G
Guest
http://www.beyond3d.com/forum/showthread.php?p=553087#post553087
Event: On Aug.17, we hosted investor meetings with Dave Orton, ATI's
President and CEO.
Impact: Neutral.
The meetings focused on four key points: 1) Late September Launch Date Set
for Three R500 Desktop Discrete Chips (R520, RV530, and RV515); 2) Strong
Integrated Graphics Chipsets Growth, But Gross Margins (Desktop and Mobile
Combined) to Remain in the Low-Teens Range in Q4 (Aug); 3) Inventory Level
to Remain Above Target in Q4 and Writedown Risk Remains in Our View; and 4)
Consumer Business (Wireless and Digital TV) Falls Well Short of Original
Target for 2x Growth in F2005. ATI is in final stages of its F2006 financial
planning process, and does not intend to make a significant headcount
investment, with plans to keep operating expenses relatively flat for each
of the quarters. We believe management's tone was justifiably conservative,
and we do not anticipate a one-quarter snapback in revenue growth or gross
margins. We have a higher level of confidence that ATI's R500 family will
launch on time, but weak gross margins and the inventory bloat will likely
continue to weigh negatively on the stock. We maintain our HOLD and
$12.75/C$15.50 target price on ATI, based on 15x our C2006E EPS of $0.85.
1. Late September Launch Date Set for Three R500 Desktop Discrete Chips
(R520, RV530, and RV515): Addressing the rampant rumours surrounding the
R520 launch date, ATI stated its plan of record is to launch all three 90nm
R500 desktop discrete chips (the enthusiast R520, the performance RV530, and
the value RV515) in late September. The shipment dates will likely be
staggered for the three chips, based on the delivery cycles from TSMC, with
one likely shipping at launch date and the other two within the first half
of October. The R520 was originally planned for a June launch, while the
RV530 and RV515 launch times are only a few weeks delayed from their
original schedule. The R520 had been sampling since Dec/04, and although the
architecture and 90nm process were not a problem, ATI was not able to run
the clock fast enough due to a "soft ground" issue that was discovered in
late July after debugging with several re-spins. Specifically, the R520 and
RV530 had functional yields, but could not run at high speeds, while the
RV515 and the C1 (the 90nm Xbox graphics chip) did not have any issues. ATI
concedes it has lost the OEM designs (primarily Dell) to NVIDIA's GeForce
7800 GTX for enthusiast desktop PCs for both the back-to-school and holiday
season, but believes the retail and channel (add-in-board) markets for the
R520 chip remain available (representing over 2/3rds of the enthusiast
market). Both ATI and NVIDIA did not refresh their back-to-school product
stack for the performance/mainstream/value segments, with ATI indicating it
has kept a significant share of design wins awarded in the March to May
timeframe, based on its ATI X700, X600, X550, and X300 (competing against
NVIDIA's GeForce 6200 and 6600). In terms of performance, ATI believes the
R520 should exceed the GeForce 7800 GTX in benchmark tests if it can get the
proper clock speed, but recognizes that NVIDIA has some headroom to
overclock the GeForce 7800 clock speeds. We do not expect ATI to launch its
R580 (speculated to have 32 pixel pipelines) in C2005 (ATI does not want to
stall the channel for the R520), and expect a refresh of the R500 family
beginning in spring 2006 with RV560, followed by RV540 and RV505. We expect
the R600 (DirectX 10, targeting Microsoft Vista operating system and WGF
2.0, the next generation graphics library) in Q4/F06 or Q1/F07.
