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Applied Materials: Navigating the Future of Semiconductor Innovation.

Opdateret: 11. feb.


Applied Materials manufactures equipment for the rapidly expanding semiconductor industry. Applied Materials believes that the market for equipment will grow as fast, or faster, than the market for semiconductors because the industry roadmap is becoming more complex, and chipmakers need to deploy more technology to transition from one generation of chips to the next. Is now the right time to invest in Applied Materials? This is what I will investigate in this analysis.


This is not a financial advice. I am not a financial advisor and I only do these posts in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.


Since attending the workshop with Phil Town, I have decided to make some changes to the layout of my analyses. I will perform additional calculations and also provide a brief explanation of why the company is significant to me. If you want to learn more about my company evaluation process, please visit the "MY STRATEGY" section on my website.


For full disclosure, I should start by mentioning that at the time of writing this analysis, I do not own any shares of Applied Materials. If you would like to view the stocks in my portfolio or copy my portfolio, you can do so on eToro. Instructions on how to do so can be found here. I don't own any stocks in Applied Materials' competitors either. Thus, I have no personal stake in Applied Materials. If you want to purchase shares or fractional shares of Applied Materials, you can do so through eToro. eToro is a highly user-friendly platform that allows you to start your investment journey with as little as $50.



Applied Materials was founded in 1967 in California, United States. Applied Materials provides manufacturing equipment, services, and software to the semiconductor, display, and related industries. Their products and services improve device performance, power, yield, and cost. Their clientele comprises manufacturers of semiconductor chips, liquid crystal displays, organic light-emitting diode (OLED) displays, and other electronic devices. Applied Materials has three reportable segments: Semiconductor Systems, Applied Global Services, and Display and Adjacent Markets. The Semiconductor Systems segment, which accounts for 75% of the company's revenue, is responsible for developing, manufacturing, and selling a diverse array of manufacturing equipment used in the fabrication of semiconductor chips. This equipment is utilized for various stages of the chip-making process, including depositing thin film layers, etching patterns, adding dopants, modifying film properties, and cleaning wafer surfaces. The Applied Global Services segment, which accounts for 22% of revenue, offers integrated solutions to enhance equipment and fab performance and productivity. This is achieved through a wide range of services including equipment installation, maintenance, upgrades, and repair. The Display and Adjacent Markets segment, which accounts for 3% of revenue, primarily consists of products for manufacturing liquid crystal displays (LCDs), organic light-emitting diodes (OLEDs), and other display technologies used in TVs, monitors, laptops, personal computers (PCs), electronic tablets, smartphones, and other consumer-oriented devices. Their largest market is China, which contributes 27% of the revenue. Taiwan accounted for 21% of the revenue, followed by South Korea at 17% and the United States at 15%. Applied Materials has established relationships with semiconductor manufacturers, demonstrating a strong distribution network and customer loyalty, which is what gives Applied Materials its moat.


Their CEO is Gary Dickerson. He joined Applied Materials in 2011 when the company acquired Varian Semiconductor Equipment Associates, where Gary Dickerson serves as CEO. He held various leadership positions until he became the CEO and a member of the Board of Directors in 2013. Prior to joining Varian Semiconductor Equipment Associates, Gary Dickerson held leadership positions at KLA-Tencor Corporation, General Motors, and AT&T Technologies. He holds a Bachelor of Science degree in Engineering Management from the University of Missouri, Rolla, and an MBA degree from the University of Missouri, Kansas City. Gary Dickerson has extensive experience in the semiconductor industry and a proven track record of achieving profitable growth, gaining market share, and earning recognition for outstanding customer satisfaction. He has also been recognized as one of the top-performing CEOs by Barron's, Forbes, and the Harvard Business Review. He is known for prioritizing new product development, which is why he has increased research and development (R&D) spending at Applied Materials. This research and development (R&D) spending has resulted in excellent outcomes for shareholders. Over the past 10 years, Applied Materials has achieved a compound annual growth rate of over 13% in revenue, nearly 30% in non-GAAP EPS, and 33% in free cash flow. The only concern about Gary Dickerson is that Applied Materials has received a subpoena from the U.S. Attorney's Office for potentially evading export restrictions to China. Nonetheless, Gary Dickerson has done a remarkable job at Applied Materials, and I have confidence in his ability to lead the company in the future.


I believe that Applied Materials has a moat, and I also hold a high opinion of their management. Now, let us analyze the numbers to determine if Applied Materials meets our criteria for possessing a strong competitive advantage. In case you want an explanation of what the numbers represent, you can refer to "MY STRATEGY" on the website.


