Is AMD's business model 'fundamentally broken'?

Is AMD's business model 'fundamentally broken'?

Summary: Advanced Micro Devices is facing a bleak outlook and at least one analyst is arguing that the company's business model is 'fundamentally broken." There may be some validity to that since AMD CEO Hector Ruiz is also talking about some business model "tweaks.

TOPICS: Processors

Advanced Micro Devices is facing a bleak outlook and at least one analyst is arguing that the company's business model is 'fundamentally broken." There may be some validity to that since AMD CEO Hector Ruiz is also talking about some business model "tweaks."

AMD reported a fourth quarter net loss of $574 million, or $1.08 a share, due to charges related to the acquisition of ATI Technologies. Revenue was $1.77 billion in the quarter. Those results include the acquisition of ATI. For non-ATI results see AMD's earnings statement.

Hans Mosesmann, an analyst with Nollenberger Capital Partners, called AMD's financial results "surreal." Indeed, the results were so off that Mosesmann concluded that "AMD's business model is fundamentally broken, in our opinion. The Street in our view does not realize this problem given AMD's recent historical success in terms of market share."

Not all analysts were as pessimistic as Mosesmann although downgrades were flying on Wednesday. Most sounded like Thomas Weisel analyst Eric Gomberg, who noted AMD's fourth quarter results were a major disappointment, but its upcoming Barcelona chip should improve matters in the second half of 2007. "Despite our optimism, we recognize that significant risk exists, particularly if Intel makes another aggressive price move," said Gomberg.

At issue is AMD's collapse in gross margin to 40 percent in the fourth quarter from 52 percent in the third largely because of server chip prices. Meanwhile, shipments rose 26 percent. Do the math and those results indicate that AMD is giving chips away to hold market share. Mosesmann said AMD had a few surreal moments.

To wit:

AMD: “We believe we once again gained microprocessor unit share in the quarter, as we did in the year, by continuing to execute against our customer acquisition strategy and our product, technology and manufacturing plans,” said Robert J. Rivet, AMD’s chief financial officer.

Reality: Does market share at the expense of profits really make sense?

AMD:  "Fourth quarter microprocessor unit shipments grew 26 percent year-over-year and 19 percent sequentially as customers continued leveraging AMD solutions to provide greater choice to the market."

Reality: Sure AMD has fine chips. But they get even finer the cheaper they get.

AMD: Management, however, is projecting margin of 50 percent or more and computational product sales growth of 20 percent. In other words, AMD is betting the farm on Barcelona. 

Reality: Mosesmann says AMD's server average selling prices fell 20 percent as shipments went up 19 percent.

"We are puzzled by what we consider management's apparent naiveté regarding its goals. AMD is getting hit with problems on a multitude of fronts exacerbated by management's apparent naiveté, stubbornness, and/or hubris. 4Q06 in our view was merely an early flavor of what awaits AMD in 2007: poor product positioning, over-exposure to legacy 90nm manufacturing, large die-sizes, over-capacity, a highly leveraged balance sheet, and significantly higher execution risk with the addition of ATI to the equation."

AMD chief operating officer Dirk Meyer noted that the company was not "satisfied with our financial performance in Q4, and we need to improve our results in the future." But then proceeded to emphasize AMD's 2006 gains. That approach is what has analysts steamed. There's a disconnect between AMD's results and its outlook to 2007.

It's very telling when a CEO tosses the earnings call script and wings it. That's what Ruiz did last night.

"I’m going to talk to you from the gut. What I want to tell you is a little bit of history and put it in the context that I believe will show you why I am incredibly optimistic and excited by the future of this company, more than I have been in the seven years that I have been with this company."

From there Ruiz talks about how the company is focused on customers, who are demanding AMD fight for market share.

"We will carefully manage costs, but we also believe that we’re going to have to tweak our business model because we believe we have to achieve prosperity in an environment where pricing competition is going to be tougher than perhaps we had originally planned. We will do whatever it takes to continue on our path to deliver customer-centric innovation this year and beyond."

Add it up and AMD is clearly circling the wagons for now. This year should be interesting.  

Topic: Processors

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  • Answering a rhetorical question:

    "Does market share at the expense of profits really make sense?"

    Yes. Ask the Japanese car makers, which have more than once priced to gain market share despite exchange rate problems and occasions when the competition increased prices.

