Applied Materials Inc.

 

AMAT, or Applied, as it is often called, has been delivering very strong results, it has historically been very cyclical and it likely will be again making it a tricky company to "value".  Cyclical companies typically look cheap when earnings are at cyclical highs.  AMAT makes equipment to manufacture semiconductors and digital displays which have been getting more difficult to manufacture as the building blocks get smaller.  And while this industry is cyclical, it's also a long-term growth industry.  AMAT is literally enabling faster and more powerful chips that are more energy efficient and displays that have sharper images and lower power consumption.  In a sense, AMAT is an arms dealer and although they are not the only one, their competitive positioning is very strong.  They are a well-managed company and have a strong balance sheet to help them navigate cycles.   

Ests:     3Q19   4Q19   FY19    FY20

Revs    3.52b   3.64     14.5b   15.8b

EPS      0.70     0.75     2.98     3.64

 

P=47.16, Div=0.84, yield=1.8% slight net debt, excess NWC 2.79/sh, TTM EPS=3.39, P/E=14X, FY20 P/E=13X

 

Exited position Sept 30, 2019

Stock has posted strong recovery since December but business has weakened more than management expected and appears to continue weakening. MU last week cut their capex outlook for semicap equipment next year, further pressuring or delaying AMAT’s recovery.  I still like AMAT and look forward to coming back however I couldn’t justify a name in such a precarious position as being my largest holding so I’m locking in my gains and exiting. 

3Q19   .74 vs 1.04, -29%, est .70

  • Aug 15, 2019, P=47.16, TTM EPS 3.39, P/E=14X

  • Revs -14% to 3.56bn, GM 44% vs 45.9%, OM 23% vs 27.4%, OpInc -28% 

  • Semi Systems -11.8% to 2.27bn, AGS -2.2% to 931m, Display -45% to 339m, 

  • In Semi Systems, Foundry and Logic +20% y/y but -12% q/q, DRAM -5% y/y but +56% q/q, Flash -46% y/y but +4% q/q

  • Solid CFO and FCF.

  • 4Q Outlook: Revs ~3.685m (-8%, est 3.64bn), est .72-.80, (-26% to -18%, est .75)

  • Guidance factors Semi Systems ~2.25bn, AGS and Display up q/q, think 

  • Mgmt feels semiconductor and display markets are largely unchanged from 2Q, memory spending has softened slightly.  Mgmt optimistic about 2020, expect NAND investments to recover before DRAM.  Foundry and logic have strengthened as the year progressed.  

  • Mgmt discussed new 3D memory types of memory like MRAM, PCRAM, and ReRAM which are incredibly challenging to make, recently introduced one of the most sophisticated products they ever created to combine many technologies into 1 integrated system (Integrated Materials Solution) which has 9 different wafer processing locations, each chamber can deposit up to 5 different materials. 

  • Results a bit better than expected, guidance is for slight sequential improvement.. could be the bottom although mgmt. is not ready to call the bottom.  Stock selling off due to comments re memory recovery a 2020 event rather than 2019 and expect a u-shaped recovery (rather than a dramatic recovery) partly due to conservatism around macro environment, more importantly to me the business appears to be in a bottoming/stabilizing phase and the stock is attractively priced based on annualized rates of current earnings (4*.74=2.96 putting a P/E at 16X).

Mid Quarter Update July 1, 2019

  • To Acquire Kokusai Electric for $2.2bn, immediately accretive to EPS, expect closing ~12m

  • High-productivity batch processing systems and services for memory, foundry, and logic customers

  • Increases Applied Global Services business, strengthens customer support capabilities

2Q19   .70 vs 1.19, -41%, est .66 down from .78

  • May 16, 2019, P=41.66, TTM EPS=3.69, P/E=11X, FY20 P/E=11X

  • Revs -23% to 3.54bn, -6% q/q, (est 3.5bn), GM 43.5% vs 45.9% OM 22.4% vs 29.3%, OpInc -40.8%

  • Semi Systems -25% to 2.18bn, AGS +4.1% to 984m, Display -52% to 348m

  • Repurchased $625m in shares, 1.4bn YTD

  • 3Q Outlook: Revs ~3.53bn (est 3.5bn), EPS .67-.75 (est .69)

  • Outlook implies stability, possibly bottoming although mgmt. says “we are still not ready to call the bottom” (semi industry bottom, not theirs). Mgmt expects 2020 to more positive setup for industry spending and for Applied, very optimistic about longer term.  

  • Mgmt thinks NAND prices are stabilizing, while inventories have come down, still above normal. DRAM is not as far along the correction with prices still falling and high inventories.  Expect inventory levels to normalize as the year progresses, creating a more favourable environment for capacity investments in 2020.  See WFE spending up in 2020, do not see memory spending recovering in FY19 but see it recovering in 2020.  