2. Strong Integrated Graphics Chipsets Growth, But Gross Margins (Desktop
and Mobile Combined) to Remain in the Low-Teens Range in Q4 (Aug): ATI is
guiding for its integrated graphics chipset business (desktop and mobile) to
represent 15% to 20% of revenue in Q4, up from our estimated 11% in Q3. The
corresponding gross margins will remain in the 11% to 15% range in Q4, with
desktop chipsets margins of approximately 7% and mobile in the mid-teens
range. Top line desktop chipset growth is being driven by both the AMD and
Intel platforms. ATI contends that half of all AMD processor shipments now
ship with ATI's integrated chipsets, and indicates it has been bidding
successfully for design wins against NVIDIA's upcoming integrated graphics
chipset for the AMD64 (K8) desktop market, codenamed C51, for the last six
months (C51 launch date is set for late Sept.). We believe Intel's decision
to leave the low-end (sub-$20) desktop chipset market for roughly the next
three quarters, as it focuses its capacity on the mobile chipset and
handheld/smartphone market, should translate into Intel platform-based
integrated chipset growth for both ATI and SiS. ATI is targeting its desktop
integrated chipset volume to reach two to three million units per quarter in
the next few quarters. ATI expects its integrated chipset gross margins
(desktop and mobile combined) to drive towards the 25%-plus range with its
next generation chipsets in Spring 2006. Chipset gross margin improvements
are expected to be driven by shrinking the die size (from 0.13u to 0.11u),
improving the test yields, and reducing the package costs (50% of the
chipset cost is substrate packaging). ATI will focus on the $16 to $20
chipset segment, conceding the $22 to $30 chipset segment to Intel, and ATI
may move down market to the $12 to $15 chipset segment targeted by VIA and
SiS. The single-digit gross margins associated with ATI's current desktop
chipsets is a result of ATI having to lower its chipset pricing from the
initial $25 price target (OEM customers desired a $16 to $20 chipset with
equivalent graphics performance to Intel, not a $25 chipset with 2x the
graphics performance of Intel's offering). ATI's high-end CrossFire chipset
is expected to ship in volume in early September and contribute positively
to gross margins.
3. Inventory Level to Remain Above Target in Q4 and Writedown Risk Remains
in Our View: ATI's Q3 (May) inventory ballooned to $456 million, up $89
million sequentially and representing 100 days of inventory, with 2/3rds of
the PC segment inventory consisting of PCI Express versus 1/3 AGP. ATI
contends the AGP-based inventory is not materially at risk, given the demand
for these value and mainstream parts (e.g., RADEON 9200 and RADEON 9600). Q4
inventory is expected to drop to the low-$400 million range, but still above
ATI's target of having inventory represent roughly 50% of forward revenue
guidance (ATI's inventory turnover target is 70 to 75 days, considering the
current substrate shortage situation which is anticipated to last for the
next six months). ATI had underestimated the channel demand for nine
consecutive quarters, and decided to add two weeks of supply buffer to its
inventory in Q2/Q3, increasing to 10 weeks from 8 weeks, but suffered a
slowdown in demand and a slight decrease in channel market share to the
mid-30% level. In addition, half of the inventory bloat was due to ATI
underestimating the yields on its wafer by a factor of roughly 40% (i.e.,
the wafers yielded 40% more die than expected), further compounding its
inventory glut (under ATI's die buy model, ATI purchases on a per-die as
opposed to per-wafer basis, implying that it has secured the price per die
based on theoretical yields from the fab, and has committed to purchase the
entire wafer no matter what the yield). ATI is not planning for an inventory
writedown, arguing its AGP and PCI Express inventory is not obsolete, but
cautions that a fast ramp of the new R500 family should put pricing pressure
on the existing generation of products (we do not rule out the possibility
of an inventory writedown). Justification of Target Price: ATI trades at 25x
our C2005E EPS of $0.48 and 14x our C2006E EPS of $0.85, which compares to
NVIDIA at 20x and 16x, and Intel trading at 18x and 16x. We believe ATI's
operational issues (desktop product launch delays and gross margin weakness)
justify a relatively discounted target multiple of 15x our C2006E EPS,
deriving a target price of $12.75/C$15.50. Key Risks to Target Price: Risks
include valuation multiple contraction in the semiconductor industry; a
slowdown in PC sales; competition from NVIDIA and Intel; inability to secure
PCI Express design wins; timing of the Microsoft Xbox 360 and Nintendo
Revolution game console launches, unexpected delays in shipping new
products; and the outstanding OSC hearing involving ATI's Chairman.