    When repeat business and branding are important, even a fall in profit margin from 52% to 40% may be acceptable. Particularly for a smaller company with questions about current product quality.
    Anton Philidor
    • Only true if you can afford

      the loss and have a CLEAR way to re-coup it. At this point I see nothing in their future that indicates they can do so.
      • I don't know

        A loss of 12 points on margin in this case still means you have a 40% margin instead of a 52% margin which means you're selling your product for 40% more than it costs to make and sell your product. Margin is calculated on total product cost which means that's a 40% profit. That's a pretty good profit. Coming from a retail back ground where a margin of 20% is considered very good a 40% margin is amazing.
  • It's called "competition"

    When AMD first released Opteron, it was the only 64-bit x86 processor, and it was the only SMP server low-power processor.

    Now with Intel EM64T and Woodcrest, Intel has not only leveled the playing field in the 2-socket and below space, but pulled slightly ahead. With parity in product, Intel has the advantage because of its sheer mass.

    The 2-socket space is the heart of the x86 market. AMD still had advantages in the 4-socket space, which is important with VMware. However, Intel released Clovertown as a blocking play to AMD's 4-socket superiority.

    AMD will struggle until Barcelona ships. Intel's quad-core Tigerton Xeon MP should come out at about the same time. Right now it looks like Barcelona will easily exceed the performance of Clovertown, and if Tigerton is also not a true quad-core, Barcelona will outperform Tigerton. Of course, at some point Intel will go to 45nm, and jump ahead of AMD again.

    I expect this AMD and Intel leapfrogging to continue over the next several years.
    • Barcelona???

      If that is all AMD has they are in deep, deep dog poo.
      • this is cyclical

        Keep in mind this Intel/AMD leapfrogging is cyclical according to recent history. That said I remember AMD being an Intel doormat for a long time so we'll see whether this is cyclical or not. AMD and Intel seem to have different views of the future. We'll see.
        Larry Dignan
      • HT

        Does the word "Hypertransport" mean anything to you ?? Do you think "Torrenza" is an Italian linoleum ??
    • You are clearly overstatng AMD's position

      Let start with "...Woodcrest, Intel has not only leveled the playing field in the 2-socket and below space, but pulled slightly ahead.."

      Pulled slightly ahead? AMD is getting creamed on the performance side all counts.

      Clovertown is "blocking play to AMD's 4x4 superiority.."? Wow. Have you read the reviews on 4x4? (I assume that's what you mean when you said AMD's 4 socket superiority)

      The bottom line is, the article is right. AMD has miscalculated Intel. Hector Ruiz's brash street fight challenge to Intel's netburst product in late 2005 made in drunk with arrogance in 2006. I believe your Barcelona expectations will also fall short.

      While AMD will prop superior floating point performance for Barcelona, it will fall far short on everything else. Unfortuneately, the buying community is far smarter about performance than they were in 2005.
      • Like Dell?

        The buying community has been voting FOR AMD of late, not against it.

        Intel has certainly produced an impressive new chip in the Core 2 architecture but they're still struggling when it comes to issues like latency and overall scaling.

        Intel's biggest weakness remains the shared memory bus and they are working to move away from it while they're busy trying to put down AMD's on-chip memory controller.

        Of course, they were also busy putting down x86-64 while Itanium was struggling for share and they had no competing chip...
        Robert Crocker
        • Say what???

          "Intel has certainly produced an impressive new chip in the Core 2 architecture but they're still struggling when it comes to issues like latency and overall scaling.

          Intel's biggest weakness remains the shared memory bus...."

          Regardless of your claims, Intel is STOMPING EVERYTHING that AMD has to offer.
          • Yeah... THIS month

            Unless you know more about the subject than which gaming machine made "Editor's Choice" in PC Magazine, you risk appearing very ignorant making public statements about a complex topic.
        • Dell is a Walmart. Don't look there .

          "..The buying community has been voting FOR AMD of late, not against it..."

          I'm afraid you're observing fools gold. AMD's advances are forward momentum for pity business to keep Intel honest. It might not matter in yur book, but we're talking about competitive roadmaps not Davis vs Goliath wishy washy.

          ".Intel.. they're still struggling when it comes to issues like latency and overall scaling... biggest weakness is shared memory bus .. busy trying to put down AMD's on-chip memory contrler"

          Oh please. If you care to look, AMD's 4x4 frankenstein is a latency PIG. That HT configuration is awful compared to Intel's shared bus. This is a well known issue. AMD would *pay* to be able to place two chips in one package. The integrated mem controller prevents this. You see, not everything is roses. There is no magic in IMC as much as you think it;s some sort of secret sauce - it;s trade off. Looks like Intel made the right choices.

