ADVANCED MICRO DEVICES INC quarterly report, Q2 FY2014

AMD 2014 Second-Quarter Form 10-Q Summary

Business context and reporting period

Advanced Micro Devices, Inc. is a global semiconductor company offering x86 microprocessors, APUs, chipsets, embedded and server processors, GPUs, professional graphics, and semi-custom system-on-chip products. The filing covers the 13-week quarter and 26-week year-to-date period ended June 28, 2014, compared primarily with June 29, 2013 and, for quarterly trends, March 29, 2014.

AMD reported under its former Computing Solutions and Graphics and Visual Solutions segments. Effective July 1, 2014, it reorganized into Computing and Graphics and Enterprise, Embedded and Semi-Custom segments, with applicable prior-period restatements expected in future reporting.

Financial performance and key metrics

Metric	Q2 2014	Q2 2013	Six months 2014	Six months 2013
Net revenue	$1,441 million	$1,161 million	$2,838 million	$2,249 million
Gross margin	$498 million; 35%	$459 million; 40%	$985 million; 35%	$904 million; 40%
Operating income (loss)	$63 million	$(29) million	$112 million	$(127) million
Net loss	$(36) million	$(74) million	$(56) million	$(220) million
Net loss per diluted share	$(0.05)	$(0.10)	$(0.07)	$(0.29)
Net cash used in operating activities	Not separately reported	Not separately reported	$(232) million	$(190) million

• Q2 revenue increased 24% year over year and 3% sequentially from $1,397 million in Q1 2014. Operating income was $63 million versus $49 million in Q1 2014.
• Q2 gross margin was approximately 35%, down from 40% in the prior-year quarter, principally because of lower-margin semi-custom SoC products. The filing text does not provide a separate adjusted margin.
• Research and development expense declined 10% year over year to $277 million; marketing, general and administrative expense declined 10% to $154 million.
• Q2 interest expense was $46 million and other expense, net, was $49 million, including the loss on debt repurchases. The six-month other expense, net, was $70 million.
• Computing Solutions revenue fell 21% year over year to $669 million, while Graphics and Visual Solutions revenue rose 141% to $772 million, primarily because of semi-custom SoC shipments.

Liquidity, balance sheet and debt

• Cash, cash equivalents and marketable securities totaled $948 million at June 28, 2014, compared with $1.2 billion at December 28, 2013 and $982 million at March 29, 2014. Approximately 87% of these balances were held domestically.
• Total debt and capital lease obligations were approximately $2.2 billion, consisting of $101 million of short-term debt and $2.109 billion of long-term debt on the balance sheet. Estimated fair value of debt was $2.330 billion.
• AMD issued $500 million of 7.00% senior notes due 2024 and used the proceeds principally to repurchase and redeem the remaining $452 million principal amount of its 8.125% notes due 2017.
• The company had $55 million outstanding under its secured revolving line of credit at a 2.75% interest rate, with $445 million available. AMD stated that it was in compliance with covenants and was not in a domestic cash trigger period.
• Contractual obligations totaled $5.253 billion, including $1.155 billion of estimated cash interest, $759 million of obligations to GLOBALFOUNDRIES through December 31, 2014, $679 million of other purchase obligations, and $360 million of operating leases.
• Management stated that available liquidity and the revolving credit facility should fund operations and capital expenditures for the next twelve months, while acknowledging that future external financing may not be available on favorable terms or at all.

Material changes versus comparable periods

• Revenue growth and the return to operating profitability were driven mainly by strong Graphics and Visual Solutions performance, particularly semi-custom game-console SoC products.
• Computing Solutions remained pressured by challenging consumer PC conditions. Unit shipments declined 33% year over year in Q2, partially offset by an 18% increase in average selling price.
• Gross margin declined five percentage points year over year because of product mix and lower-margin semi-custom revenue. The prior-year quarter also benefited from an $11 million release of previously reserved inventory, versus a $3 million benefit in Q2 2014.
• Six-month operating cash use increased to $232 million from $190 million despite the lower net loss, reflecting working-capital needs, including higher inventory, receivables and prepayments to GLOBALFOUNDRIES.
• Inventory increased to $960 million from $884 million at year-end, primarily reflecting higher levels of 28-nanometer microprocessor products and lower channel shipments.
• AMD repurchased $487 million of principal amount of its 6.00% convertible notes in Q1 and retired all remaining 8.125% notes during Q2. Total losses on debt repurchases were $64 million for the first six months.

Guidance, outlook, commentary and risks

• Management’s transformation plan targets approximately 50% of revenue from high-growth adjacent markets by the end of 2015. AMD highlighted ARM-based server development, embedded products, professional graphics and semi-custom products, but the filing does not provide formal quarterly or full-year revenue or earnings guidance.
• Management expects future purchases from GLOBALFOUNDRIES to remain material and estimates 2014 wafer purchase obligations of approximately $1.2 billion. The filing identifies $759 million of remaining contractual obligations to GLOBALFOUNDRIES through year-end 2014.
• AMD launched or announced additional mobile APUs, embedded processors, Radeon graphics products, the Opteron A1100 ARM-based server processor demonstration, and an ARM architectural license during the quarter.
• Key risks include Intel’s competitive position and pricing practices, continued weakness in consumer PCs, dependence on third-party foundries and GLOBALFOUNDRIES, fixed wafer commitments, manufacturing yields, product-launch execution, inventory obsolescence, customer concentration, and seasonal demand for semi-custom console products.
• The five largest customers represented approximately 60% of Q2 revenue. International sales represented 82% of Q2 revenue.
• AMD reported two securities-related lawsuits concerning alleged disclosures about 32-nanometer technology and the Llano product. Management believes potential liability will not materially affect financial condition, cash flows or results of operations, but outcomes remain uncertain.
• Substantially all U.S. and Canadian deferred tax assets remained subject to a valuation allowance. Gross unrecognized tax benefits were $62 million, and AMD expected that approximately $31 million could be reduced through potential foreign tax-audit settlements over the next twelve months.
• The filing states that no off-balance-sheet arrangements existed at June 28, 2014 and that disclosure controls were effective at a reasonable assurance level.

Most important facts for investors to verify

• Whether semi-custom SoC growth can offset continued weakness and unit declines in the core consumer PC business.
• Whether the transformation plan can achieve approximately 50% of revenue from adjacent high-growth markets by the end of 2015.
• Gross-margin progression, particularly the margin contribution of semi-custom products and future product mix.
• Operating cash generation, inventory levels and the company’s ability to fund operations while carrying approximately $2.2 billion of debt.
• Compliance with debt covenants and cross-default provisions, including the $500 million domestic cash threshold associated with the revolving credit facility.
• GLOBALFOUNDRIES wafer commitments, manufacturing yields, supply availability and obligations beyond December 31, 2014, which AMD states cannot yet be meaningfully quantified.
• Customer concentration, console demand, international exposure and the effects of competitive actions by Intel and other semiconductor companies.