The Long and Short
Don’t throw the MU baby out with the bathwater
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.
The route in the equity market has hit technology stocks hard, particularly semiconductors, due to pricing pressures, supply chain constraints and refinancing or rollover risk. Credit spreads have moved wider for semiconductors, particularly ‘BBB’ semiconductors, through this flight-to-quality. But one thing not necessarily getting focus is the strength of the balance sheet for some of these pressured semiconductor credits. MU is one such credit.
MU (Baa3/BBB- (p)/BBB) remains in a strong net cash position and has very healthy free cash flow generation. The company also benefits from not having any debt maturity walls, alleviating the need to tap the market in a rising rate environment. MU bonds have widened nearly 100 bp since the start of 2022 and are now yielding over 4.7% in the intermediate part of the curve.
Net Cash Position Large and Growing
MU’s strong balance sheet is underscored by the company’s growing net cash position. MU ended the most recent quarter with $4.9 billion of net cash, which is up from $3.0 billion at fiscal year-end 2021 and $1.9 billion at fiscal year-end 2020. Additionally, management noted that liquidity stood at $14.4 billion at the end of the quarter as the company had just over $11.8 billion of cash on hand and $2.6 billion in availability under its revolver. Free cash flow in the quarter was just over $1.0 billion and is expected to be roughly $5.5 billion for the full fiscal year. While the company is returning cash to shareholders via the dividend and buybacks, shareholder remuneration has not outpaced free cash flow generation, thereby growing cash on hand. This strong cash position provides MU with great flexibility in a rising rate environment as it allows for the company to repay debt versus refinancing should rates become too high and/or the market remains volatile. Furthermore, the company can successfully reinvest in the business to support further top line and margin growth.
Exhibit 1. MU Cash Flow and Capital Allocation
Source: Company Presentation; APS
On Pace to Post Record Full Year Results
Operating performance has been solid for MU despite higher raw material costs and supply chain issues. In the most recent quarter, MU posted strong double-digit revenue growth (above 30%) across all business units, except its Mobile unit, which witnessed 4% growth. Furthermore, the same units that posted above 30% year-over-year growth also witnessed solid single-digit sequential growth. In addition to strong top-line growth, MU posted very strong margin growth with gross and operating margins up roughly 15 percentage points year-over-year to 47.8% and 35.3%, respectively. Management noted that second quarter results exceeded the high end of their guidance range for both revenues and margins, given the strong execution in the quarter. Additionally, management noted that portfolio momentum is accelerating which bodes well for delivering record revenues and strong profitability for the full fiscal year.
Exhibit 2. MU Revenue Breakdown
Source: Company Presentation; APS
S&P Maintains a Positive Outlook
S&P revised its outlook to positive in June 2021 as the agency expects operating performance to continue to remain strong given the robust demand for memory products across most end markets. Despite supply chain disruptions that caused management to provide a cautious outlook at the start of the fiscal year, MU has exceeded growth and profitability expectations. Additionally S&P noted that they expect MU to continue to generate positive free cash flow through industry cycles. MU’s Investment Grade ratings are underscored by the company’s strong balance sheet and net cash position. They expect MU to maintain a net cash position even during industry troughs. Shareholder rewards are expected to remain well within the confines of free cash flow and not anticipated to negatively impact the balance sheet. Should capital spending need to increase for reinvestment purposes, shareholder rewards could be walked back to maintain the company’s strong cash position.
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