Fundamentals Aren't Moving Micron Up

There are stocks that abide by the principles of logic, and then there's Micron ( MU).

Micron, which sells memory to the largely inert PC market, lately has been forced to sell its chips for less than the cost of production. When it reports later this month, it's expected to offer up its 10th-consecutive quarterly loss.

Yet its share price has nearly doubled from its year-to-date February low of $6.76, closing Tuesday at $13.15. That's because Micron is trading not on its fundamentals, but according to the volatile ups and downs of DRAM (dynamic random access memory) pricing.

All this from a stock that's become an almost legendary punching bag for tech-watchers. "Micron is nothing but an airline with a fab attached, someone once told me," recalls one hedge fund analyst. "They're actually destroying value over time."

According to Sanford Bernstein, since 1996, Micron's cumulative free cash flow is about negative $1 billion.

More proof of its contrary tendencies: Yesterday, shares vaulted nearly 7% after the company said PC demand was looking better than expected, though the trend may actually hurt rather than help.

So how to explain the sudden surge in Micron's stock price?

"Money managers know if you're looking for cyclical recovery, buy a really high beta stock. Historically that's been a stock like Micron," explains Sanford Bernstein's Adam Parker, whose firm does not do investment banking. "Nobody really cares about the fundamentals."

In practice, that means the chipmaker trades by its own odd rules of sentiment, rising and falling by the vagaries of the DRAM market even as it consistently pumps out abysmal financial results.

"When you think of the stabilization in the pricing of DRAM, the best way to play it is Micron," shrugs a money manager who bought into the stock last spring. His exit strategy hinges on DRAM prices, not the promise of fundamental improvements. The short version: Dump the stock when DRAM prices fall steadily for more than a week or so.

"Cumulatively, over their lifetime, they've never made any money," acknowledges the fund manager. "They need to see a real turnaround for it to turn back into a real fundamental story."

And a sustained turnaround for Micron looks like a long shot.

To be sure, shares were bid up Tuesday after a company executive offered vaguely optimistic comments on PC demand. According to a Dow Jones report, Micron said its customers' PC shipments in the June quarter are likely to fall by between a couple of percentage points and the midsingle digits, less of a decline than had been feared. At the start of the quarter, shipments were expected to slide by a percentage in the high-single digits.

Any improvement in the torpid computer market is undeniably good news. But it's worth noting that expectations for growth of PCs -- where Micron sells more than 80% of its DRAM -- still are being revised down, not up, for the rest of the year. On Monday, IDC dropped its forecast for global PC shipment growth to 6.3%, down 2 full percentage points from its December forecast.

Moreover, in an unfortunate twist, Micron actually would suffer if it did manage to jack up revenues. As Parker puts it, "If you're selling more stuff at a price below cost, is that a good thing?"

To be fair, Micron's troubles owe partly to the notoriously crowded DRAM industry in which it plays. Micron struggles for breathing room with rivals Samsung, Infineon ( IFX), Powerchip, Nanya, Elpida and Hynix (the last of which, despite much speculation over the past year, has steadfastly refused to acknowledge its appalling financial reality and go bankrupt).

Fundamental Dislocation

Those ungracious dynamics have not endeared the industry to investors.

"What is the long-term thesis to invest?" a hedge fund analyst asks rhetorically. "You could say the DRAM market is consolidating. But the market's been consolidating for 10 years, and pricing has probably never been this bad. I can't think of another time when prices went below cost."

Micron itself also is partly to blame for its troubles, since it can't produce DRAM as cheaply as Samsung and Nanya.

Plus, Micron has been steadily losing market share to Samsung and, to a lesser extent, Infineon. In the first quarter of '03 Micron made do with a 19.6% share of the DRAM market, trailing far behind Samsung's 31.1%. A couple of years ago, the two claimed about an equal share of the market. Coming up close behind Micron, Infineon now owns a 17.1% share, according to iSuppli.

To be sure, the supply of DRAM won't always outrun demand. Over the past few years, DRAM vendors have dramatically curtailed investments in new capacity, meaning when demand picks up, the market will be closer to equilibrium. In 1996, the DRAM industry invested $19.3 billion in capital expenditures; this year it's likely to spend around $6.1 billion, estimates iSuppli.

And even assuming slow PC sales, some analysts believe that demand for DRAM could get a boost as Intel's ( INTC) Springdale chipset catches on by the third and fourth quarters. The new chipset requires two memory modules instead of one, which will "substantially" increase memory per box, points out Nam Hyung Kim, senior analyst for memory at iSuppli. "There's a lot of speculation that the second half of this year will be better," he says. Still, he adds, "It's a matter of timing. I think I would wait and see a little more."

When DRAM prices eventually do rise as supply tightens, "I don't think they'll rise as fast as Micron's stock price has risen in the last three months," notes Jim Cantore, principal memory analyst at iSuppli.

"I think the stock could run for a while on sentiment," says a hedge fund analyst. But that's not to say the shares deserve a boost, in the fundamental sense, he adds. "Hedge funds will traffic in Micron, but it's a rental stock."

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