[December.2024] Decoding Micron Technology's financials: Navigating the volatile chip stock

The chip industry is known for its blend of growth potential and cyclical nature. For leading compute chipmaker NVIDIA, the market often focuses on its growth prospects. In contrast, for memory chip giant Micron Technology, the industry's cyclical nature is more evident. And Micron's stock is known for its volatility, often plunging and then reaching new highs.

On December 18, Micron will release its latest earnings report. Each time a company releases its financial report, it may present a potential trading or investment opportunity. But before diving in, investors need to understand how to interpret their financial statements.

To analyze Micron's performance, focus on three key areas: revenue growth, profitability, and inventory changes.

1. Revenue growth

Micron's memory chips fall into two main categories: DRAM and NAND. DRAM, commonly known as RAM, accounts for nearly 70% of Micron's total revenue. NAND, or flash memory—which includes SSDs and USB drives—makes up about 30%.

You might have noticed news about the fluctuating prices of memory and storage products. These price swings directly impact Micron's performance. For instance, from Q1 of FY2018 to now, Micron has experienced periods of over 50% rapid growth, as well as dark times with over 50% declines. As of Q3 FY2024, Micron's revenue is approximately $6.81 billion, almost identical to its revenue in Q1 FY2018.

However, in recent quarters, Micron's revenue growth has remained strong, with year-over-year increases of over 50% for three consecutive quarters.

To gauge Micron's future revenue growth, we may focus on three key indicators:

Price Trends of Memory ProductsThe prices of memory chips are crucial. When prices are on the rise, Micron's revenue typically climbs. Conversely, during price declines, Micron's revenue often suffers. The cyclical nature of the memory chip industry is largely driven by the supply-demand balance. When demand outpaces supply, prices rise, prompting companies to expand production, which eventually stabilizes prices. On the flip side, when supply exceeds demand, prices fall, leading to reduced production and eventually stabilizing prices once again. These price trends can persist for extended periods until a turning point is reached.

For example, starting in Q4 of the 2022 fiscal year, prices for Micron's main product, DRAM, plummeted, leading to a sharp decline in revenue. By September 2023, DRAM prices began to stabilize and recover, and by Q1 of the 2024 fiscal year, Micron's revenue started to grow again. In Q4 of 2024, revenue saw an over 90% year-over-year increase, pushing the stock price to new highs. We should continue to monitor whether this upward trend in memory chip prices persists.

Market Share ChangesAn increase in market share can drive revenue growth, even if the overall market size remains constant. Historically, Micron's market share has been relatively stable. In the DRAM market, for instance, Micron's share has typically hovered around 22%, ranking behind Samsung and SK Hynix.

The competition among Micron, Samsung, and SK Hynix will depend on production capacity and technological advancements. Currently, their capacities and technology levels are fairly stable and similar. If Micron can achieve significant technological breakthroughs and quickly scale up production, it could lower costs, improve efficiency, and capture more market share, thereby boosting revenue. Conversely, falling behind in R&D and technology could result in losing customers and market share.

High Bandwidth Memory (HBM) Growth

HBM, used mainly in AI servers, is seeing skyrocketing demand, leading to a supply shortage.

Starting in Q3 2024, Micron accelerated its HBM shipments, shipping hundreds of millions of dollars in FY2024. Though it lags behind SK Hynix, which has a first-mover advantage, Micron projects shipping several billion dollars' worth in 2025, expecting to rapidly increase its market share. We may need to watch if Micron's HBM revenue grows as anticipated and if it can achieve a market share comparable to its overall memory market presence.

2. Profitability

Compared to revenue growth, Micron's profitability is even more sensitive to industry cycles. When product prices fall, revenue may drop proportionally, but many costs remain fixed and don’t decrease as much, leading to a faster decline in profits. Conversely, during price upswings, profitability can increase more dramatically. We can specifically look at two indicators: gross margin and net margin.

In periods of high industry demand, Micron's adjusted gross margin can exceed 60%. However, during the last downturn starting in Q4 of the 2022 fiscal year, Micron's gross margin plummeted. In just three quarters, it fell from nearly 50% to a loss of -31.4%, a dramatic shift from boom to bust. Fortunately, as memory chip prices stabilized and rebounded, Micron’s losses narrowed and eventually turned to profit, with gross margin bouncing back to around 36.5% in Q4 of the 2024 fiscal year.

Net margin trends similarly to gross margin. At peak times, Micron's adjusted net margin exceeded 50%. However, in Q2 of the 2023 fiscal year, it hit a low of -56.3%, indicating severe losses. Fortunately, in subsequent quarters, Micron's adjusted net losses gradually narrowed, returning to profit in the most recent three fiscal quarters. Additionally, it improved its net margin in the last three fiscal quarters, achieving an adjusted net profit margin of 17.2% in Q4 2024.

In upcoming quarters, we may continue to monitor whether the memory chip industry’s upward cycle persists, further boosting Micron's gross and net margins.

3. Inventory changes

Inventory levels are an important forward-looking indicator of cycle shifts and growth expectations in the cyclical memory chip industry. When demand drops and there's an oversupply, inventory levels rise, increasing sales pressure and potentially negatively impacting stock prices. Conversely, when demand improves, inventory levels quickly fall, and sales prospects brighten.

A useful metric for this is the inventory-to-revenue ratio. A higher ratio indicates higher inventory levels and greater sales pressure.

Micron's inventory-to-revenue ratio is usually above 60%, which is high for the chip industry, indicating significant inventory management challenges. Due to the industry's strong cyclical nature, this ratio for Micron also fluctuates markedly.

During periods of high demand, Micron's products are in short supply, and its inventory-to-revenue ratio falls below 50%. However, during downturns, oversupply leads to rapid inventory buildup. For example, in Q4 of the 2022 fiscal year, Micron's inventory-to-revenue ratio surged from 65% in the previous quarter to 100.3%, and continued climbing to 222.8%, staying above 200% for four consecutive quarters.

As the cycle began to recover, Micron's inventory started to decrease, and the inventory-to-revenue ratio gradually fell to about 114.5% in Q4 of the 2024 fiscal year. Despite this reduction, the ratio remains high, suggesting that the current recovery in the memory chip cycle is not particularly strong. Moving forward, we may monitor changes in Micron's inventory-to-revenue ratio to gauge whether the industry cycle is accelerating its recovery.

Having read this far, you may now have a deeper understanding of how to interpret Micron's financial reports. It's noteworthy that the release of earnings reports from prominent companies may present unique trading opportunities for different types of investors.

For instance, if an investor, after analyzing past reports and considering recent developments, believes a company's latest earnings will send positive signals and boost the short-term stock price, they might consider taking a long position. This could involve buying the underlying stock or purchasing call options.

Conversely, if the investor expects the earnings to be unfavorable and potentially pressure the stock price, they might consider taking a short position, either through short selling or buying put options.

If the report's outcome is unclear but volatility is expected, they might use a straddle strategy, buying both calls and puts.

However, investors should carefully assess their risk tolerance, particularly when considering high-risk trades like short selling or options, before making any trading decisions.

Summary

To assess Micron's performance, we may focus on three key areas: revenue growth, profitability, and inventory changes.

• Revenue Growth: Monitor changes in memory chip prices, market share, and HBM product shipments to determine if Micron can sustain its revenue rebound.

• Profitability: Track gross margin and net margin, which are heavily influenced by product prices. Observe whether the upward trend in memory chip prices continues, potentially boosting Micron's profitability.

• Inventory Changes: Watch the inventory-to-revenue ratio to gauge whether the industry cycle is accelerating its recovery.