News from WSJ,
The Wall Street Journal Interactive Edition -- December 24, 1997
Analysts Say Applied Materials Looks Attractive After Turmoil
By MARK VEVERKA and DEAN TAKAHASHI
A bout of Asian flu at Applied Materials may provide bargain
hunters with a healthy buying opportunity.
The Santa Clara-based maker of semiconductor equipment is what
portfolio managers call a "technology leader," or one of the
top-performing companies in its sector. In fact, just as Intel
dominates the chip segment and Compaq is a leader among makers
of personal computers, Applied Materials is the front-runner of its
group, with 13% of a $34 billion market.
Applied Materials
Business: Maker and seller of machinery used to manufacture
semiconductors
Corporate headquarters: Santa Clara
Year
1997
(Oct. 26)
1996
(Oct. 27)
Revenue
$4,074,275,000
$4,144,817,000
Net Income
498,474,000-a
599,585,000-b
Per-share earnings
1.32-a,c,d
1.63-b,d
Fourth quarter
Per-share earnings
0.47-c,d
0.20-b,d
Trailing P/E: 22 Dividend yield: Nil
a-Includes pretax income of $80 million on a litigation settlement; a
$59.5 million charge for acquired in-process research and
development; and a pretax bad-debt expense of $16.3 million.
b-Includes a pretax charge of $25.1 million for restructuring.
c-Includes an $11 million pretax charge on a litigation settlement.
d-Earnings reflect a 2-for-1 stock split on Oct. 13, 1997.
And conceivably, Applied Materials could take advantage of the
current industry-wide slump to get even bigger. During past
downturns, the company has used its strong cash position to buy
hard-hit rivals, allowing it to keep grabbing market share as others
were slipping. Applied notes that it currently has $1.5 billion in
cash, a handy war chest to pick off competitors with low stock
prices.
But in the meantime, Applied's own stock price has swooned,
falling to around $29 now from its 52-week high of about $54 on
Aug. 20. (Prices have been adjusted to reflect a 2-for-1 stock split in
October.)
Rebound Play
The upshot, according to analysts and portfolio managers:
Investors with long-term horizons and strong stomachs may be
wise to play the likely rebound of semiconductor capital-equipment
stocks by placing their bets on Applied Materials.
"When investors come back to the group, the first stock they'll come
back to is Applied," says analyst Milind Bedekar of Prudential
Securities in San Francisco, who rates the stock a "buy" with a
12-month price target of $ 41.
Of course, while bullish over the long term, Mr. Bedekar and most
of his peers have reacted strongly to the Asian financial crisis. Last
week, Mr. Bedekar slashed Applied's per-share earnings projection
for fiscal 1998 about 20% to $1.79. The Wall Street consensus for
the year ending next October is $1.99, according to First Call.
So dire is the situation in South Korea -- where critics say
government-subsidized chip plants have expanded too fast and have
undercut pricing -- that Mr. Bedekar predicts most orders from
there will be postponed or canceled outright in 1998. That, he
figures, will cost Applied about $350 million in fiscal-year revenue.
"Korea is completely shut down," says Mr. Bedekar, whose
stock-price target for Applied prior to revising his forecast was $57.
At the same time, he predicts that problems in Japan and other
countries will shave another $300 million or so in fiscal 1998 sales.
Still, Mr. Bedekar is forecasting that Applied can outperform most
of its competitors and record a 21% jump in 1998 revenue to $4.95
billion. Analyst Jay Deahna, of Morgan Stanley Dean Witter in San
Francisco, predicts that Applied will muster at least 10% annual
revenue growth despite all the economic chaos overseas.
'Proxy for Growth'
"We see Applied as a powerhouse equipment company ... viewed as
a proxy for growth for the industry," says Mr. Deahna, who rates
the stock a "strong buy" with a 12-month price target of $40.
Like most industry observers, Mr. Deahna understands why
semiconductor-equipment stocks needed to fall in reaction to global
financial turmoil and potential softness in personal-computer sales
(a bellwether for the equipment companies). But he contends that
fearful investors have meted out too harsh a punishment on
Applied's stock price.
Overall, the stock market has pounded Applied shares down about
46% from their high -- more than twice the percentage by which
most Wall Street analysts have downgraded their earnings estimates.
"On that basis, the long-term franchise value of Applied is overly
discounted," Mr. Deahna says. (It should be noted that Morgan
Stanley Dean Witter has performed investment-banking functions
for Applied in recent years.)
Indeed, Applied's price is plenty cheap. But has it hit bottom?
Mr. Deahna contends that investors are beginning to take their daily
doses of bad news in stride, and that the market "is getting pretty
close to the bottom." He says when SoundView Financial, a
Stamford, Conn., brokerage firm, downgraded Applied to a
"short-term hold" last week, the market ignored the news and bid
the stock up almost two points to more than $28.
Bad News to Come?
To be sure, there could still be plenty of bad news to come for
semiconductor-equipment makers, especially over the next six
months. Nobody knows for sure whether the recent spate of
downward revisions for the industry went far enough.
"It's as murky as it gets out there," warns analyst Sue Billat of Banc
America Robertson Stephens in San Francisco, who rates Applied
"long-term attractive" with a 12-month target of $43.
Meanwhile, those indicators that are clear don't look positive. The
Semiconductor Equipment and Materials Institute, an industry
trade group, recently announced that its key book-to-bill indicator
for capital-equipment firms dropped to 0.99 in November, the first
dip below 1.0 in 12 months. A ratio below 1.0 means shipments
exceeded orders, and generally bodes ill for the industry.
News on the personal-computer front hasn't been much better.
Memory-chip maker Micron Technology of Boise reported that
prices for dynamic random access memory chips -- the most
popular kind used in PCs -- are still falling despite a 93% drop over
two years. That suggests memory-chip makers may delay buying
new equipment in 1998.
On top of that, there are legal woes; at least one rival, Palo
Alto-based Varian Associates, has filed an antitrust complaint
against Applied.
Missed Opportunity
So, with all the uncertainty out there, why not wait?
Because you may miss the train, says Kevin Landis, co-portfolio
manager for the Technology Value Fund in San Jose. History, he
argues, has shown that investors tend to get back into this group six
to nine months before the fundamentals actually show signs of
improvement.
"More than any other type of companies, these stocks start to get
bid up before the good news starts being reported," says Mr.
Landis, who is eyeing Applied for his firm's new fund of technology
leaders.
In autumn 1996, stocks of chip-equipment companies took off only
a month or so after analysts had cut their earnings estimates. The
rally came well before the companies, including Applied, began
posting better results.
"I was basically left out of that run," Mr. Landis says. "And I'm
concerned that it might happen again."
***
In Play: Pacific Scientific's stock soared about 41% to close last
week at $21.687 after Kollmorgen of Waltham, Mass., launched an
unsolicited bid of about $20.50 a share for the Newport Beach
company. Earlier this week, Pacific Scientific announced that it was
rebuffing the bid and soliciting offers from other suitors.
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