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Micron Technology (MU) Risk-Reward Looks Favorable

July 20, 2015 1:23 PM EDT
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Price: $93.78 +0.57%

Rating Summary:
    43 Buy, 9 Hold, 2 Sell

Rating Trend: Up Up

Today's Overall Ratings:
    Up: 20 | Down: 14 | New: 22
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Down 45% year-to-date, Micron Technology (NASDAQ: MU) has gone from being one of the most loved stocks on Wall Street to one of the most hated in a relatively short period of time. The beaten up stock received a jolt last week after it was reported that the company received a $23 billion, or $21/share, bid from China's Tsinghua Unigroup. However, even those gains are drifting away. Skeptics suggest that even if the reports are accurate the chances of such a deal clearing U.S. regulatory muster are low. Not to mention the price being discussed would be scuffed at by Micron shareholders. These concerns were echoed in a Reuters reports mid-day Monday, suggesting Micron does not believe a deal with Tsinghua is possible, citing sources. After jumping from $17.21 to as high as $20.24 following the reports, shares have drifted back down to $18.97 (-5.7%).

Downside in the stock has come as the company's quarterly EPS has plunged from $0.97 in the company's first quarter (November) to an expected EPS of $0.35 in the upcoming forth quarter (August), explains Credit Suisse analyst John Pitzer. While the driving factor of the downside has been weak 1st-half PC demand, they also cite: (1) Poor yields on DDR4/DDR4 LP at 25 nm for sever/mobile applications, (2) lack of availability of 20 nm capacity at Hiroshima and Inotera, and (3) aggressive migration by Samsung to 20 nm (>25% of capacity by mid-year).

Investors are clearly putting more weight on the company's uncertain fundamentals versus a potential takeover deal. However, after looking over the situation carefully investors may want to reconsider.

For one, the stock may be a great bargain even without a takeover. While Pitzer said it is too early to declare that August will mark the bottom, there are several factors helping the bull case including: (1) likely bottom in PC demand in C2Q, (2) likely pick-up in mobile demand with iPhone6s moving to 2 GB, (3) improving DDR4 yields at 25 nm into NovQ, and (4) increasing availability of 20 nm in NovQ/FebQ/MayQ - expected to be 10%/30%/50% of bits respectively. In addition, the fears of an overly aggressive Samsung and a structurally widening cost GAP between MU/Samsung are overblown.

On a potential takeover, Pitzer said Tshinghu could potentially raise its offer. He thinks the deal could start getting shareholder interest above $30 per share, unless there is a fundamental improvement in the DRAM market in which case shareholders will demand a higher price. On the CFIUS review, the analyst thinks the consensus view that CFIUS will block the deal may be too simplistic.

"Almost all memory products sold by MU are available from Samsung and Hynix, and there are already leading DRAM and NAND fabs in China – National Security arguments are not irrefutable," Pitzer said. "In addition, there are several companies that could potentially support the deal in Washington - there could be significant number of lobbyists who could be arguing for the deal." The analyst said Apple, the largest buyer of memory products, would likely support the deal as they will benefit if memory industry margins are lower structurally from lower Capex. In addition, Semicap companies will potentially benefit from the deal as there could be potential for new China capacity. Lastly, Intel could support the deal as it could hurt Samsung's profit pool. Notably, Intel owns 20% of the Tshinghua Unigroup, and could potentially also benefit from cheaper NAND supply. "While CFIUS approval may be a hurdle for the deal, however the chances that deal could be approved by CFIUS are higher than most investors realize," the analyst contends.

With shares of Micron trading at just 1.3x 2015 revenue, upside is easy to spot. The average semi take-out multiple on deals completed over the past 18 months is 3x EV/forward sales, according to Piper Jaffray analyst Ruben Roy. That would yield a price of $43/share for Micron, or 126% above current levels.



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