Cramer's Investing Club Stock Profile: From AI to gaming, this chipmaker is in all the right markets

Published Wed, Jan 19 20224:20 PM ESTUpdated Thu, Jan 20 20227:44 AM EST

Advanced Micro Devices designs some of the most important semiconductor chips in the world, used in fast-growing markets like data storage, personal computing and gaming. Add management that's executing flawlessly under the leadership of CEO Lisa Su, and you have a tech name deserving of consideration in any portfolio. In key markets AMD designs both central processing units (CPUs) and graphics processing units (GPUs), which are used in just about every smart device on the planet: mobile phones, gaming consoles, personal computers, massive data centers. It competes with the likes of Intel and Nvidia. Several years ago, AMD laid out a product roadmap that made clear the direction and timing of several key launches, a must for big-spending corporate customers looking to commit to a supplier for the long term. Since then, management has done an incredible job executing on that roadmap and hitting their stated targets, despite the pandemic. In fact, the execution has been so strong that in recent quarters, earnings beats were met with upward revisions to guidance. Meanwhile, Intel made a slew of strategic missteps over the past several years, helping AMD grab greater market share gains in the CPU market. AMD's strong performance has also put in an increasingly competitive footing with the reigning semi king, Nvidia, on the GPU front; AMD offers more budget friendly consumer GPU alternatives that give Nvidia a run for its money in terms of performance. AMD makes chips for three key end markets including the data center (where the cloud lives), personal computers (PCs) and gaming. Combined, management estimates the value of the market at roughly $79 billion ($35 billion data center, $43 billion PCs, and $12 billion gaming). Adoption of AMD chips in each market accelerated because of the COVID-19 pandemic. On the cloud front, management teams across every industry now acknowledge more than ever the need to support decentralized, remote work environments. For PCs, remote working and learning means that one computer per household is no longer adequate; it's often one PC or smart device per person. And for the gaming business, this extended period of staying indoors has been a boon, solidifying what is the fastest-growing segment in entertainment media. Product Lineup Without getting too technical, let's look at the brand names for these CPU and GPU products, which unlike Apple products aren't exactly household names. At a high level, what investors need to know is that AMD designs arguably the two most important chip types in the world. While there are other important chips located in everything from consumer devices to the cloud, as Nvidia put it a few years back in a blog post , the CPU can be thought of as the brains while the GPU is the soul – good luck getting anywhere without those. While you don't need to be an expert on these chip types or the architecture on which they are built, knowing what they are called and in which end markets they are used will be helpful when reviewing earnings calls or understanding which products benefit from which end markets. The consumer and commercial PC CPUs fall under the "Ryzen" name and are built on AMD's " ZEN " architecture. The consumer facing GPUs fall under the "Radeon" brand and are designed on the " RDNA " architecture, which is designed to scale from PCs to consoles (AMD supplies "semi-custom" chips used in both PlayStation and Xbox consoles) and even the cloud. For mobile platforms, AMD also designs accelerated processing units (APUs), such as the recently announced Ryzen 6000 Series Mobile, which combines both the ZEN and RDNA 2 architecture onto a single chip. Essentially, these are general purpose processors with integrated graphics processors – not quite as powerful as a standalone CPU and separate GPU (referred to as discreet graphics) but rather a perfect blend of power and efficiency for mobile workstations and gaming laptops. As for the cloud, or the data center, these specialized CPUs fly under the "EPYC" flag and are also built on the ZEN architecture – you may have also heard management refer to these chips by their Italian code names (Naples, Rome, Milan, Genoa and Bergamo, the latter two expected to be 5nm in size – in general, the smaller the better – and launch in 2022). Finally, while the RDNA architecture may be designed to scale from PC to the cloud, AMD also has a dedicated data center GPU lineup known as "Instinct" which is designed on the " CDNA " architecture. These GPUs are used for data center GPU-acceleration and are increasingly being used by companies for cloud-based gaming. And we're not talking just any companies, we're talking companies with the deepest pockets on the planet. Alphabet relies on AMD for its Google Stadia platform, Microsoft is leveraging AMD chips for its xCloud service and AMD also just recently confirmed that Meta (the company formerly known as Facebook), which recently announced intentions to spend a whopping $10 billion on metaverse related investments this year alone, is a customer. So, whether your gaming is console based or cloud-based, you have AMD to thank. Catalysts The top potential booster to AMD shares is the pending acquisition of Xilinx. While the acquisition is still awaiting regulatory approval, management recently provided an update , saying it now expects the transaction to close in the first quarter of 2022. Additionally, we think the easing of supply chain bottlenecks should benefit AMD as more next-gen consoles, which were released in November of 2020 but are still in short supply, come to market to meet high consumer demand. Risk factors Despite all AMD has going for it, shares do currently trade at a premium, to the tune of ~40x FY2022 earnings expectation. While this may be acceptable to some (it certainly is to us), some may find it too risky in a rising rate environment. Higher rates can negatively impact discounted cash flow models and reduce investors' willingness to pay up for earnings. Since we take a long-term view, and see plenty of growth ahead, we're OK with this valuation. While it is certainly expensive on estimates one year out, our view is that the valuation will come down rapidly should growth expectations be met or exceeded. In fact, on FY2023 estimates from FactSet, the stock valuation drops to ~34x earnings. It further drops ~32x for FY2024 and 29x for FY2025. When you hear people say, "it will grow into its valuation," this is what they mean – you may be paying up now but that's so that you can be in before it starts looking cheap and gets bid up even higher. And importantly, we don't see the growth in AMD's end markets slowing beyond 2025 because ultimately, the world if becoming increasingly more connected and data, which needs to be analyzed in the cloud, is growing at an exponential rate Additionally, while the cloud operators are spending loads of money to build out infrastructure and meet cloud demand and build out the "metaverse," eventually these companies will slow spending to "digest" the prior investments and pull in profits. Of course, they will then spend more as the digestion period ends but it does represent a temporary risk factor worth being mindful of when investing in the semiconductor space. Bottom Line While AMD may be a highflier under pressure from rising rates, the underlying fundamentals remain rock solid. We also expect robust growth in the years ahead to reduce the multiple in AMD stock as nearly every secular growth end market on the planet relies on the company's chips. Whether it's machine learning and artificial intelligence, gaming, remote work and learning, entrepreneurship post-pandemic, smart homes and "internet of things" (IoT) devices, they all ultimately lead back to the cloud. No wonder CEO Su chose to name EPYC generations after Italian cities — every brick-and-mortar road may have once led back to Rome, but these days every digital road leads you straight to AMD. (Jim Cramer's Charitable Trust is long AMD. See here for for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. 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Lisa Su, CEO, AMD

Scott Mlyn | CNBC

Advanced Micro Devices designs some of the most important semiconductor chips in the world, used in fast-growing markets like data storage, personal computing and gaming.