  • Now expect foundry and logic spending up y/y (vs previous expectation of flat to slightly up)

1Q19   .81 vs 1.08, -25%, est .79 down from .92

  • Feb 14, 2019, P=40.71, TTM EPS 4.18, P/E=10X, FY19 P/E=12X 

  • Revs -11% to 3.75bn, GM 44.6% vs 47.2%, OM 24.6% vs 30.1%, OpInc -27% to 925m

  • Semi Systems -20% to 2.27bn, AGS +9% to 962m, Display +14% to 507m

  • In Semi Systems, Foundry, Logic and Other -5% to 44%, DRAM -36% to 21%, Flash -25% to 35%

  • FCF was used to buy stock and pay divs

  • Guidance: 2Q Revs 3.33-3.63bn (-27% to -21% y/y, -11% to -3% q/q, est 3.69bn), EPS .62-.70 (-49% to -43%, est .78), now mgmt. expects FY19 EPS below FY17

  • Guidance still not yet demonstrating a bottom but could be moderating the q/q declines.

  • Mgmt growing more cautious, seeing further pullback in customers’ investments, see shallow and gradual recovery in 2020, mgmt. not calling a bottom yet (again). Mgmt expects their market share in 2019 will be down as investments shift to areas they don’t compete like EUV, still very excited about future positioning. 

  • Customers spending: expect wafer fab spending in 2019 to be down mid-high teens %, now lower than 2017, with Foundry and Logic > Memory (vs 40/60 in CY18), believe investment by memory customers will be down substantially in 2019 but normalizing inventories positioning for favourable 2020, Foundry and Logic see flat to slightly up on long lead time equipment like EUV (AMAT headwind) which positions for future investments on process tools (AMAT tailwind). Display down about 1/3 as some projects pushed out into 2020, 2Q Display to be significantly lower than average rate for the year.  

  • NAND inventories are falling but still above normal, seeing disciplined capacity investment

  • More than half of customers’ investments this year being driven by non-smartphone drivers (cloud data centres, IoT devices, 5G, automotive).

4Q18   .97 vs .93, +4%, est .97 down from 1.17, FY18 EPS=4.45 vs 3.25

  • Nov 15, 2018, P=35.02, TTM EPS=4.45, P/E=8X, FY19 P/E=8X

  • Revs 4.01bn, GM 45.5% vs 46.2%, OM 26.6% vs 28.7%, OpInc -6%, EPS +4% on lower share count

  • Semi Systems -5% to 2.3bn, AGS +17.5% to 977m, Display +3.7% to 702m

  • Inventories up slightly q/q to 3.7bn

  • 1Q19 Guidance: Revs 3.56-3.86bn (-15% to -8% y/y, est 3.94bn), EPS .75-.83 (-26% to -19%, est 0.92), mgmt. expects AGS and Display to both be up y/y while Semi Systems -21% y/y although they still expect Display down 15-20% for FY19 (still higher than FY17) as discussed in 2Q18 

  • Backlog >6bn

  • Guidance down q/q vs prior expectation of up due to U.S. ban on exports to Fujian Jinhua otherwise guidance would have been up q/q.  Based on conversations with customers, feel Semi Systems 1H19>2H18 but because of various uncertainties mgmt. is being prudent in setting expectations, even if there’s a gradual recovery off 1Q they expect higher earnings than in FY17.  Long term trends still intact as long as economy doesn’t deteriorate.

Still feel combined 2018/2019 wafer fab spending will be around $100bn but now expect 2018 slightly higher than 2019.  

2Q18   1.22 vs .79, est 1.14 up from 1.02, 5.7% tax rate

  • Revs +29% to 4.57bn, just above top end of guidance, GM 46.7% vs 46.3%, OM 30.2% vs 27.8%, OpInc +40% to 1.38bn, inventories up 369m q/q to 3.5bn

  • 3Q Guidance: Revs 4.33-4.53bn (+15-20%, est 4.53), EPS 1.13-1.21, est 1.16

  • Solid results, stock has been flat since mid-October, stock weak after hours as guidance is for a q/q decline, coupled with q/q rise in inventories (mgmt. indicated to keep customer service levels high) could feed fears of a peak in revs/earnings.

  • Mgmt. expects 3Q semi system revs down q/q but 4Q up from 3Q, display revs in 2H>1H, seeing shift in OLED orders so expect FY19 display revs down 15-20% but higher than FY17, still see strong wafer spending, strong services rev growth, feel they are well on their way to delivering over $5/share in EPS by 2020, still see strength in DRAM and NAND, see customers being rational.

  • Despite smartphone weakness, customer forecasts indicate annual growth of 35% for NAND and 20% for DRAM for the next 3 years.

  • DRAM for Data centers is growing ~75% faster than mobile and could become the largest DRAM consumer in 3-5 years.

  • Mgmt laid out a case that if industry semi system spending wafer fab equipment (WFE) declined in 2019 to $40bn, and display was down as they expect, with services growing they would see earnings higher than 2017 although they do not subscribe to that view.

