Advanced Micro Shorts Run for Cover

Shares move higher after a plan to slash costs.
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Business continues to crumble at

Advanced Micro Devices

(AMD) - Get Report

-- and the beleaguered chipmaker's stock is finally getting some lift.

Shares of AMD gained 4.7% to $13.46 in recent trading Monday, after the company warned investors of a sharp sequential decline in its first-quarter revenue. AMD said revenue will be $475 million below the high end of its initial estimates, coming in at $1.225 billion, as both unit sales and average selling prices continue to plummet.

Investors were quick to finger short-covering as the cause for the curious reaction to AMD's massive revenue miss.

"Wall Street already saw all the hints that this company is struggling," says Fred Weiss, a chip analyst at Atlantic Trust SteinRoe, which has a position in

Intel

(INTC) - Get Report

.

Short interest in AMD had grown to 40 million shares in mid-March, compared with 22 million shares in January.

Monday's warning represents AMD's second negative preannouncement of first-quarter results, with CEO Hector Ruiz

paring back sales estimates at an investor conference in early March.

With the stock down 62% from its 52-week high, investors may not see much more room for the stock to fall.

Indeed, the bear case for AMD appears slightly less ominous after the company's brief statements about restructuring, which was also included in Monday's earnings warning.

On its face, the restructuring appears somewhat nominal. Rather than issuing the type of large layoff announcement that typically excites Wall Street, AMD said it would "limit hiring to critical positions" and reduce discretionary expenses.

But AMD's decision to slash capital expenditures by $500 million in 2007 removes a couple of significant issues weighing down the stock.

With $3.7 billion of long-term debt already on its balance sheet, thanks to

its $5.4 billion acquisition of graphics chipmaker ATI in November, many investors fear the company will be forced to raise even more debt to finance its aggressive capital spending plans.

By eliminating $500 million in capex, AMD has taken a sizable chunk out of any potential fundraising round in the capital market.

One investor also interprets the move as an acknowledgement that AMD has become more realistic in its market-share goals, since less investment in chipmaking equipment implies a less chip production.

"It shows they're being a little bit more rational. Some of their market-share goals were just idiotic in my mind," says the investor, who wished to remain anonymous because he was planning on taking a position in AMD.

The company achieved

an impressive 25% share of the market for x86 microprocessors in the fourth quarter of 2006. But AMD's management has indicated that it would like to grab 30% or more of the market going forward.

That goal has begun to look increasingly ambitious as rival Intel has refreshed its line of microprocessors and mounted a strong offensive that has stalled AMD's sales. In order for AMD to continue taking share, some investors fear, the company will need to further cut the prices of its chips, and consequently its profit margins.

"They can get 100% market share if they wanted. All they have to do is sell the microprocessor for a buck," says the investor.

Gross margins at both AMD and Intel have already experienced significant erosion over the past several quarters as the two companies wage a fierce price war to pick up market share.

But a new attitude toward market share on the part of AMD could signal the price war's end, which could ultimately benefit both AMD and Intel.

Shares of Intel were the most actively traded issue on the

Nasdaq

on Monday; they were recently up 3% to $20.16.