Micron Technology, Inc. (MU)

Micron is a good company in a very difficult business. Both DRAM and NAND are commoditized and for every two or three years of down market there are only twelve to eighteen months of good times. Companies, often backed by their government, expand irrationally when times are good and insure suffering for everyone when supply races past demand. Taiwan and Korea in particular have a large enough percentage of their economies dependent on semiconductor memory that they prop up their companies during the bad times with loans that no sane bank would give. If you've been following this sector none of this is news. You also know that the sector was already in a downturn when the bottom really fell out of the economy. In fact, the memory downturn began during the latter half of 2006 and has grown (shrunk?) into the worst in the history of the business. That is saying something because this is a business that has had some awfully bad downturns. The one in 1985 was the previous record-holder. That one even chased out a little company named Intel, who got their start when they successfully commercialized DRAM in the early 70s. The Japanese came in a decade later and ruined the business for them. Ten years after that the Koreans did the same thing to the Japanese. Now the Taiwanese have done the same thing to the Koreans. All the while Micron has risen and fallen with DRAM prices. Enough with the history lesson.

While during the good times they say it will always be good and this time it's different, the converse is often said during times like now. The prices will never recover, companies won't make money again, etc. These views have one thing in common; they have both always been wrong. Both DRAM and NAND are in their third year of a truly epic downturn, a combination of overbuilding and crashing demand from the global economic meltdown. All of the losses have caused every player to reduce capacity. Hynix is out of the 200mm NAND business, Micron shut down their 200mm Boise fab, and Qimonda went bankrupt in January. In Taiwan ProMOS is teetering on the brink of insolvency and the rest of the players there are running their fabs at low utilization rates to conserve cash. A couple of these companies have announced quarterly losses equal to or in excess of revenue. Quite a business, eh?

Well, what goes down, if history is any indicator, will come back up. All of the manufacturing capacity coming off line and lack of capital spending will combine at some point with recovering demand to create a perfect storm of price recovery for these commodity chips. Micron has been very effective over the past three years in reducing both its COGS and overhead. Unfortunately, the prices have dropped even faster. When they do come back this company is in very good shape to benefit greatly. I think there will be a twelve month period in the next upturn where the company will earn in excess of $2B in total, and pay no income taxes on those earnings thanks to the years of losses. No, this does not make for a good business model, but the Market will still respond well to those earnings (at least $2.40 per share including dilution from the recent offering). Pricing earnings in such a cyclical business isn't something I can claim to be adept at, but based on the multiples Micron has traded at during previous upturns, I think the stock will peak at $35-45 a share in the next upturn. I guess this will take place if the economy recovers in the second half of this year with the high water mark coming in mid to late 2010. When the profits are tumbling back into this brutal business and everyone is announcing the construction of new fabs, sell your shares. Heck, take some of your profits and short the sector into the next downturn. This strategy may be the only good model for this business.