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Bull of the Day: Micron (MU)

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Earnings estimates for Micron Technology (MU - Free Report) had already been heading higher before its Q4 fiscal 2019 report last week. And after a nearly 17% EPS beat, the stock is now a Zacks #1 Rank again.
 
Micron reported non-GAAP EPS of 56 cents, which surpassed the Zacks Consensus Estimate of 48 cents. This is significantly lower than the year-ago quarter’s figure of $3.53 and that explains the rebound in shares in Q3 as investors and analysts did the math on the memory demand slow-down and trade war impacts and priced-in a potential trough and turnaround.
 
Micron’s revenues of $4.87 billion in the quarter under review exceeded the Zacks Consensus Estimate of $4.52 billion but dropped around 42% on a year-over-year basis.
 
Although the company suffered a drastic year-over-year fall in revenues and earnings, its better-than-expected fourth-quarter fiscal 2019 results coupled with an improved 2020 outlook for DRAM are making investors hopeful.
 
DRAM and NAND prices had fallen substantially in the past year as customers built up inventory levels and demand dried up. Many analyst who track the prices of memory products and demand have been plotting out the slowly-forming bottom and recovery.
 
However, the uncertainty hovering over trade and the economy is a major overhang on the company. Restriction on sales to Huawei negatively impacted the Micron's revenues in their final quarter of FY19.
 
Further, the company fears a worsening decline in sales to Huawei over the coming quarters in case it fails to secure the license to ship additional products to Huawei or if the trade ban is not removed.
 
Notably, the company’s weak earnings and gross margin guidance for fiscal 2020 is a point of concern. The company projects earnings in the range of 39-53 cents per share for the fiscal first quarter. The mid-point of 46-cents is significantly below the current Zacks Consensus Estimate of 52-cents.
 
So far, the EPS consensus for the current quarter ending in November has only been notched down from 52-c to 51-c.
 
But the full year FY20 consensus has risen from $2.68 to $2.75, representing a 57% earnings decline from last year. That sounds drastic, but the top line is only expected to fall 16% to $19.6 billion from last year's $23.4 billion.
 
Revenue Details
 
DRAM revenues of $3.1 billion, accounting for 63% of total revenues in the quarter under discussion, plunged 48% year over year. However, it inched up 1% sequentially. With improvement in customer inventories, bit shipments surged nearly 30% sequentially and in the mid-teens percent range year over year. On a sequential basis, ASP declined 20%.
 
Management mentioned that a significant depletion in customer inventories for DRAM led to strong sequential growth in demand for server solutions in both cloud and enterprise markets. Moreover, new processor platforms are boosting demand for higher-density and higher-performance DRAM modules.
 
In graphics market, increasing demand for graphics cards and gaming consoles aided solid sequential DRAM bit growth. Further, with CPU shortages subsiding, growth in DRAM module and SSD shipments was a positive in the PC market. Additionally, in automotive sector, the company continued to boost revenues on a year-over-year basis, despite waning auto industry unit sales and a tough DRAM industry environment.
 
NAND revenues of $1.5 billion, representing 31% of the total top line, were down 32% on a year-over-year basis but up 5% quarter over quarter. While NAND ASP decreased in the upper single-digit’s percentage band, shipment quantities improved in the low-to-mid teens percent range sequentially.
 
However, management mentioned that NAND prices are starting to surge. Moreover, the company is also seeing restrained supply in specific portions of the market.
 
Business unit wise, revenues of the computing and networking business (CNBU) unit deteriorated 56% from the year-ago quarter and 8% sequentially to $1.9 billion. Weak pricing across most market segments remained a dampener.
 
Revenues from the Mobile Business Unit (MBU) of $1.4 billion softened 26% on a year-over-year basis. The metric improved 20% sequentially though. A firm uptick in both DRAM and NAND bits owing to seasonality and persistent content growth in smartphones is a positive. The company’s reinforced product portfolio helped its mobile business gain shares.
 
The Embedded Business Unit revenues logged $705 million, down 24% from the year-ago quarter but up 1% from the previous quarter.
 
Revenues from the Storage Business Unit (SBU) comprising SSD NAND components and 3D XPoint totaled $848 million, down 32% on a year-over-year basis but up 4% sequentially.
 
Margins
 
Micron’s non-GAAP gross profit of $1.45 billion slumped 71% from the prior-year period. Non-GAAP gross margin fell from 61.3% in the year-ago quarter to 30.6%, attributable to lower pricing of both DRAM and NAND. Moreover, IMFT related underutilization charges had a negative impact of nearly 200 basis points.
 
Micron’s non-GAAP operating income of $694 million declined from $4.4 billion in the year-ago quarter. Non-GAAP operating margin contracted 38 bps to 14%.
 
Balance Sheet and Cash Flow
 
The company exited the quarter with cash and short-term investments of $7.955 billion compared with $6.689 billion at the end of the preceding quarter.
 
Micron’s long-term debt increased to $4.541 billion from $3.563 billion in the prior quarter.
 
The company generated operating cash flow of $2.2 billion compared with $2.7 billion in the previous quarter. Adjusted free cash flow during the reported quarter was $260 million, down from $500 million in the sequential quarter.
 
Guidance for Q1
 
For the first quarter of fiscal 2020, the company guided revenues of $4.8-$5.2 billion. The mid-point of $5 billion is above the current Zacks Consensus Estimate of $4.7 billion.
 
For the fiscal first quarter, Micron expects non-GAAP gross margin of 26.5% (+/- 150 bps).  Higher mix of NAND, which has lower gross margin, coupled with falling memory prices and minimal decline in manufacturing cost is likely to keep margins under pressure.
 
Operating expenses on a non-GAAP basis are likely to be $780 million (+/- $25 million).
 
DRAM and NAND Outlook
 
For calendar 2019, DRAM bit demand is still envisioned to climb in mid-teens percentage with bit supply exceeding demand. While for calendar 2020, Micron expects the industry to see bit demand growth from high-teens to 20% range, higher than supply growth of only mid-teens.
 
Coming to NAND, demand elasticity and lower industry supply are leading to an improvement in market conditions and reducing industry inventory.
 
For 2019, NAND bit demand is assumed to grow by a low-to-mid 40s percentage range, up from mid-30s percentage increase assumed earlier.
 
On the supply side, cutting down on CapEx and wafer start across the industry is leading to supply reductions. Given this, Micron now expects industry bit supply growth of approximately 30% comparing with high-30s percentage rise expected earlier.
 
For 2020, the company expects industry’s NAND bit demand to grow in the high 20s to low 30 percentages with supply growth “somewhat below demand”.
 
Further, in order to draw a demand-supply balance, the company is trimming its fiscal 2020 front-end equipment CapEx by more than 30% year over year. Moreover, to tackle the market clog, the company announced that it will continue to idle 5% of its DRAM wafer starts and 10% of its NAND chip wafer starts.
 
Bottom line: As Micron remains an important player in memory solutions for so many emerging technologies beyond the PC -- from data centers and cars to AI and medical IT -- as long as the trade war doesn't derail the bull market, the stock is probably a buy in the low $40s.
 
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