AI is pushing up revenue and profits, but booms don’t last forever in the memory chip industry.
Shares of memory chip manufacturer Micron (MU 3.19%) have surged over the past year as a brutal industrywide downturn came to an end. Demand for the high-speed memory used in AI accelerators is soaring, the PC market has bottomed out and returned to growth, and memory chip prices are recovering.
Micron’s earnings report for the third quarter of fiscal 2024 beat expectations, but the stock sank as investors digested an outlook that was in line with analyst estimates. With shares of Micron dipping from their recent high, is it time to buy the hot AI stock?
Reason to buy: AI is helping in more ways than one
The immediate impact of the AI revolution for Micron is increased demand for high-bandwidth memory (HBM), a type of memory chip that’s commonly used in AI accelerators. While it was a bit late to the HBM party, the company is now ramping up production.
HBM revenue topped $100 million in the third quarter, and it’s growing fast. In fiscal 2015, Micron anticipates a few billion dollars in revenue from HBM. Demand is so strong that Micron is sold out of these chips through the end of calendar year 2025, and pricing is mostly locked in.
Soaring sales of AI servers, which also require standard DRAM and NAND memory chips, have been pushing up revenue in the company’s data center segment, whose revenue rose more than 50% on a sequential basis in the third quarter.
With Micron and other memory chip suppliers adjusting their production mixes to ramp up HBM production as quickly as possible, the supply of commodity DRAM and NAND chips used in PCs, servers, and smartphones could fall short of demand. DRAMeXchange, which analyzes this market, expects DRAM prices to rise by 8% to 13% sequentially in the third calendar quarter of 2024 following a 13% to 18% jump in the second quarter.
While commodity memory chip prices might not soar as they did during the pandemic, the shift to HBM production should keep pricing at healthy levels for the time being. That’s good news for Micron’s bottom line.
Reason to stay away: Shortages don’t last forever
The memory chip industry is prone to booms and busts. During periods where demand outstrips supply, prices rise and boost profits. Manufacturers expand production to take advantage of that demand, eventually pushing supply above demand. Pricing falls, production is cut, and profits plunge.
One of my favorite quotes that applies to commodity markets comes from statistician and risk analyst Nassim Taleb: “I’ve seen gluts not followed by shortages, but I’ve never seen a shortage not followed by a glut.”
There’s a shortage of HBM chips right now, and estimates for growth of the AI accelerator market are in the stratosphere. If those estimates are even slightly too optimistic, the production ramp-up going on right now will eventually push supply beyond demand. In other words, a shortage followed by a glut.
I don’t know when this is going to happen, but I do know that it will happen because it always happens. Every boom in the memory chip industry has been followed by a bust. Every shortage has been followed by a glut. This time is no different.
Know the risks
This doesn’t mean that Micron can’t be a good long-term investment, but it does mean that you need to be careful buying during times of peak optimism. The stock recently carved out a new all-time high, and it’s well above where it traded during its pandemic-era boom.
The company is benefiting from the AI boom, but the stock could be getting ahead of itself. In terms of the price-to-sales ratio, Micron shares are the most expensive they have been since the dot-com bubble. Revenue and earnings could surge from here, but the stock already has quite a bit of growth priced in. Expectations are running high, making it a risky bet.
Timothy Green has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.