Overvalued AMD Stock Will Stay Stuck Until the Xilinx Deal Closes

Advanced Micro Devices (NASDAQ:AMD) has gone nowhere this year. At $88.04 as of July 14, AMD stock is actually down slightly from $91.71 (where it ended 2020).

Source: Grzegorz Czapski / Shutterstock.com

One problem is that AMD still has yet to close its $35 billion all-stock deal to buy Xilinx announced in late October. It now seems that AMD stock will remain stuck in its tracks until that deal closes.

On April 27, Dr. Lisa Su, President and CEO of AMD, said in the Q1 conference call that the company is “on track to close the strategic acquisition by the end of the year.” Shareholders have already approved the merger but the company is still obtaining the necessary regulatory approvals around the world.

AMD’s Issues

Given that AMD has a $110 billion market cap, the $35 billion stock issuance to Xilinx shareholders will cause a lot of dilution. To make matters worse, some analysts are already skeptical of AMD’s claims that the deal will be earnings accretive (i.e., immediately add to earnings per share  (EPS), despite the dilution effect).

Seeking Alpha argues that Xilinx will only comprise 7% of the company’s revenue from data centers. This is the segment AMD has its chipmaking capabilities focused on right now and it has already provided plenty of growth. It also went on to argue that the semiconductor business is highly cyclical and that many of the proposed merger savings may be hard to implement.

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However, major Wall Street firms think that AMD stock is undervalued. Goldman Sachs recently raised its price target from $106 to $111. They argue that the market is ignoring the company’s near-term and long-term growth potential.

In fact, 34 analysts covered by Yahoo! Finance have an average target price of $104.79, which is 19% higher than today’s price. TipRanks also reports a similar target price for 19 analysts that have written about AMD stock in the last 3 months. Those analysts have an average price of $106.86 per share or 21% over today’s price.

The Buyback Program

Partly to address these concerns, the company announced on May 19, it would begin to repurchase “up to” $4 billion in shares using its cash flow. The problem is there is no time limit on this and no particular goals during any year.

For example, in the trailing 12 months (TTM) ending March, Advanced Micro bought back just $87 million in shares. That barely covered the $84 million in new shares issued through options. Moreover, its free cash flow was just $1.729 billion in the TTM to March 31. So it had plenty of room to buy back shares in the past and simply chose not to do so.

Now, apparently, they are going to increase the annual buybacks, but we don’t know for sure how much. For example, if they used 100% of the FCF to repurchase shares it would take over 2 years. Moreover, the effect on the stock price could be minimal. For example, with a $110 billion market cap, $1.73 billion in annual buybacks would affect only 1.57% of its market value.

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Where This Leaves AMD Stock

AMD stock trades at a lofty valuation. There’s just no other way to put it. For example, even though management guided for a 50% increase in revenue in their Q2 earnings release, that’s already priced into the stock’s value. AMD stock trades at 41 times 2021 EPS and has a 33 times price-to-earnings (P/E) multiple for 2022. In effect, the stock price already incorporates a lot of future good news.

Compare this with Intel (NASDAQ:INTC), up 13.5% year-to-date, compared to AMD stock’s slightly negative performance. INTC stock trades at just 13.9 times 2021 earnings and 13 times 2022. That is less than half the valuation of AMD, and Intel’s earnings are forecast to rise.

So don’t expect to see AMD stock soar just yet this year. Investors will probably want to see what guidance the company gives on July 27 when the Q2 earnings report comes out.

On the date of publication, Mark R. Hake did not hold a position in any security mentioned in the article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

Mark Hake writes about personal finance on mrhake.medium.com and runs the Total Yield Value Guide which you can review here.

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