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Semiconductor WFE Stock Outlook: Looking Beyond COVID

Sejuti Banerjea

Wafer fabrication is a process during which a silicon wafer (usually 200mm or 300mm in size) is treated with successive layers of conductive and semiconductive material using stencil-like structures called reticles. After each deposition of material on the surface, the excess material is etched away and the wafer exposed to a light source to implant the design. This is the front end process. The back end process is involved in cutting up the individual die, packaging for protection and use, attaching of electrical leads and sorting.

So wafer fab equipment demand is dependent on the level of demand for semiconductors on the one hand and the level of installed capacity on the other.

Researchers have updated their forecasts for the wafer fab equipment spending environment.

Accordingly, Gartner is forecasting a 14.9% decline in 2020 following the 5.9% decline in 2019.

SEMI expects 3.0% growth in 2020 spending followed by 14% growth in 2021. Geographically-

Taiwan spending $14 billion (-5% in 2021),

Korea up 31% to $13 billion (26% in 2021), (Samsung and SK Hynix)

China 2020 spending up 5% to $12 billion (to grow 22% in 2021), (mainly Samsung, SK Hynix, SMIC and YMTC)

The Americas will be down 24% to $6.2 billion, (-4% in 2021).

Europe/Middle East 50% to $3.7 billion (another 50% in 2021), (Intel, STMicroelectronics and Infineon)

SE Asia (mainly Singapore) 33% to $2.2 billion, (26% next year)

Japan 2%, (4% in 2021), (mainly Kioxia/Western Digital, Sony and Micron)

The strongest product segment this year is expected to be memory with 3D NAND (up 12% in 2020 to $10 billion, up 40% in 2021) and DRAM (down 3% in 2020 to $11 billion, followed by 40% growth next year). Foundry spending will increase 3% to $22.6 billion and drop 7% in 2021. This will be followed by power which will grow 70% to $2.8 billion in 2020 and 31% in 2021. Finally, optoelectronics (mainly image sensors) will grow 110% in 2020 to $2.7 billion and 19% in 2021.

IC Insights expects a 3% decline this year due to a 15% spending cutback at Samsung, Hynix and Micron combined. The rest of the market is expected to grow 4%.

Semiconductor demand primarily comes from cloud (COVID-related acceleration), PCs (COVID-related acceleration), smartphones (demand is moderating), IoT (demand remains strong), artificial intelligence, HPC, automotive, communications infrastructure (5G, although there were some builds toward the end of 2019).

Here are the three main themes for the industry:

  • COVID has been both good and bad for the semiconductor industry, since it pushed up demand in some segments while depressing demand in others. The overall impact appears to be negative, particularly in the first half of the year. Market researchers are hugely divided on the impact, as seen above. While SEMI expects a strong second half rebound, Gartner appears to be less optimistic. IC Insights warns of a more significant impact if COVID isn’t tackled in the first half.
  • Semiconductor demand is the primary driver of equipment purchases, although new fabs also play a big role. SEMI says that 369 fabs are currently in equipping mode, of which 32 new fabs will be equipping this year, followed by 15 in 2021. Equipment demand tends to be relatively stable in times of short-term challenges because these are made with a longer-term objective. Memory typically makes up the largest part of WFE spending, so oversupply and softer pricing impacted sales in 2019. IC Insights currently expects all the three major memory makers to cut back spending.
  • China continues to play a big role (as both consumer and manufacturer) because of the government’s initiative to make the country a major producer of semiconductors. While there are political pressures from across the world, particularly from the U.S., the Chinese are very determined to get there and have their own global relationships and partners. America’s opposition to China’s stated goals are creating uncertainty.

Technology transitions, an important consideration for equipment purchases, will continue to respond to the move toward larger wafer sizes (fab upgrades to 300mm, as well as continued demand for 200mm), shrinking nodes (sub 10nm), memory chip advancements (3D NAND processes are maturing, driving down cost), denser packaging (MEMS) and so forth. Materials research, device complexities, the need for greater manufacturing integration and new applications are also important.

Zacks Industry Rank Is Encouraging

The Zacks Semiconductor Equipment -Wafer Fabrication Industry is a stock group within the broader Zacks Computer And Technology Sector. It carries a Zacks Industry Rank #47, which places it in the top 19% of more than 250 Zacks industries.

Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1. So the group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates relative stability going forward.

The industry’s positioning in the top 19% of the Zacks-ranked industries is a result of only slight deterioration in the 2020 earnings outlook of constituent companies in aggregate, despite the COVID crisis. The industry’s aggregate earnings estimate revisions for 2021 are up 28.5% in the past year, indicating solid underlying growth potential.

Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock-market performance and valuation picture.

Industry Outperforming on Shareholder Returns

The Zacks Semiconductor-Wafer fab Equipment Industry has outperformed both the broader Zacks Computer And Technology Sector as well as the S&P 500 index over the past year.

So we see that the stocks in this industry have collectively gained 61.5% over the past year, while the Zacks S&P 500 Composite and Zacks Computer and Technology Sector gained 10.0% and 26.2%, respectively.

While the industry is small, players like Applied Materials, Lam Research and ASML Holding NV are very important players. 

One-Year Price Performance

Industry’s Current Valuation

On the basis of the forward 12-month price-to-earnings (P/E) ratio, which is a commonly used method of valuing semiconductor equipment companies, we see that the industry is currently trading at 23.3X compared to the S&P 500’s 22.3X. However, it is lagging the sector’s forward-12-month P/E of 24.7X.

Over the past year, the industry has traded as high as 23.3X, as low as 17.9X and at the median of 20.8X, as the chart below shows.

Forward 12 Month Price-to-Earnings (P/E) Ratio

Bottom Line

As evident, the market has been hit with COVID-related uncertainties, despite there being strong underlying demand, some of which has been pushed back into 2021.  Still, wafer fab equipment is a relatively stable segment given the long-term focus of players.

There aren’t many stocks worth buying at this stage though because there’s no denying the 2020 uncertainty. With that caveat, you may want to invest in Applied Materials (AMAT), which has gained 43.1% over the past year. The Zacks #2 (Buy)-ranked stock has seen a 7 cent (1.9%) increase in its 2020 EPS estimate in the last 30 days. Its 2021 estimate is up 5 cents (1.2%).

Price and Consensus: AMAT

If SEMI estimates hold good and 3D NAND really experiences the kind of strength expected, Lam Research (LRCX) could be something worth considering. The Zacks #3 (Hold)-ranked stock has gained 59.0% over the past year. Its 2020 and 2021 estimated EPS (year ending June) have been stable in the last 30 days.

Price and Consensus: LRCX

Another Zacks #3 Ranked stock Advanced Energy Industries (AEIS) has gained 35.6% over the past year. The Zacks Consensus Estimate for the 2020 EPS is up 27 cents (10.8%) in the last 30 days.

Price and Consensus: AEIS

These Stocks Are Poised to Soar Past the Pandemic

The COVID-19 outbreak has shifted consumer behavior dramatically, and a handful of high-tech companies have stepped up to keep America running. Right now, investors in these companies have a shot at serious profits. For example, Zoom jumped 108.5% in less than 4 months while most other stocks were sinking.

Our research shows that 5 cutting-edge stocks could skyrocket from the exponential increase in demand for “stay at home” technologies. This could be one of the biggest buying opportunities of this decade, especially for those who get in early.

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