Why Micron Stock Offers Investors An Attractive Risk-Reward Right Now

  • Micron Technology disappointed investors with a poor performance and guidance.
  • However, Micron valuations have become cheap and a recovery in earnings is likely.
  • Micron's current share price offers an attractive risk/reward.

Probably one of the most frustrating tech-shares for investors has been Micron (NASDAQ:MU). Peaking at $36.59 in late 2014, Micron shares dropped to a low of $9.31 last week, dragged further post its Q1 earnings, a decline of almost 75%. In just a little more than a year, $28 billion in market capitalization has been vaporized. But last week analyst Joseph Moore of Morgan Stanley came to the rescue and announced: Now is the time to buy Micron. For now, this bold claim proved to be worth its money with shares almost 15% higher since the low. However, during the last 12 months for Micron, we have seen more sharp rallies, only for shares to drop again in a devastating decline.

So what’s the problem with Micron Technology? As author Brian Wu describes, a large part of Micron Technology’s revenues comes from DRAM memory chips. With memory prices declining substantially, that’s not a market where you want to invest in these days. Micron’s management didn’t help by presenting a very weak guidance in its late December earnings call. For the running quarter, Micron's management expects an EPS loss of between $0.05-$0.12. This was substantially below the streets expectations of EPS coming in at a positive $0.18-$0.22. Moreover, revenues for the fiscal second quarter should reach $2.9-$3.2bn versus analysts’ estimates of $3.44-$3.46. Obviously, the market didn’t take the news well and within a month, shares slid 35%. However, there was a silver lining: Micron’s management expects FQ2 to be the trough and for DRAM sales to recover.

Nevertheless, most analysts cut their projections for fiscal year 2016. Due to lower gross margins and potentially a slight decline in NAND chip sales as well, the consensus is at a 2016 EPS of $0.46 (source: Thomson Reuters). To be fair, the range of EPS expectations is quite wide, from $0.17 to $1.14. Translated to a price/earnings-ratio, at consensus EPS, Micron's forward P/E stands at 23.2 (as at January 26 close). That’s quite substantial and wouldn’t point to a bargain. However, conditions are expected to improve and analysts expect Micron to book an EPS of $1.48 in 2017. That implies a forward P/E of 7.1.

PE and PS Micron Technology MU

But there’s another way to look at Micron Technology’s value. Morgan Stanley’s Moore argues that Micron’s manufacturing assets could drive the value per share to $28.80. The memory chip industry is capital extensive and Micron still holds an edge over competitors. This gap is not closed overnight and the industry requires substantial R&D investments to stay competitive. Though there’s currently an oversupply in the market, investments in cutting-edge technologies are needed to lower costs and increase margins. In particular, Chinese companies have a keen interest in acquiring technology, since the gap between domestic demand and production is substantial. For China, a domestic producer is of strategic importance. As a result, in July last year, Chinese investor Tsinghua Unigroup launched a $23 billion bid (approximately $22 per share) to acquire Micron. However, due to political opposition in the U.S., this deal never materialized.

So, despite the extremely competitive environment and oversupply in the market, Micron Technology is certainly not a dead horse. While the $28.8 is somewhat optimistic, investors should keep in mind that shares of Micron are trading below book value. Micron's book value per share stands at approximately $12 per share, so shares are trading at 0.9 times book value. There’s however a big minus to an investment in Micron. Micron hasn’t been paying dividends up to now, and the company is not expected to introduce a distribution-policy anytime soon.

The question remains: why are shares of Micron Technology a buy at current levels? The answer can be found in the excellent risk vs. reward perspective. A strong argument towards adding a position in the company can be found in its charts. First, on the daily chart (see below), a hammer was formed on the day when Micron hit its recent low. A hammer is a candle-stick pattern that often proves to be a strong bullish signal. The pattern is relatively easy to find by its remarkable shape (see January 20-candle).

MU Technical chart

Micron Stock Technical Chart by amigobulls.com

The best reason why an entry right now offers a great risk/reward-ratio, is to be found in the weekly chart. As the (logarithmic) chart below shows, the low of $9.31 roughly correspondents with a peak back in early 2012. When drawing a line between these points, a support/resistance-line becomes visible. Back in 2012, a level around $9.50 proved to be a resistance, however, once broken in 2013, and tested, it proved to be no longer a resistance. Often, a previous resistance-level becomes a support-level, and that could have happened here as well. As a result, the recent low offers us a good price indication to place a stop-loss. After all, a break below the support would invalidate a bullish scenario. Even if we believe in only a modest recovery to a price between $13.50-14.00, we have a positive risk-reward profile. We risk $1.50 (stop-loss at $9) to gain $2 (take-profit at $13.50). In case you are more bullish due to the current low valuations, your risk/reward-profile becomes better.

Weekly chart Micron Technology (MU)

To conclude, shares of Micron Technology declined for a good reason. But the poor results of the company may be at their trough and the business cycle could point to a decent recovery. Micron valuations are not elevated, and fooking ahead, they are even cheap. Investors who are willing to place a bet on a recovery in Micron’s shares, are currently offered an interesting entry-point.

Christiaan van der Meer Christiaan van der Meer   on Amigobulls :
Author's Disclosures & Disclaimers:
  • I do not hold any positions in the stocks mentioned in this post and don't intend to initiate a position in the next 72 hours
  • I am not an investment advisor, and my opinion should not be treated as investment advice.
  • I am not being compensated for this post (except possibly by Amigobulls).
  • I do not have any business relationship with the companies mentioned in this post.
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