The development of popular artificial intelligence (AI) applications like OpenAI's ChatGPT wouldn't be possible without advanced semiconductors (chips). They are fitted inside data centers managed by cloud providers like Amazon, which are rented by AI developers to train their models.
Semiconductor giant Nvidia has an estimated 90% market share in the emerging industry for AI data center chips, but Advanced Micro Devices (AMD -8.91%) recently launched its own line of competing hardware.
AMD has struggled over the last 12 months because its core business involves selling chips for segments like gaming and personal computing -- precisely where consumers have cut spending amid challenging economic conditions. As a result, AMD stock trades 30% below its all-time high.
But the company just reported its financial results for the third quarter, and investors have plenty to look forward to, including billions of dollars in potential sales of its new AI chips in 2024. Here's why now is a great time for investors to buy the dip.
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AMD is gearing up for the AI race
AMD is one of the most renowned semiconductor companies in the world. Its chips can be found in a long list of leading consumer electronics, including high-end computers, top gaming consoles like Sony's PlayStation 5 and Microsoft's Xbox, and even the infotainment systems in Tesla's electric vehicles.
But there's a greater opportunity on the horizon for AMD. Nvidia CEO Jensen Huang says $1 trillion worth of existing data center infrastructure needs upgrading to support accelerated computing and AI, and while his company currently has almost the entire market to itself, AMD is focused on snatching some market share.
Earlier this year, AMD revealed its new MI300 lineup of data center chips designed for AI workloads. The company says its MI300A variant combines computing processors (CPUs) with graphics processors (GPUs) to create the world's first accelerated processing unit (APU) for data centers. AMD began shipping the MI300A to the Lawrence Livermore National Laboratory last month to power the El Capitan supercomputer, which will be the most powerful on the planet when it comes online next year.
AMD says its data center GPU chips alone could exceed $2 billion in revenue in 2024, which would make the MI300 the fastest product to ramp to $1 billion in sales in the company's history.
But AMD is also tackling a new frontier, which is AI-enabled personal computers and devices. Its Ryzen AI lineup of chips is now available in 50 notebook designs with more coming thanks to collaborations with Microsoft, which already has a history of using AMD hardware in its Surface devices. Ryzen AI will allow computers to run AI workloads on-device, which can make them far more responsive than relying on cloud-based applications hosted by external data centers.
AMD's revenue returned to growth in Q3
Through the first six months of 2023, AMD's revenue sank by 13.8% on a year-over-year basis. It was led by a whopping 59% drop in its client segment, which includes the chips the company makes for third-party computers and devices.
But in the third quarter, AMD's revenue grew by a modest 4.2% year over year, to $5.8 billion -- but this time, it was actually led higher by the client segment, which saw a 42% revenue increase on its own. The result was driven by strong demand for the Ryzen 7000 series chips, which includes the AI variants I mentioned earlier.
Data center revenue remained flat, but with large-scale MI300 shipments on the horizon, that is very likely to change soon.
AMD anticipates $6.1 billion in total revenue in the current fourth quarter of 2023, which would mark an accelerated year-over-year growth rate of 9%. It's a great sign AMD's business is now on the upswing after a challenging 12-month period.
Why AMD stock is a buy on the dip
AMD's profitability has suffered lately. With revenue falling, AMD had to carefully manage its costs while still investing in the development of its new AI chips, which created a headwind at its bottom line. It resulted in the company's non-GAAP earnings per share sinking by 45% in the first half of 2023.
But the company's non-GAAP earnings returned to growth in Q3, increasing by 4% compared to the same quarter last year. Its trailing-12-month earnings per share now stands at $2.57, and based on a current stock price of $108.79, AMD is trading at a price-to-earnings (P/E) ratio of 42 at the moment.
That's significantly more expensive than the 29 P/E ratio of the Nasdaq-100 index, which is a good benchmark for the average valuation of large technology companies.
While that sounds unattractive, investors are faced with a very different picture when they look ahead to 2024. Wall Street analysts predict the company's earnings will come in at $3.93 for the year, which places AMD stock at a far more palatable forward P/E ratio of 27.7. There might even be upside to that earnings number if the uptake of AMD's AI chips occurs at a faster rate than analysts predict, or even if interest rates fall and the economy improves faster than expected.
Therefore, AMD stock looks like a bargain right here at a 30% discount to its all-time high, especially for investors who can hold on for the next few years while AMD ramps up its AI sales.