          "..Itanium was struggling for share and they had no competing chip..."

          Now your reaching. Was Itanium your closing argument on AMD's superiority? You'r ebegining to sound like Hector Ruiz
  • Betting the Farm on Barcelona?

    I blog about Oracle-related topics and am a keen Opteron fan, but I submit the following link to my Oracle/Barcelona related blog entries:
    • How does Oracle benefit from a beefed up FPU?

      First of all, Oracle likes to ding you for using more cores and nail you to the wall with licensing terms.

      Second, how does a beefed up floating point processor in Barcelona and a reduced clock speed help Oracle?
      • Oracle FPU

        Good points, good question. The Oracle database server does not uses BCD arithmetic. The core engine does not perform FPU ops. There are 2 FPU-specific datatypes for data stored in tables, but how that is handled internally is port-specific. See:
  • What a tool...

    You asked: "Does market share at the expense of profits really make sense?

    It doesn't make sense... if you haven't paid attention to the Intel/AMD rivalry for the past, oh, ten years or so.

    The current Intel strategy is a classic: drive down chip prices to force AMD into a loss situation. In the past, that worked great, because AMD's margins were so low. But it won't work now because all it did was force AMD to make only 40% per chip instead of the 52% they made before. In fact, the only reason AMD posted a loss was to complete their acquisition of ATI.

    The big problem for Intel in this is the historical context. AMD was a bit player for years, and Intel played them like a fiddle -- letting them hang around to satisfy the Justice Department on the monopoly issue. But now, AMD is a true competitor, see-sawing performance wins and slowly building market share from 10% to more than 22%. They've got more fabs than before, their technology is on par with Intel, and the R&D has been beating Intel's R&D for some time now. (Note to George Ou: the fact that Intel chips currently perform better doesn't really matter here. AMD held that crown for at least two years before that.)

    AMD's state goal is to reach 35% of the market, and I don't see how Intel can stop them. Sure, there's some short-term risk in owning AMD stock, as the market analysts miss the big picture once again. The next time AMD surges to the front in performance or the demand for chips heats up, AMD will gain more market share than Intel. At that point, Intel won't care, because they'll sell every chip they can make. But in the background, AMD will pick up market share -- share that Intel will have a difficult time getting back.

    This is what happens when a company gets too big to build the best of their industry. The decline is slow and steady.

    When AMD gets to $12 a share, I'll be buying.
    • Yes you are...

      Look, AMD can spin it any way they like, but the fact is their profits are in the toilet and the next 2 quarters show no sign of improving.
      • Ax you sure are fun

        You said it, AMD is making a profit. No company closes while they make money. They close when they spend more money than they make, that's called a loss.

        Yes, AMD's stock will go down, but as long as they keep making a Profit, they will be able to play.

        Who will win in the medium term, US, you, me, everyone, as we get better chips. Otherwise you would still be using a Pentium III if Intel had its way.
      • Spin is a funny thing

        Sounds more like you're spinning than me. The fact is they turned a profit in the face of deep price cuts by Intel, and they probably gained market share. And I didn't see anything in your smarmy post to disprove or discount any of the historical facts I presented.

        Spin that any way you want, but make sure you lube up first to avoid chafing.
  • Please! Spare the over-melodrama!

    Any analyst that calls this "surreal" is incompetent. I'm a rank amateur as far as being a business or stock analyst. And I know something about chips, but that's not even my expertise. But I could see a mile away that AMD wasn't going to have good results. How could anyone think they would, given the success of Core Duo and the nature of their competition with a much larger rival named Intel?? Historically, AMD has not ever really been profitable until the past few years.

    If anything, we should expect a bit of churn again as they get leapfrogged in technology, but knowing that they now have the means to withstand it for a while. And that they will soon enough leapfrog Intel back. To me, that's what speaks volumes: that it is now a 2 horse race, even if AMD isn't in the lead at the moment. 5 years ago, they were constantly struggling to not get they are one horse-length back.

    So...yeah, I do happen to think that all this talk is way, way overly pessimistic w/ regards to AMD. If anything, now is a prime time to buy some cheap AMD!! Disclosure: I already own some.