Why is Micron stock down?

According to Gartner, the global semiconductor market is forecast to reach $676 billion in 2022, an increase of 13.6% from 2021. This is due to a higher average selling price (ASP) due to the global chip shortage and app tailwinds. More specifically, the DRAM (Dynamic Random Access Memory) market is forecast to grow by 22.8% and the NAND market is expected to grow by 38.1%.

Micron technology (MU, Financial) is the fourth largest semiconductor company in the world and a leading provider of DRAM and NAND. So one would expect this move to be the perfect way to take advantage of the upcoming growth in 5G, computing, and data centers.

Legendary Value Investor

Mohnish Pabrai (Operations, Portfolio) even added more to its share holding in the fourth quarter of 2021 according to its company’s 13F report. In a recent interview with me on my value investing YouTube channel Motivation2Invest, Pabrai praised the company, saying that the memory business is like a “30% tax on data centers.”

However, Micron’s share price has fallen 42% since March and 22% since June. Why is Micron selling out despite the positive outlook for the sector? We’ll see.

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Solid Earnings, Poor Guidance

Some of the decline can be attributed to the forward-looking guidance Micron issued when it reported earnings results for its third quarter of fiscal 2022.

Micron generated solid earnings in its fiscal third quarter. It achieved revenues of $8.64 billion, 16% more than the $7.42 billion achieved in the same period last year. This growth was driven by data center revenue, which increased 50% year over year. Mobile revenue was down slightly year-over-year, but up from the previous quarter.

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Total operating income was $3 billion in the third quarter, up 36% from the $2.3 billion generated in the same period last year.

The company expects 5G unit sales to grow to approximately 50% penetration of the total addressable smartphone unit market this year, representing a significant tailwind.

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Non-GAAP earnings per share were $2.59, which was higher than the analyst consensus forecast of $2.44 per share. Operating cash flow was $3.84 billion, up 7.8% from $3.56 billion in the same period last year.

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However, Micron management produced weak guidance moving forward. According to CEO Sanjay Mehrotra, “Recently, the industry demand environment has weakened and we are taking steps to moderate our supply growth in fiscal 2023.”

Non-GAAP earnings are forecast to be between $1.43 and $1.83 per share in the fiscal fourth quarter, which is lower than the Conesus analyst estimate of $2.62 per share.

The company announced that it will take “immediate action” to reduce the supply growth trajectory. Micron plans to use excess inventory this year to supply “some of the market demand next year.” While the company emphasized that this is only expected to be a short-term recession, investors are still upset.

Analyst Markdowns

Wall Street did not take management’s perspective lightly, and there were multiple downgrades by analysts. Piper Sandler downgraded the stock to Sell. Additionally, Summit Insights analyst Kinngai Chan downgraded the stock to Hold. Chan stated, “Our recent industry checks also indicate elevated memory inventories at Asian brokers, module houses, and original design manufacturers…Industry checks indicate persistently slow demand from smartphone customers and declining continues to be in demand from PC customers.

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Chan believes that Micron may have to lower its prices due to low demand. He fears this will affect his gross margin. The macroeconomic environment of high inflation, rising energy costs and rising interest rates is also not helping the situation. High energy costs increase input costs for businesses and household costs for the consumer. Rising interest rates increase the cost for businesses to pay off debt and for consumers to make mortgage payments. The end result is less excess consumer income and less spending on technology devices like smartphones, PCs, wearables, etc.

Micron is a leading provider of DRAM and RAM and has over 50% exposure to consumer markets like PCs and mobile devices, meaning these concerns are nothing to sneeze at.

The good news

The good news is that the long-term secular trade in the growing number of tech devices, 5G and data centers remains strong.. The global market for 5G services is forecast to reach a staggering $1.67 trillion by 2030 according to Grand View Research, growing at a CAGR of 52% between 2022 and 2030.

5G cell phones are an especially interesting tailwind for Micron, as 5G devices have 50% more DRAM and twice the NAND content compared to 4G phones, according to Juniper Research.

Micron’s CEO is also optimistic about the long-term prospects:

“We are confident in the long-term secular demand for memory and storage and are well positioned to deliver strong cross-cycle financial performance.”

Valuation

To value Micron, I incorporated the latest financial data into my advanced valuation model, which uses the discounted cash flow method of valuation.

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For my previous assessment, a few months ago, I forecast an optimistic annual revenue growth rate of 20% over the next five years. However, due to headwinds and lower guidance, I have lowered my estimated revenue growth rate to just 5% per year. This is very conservative, but I believe it is the best method of valuing a stock in a bear market.

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Given these conservative assumptions, I derive a fair value estimate of $89 per share for Micron stock. The stock is currently trading at ~$53 per share. Therefore, it is undervalued by more than 40%. This represents a significant margin of safety at current prices.

The GF Value chart, a unique intrinsic value model from GuruFocus, rates the stock as significantly undervalued.

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final thoughts

Micron Technology is a large company and one of the major players in DRAM. The long-term secular tailwinds in 5G and cloud data centers offer a huge opportunity for growth. While I think the industry will see less demand in the short term and therefore the stock will be volatile, it is currently undervalued based on my own valuation model and the GF Value model and therefore could be a great investment to long term.

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