  • Underlying growth trends in place but a near-term pause or decline in revs is very possible especially after such strong growth, fears of a turn in the cycle could be punishing but that would also present opportunity, bearish investors won’t care about the P/E.

1Q18   1.02 vs .67 ex .04 tax benefit, est .98 up from .91

  • Stock 10% below when it reported 4Q17, doubled dividend to $0.80 and increased share repurchase authorization by $6bn from 2.8bn remaining – MGMT CONFIDENCE.

  • Revs +28% to 4.2bn, GM 46.7% vs 45.4%, OM 29.6% vs 26.0%, OpInc +46.2%

  • Mgmt is confident each of their 3 business units can deliver strong double-digit growth in FY18

  • New AI server architecture has up to 8X the logic and 4X the memory of traditional enterprise servers, autonomous vehicles to have significantly more silicon than cars today. In Display, Gen 10.5 substrates for TV mfng and mobile OLED displays driving large inflections. Services business also growing on larger installed base, equipment on long-term svc agreements.

  • Guidance: 2Q Revs 4.35-4.55bn (midpoint +26%, est 4.2), EPS 1.10-1.18 (midpoint +44%, est 1.02), At end of 2016, they thought 2017 and 2018 combined spending would be >90bn, think 2018 and 2019 could be ~100bn

  • Excellent results and growth trends, valuation is cheap indicating investors are concerned about a rollover in the cycle which is possible because growth is not necessarily a straight line but so far business is broadly based and end-markets remain strong.

4Q17   .93 vs .66, est .91 up from .82, FY EPS 3.25 vs 1.75

  • Revs +20% to 3.97bn, GM 46.2% vs 43.7%, OM 28.7% vs 25.2%, OpInc +36.8%, Backlog 6.0bn vs 4.6bn, company reiterated broad based multi-year demand drivers.

  • 1Q Outlook: Revs 4-4.2bn, EPS .94-1.02 (est .91)

  • Continued excellent results, stock traded up after the last quarter and has been slightly up over the past month. Valuation still very attractive unless business trends start to decline, definitely something to keep an eye on but business drivers are much more pervasive than when they were mostly exposed to the PC cycle.

3Q17   .86 vs .50, est .84 up from .69

  • Revs +33% to 3.77bn, GM 46.6% vs 43.7%, OM 28.7% vs 22.8%

  • 4Q Outlook: Revs 3.85-4.0bn (est 3.71bn), EPS .86-.94 (vs .66, est .82)

  • The stock is pretty much flat from 3 months ago but during that period, EPS estimates increased meaningfully. AMAT seems reasonably valued but the fear is that their growth will soon come to an end and a cyclical decline will begin. Company very confident they will continue to grow, this is the 5th consecutive “record quarter”. Their markets are getting “materially and sustainably” larger, broader, and less cyclical especially with the advent of the Internet of Things (IoT), big data, and AI, in short getting more complex driven by technology inflections. Memory fundamentals remain strong and investment is expected to continue, see logic growing at least twice as fast as memory. Mgmt increased their estimate for FY17 wafer fab spending and they expect FY18 to be above FY17, seeing multi-year investments, smartphones and servers driving demand (solid state drives or SSDs). Their expectations for display equipment for the total market have gone up for the next 5 years from 3 months ago. Mgmt spending more time looking at the root drivers of demand.

2Q17   .79 vs .34, est .76

  • Revs +45% to 3.55b, GM 46.3% vs 42.7%, OM 27.8% vs 19.2%

  • Solid results across all 3 segments, Semi Systems +51.5% to 2.4bn, AGS +14.4% to 724m, Display +109% to 391m, All geos up except for China and SE Asia

  • 3Q Guidance: Revs 3.6-3.75bn (est 3.4, @ midpoint +30%), EPS .79-.87 (est .69, @ midpoint +66%))

  • Solid results and guidance, strength continues as companies push to advance their technologies, driving high level of investment (AMAT has been putting up new records) across their segments. It’s difficult to determine where the top of the cycle is because there is cyclicality mixed with secular trends. The company feels that the market has changed, traditionally their business was driven by PC cycles while today it’s driven by a wider spectrum of companies and industries investing in semiconductor and display technology including more pervasive consumer demand of smartphones resulting in the business being less cyclical. For example, the applications for memory are expanding beyond traditional computer like devices, the growing cloud will need more memory in addition to industrial technology as well as automobiles, these are very early stages of markets that could dwarf current markets.

1Q17   .67 vs .26

Revs +45.2% to 3.3bn, Orders +86% to 4.2bn, B/B=1.29, GM 45.4% vs 42.4%, OM 26% vs 17.8%

Guidance: 2Q Revs 3.45-3.6bn (midpoint +44%), EPS .72-.80 (midpoint +124%)