Is It Time to Reconsider Investing in Super Micro Computer (SMCI)?

Back in February, we rated Super Micro Computer (SMCI) an 8/10. However, we cautioned that the stock could drop down to $400-$600 as shares were trading at $650.

Since then, the stock peaked at $1229 before crashing back down to $383.

That’s great for traders, not for investors.

At the time, we pointed out the lofty valuations and immediate lack of cash flow.

Recently, Hindenburg Research released a scathing short report accusing the company of accounting manipulation among other things.

Shares fell hard, with the stock now trading at a reasonable 22.8x earnings.

The company still isn’t operating with a positive cash flow. However, that’s largely due to a huge increase in finished goods inventories YoY.

With shares down over 60% from their highs, financial pros are closely keeping an eye on this stock, according to our TrackStar data, which outlined heavy search volume.

So, is the selling done or is there more pain to follow?

Super Micro Computer’s Business

Super Micro Computer Inc. has emerged as a key player in the high-performance computing arena, specializing in server and storage solutions optimized for AI and cloud applications. 

Founded in 1993, this Silicon Valley-based company has carved out a unique niche with its innovative “Building Block Solutions” approach.

Operating globally, Super Micro designs and manufactures a comprehensive range of server products, from individual components to complete rack-scale systems. 

The company’s flexibility allows it to serve a diverse customer base, ranging from small businesses to large-scale data centers. 

Super Micro segments its business into the following areas:

• Server and Storage Systems (95% of total revenues) – Encompasses complete server and storage solutions tailored for various applications, including AI and cloud computing
• Subsystems and Accessories (5% of total revenues) – Includes individual components such as server boards, chassis, and other accessories

In its most recent quarter ending June 30, 2024, Super Micro reported impressive growth with revenues reaching $5.31 billion, a 143% increase year-over-year. This surge is largely attributed to the growing demand for AI infrastructure, particularly GPU servers and high-performance computing solutions.

Despite this robust growth, Super Micro faces challenges. 

The company’s gross margins decreased to 11.2% in the fourth quarter, down from 17.0% in the same period last year. This decline reflects competitive pricing strategies and increased production costs associated with new technologies like direct liquid cooling.

However, management remains optimistic about its growth trajectory. 

The company projects revenues between $6.0 billion and $7.0 billion for the first quarter of fiscal year 2025, with full-year guidance set at $26.0 billion to $30.0 billion. These projections underscore the company’s confidence in the continued strong demand for its high-performance computing solutions.

Financials

Source: Stock Analysis

As AI server demand exploded, so did SMCI’s sales.

In the past year, total revenues have increased 80% after jumping 37% and 46% in the prior two years.

With sales jumping 143% in the latest quarter, sales are expected to accelerate in 2024 as big players like Google, Meta, Microsoft, Amazon, and more clamor for more racks to handle their newest AI processors.

However, SMCI faces heavy competition from companies like Dell (DELL), which has led to margin compression in the most recent quarters.

Additionally, the high build rate has sucked up cash prior to the sales being completed, creating negative operating cash flow.

With just $2.1 billion in cash, the company had to add $1.7 billion through the sale of convertible notes to shore up its balance sheet.

Valuation

Source: Seeking Alpha

With the drop in SMCI’s share price, the company’s P/E ratio is now far more reasonable at just 22.8x earnings, with a forward ratio of just 15.4x earnings, putting it at a discount that only HP (HPQ) beats.

Growth

Source: Seeking Alpha

SMCI’s revenue growth is better than everyone else on this list, looking backwards and forwards.

Its average growth over the past three years of 61.4% is just astounding as is its 3-year EPS growth of 112.6%.

No other company on this list even comes close to those numbers.

Profitability

Source: Seeking Alpha

But here’s where the rubber meets the road.

SMCI’s gross margins are the lowest in the group. However, its EBIT margins are higher than everyone except for Netapp (NTAP).

And as we mentioned before, it currently uses more cash for operations than it generates.

Our Opinion 5/10

While SMCI is the best in its area, we’re concerned about management’s transparency.

Specifically, it’s very unusual to see such high inventory builds coupled with growth numbers.

It implies that either Hindenburg is correct and the company is counting sales early, or, the company’s supply chain process is extremely flawed and getting worse.

In either case, we’d prefer to stay clear for the time being as there are other and better ways to play the AI growth story.

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