Why Rambus May Be Due For A Pullback (NASDAQ:RMBS)

Rambus (NASDAQ:RMBS), a provider of chips and related IP for the memory market, is running hot. The stock has gained 19.6% after just three weeks in 2023, adding to the run that started in the latter part of 2022. The rally has been supported by a number of factors and it is possible that the rally may have further to go. However, there are also reasons why some may nonetheless want to pass on taking part in the rally. Why will be covered next.

The stock may need to let out some steam after a big run

Semiconductor stocks are back in favor and it shows. The iShares PHLX Semiconductor ETF (SOXX), for instance, has gained 16.4% YTD. In comparison, the SPDR S&P500 ETF (SPY) has gained 4.8% YTD. RMBS has done even better than most semis with a gain of 19.6% YTD. Still, its outperformance is not that surprising considering the backdrop semis are currently at.

The gains in 2023 come on top of the ones in the second half of 2022. The stock bottomed on July 1 when it hit a low of $20.59, intraday lows not included. The stock closed at $42.84 on January 23, which means the stock has more than doubled in value in less than 7 months. Most of the gains came in the last three months with the stock posting a gain of 66% from October 14 to January 23. The chart below shows how the stock has accelerated and picked up speed, especially in recent weeks.

However, the stock has come a long way in a relatively short amount of time and letting off some steam after such a big run would not be so unusual. RMBS is likely due for a pullback for various reasons. For instance, the stock is well into overbought territory with an RSI of around 75. In addition, the stock could soon be faced with resistance from the trendline shown above that has been in place going back all the way to last year.

The last time the stock encountered this trendline in November, the stock was unable to get past resistance imposed by the trendline and it went on to correct in December. It’s possible the stock will push higher, but considering how much the stock has moved, especially in recent weeks, being way overbought and up against likely resistance, the odds are in favor of a pullback in the stock. It may therefore be a good time to consider locking in some profit after the huge rally in the stock.

Valuations are going up

There is another reason why it may be a good time to take at least some chips off the table. Valuations are getting up there. The table below shows some of the multiples RMBS trades at, which are significantly higher than the median for the sector. For instance, the stock is valued at 6 times book value, which is twice as much as the median. It’s also way higher than the average for the last five years.

	RMBS	Median
Market cap	$4.52B	–
Enterprise value	$4.30B	–
Revenue (“ttm”)	$424.2M	–
EBITDA	$122.9M	–
Trailing GAAP P/E	N/A	23.49
Forward GAAP P/E	N/A	24.50
PEG ratio	N/A	0.72
P/S	10.87	2.74
P/B	6.02	3.01
EV/sales	10.13	2.75
Trailing EV/EBITDA	34.95	13.70
Forward EV/EBITDA	14.80	13.36

Click to enlarge

Source: SeekingAlpha

Note that RMBS has posted a GAAP loss of $0.22 on a TTM basis, which is why RMBS does not have any P/E ratios. At the same time, it’s worth mentioning that RMBS would not be in the red if not for a $0.60 loss in Q1 FY2022, which in turn was due to a $66M loss on the extinguishment of debt. Still, it’s fair to say that RMBS does not come cheap.

RMBS itself seems to believe it needs a breather

The rally in the stock has been supported by a number of factors. For instance, the company initiated a $100M accelerated share buyback program, which almost certainly was partially responsible for the stock’s recent outperformance. The memory industry is also on the verge of transitioning towards DDR5 and RMBS is perceived to be a big beneficiary of this move. Some are positioning themselves in anticipation of this happening.

Furthermore, RMBS has delivered in terms of growth. FY2022 revenue is projected to end up at $451-457M with Q4 revenue of $119-125M. FY2021 revenue was $328M, which implies a YoY increase of 38.4% at the midpoint. RMBS will still show a GAAP loss, but this was due to RMBS extinguishing debt as mentioned earlier. RMBS is without a doubt on the right track when it comes to growth.

Keep in mind that growth is expected to accelerate once DDR5 adoption takes off. RMBS has the potential for additional upside with CXL and security IP. In the long run, demand for server memory is almost certain to grow, which suggests RMBS will also due to its patent portfolio related to DRAM memory.