Action Notes August 18, 2005
Equity Research
Event: On Aug.17, we hosted investor meetings with Dave Orton, ATI's
President and CEO.
Impact: Neutral.
The meetings focused on four key points: 1) Late September Launch Date Set
for Three R500 Desktop Discrete Chips (R520, RV530, and RV515); 2) Strong
Integrated Graphics Chipsets Growth, But Gross Margins (Desktop and Mobile
Combined) to Remain in the Low-Teens Range in Q4 (Aug); 3) Inventory Level
to Remain Above Target in Q4 and Writedown Risk Remains in Our View; and 4)
Consumer Business (Wireless and Digital TV) Falls Well Short of Original
Target for 2x Growth in F2005. ATI is in final stages of its F2006 financial
planning process, and does not intend to make a significant headcount
investment, with plans to keep operating expenses relatively flat for each
of the quarters. We believe management's tone was justifiably conservative,
and we do not anticipate a one-quarter snapback in revenue growth or gross
margins. We have a higher level of confidence that ATI's R500 family will
launch on time, but weak gross margins and the inventory bloat will likely
continue to weigh negatively on the stock. We maintain our HOLD and
$12.75/C$15.50 target price on ATI, based on 15x our C2006E EPS of $0.85.
1. Late September Launch Date Set for Three R500 Desktop Discrete Chips
(R520, RV530, and RV515): Addressing the rampant rumours surrounding the
R520 launch date, ATI stated its plan of record is to launch all three 90nm
R500 desktop discrete chips (the enthusiast R520, the performance RV530, and
the value RV515) in late September. The shipment dates will likely be
staggered for the three chips, based on the delivery cycles from TSMC, with
one likely shipping at launch date and the other two within the first half
of October. The R520 was originally planned for a June launch, while the
RV530 and RV515 launch times are only a few weeks delayed from their
original schedule. The R520 had been sampling since Dec/04, and although the
architecture and 90nm process were not a problem, ATI was not able to run
the clock fast enough due to a "soft ground" issue that was discovered in
late July after debugging with several re-spins. Specifically, the R520 and
RV530 had functional yields, but could not run at high speeds, while the
RV515 and the C1 (the 90nm Xbox graphics chip) did not have any issues. ATI
concedes it has lost the OEM designs (primarily Dell) to NVIDIA's GeForce
7800 GTX for enthusiast desktop PCs for both the back-to-school and holiday
season, but believes the retail and channel (add-in-board) markets for the
R520 chip remain available (representing over 2/3rds of the enthusiast
market). Both ATI and NVIDIA did not refresh their back-to-school product
stack for the performance/mainstream/value segments, with ATI indicating it
has kept a significant share of design wins awarded in the March to May
timeframe, based on its ATI X700, X600, X550, and X300 (competing against
NVIDIA's GeForce 6200 and 6600). In terms of performance, ATI believes the
R520 should exceed the GeForce 7800 GTX in benchmark tests if it can get the
proper clock speed, but recognizes that NVIDIA has some headroom to
overclock the GeForce 7800 clock speeds. We do not expect ATI to launch its
R580 (speculated to have 32 pixel pipelines) in C2005 (ATI does not want to
stall the channel for the R520), and expect a refresh of the R500 family
beginning in spring 2006 with RV560, followed by RV540 and RV505. We expect
the R600 (DirectX 10, targeting Microsoft Vista operating system and WGF
2.0, the next generation graphics library) in Q4/F06 or Q1/F07.
