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Loss of momentum for feisty AMD

While Intel stumbled, underdog AMD had quite a run. Now a profit warning may have it back on the defensive.

Just like a phone call at 4 a.m. almost never brings good news, a press release appearing late in the day usually means something is wrong.

Advanced Micro Devices stunned the financial community late Thursday with a warning that its fourth-quarter revenue and profits would be below expectations. The warning came just weeks after a in which the company painted a rosy picture of its prospects for 2007.

Investors punished AMD on Friday, sending its stock down $1.92, or about 10 percent, to close at $18.26 on the New York Stock Exchange. That's pretty close to the company's 52-week low set in July. Citigroup downgraded the company to a "hold," and Nollenberger Capital Partners' Hans Mosesmann lowered his price target for the stock from $13 to $8.

What's to blame for AMD's disappointing performance? The company seems to have reverted to its old habit of slashing prices to win market share, something it was famous for earlier this decade.

Unit sales in the fourth quarter were up, but "significantly lower microprocessor average selling prices" will hurt AMD's profits when it reports earnings on January 23, it said in its press release Thursday. Fourth-quarter revenue, excluding its recently acquired ATI Technologies graphics business, increased about 3 percent from the $1.33 billion reported in the third quarter, AMD said. That's less than the "seasonally strong" fourth quarter that the company had predicted. Analysts had been expecting the Sunnyvale, Calif.-based company to report revenue of $1.85 billion, which includes AMD's graphics and chipset business recently acquired from ATI, and per-share earnings of 22 cents, according to Thomson Financial.

AMD is also dealing with a resurgent Intel, whose new Core 2 Duo line of PC processors and Xeon 5300 server processors have erased the clear performance advantage AMD enjoyed in the desktop and server markets for several years. But AMD is also still caught in a price war as it ramps up new chipmaking equipment that will help it cut costs, according to analysts.

AMD is no longer the clear choice for the performance-oriented buyer that it once was. The profitable gaming segment of PC buyers has several high-performance choices available from Intel. In the server market, Intel's dual-core Xeon 5100 processors are quite a match for AMD's Opteron chips, and Intel has also beaten AMD to the quad-core era with the Xeon 5300 series chips.

This doesn't appear to be hurting AMD's overall unit sales, which grew during the fourth quarter. The company finally broke into Dell computers during the second half of 2006, and the PC market was fairly solid during the important fourth-quarter holiday season. But it does appear to be hurting AMD at the upper end of the market, where more profits are generated, according to Citigroup.

Intel "can tout a lower price-per-core than AMD in some segments of the server space. There, Intel has priced several of its quad-core Xeon 5300 processors, which arrived in November, the same as its dual-core Xeon 5100 processors, which we believe may help it win deals in the server space," Technology Business Research analyst John Spooner wrote in a research note distributed Friday.

AMD is also much more dependent on consumer PC sales than Intel, said Dean McCarron, an analyst with Mercury Research. While it appears to have had a strong first two months of the fourth quarter, when PC makers were gearing up for the holiday season, it could have seen weaker sales in December. PC makers order chips for their first-quarter systems during late November and December, and first-quarter demand almost always sags coming off the holiday season, he said.

As such, AMD appears to have lowered prices to generate demand, keeping unit sales up but profits down, McCarron said. Wall Street is not too fond of this practice. The financial community already was wary of AMD following its third-quarter results, in which gross margin was down significantly compared with the second quarter.

Increased demand leads to some problems
Some of AMD's problems can be attributed, ironically, to the fact that demand for its products has increased. The company is waiting for its new 65-nanometer manufacturing facility in Dresden, Germany, to become fully operational. Chips are produced on silicon wafers, and smaller processors mean companies can cut more chips from a single wafer, reducing the cost to build a single chip and allowing it to produce more chips for its customers.

One customer in particular appears to be getting a lot of love from AMD. After years of denying any interest in AMD, Dell has jumped onboard with servers, desktops and notebooks based on AMD's technology. However, Dell has a reputation as a demanding supplier and might have required supply guarantees and pricing discounts from AMD as the price of admission into its products, McCarron said.

If AMD was forced to allocate a certain number of its chips to Dell at reduced prices--while it was unable to take full advantage of its new manufacturing technologies--it would have to take a hit to its gross margins while watching its overall unit sales increase. An AMD representative declined to comment on financial matters ahead of the company's earnings announcement.

All eyes will be on AMD's public statements during its January 23 conference call with financial analysts, who appear none too pleased that AMD followed up an upbeat analyst meeting with an earnings warning. AMD still believes it can grow faster than the overall market and take share from Intel during 2007, citing increased demand for its products among corporate customers and the boost from Dell.

But with Intel no longer shooting itself in the foot trying to promote inferior products, and quad-core AMD products not expected to arrive until midyear, the tables appear to have turned on the smaller chipmaker.

CNET News.com's Ina Fried contributed to this report.