Applied Materials’ (AMAT) fiscal first-quarter pro forma earnings of 23 cents beat the Zacks Consensus Estimate by a penny, or 4.5%. Revenues were more or less in line, beating by 1.4%.
Revenue
Applied reported revenue of $2.19 billion, up 10.2% sequentially and 39.2% year over year, at the high end of the guidance range.
Revenue by Segment
The SSG segment contributed 68% of revenue, up 19.4% sequentially and up 53.1% from the year-ago quarter. NAND and foundry sales helped segment sales in the last quarter, with logic and DRAM remaining weak.
The second largest segment was AGS with a 23% revenue share. Segment revenue was down 5.8% sequentially and up 7.6% year over year. AGS revenues are correlated to system sales and benefited from stronger equipment sales in the last quarter.
The Display segment saw a 2.5% sequential decline although sales were still 82.8% above year-ago levels. Segment contribution dropped from 8% to 7%. Management stated that the segment performed better than expected due to share gains. Higher demand for bigger TV screens remains a driver of segment revenues.
Demand for mobile devices (high-resolution mobile displays for tablets and touch panels for ultrabooks) also continues to increase, which is complementing the resurgence in the TV market. Applied’s expanding product line is partly responsible for the increased total available market (TAM).
The EES segment accounted for 2% of total quarterly revenue, declining 9.1% sequentially and 13.0% from last year. The weakness in solar (due to overcapacity) is a prevailing condition in the market and management continues to cut investment in the segment to align the cost structure with sales.
Revenue by Geography
Around 80% of Applied’s quarterly revenue came from the Asia/Pacific region, with the largest contribution from Taiwan, which generated 32% and followed by China with 27%, Korea with 9% and Japan with 7%. Japan and Europe were the weakest in the last quarter, declining 40.6% and 32.2%, respectively on a sequential basis. China was the strongest region (up 188.7% sequentially), which along with Taiwan (up 19.7%) were the only regions to have seen positive growth.
Orders
Total orders were up 9.2% sequentially and up 8.1% year over year. SSG and AGS orders were up 12.9%, and 8.9%, respectively. Display orders declined 30.7%, with EES coming in flat. SSG and AGS also increased on a sequential basis although the other two segments declined.
Backlog for the quarter increased 16.7%, with SSG building the most, followed by AGS, Display and then EES. The BTB was 1.04.
Margins
Applied generated a gross margin of 42.5%, up 248 basis points (bps) from the previous quarter’s 40.0%. A lower mix of EES sales were beneficial for the gross margin in the last quarter and will likely remain so through 2014. Applied’s gross margin improvements may be traced to its improving mix of higher-value products in semiconductor and display, as well as material cost efficiencies. The gross margin was up 267 bps from the year-ago quarter.
Applied’s operating expenses of $512 million were down 4.9% from the Oct 2013 quarter. All expenses declined as a percentage of sales from both the previous and year-ago quarters. As a result, the operating margin of 17.9% expanded 371 bps sequentially and 1,083 bps from last year.
Net Profit
On a pro forma basis, Applied Materials had a net income of $276 million, or a 12.6% net income margin compared to $228 million, or 11.5% in the previous quarter and $69 million, or 4.4% in the first quarter of fiscal 2013.
The fully diluted pro forma earnings were 23 cents a share compared to earnings of 19 cents in the previous quarter and 6 cents in the comparable prior-year quarter. Our pro forma estimate excludes restructuring, acquisition-related, impairment and other charges as well as tax adjustments in the last quarter.
On a fully diluted GAAP basis, the company recorded a net profit of $253 million ($0.21 per share) compared to income of $183 million ($0.15 per share) in the previous quarter and profit of $34 million ($0.03 per share) in the year-ago quarter.
Balance Sheet
Inventories increased 8.5% during the quarter, with inventory turns down slightly from 3.4X to 3.3X. Days sales outstanding (DSOs) went from 75 to 63. The cash and short-term investments balance was $2.29 billion at quarter-end, having increased $398 million during the quarter. Goodwill was 27.0% of total assets in the last quarter.
The company generated $372 million of cash from operations, spent $48 million on capex and $120 million on dividends. At quarter-end, Applied had $1.95 billion of debt on its balance sheet, with a net cash position of $343 million. However, the debt cap ratio including long term liabilities and short term debt was just 25.5%.
Guidance
Applied provided guidance for the fiscal second quarter. Revenue for the quarter is expected to be up 3-10%, with the non GAAP EPS coming in at 25-29 cents a share. The Zacks Consensus Estimate for the Apr 2014 quarter was 27 cents when the company provided guidance, within the guided range.
Conclusion
Applied beat estimates in the last quarter entirely on account of the strength in semiconductor-related sales. This strength may be expected to continue through the year, spurred by the increasing demand for mobile devices. The proliferation of mobile devices is leading foundries to expand capacity with the transition to 20nm further boosting sales.
Spending on NAND and 3D NAND is also expected to increase this year although logic sales will not be that exciting. The overall market should be highly positive for a broad-based supplier such as Applied Materials.
The traditional computing market is also looking up, which is a positive for all major players from Intel Corp (INTC) to Microsoft Corp (MSFT).
Applied has a very strong product line and management has stepped up investments here in preparation for the on-going transitions to larger wafer sizes and smaller process nodes. Management expects significant share gains through 2014.
The merger with Tokyo Electron will further improve innovation on the materials side, thereby helping sales and providing the company a competitive advantage.
There is also scope for share gains on the Display side of the business on the back of the company’s PVD tools. The drivers of this business are larger TV screens and better mobile displays that involve more complicated production processes and new tools.
Applied shares currently have a Zacks Rank #2 (Buy), similar to peer KLA Tencor (KLAC).
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