The first metric we will investigate is the return on invested capital, also known as ROIC. I would like a 10-year history with all figures showing growth of over 10% for each year. Applied Materials has consistently achieved a Return on Invested Capital (ROIC) of over 10% for the past ten years. It is even more impressive that the return on invested capital (ROIC) has been above 20% since 2017 and above 30% since 2021. ROIC decreased slightly in 2023, but I am not worried about it because 2023 has been a challenging year for most companies. Despite this, Applied Materials still managed to deliver a ROIC above 30%. All in all, Applied Materials has consistently delivered impressive financial performance over the years, and these numbers should pique the interest of every investor.



The following numbers represent the book value + dividend. In my previous format, this was referred to as the equity growth rate. It was the most significant of the four growth rates I used in my analyses, which is why I will continue to use it in the future. As you are accustomed to seeing numbers in percentage form, I have decided to provide both the actual numbers and the year-over-year percentage growth. Overall, the figures appear satisfactory. Applied Materials has experienced a decrease in some years, but it is not something I'm worried about. It is worth noting that the figures have reached a new peak since 2020, and it is encouraging that Applied Materials has achieved its highest numbers in the past year.



Finally, we will analyze the free cash flow. Free cash flow, in short, refers to the cash that a company generates after covering its operating expenses and capital expenditures. Levered free cash flow margin is used because I believe that margins provide a better understanding. Free cash flow yield refers to the amount of free cash flow per share that a company is expected to generate in relation to its market value per share. It is not surprising to see that Applied Materials has consistently produced positive free cash flow every year for the past decade. Looking at the actual numbers, we see that Applied Materials generated its highest free cash flow ever in fiscal year 2023, which is encouraging. The levered free cash flow margin was also higher than in any other year in the past ten years, which is something I really like to see as the company is becoming more profitable. The free cash flow yield is slightly lower in fiscal year 2023 than in fiscal year 2022, but it is not as low as it was in 2021. However, the free cash flow yield is still below the ten-year average, suggesting that the shares are not trading at a discounted price. However, we will discuss this further in the analysis.



Another important aspect to consider is the level of debt. It is crucial to determine if a business has manageable debt that can be repaid within a three-year period. We calculate this by dividing the total long-term debt by earnings. After performing the calculation on Applied Materials, I found that the company has 0,8 years of earnings in debt. It is within the three-year timeframe, so debt is not a concern for me.



Based on my findings so far, I believe that Applied Materials is an intriguing company. However, no investment is without risk, and Applied Materials also has its fair share of risks. One risk is macroeconomics. In its annual report, Applied Materials mentions that it is exposed to risks associated with an uncertain global economy. The reason for this is that Applied Materials depends on semiconductor production for selling equipment and providing spare parts and upgrades for existing equipment. If there is a prolonged slowdown in the global economy, consumers will buy fewer products that use semiconductors. As a result, Applied Materials' customers may produce fewer semiconductors, potentially leading to delays in purchasing new equipment or updating old equipment. Regulations. Applied Materials are subject to regulations. Recently, the United States has imposed export restrictions on semiconductors and semiconductor equipment to China. China is Applied Materials' largest market. Although management has stated that they currently see no additional material impact from the regulations on Applied Materials, this may change in the future if new regulations are imposed. Furthermore, Applied Materials has received a subpoena from the U.S. Attorney's Office for potentially evading export restrictions to China. It is alleged that the company should have sold products to China through a subsidy in South Korea. The impact of the subpoena on Applied Materials, if any, is currently unknown, but it is worth monitoring. Competition. In its annual report, Applied Materials mentions that it operates in a highly competitive environment where innovation is crucial. The company's future success depends on various factors, including the development of new technologies, effective commercialization, customer acceptance of its equipment, services, and related products, as well as its ability to strengthen its position in current markets, expand into new and adjacent markets, and optimize operational performance. Therefore, Applied Materials will need to continue innovating in order to remain competitive.


