ADVANCED MICRO DEVICES INC quarterly report, Q3 FY2010

Advanced Micro Devices, Inc. — Form 10-Q Summary

Business context and reporting period

AMD is a global semiconductor company offering x86 microprocessors, chipsets, embedded processors, and graphics, video and multimedia products. This unaudited Form 10-Q covers the quarter and nine months ended September 25, 2010, each comprising 13 and 39 weeks, respectively. The comparable periods ended September 26, 2009.

Beginning in fiscal 2010, AMD deconsolidated GLOBALFOUNDRIES (GF) and began accounting for its interest under the equity method. Comparisons with 2009 are therefore materially affected by the change in reporting structure.

Key financial metrics

Metric	Q3 2010	Q3 2009	9M 2010	9M 2009
Net revenue	$1.618 billion	$1.396 billion	$4.845 billion	$3.757 billion
Gross margin	$739 million; 46%	$585 million; 42%	$2.218 billion; 46%	$1.537 billion; 41%
Operating income (loss)	$128 million	$(77) million	$435 million	$(624) million
Net income (loss)	$(118) million	$(135) million	$96 million	$(884) million
Net income (loss) per diluted share	$(0.17)	$(0.18)	$0.13	$(1.32)
Net cash used in operating activities	Not separately provided	Not separately provided	$(199) million	$(677) million

Q3 revenue increased 16% year over year but declined 2% from Q2 2010. Q3 operating margin was approximately 8%, while net loss included a $186 million equity-method loss from GF. Nine-month results included a $325 million non-cash gain from GF deconsolidation and a $489 million equity-method loss from GF.

Computing Solutions revenue was $1.226 billion in Q3, up 13% year over year and 1% sequentially; operating income was $164 million.
Graphics revenue was $390 million in Q3, up 33% year over year but down 11% sequentially; operating income was $1 million.
Q3 research and development expense was $359 million, compared with $420 million in the prior-year quarter; marketing, general and administrative expense was $236 million, compared with $221 million.
Q3 interest expense was $56 million, compared with $114 million in Q3 2009. Nine-month interest expense was $160 million versus $319 million.
Adjusted free cash flow, a non-GAAP measure defined by AMD, was $344 million for the first nine months. GAAP operating cash flow was negative $199 million and capital expenditures were $110 million.

Liquidity, debt and balance sheet

Cash, cash equivalents and marketable securities totaled $1.726 billion at September 25, 2010, versus $2.676 billion at December 26, 2009. The 2009 balance included $904 million of GF cash that was removed upon deconsolidation.
Cash and cash equivalents were $620 million; marketable securities were $1.106 billion.
Long-term debt and capital lease obligations were $2.188 billion, including $2.185 billion classified as long-term. Long-term debt carrying value excluding capital leases was $2.158 billion, with estimated fair value of $2.288 billion.
AMD issued $500 million of 7.75% senior notes due 2020 and used the proceeds, together with existing cash, to repurchase $800 million principal amount of 6.00% convertible notes. The repurchase generated a $24 million net loss.
Aggregate contractual obligations were $4.077 billion, including $2.265 billion of principal debt obligations, estimated interest obligations of $1.013 billion, and purchase obligations of $534 million. These amounts exclude future GF wafer obligations.
AMD estimated approximately $1.5 billion of payments to GF through the end of Q3 2011 for wafers and research and development under the wafer supply agreement.
Accounts receivable financing with IBM Parties had $193 million outstanding at September 25, 2010; AMD received approximately $689 million under the arrangement during the first nine months.

Material changes versus comparable periods

Revenue growth reflected higher Computing Solutions and Graphics sales, favorable product mix, higher microprocessor and GPU average selling prices, and increased unit shipments.
Consumer notebook demand was weaker than expected, particularly in Western Europe and North America. Graphics revenue declined sequentially due to lower notebook GPU demand, lower shipments, and an unfavorable product mix.
Gross margin improved to 46% from 42% year over year and 45% sequentially. AMD attributed the improvement to manufacturing cost reductions, better GF utilization, cost management, and a higher-end product mix. The filing states that adjusted gross margin, excluding certain GF and prior-year inventory effects, was 38% in Q3 2009 versus 46% in Q3 2010.
Operating results benefited from lower manufacturing costs, reduced operating expenses, and the absence of substantial prior-year restructuring charges. Comparability is affected by the removal of GF revenue, costs, debt and noncontrolling interest from AMD’s consolidated results.
AMD’s investment in GF was reflected as a $29 million liability because accumulated equity-method losses exceeded the investment carrying amount. AMD’s Class A preferred ownership declined from approximately 79% to 77% during Q3 as ATIC funded GF without AMD participation.
Subsequent to quarter-end, ATIC contributed $210 million to GF, reducing AMD’s Class A preferred ownership to approximately 75%.

Outlook, commentary, risks and unusual items

Management stated that weaker-than-expected consumer notebook demand affected Q3 performance but believed the results demonstrated benefits from AMD’s fabless model. The filing does not provide a clear numerical revenue or margin forecast for the next quarter or full year. Management expected cash, anticipated operating cash flow and available external financing to fund operations and capital expenditures for the following twelve months, while warning that financing may not be available on favorable terms or at all.

Key operating risks include intense competition from Intel, pricing pressure, rapid product cycles, demand volatility, and possible loss of major customers. The five largest customers represented approximately 49% of total Q3 revenue.
AMD relies on third-party foundries and identified GF delays in transitioning to 32-nanometer technology, which could delay Fusion product introductions and affect supply, yields and margins.
GF wafer supply commitments, minimum purchase requirements and cost-plus pricing could create underutilization and higher unit costs if demand weakens.
AMD cannot currently quantify its maximum exposure to future GF losses. It also guarantees certain GF-related obligations, including the $250 million Fab 36 term loan and guarantees totaling $30 million related to AMTC and BAC arrangements.
AMD held $64 million of auction rate securities at fair value, with failed auctions and continuing liquidity risk. The securities had a par value of $73 million.
Substantially all U.S. deferred tax assets remained subject to a valuation allowance. Gross unrecognized tax benefits were approximately $76 million, and management believed approximately $46 million could be reduced during the following twelve months, subject to uncertain audit resolutions.
Reported earnings included significant unusual or non-cash items, including the $325 million GF deconsolidation gain, $489 million of GF equity-method losses, the $24 million debt-repurchase loss, foreign-currency gains and losses, and deconsolidation-related gross-margin effects.
Pending legal matters included patent litigation involving Samsung and SGI/Graphics Properties Holding. Management stated that ordinary-course proceedings were not expected to have a material adverse effect, but outcomes remain uncertain.

Important facts for investors to verify

Reconcile year-over-year trends after adjusting for GF deconsolidation and related accounting changes.
Assess whether weak consumer notebook demand and lower notebook GPU shipments persist.
Monitor GF’s 32-nanometer transition, wafer capacity, minimum purchase commitments, pricing and AMD’s exposure to future GF losses.
Evaluate liquidity after debt refinancing, debt maturities, IBM receivable financing, and expected GF payments of approximately $1.5 billion through Q3 2011.
Review the sustainability of the 46% gross margin and the distinction between GAAP operating cash flow and AMD’s non-GAAP adjusted free cash flow.
Track customer concentration, competitive pricing from Intel, product launches including Fusion products, and potential dilution from convertible notes and warrants.