2. Strong Integrated Graphics Chipsets Growth, But Gross Margins (Desktop
and Mobile Combined) to Remain in the Low-Teens Range in Q4 (Aug): ATI is
guiding for its integrated graphics chipset business (desktop and mobile) to
represent 15% to 20% of revenue in Q4, up from our estimated 11% in Q3. The
corresponding gross margins will remain in the 11% to 15% range in Q4, with
desktop chipsets margins of approximately 7% and mobile in the mid-teens
range. Top line desktop chipset growth is being driven by both the AMD and
Intel platforms. ATI contends that half of all AMD processor shipments now
ship with ATI's integrated chipsets, and indicates it has been bidding
successfully for design wins against NVIDIA's upcoming integrated graphics
chipset for the AMD64 (K8) desktop market, codenamed C51, for the last six
months (C51 launch date is set for late Sept.). We believe Intel's decision
to leave the low-end (sub-$20) desktop chipset market for roughly the next
three quarters, as it focuses its capacity on the mobile chipset and
handheld/smartphone market, should translate into Intel platform-based
integrated chipset growth for both ATI and SiS. ATI is targeting its desktop
integrated chipset volume to reach two to three million units per quarter in
the next few quarters. ATI expects its integrated chipset gross margins
(desktop and mobile combined) to drive towards the 25%-plus range with its
next generation chipsets in Spring 2006. Chipset gross margin improvements
are expected to be driven by shrinking the die size (from 0.13u to 0.11u),
improving the test yields, and reducing the package costs (50% of the
chipset cost is substrate packaging). ATI will focus on the $16 to $20
chipset segment, conceding the $22 to $30 chipset segment to Intel, and ATI
may move down market to the $12 to $15 chipset segment targeted by VIA and
SiS. The single-digit gross margins associated with ATI's current desktop
chipsets is a result of ATI having to lower its chipset pricing from the
initial $25 price target (OEM customers desired a $16 to $20 chipset with
equivalent graphics performance to Intel, not a $25 chipset with 2x the
graphics performance of Intel's offering). ATI's high-end CrossFire chipset
is expected to ship in volume in early September and contribute positively
to gross margins.
3. Inventory Level to Remain Above Target in Q4 and Writedown Risk Remains
in Our View: ATI's Q3 (May) inventory ballooned to $456 million, up $89
million sequentially and representing 100 days of inventory, with 2/3rds of
the PC segment inventory consisting of PCI Express versus 1/3 AGP. ATI
contends the AGP-based inventory is not materially at risk, given the demand
for these value and mainstream parts (e.g., RADEON 9200 and RADEON 9600). Q4
inventory is expected to drop to the low-$400 million range, but still above
ATI's target of having inventory represent roughly 50% of forward revenue
guidance (ATI's inventory turnover target is 70 to 75 days, considering the
current substrate shortage situation which is anticipated to last for the
next six months). ATI had underestimated the channel demand for nine
consecutive quarters, and decided to add two weeks of supply buffer to its
inventory in Q2/Q3, increasing to 10 weeks from 8 weeks, but suffered a
slowdown in demand and a slight decrease in channel market share to the
mid-30% level. In addition, half of the inventory bloat was due to ATI
underestimating the yields on its wafer by a factor of roughly 40% (i.e.,
the wafers yielded 40% more die than expected), further compounding its
inventory glut (under ATI's die buy model, ATI purchases on a per-die as
opposed to per-wafer basis, implying that it has secured the price per die
based on theoretical yields from the fab, and has committed to purchase the
entire wafer no matter what the yield). ATI is not planning for an inventory
writedown, arguing its AGP and PCI Express inventory is not obsolete, but
cautions that a fast ramp of the new R500 family should put pricing pressure
on the existing generation of products (we do not rule out the possibility
of an inventory writedown). Justification of Target Price: ATI trades at 25x
our C2005E EPS of $0.48 and 14x our C2006E EPS of $0.85, which compares to
NVIDIA at 20x and 16x, and Intel trading at 18x and 16x. We believe ATI's
operational issues (desktop product launch delays and gross margin weakness)
justify a relatively discounted target multiple of 15x our C2006E EPS,
deriving a target price of $12.75/C$15.50. Key Risks to Target Price: Risks
include valuation multiple contraction in the semiconductor industry; a
slowdown in PC sales; competition from NVIDIA and Intel; inability to secure
PCI Express design wins; timing of the Microsoft Xbox 360 and Nintendo
Revolution game console launches, unexpected delays in shipping new
products; and the outstanding OSC hearing involving ATI's Chairman.
Action Notes August 18, 2005
Equity Research