There are also many reasons to invest in Applied Materials. One reason is that they are operating in a rapidly expanding market. The semiconductor industry is expected to grow at a compound annual growth rate of 12,2% until 2029. It is widely expected that semiconductor industry revenue will reach $1 trillion within the current decade. The growth in the industry will benefit Applied Materials. Furthermore, Applied Materials has stated that they expect semiconductor equipment to grow as fast as or faster than the market for semiconductors. This is because the industry roadmap is becoming more complex and chipmakers need to deploy more technology to move from one node to the next. Furthermore, Applied Materials believes that it will grow faster than the general semiconductor equipment market because it has the broadest, most connected, and most enabling portfolio of solutions. The Applied Global Services segment is expected to grow. In fiscal 2023, Applied Materials' total installed base increased by 5% and is now more than twice as large as that of their nearest competitor. It means that there has been an increase in the demand for services. Applied Materials is expanding its long-term service subscription agreements, which currently account for 63% of their total parts and service revenues. The renewal rate for these subscriptions is at 90%. This indicates that Applied Materials is increasing their recurring subscription revenue. Furthermore, management has stated that they will improve margins in the service business and are committed to achieving a low double-digit growth rate. Shareholder-friendly. Applied Materials is committed to returning value to its shareholders by aiming to return 80% to 100% of free cash flow over time. In the past three years, the company has successfully returned 87% to its shareholders. They will return cash to shareholders through dividends and stock buybacks. Applied Materials has increased its quarterly dividend per share at a compound rate of more than 12% in the past 10 years. The company has also announced its belief that its free cash flow can support doubling the dividend per share over the next several years. Furthermore, they have reduced the total number of outstanding shares by 31% over the past 10 years through buybacks.



Now it is time to calculate the price of shares in Applied Materials. I perform three different calculations that I learned at a Phil Town seminar. The first is called the Margin of Safety price, which is calculated based on earnings per share (EPS), estimated future EPS growth, and estimated future price-to-earnings ratio (P/E). The minimum acceptable rate of return is 15%. I chose to use an EPS of 8,11, which is from fiscal year 2023. I have selected a projected future EPS growth rate of 7% (Finbox expects EPS to grow by 6,6% a year over the next five years). Additionally, I have selected a projected future P/E ratio of 14, which is double the growth rate. This decision is based on the fact that Applied Materials has historically had a higher P/E ratio. Lastly, our minimum acceptable rate of return is already set at 15%. After performing the calculations, we determined the sticker price (also known as fair value or intrinsic value) to be $55,21. We want to have a margin of safety of 50%, so we will divide it by 2. This means that we want to buy Applied Materials at a price of $27,61 (or lower, obviously) if we use the Margin of Safety price.


The second calculation is called the Ten Cap price. The rate of return that an owner of a company (or stock) receives on the purchase price of the company is essentially its return on investment. The minimum annual return should be at least 10%. I calculate it as follows: The operating cash flow last year was 8.002 and capital expenditures were 1.020. I tried to review their annual report to calculate the proportion of capital expenditures designated for maintenance. I couldn't find it, but as a rule of thumb, you can expect that 70% of the capital expenditures will be allocated to maintenance purposes. This means that we will use 714 in our calculations. The tax provision was 860. We have 833 outstanding shares. Hence, the calculation will be as follows: (8.002 – 714 + 860) / 833 x 10 = $97,82 in Ten Cap price.


The final calculation is called the Payback Time price. It is a calculation based on the free cash flow per share. With Applied Materials' Free Cash Flow Per Share at $9,08 and a growth rate of 7%, if you want to recoup your investment in 8 years, the Payback Time price is $99,68.


I find Applied Materials to be an intriguing company, and I have confidence in its management, at least until we learn the outcome of the subpoena. Applied Materials may encounter short-term challenges due to macroeconomic factors, but these are expected to improve over time. Applied Materials' largest market is China, and if the relationship between the United States and China continues to worsen, we may see more restrictions that could impact Applied Materials. Therefore, it is something that needs to be monitored when investing in Applied Materials. Competition will always pose a risk, but it is something that Applied Materials has successfully managed over time. There are many compelling aspects of Applied Materials. They are operating in a growing market and expecting to grow faster than the market. As a result, there will be an increase in the number of installed Applied Materials products, which will require servicing. As a result, their Applied Global Services segment is projected to grow (management anticipates that it will grow as fast or faster than the equipment business), with an expected increase in margins. Finally, Applied Materials is very shareholder-friendly, returning 80% to 100% of free cash flow to shareholders. This will lead to an increasing dividend and a decrease in the number of shares outstanding. I believe that Applied Materials is a great company, and purchasing shares below $160 provides a 20% discount on the intrinsic value based on the Payback Time price. Therefore, I will start with a small position if the shares fall below $160.


My personal goal with investing is financial freedom. It also means that to obtain that, I do different things to build my wealth. If you have some extra hours to spare each month, you can turn a few hours a week into a substantial amount of money in a few years. If you are interested to know how I do it, you can read this post.


I hope that you enjoyed my analysis. Unfortunately, I cannot do a post of all the companies I analyze. I am available to copy but if you do your own trades, you can follow me on Twitter instead, as I tweet when I buy or sell anything.


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