Big data and artificial intelligence (AI) are the future of business with their potential economic value being worth trillions in the years to come. Applied Materials AMAT is dedicated to being an integral part of this next wave of technology. Applied is the global leader in semiconductor equipment to manufacture integrated circuits, AKA semiconductor chips.
Applied Materials is releasing its July quarter earnings after market close on Thursday, August 15th. AMAT has been a big mover on recent quarterly earnings releases, with the last 6 reports moving the share price 6.6% on average (3 up, 3 down). Analysts are estimating an EPS of $0.70 on sales of $3.53 billion, which would represent a decline of 41.7% and 21% respectively. Applied has beaten both top and bottom-line estimates for the past 8 consecutive quarters. A miss on either metric would likely lead to a slide in share price.
This decline is due to a cyclical demand decrease in the semiconductor space driven by a deterioration in crypto-mining, smartphone sales decline, as well as an industry wide boom in 2018 that would be hard-pressed to repeat two years in a row. This slowdown is expected to reverse in 2020.
Applied Materials provides equipment for manufacturing semiconductors and displays. The company also provides equipment part replacements, servicing and refurbishing. Applied has a roughly 20% share of the semiconductor equipment market. This is a vastly competitive space that forces companies like Applied to continue to drive innovations to keep up with shifting chip making demands.
We are on the cusp of the next wave of technology taking over the tech industry as advancements in big data and AI begin to drive themselves. 2018 was the first year that machines generated more data than humans, according to Applied Material’s 10K. This marks the start of a computer dominated economy, and this company is part of its foundation.
“Improving chips in the A.I.-Big Data era calls for innovations in chip architecture, 3D techniques, novel materials, new ways to continue shrinking transistors, and advanced packaging techniques that connect chips together in new ways.” According to Applied’s annual report, the firm is positioned well for this next wave of customer needs.
As of the end of 2018, Applied’s most prominent customers include Samsung, TSMC TSM, and Intel INTC with these firms making up 35% of its total sales.
Taiwan Semiconductor Manufacturing Company (TSMC), the leading semiconductor foundry in the world, is in the process of building out its 5nm transistor node line, the highest transistor density commercially produced chip. Applied Materials is a major equipment supplier to TSMC, and I would expect that as demand for this technology expands so will the need for Applied’s applicable manufacturing equipment.
Most of Applied Material’s sales are made in China (28%) followed by Taiwan (22%) and Japan (15%). Only 13% of last quarter’s sales were made within the US. A continuation/escalation of the US-China trade war could weaken this firm’s topline.
Performance & Valuation
AMAT has rallied 42% so far in 2019, substantially outpacing the broader market as well as the semiconductor equipment industry. Applied has been trading at a forward P/E right around its 5-year median and below the semi equipment industry. Here is a year-to-date performance chart of AMAT and the broader market.
The company is expected to grow its topline in excess of 8% over the next couple of years starting in 2020 with margins expanding even further.
Applied Material’s has been the global leader in semiconductor equipment for years, and I don’t expect that to change as they have close ties with the world’s largest chip manufacturers.
In this upcoming earnings report on Thursday evening, look for management to provide guidance on how they see the semiconductor market performing over the next few years. Watch for any color management offers in their earnings call about the next generation of 5nm equipment in connection with TSMC. With their consistent beats on both EPS and sales, a miss would likely have a negative price impact.
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