upside). Similar to this number is the one provided by TipRanks, which consulted 22 analysts and found the average price target to be $73.67 (45.94% upside). Out of the 22 consulted analysts, 18 recommend strongly buying, 3 holding, and just 1 selling, with the high projection being $100 (98% upside). However, in both Finbox and TipRanks, there is a low projection of $35, which represents a 30.6% downside.

Conclusion

After losing money in 2016, Micron has been having nothing but positive results. Last year results were very encouraging, and that trend has carried over to this year. Business looks great, with Micron's sales growing and demand expected to keep rising. With a heavy expenditure in R&D, we should expect new and better products, which should translate to higher revenue. Both their P/E (6.04) and PEG (0.2) ratios are considerably low, and their net profit margin has consistently risen for the past few years. Also, price targets and fair value estimates all point towards high upside. It's clear then, that backed by solid financial metrics and a positive outlook, Micron's share should rise in the near future.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.