Semiconductor Equipment - Berenberg Bank

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Applied Materials Inc Technology Hardware Recovery and growth priced in • We initiate coverage on Applied Materials (AMAT) with a Hold recommendation and a price target of $14.4. AMAT supplies equipment used in semiconductor, flat panel display (FPD) and solar cell manufacturing processes. Our Hold rating is based on the following. 1) AMAT only addresses 72% of the total wafer fab equipment (WFE) market (Gartner data), and would need to gain a 3-6% market share from its current customer base to gain a further 2- 4% total share by 2016, as targeted by management. We consider this to be a challenging target as the market is highly consolidated and AMAT’s competitors – LAM, TEL and KLA – are all trying to expand/maintain their market share. 2) We think that at the $16.5 share price level, much of the good news such as cost savings and WFE market share gain opportunities is priced in. • Key debates: 1) Can AMAT achieve a 4% WFE share gain by 2016? 2) Will AMAT be able to gain market share in the process control market from its competitor KLA? 3) Can management deliver the 5% opex cut as targeted by 2016? 1. We expect AMAT to only gain a 1% share by 2016, as: a) its WFE market share has never reached 22% in the past 10 years; b) it would need to gain a 3-6% share from its current customer base to reach the target, as it only addresses 72% of the WFE market; c) its potential share gain from etching and process control only translates into a 1% total WFE share gain by 2016, according to our calculations. 2. We think AMAT can gain up to a 5% market share in process control by 2016 from its competitor KLA, given the recent release of its new Applied SEMVision G6 product and the new president’s experience in the process control market. 3. We believe the new president and CFO, both of whom had good track records at their respective previous posts at Varian Semi, will improve the likelihood of AMAT achieving is 5% opex cut target by 2016. • Our forecasts are in line with consensus. • We value AMAT on a P/E multiple basis: Our price target of $14.4 implies a P/E of 12x based on our 2014 EPS estimate of $1.2. The 12x P/E is the mid-point of the historical 10-14x multiple applied in the middle of the semiconductor recovery cycle. Hold (initiation) Rating system Current price USD 16.56 Absolute Price target USD 14.40 18/07/2013 New York Close Market cap USD 19,897 m Reuters AMAT.O Bloomberg AMAT US Share data Shares outstanding (m) 1,202 Enterprise value (USD m) 18,595 Daily trading volume 13,958,129 Performance data High 52 weeks (USD) 17 Low 52 weeks (USD) 10 Relative performance to SXXP NASDAQ 1 month 3.3 % 3.0 % 3 months 21.5 % 15.7 % 12 months 36.2 % 34.9 % Key data Price/book value 2.7 Net gearing 0.0% CAGR sales 2012-2015 3.4% CAGR EPS 2012-2015 173.6% Business activities: AMAT supplies semiconductor fabrication equipment, flat panel display fabrication equipment and solar PV manufacturing systems. Y/E 31.10., USD m 2011 2012 2013E 2014E 2015E Sales 10,517 8,719 7,784 9,438 9,626 EBIT 2,410 1,379 1,135 1,842 1,961 Net profit 1,928 109 451 1,382 1,471 Y/E net debt (net cash) -5,227 -1,046 -1,302 -2,268 -3,319 EPS (GAAP) 1.45 0.06 0.38 1.17 1.25 EPS (Proforma) 1.30 0.75 0.67 1.17 1.30 CPS 4.51 1.14 1.63 2.47 3.40 DPS 0.24 0.33 0.38 0.40 0.41 Gross margin 41.8% 40.9% 42.1% 43.7% 43.4% EBIT margin 22.9% 15.8% 14.6% 19.5% 20.4% Dividend yield 1.4% 2.0% 2.3% 2.4% 2.5% ROCE 21.9% 1.5% 6.1% 17.1% 16.7% EV/sales 1.6 1.9 2.2 1.8 1.7 EV/EBIT 6.9 14.5 16.4 9.4 8.1 P/E 11.4 269.3 43.9 14.2 13.2 Source: Company data, <strong>Berenberg</strong> 22 July 2013 Tammy Qiu Analyst +44 20 3207 2673 tammy.qiu@berenberg.com Jean Beaubois Specialist Sales +44 20 3207 7835 jean.beaubois@berenberg.com 92
Applied Materials Inc Technology Hardware Investment summary Our investment thesis on Hold-rated AMAT is based on the following five points. 1. We remain cautious about the likelihood of a 2-4% WFE share gain: We believe AMAT will gain a 1% share of the WFE market, rather than a 2-4% share, for the following reasons. From 2004 to 2012, AMAT’s share in WFE was between 15-20% (Gartner data), and it never gained more than 1.1% share within any three-year timeframe within that period. AMAT only addresses 72% of the WFE market (Gartner data), so to gain a further 2-4% share of the total market, it would need to gain by 3-6% from its current customer base. We consider this to be a challenging target as the market is highly consolidated and AMAT’s competitors are all also trying to expand/maintain market share. For example, LAM is aiming to gain a 3-5% etching share and a 4-8% deposition share, KLA expects its dollar amount market share to maintain, and TEL is aiming to expand its etching market share from 29% to 35% by 2015. In etching, we expect AMAT to gain a less than 1% market share through silicon etching expansion – which is less than a 1% WFE share. There are several reasons for the limited share gain: 1) all the main chip-makers are already penetrated by one/several equipment vendors; 2) AMAT benefits less from the 3D NAND-driven etching opportunity than LAM due to its lower memory exposure; 3) the etching market is becoming more competitive, with LAM aiming for a 3-5% share gain by 2016, and TEL is looking for a 6% gain by 2015. In process control, we expect AMAT to gain a maximum 5% of market share to reach its peak market share of 20% (which equates to a 1% WFE share) by 2016, as: 1) new president Gary Dickerson can leverage his 18 years’ experience at KLA to increase AMAT’s penetration; 2) it has a strong 60% position in the defect review market (however, this only amounts to a 6% share of the total process control market, hence it will be insufficient to drive a bigger market share gain); 3) AMAT is less experienced in process control compared with KLA and indeed lost a 7% defect review share to KLA in 2012 as KLA’s new tool is considered to be of superior quality. We do not think AMAT will gain etching and process control market share through acquisition: In our view, AMAT is only interested in chasing the market leaders, given its Varian acquisition. LAM and TEL hold the biggest etching market shares (47% and 29% respectively), and KLA holds the biggest process control market share, but we do not think AMAT is in a position to acquire LAM or KLA: LAM’s and KLA’s market caps are $8bn and $10bn respectively, which translate to 67% and 83% respectively of AMAT’s total balance sheet of $12bn. Having taken up ~$2bn debt to acquire Varian in 2011, we do not expect it to further stretch its balance sheet. We also think it unlikely that AMAT will buy TEL, as TEL is mainly exposed to the declining dielectric market. 2. WFE spending to reach $37bn by 2016: We expect AMAT’s semiconductor revenue to reach $6.7bn excluding any market share gain ($7bn including expected share gain) in 2016, thus exceeding the 2007 peak level of $6.5bn, driven by the strong WFE spending environment. AMAT is most closely linked to WFE spending among the front-end equipment vendors, due to its more diversified product portfolio and balanced revenue exposure to growth/declining markets compared to peers. 93
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