Micron Benefits From Data Center and AI Spending, but Can Be Prone to Cyclicality

Analyst

William Kerwin

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We see Micron Technology as a strong supplier of memory chips, but we don’t believe the firm holds an economic moat. Micron benefits from large scale, being the fifth-largest chipmaker in the world, but we don’t see enough scale to generate consistent economic profits. Micron holds a third-place market share in dynamic random access memory, or DRAM, chips and a fifth-place market share in not-and, and NAND, flash chips. We view both the DRAM and NAND markets as highly cyclical, and we expect Micron to thrive in periods of strong demand and pricing, but to be vulnerable to downcycles that compress shipments, prices, and profits.

DRAM and NAND chips are vital components to data centers, consumer devices, cars, and industrial equipment. Nevertheless, we see these chips as commoditylike and suppliers like Micron producing mostly fungible chips. Thus, Micron and its peers are prone to market supply-and-demand dynamics. Periods of strong industry demand can be followed by periods of oversupply that crater pricing and firm profitability, as seen in Micron’s fiscal 2023. As a vertically integrated chipmaker, Micron has a significant fixed cost base and thus periods of lower volume have a major impact on profitability.

While we foresee cyclicality to continue, we see long-term growth for both the DRAM and NAND markets over the course of cycles. We expect data centers, mobile phones, and cars to require greater amounts of memory content, driven by secular trends toward artificial intelligence, 5G, and autonomous vehicles. In our view, Micron should be able to benefit from this growth with its scale, despite cyclical effects in the short term. We also like Micron’s shareholder distributions and view its balance sheet as good, for a cyclical memory chipmaker.

Finally, we caution investors about risk from China. The Chinese government effectively cut off Micron’s sales into Chinese data centers in 2023, which will have a material impact on sales and growth. Micron earns non-data-center revenue out of China, but we expect this to remain unrestricted, as these chips are for consumer and lagging-edge markets that are less critical to national security.

Business Strategy & Outlook

We do not believe Micron possesses an economic moat. The firm operates in the highly capital-intensive industries of DRAM and NAND flash semiconductors, and it doesn’t earn good enough profit margins through the course of a cycle to give us confidence in enduring economic profits. 

We view DRAM and NAND as commoditylike products prone to market supply-and-demand dynamics and steady pricing erosion that reduces industry profitability. While we see better margins in DRAM, which has consolidated to three primary players (versus six in NAND) we still don’t see good enough returns on invested capital over the course of a cycle to merit a moat. We do expect to see years of positive economic profits during periods of tight supply and strong demand that help support good pricing, but we see steep downcycles giving rise to poor profitability and eroding the economic profits built up in a market upswing.

The majority of Micron’s sales comes from DRAM chip sales. DRAM chips provide volatile random access memory, which is used to store memory during a system’s operation, and only while a system is turned on. DRAM is a critical component for data center servers, computers, smartphones, and industrial applications. We see DRAM chips as commodity products, primarily sold by three suppliers—Samsung, SK Hynix, and Micron—that occupy over 90% of the market. DRAM technology generations last years, and we see the leading oligopoly players moving in step to successive generations and participating in an industry standards-setting body. DDR5 is the latest technology transition for mainstream DRAM, and while a player like Micron will cite technological leadership or being first to market, we view these chips as fungible and time-to-market differences of a quarter or two as immaterial to competitive positioning. 

As a vertically integrated producer, Micron has massive capital investment needs that weigh on its returns on invested capital. The DRAM industry typically exhibits high-single-digit annual pricing declines, with the dominant players focusing not only on product advancement, but also advances in cost efficiency to keep up with their peers. This rapid pricing erosion makes it difficult for industry players to earn strong profits, even with large market shares. Consolidation of the DRAM industry and rational acting by players have helped improve industry margins. Still, we don’t see current margin levels providing durable economic profit levels over the course of a cycle. The memory chip market is prone to bouts of undersupply that raise prices and profits, followed by gluts of supply that crater pricing. Downcycles can be severe, sometimes leading to negative returns on invested capital and negative profit margins.

Micron also has a meaningful NAND flash chip business that makes up the minority of sales. NAND flash chips provide nonvolatile memory for storage purposes. Compared with DRAM, NAND is used for longer-term storage of data for data centers and consumer hardware. NAND advancements happen at a much faster pace than those in DRAM, with suppliers putting out higher-density chip generations every 18-24 months. Similar to DRAM, while suppliers will tout technological differences like layer counts and being first to market, we view NAND chips as fungible and commoditylike among the leading players.

We view very similar dynamics in NAND as we do in DRAM: commodity products, high capital intensity, and volatile market cycles. NAND, however, is less consolidated of a market with six primary players. In our view, the more fragmented nature of the NAND market creates more volatile supply-and-demand dynamics with worse pricing and profitability in market downturns caused by oversupply. NAND is also even more capital intensive than DRAM is, which we attribute to faster advancement and shorter product generations, and exhibits steeper annual pricing declines typically in the midteens. All of this leads to a lower margin profile for NAND compared with DRAM, as well as lower returns on invested capital.

None

Economic Moat

Micron Technology

Micron Technology, Inc. engages in the provision of innovative memory and storage solutions. It operates through the following segments: Compute & Networking Business Unit (CNBU), Mobile Business Unit (MBU), Storage Business Unit (SBU), and Embedded Business Unit (EBU). The CNBU segment includes memory products sold into cloud server, enterprise, client, graphics, and networking markets. The MBU segment offers memory products sold into smartphone and other mobile-device markets. The SBU segment consists of SSDs and component-level solutions sold into enterprise and cloud, client, and consumer storage markets, and other discrete storage products sold in component and wafer forms. The EBU segment consists of memory and storage products sold into automotive, industrial, and consumer markets. The company was founded by Ward D. Parkinson, Joseph Leon Parkinson, Dennis Wilson, and Doug Pitman on October 5, 1978, and is headquartered in Boise, ID.

Earnings data Q4 2023

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Micron Technology, Inc. engages in the provision of innovative memory and storage solutions. It operates through the following segments: Compute and Networking Business Unit (CNBU), Mobile Business Unit (MBU), Embedded Business Unit (EBU), and Storage Business Unit (SBU). The CNBU segment includes memory products and solutions sold into client, cloud server, enterprise, graphics, and networking markets. The MBU segment is involved in memory and storage products sold into smartphone and other mobile-device markets. The EBU segment focuses on memory and storage products sold into automotive, industrial, and consumer Markets. The SBU segment consists of SSDs and component-level solutions sold into enterprise and cloud, client, and consumer storage markets. The company was founded by Ward D. Parkinson, Joseph Leon Parkinson, Dennis Wilson, and Doug Pitman on October 5, 1978 and is headquartered in Boise, ID.

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