However, while RMBS has been on a roll lately, management seems to believe the numbers are likely due for a temporary dip in the first half of 2023. From the Q3 earnings call:

“So we had an exceptional year in 2022. Again, people were building in anticipation of DDR5 but now DDR5 is shifting a bit to the right. But at the same time, they had to catch up on DDR4 because DDR5 was a bit delayed. And that explains why the market grew, we grew much faster than the market. In the long run, we’re going to go through this adjustment period in the first half of next year but we will continue to outpace the market growth throughout the year.”

A transcript of the Q3 FY2022 earnings call can be found here.

There’s also reason to be cautious of the DRAM memory market. This market is currently in a deep slump with prices under pressure due to too much inventory and not enough demand. This has hurt earnings at suppliers like Samsung (OTCPK:SSNLF) and Micron (MU) with the latter posting losses in its most recent earnings report.

Demand for server memory has held up better in comparison, but that could change if enterprise spending follows in the footsteps of consumer spending. Spending on things like datacenters would drop and that would affect demand for server memory. In other words, the short-term outlook for memory demand is uncertain, which suggests the need to remain cautious.

Investor takeaways

I am neutral on RMBS. Long RMBS has certainly paid off in recent months. The stock has more than doubled in value off of the 2022 lows. RMBS is in a strong position to take advantage of the upcoming transition towards DDR5 and the growth in memory demand in the long run, especially with RMBS holding essential IP that no DRAM manufacturer can ignore.

RMBS has, for example, recently extended the patent license agreement it has with Samsung, the leading supplier of memory chips, for another 10 years. The steady income from royalties can be relied upon, even during times of uncertainty, which one can argue is very much the case right now with everything going on in the world.

RMBS arguably deserves a premium for the fact that a large part of its business is immune to the normal business cycle, which means RMBS is in a better position to withstand the downturn in the semiconductor industry that quite a few are forecasting. Basically, there is a lot to like in RMBS from a long-term perspective.

However, in the short-term, the merits of long RMBS are more debatable. The stock is highly unlikely to maintain its recent pace with the stock gaining almost 20% in about three weeks. The stock is overbought and likely to encounter resistance. The last time the stock faced resistance, the stock went on to give back some of its gains. A pullback in the near term is very likely due to these factors, which suggests it is time to reduce exposure partially, if not entirely.

Current valuations for RMBS also suggest it is time to reduce exposure. One of the consequences of the big rally in the stock is that valuations are way up and significantly higher than many semis. While some may have no problem with where multiples are, others are likely to come to the decision that things are becoming frothy and it may be time to play it safe. This can result in selling as people look to cash out. This increases the odds of a pullback in the stock.

While demand looks to be on a more solid footing in the long run, the outlook for demand is on more shaky ground in the short term. The DRAM memory market is in a slump right now with prices under pressure due to an imbalance between supply and demand. The market for server memory has held up better and that has helped RMBS, but that could change if or when weakness in the semiconductor market spreads. Some caution is warranted taking into account the current state of the semiconductor market, the memory market in particular.

For instance, a recent report predicts DRAM bit demand will grow by 8.3% in 2023, which is well below the range of 14.6-20.8% in 2018-2022. Meanwhile, DRAM bit supply growth is expected to be well ahead of demand with growth of 14.1% in 2023, which is also below the range of 14.2-21.0% in 2018-2022.

The DRAM market is forecast to be out of balance in term of supply and demand growth in 2023, which could spring some unpleasant surprises for those with exposure to the DRAM market, RMBS included. It’s true there are those who believe the DRAM market will start to recover in the latter part of 2023, but those projections could easily be way off.

Bottom line, RMBS has done fantastic in the early part of 2023, but all good things must come to an end at some point. The amount of ground covered in a short amount of time, an overbought stock, resistance, multiples and an uncertain outlook for the DRAM market all suggest the time has to come to reduce exposure to potential risk. A correction in the stock is likely with the way everything is laid out. Odds are that is what will happen.