Applied Materials (NASDAQ:AMAT), a leading semiconductor equipment manufacturer, will report its fiscal Q2 2014 earnings on May 15. (Fiscal years end with October.) The company believes that 2013 was a transformative year as it reduced its overhead expenses, stepped up investment in product development and built momentum for profitable growth. Orders from Applied’s leading foundry customer were the highest in its history in 2013 and it believes the growth momentum will continue throughout 2014 as well, backed by stronger investment from its semiconductor and display customers. Applied started its fiscal 2014 on a strong note with a 39% annual and 10% sequential growth in its Q1 2014 revenues.
Applied received orders worth $2.2 billion in Q1 2014 (9% growth) backed by growth in the SSG and AGS segment, which was partially offset by a push out of the display orders. The company anticipates healthy investment by its semiconductor and display customers in the year ahead and believes that the major technology trends will play to its strength in precision materials engineering.
Our price estimate of $17 for Applied Materials is at a 10% discount to the current market price. We will update our valuation after the Q2 2014 earnings update.
Semiconductor Demand To Improve In Fiscal 2014
An uncertain macro environment last year combined with soft demand for consumer devices forced many chip manufacturers to reduce or postpone their expansion plans. Global semiconductor capital equipment spending declined by 16.1% annually, reaching $37.8 billion in 2012 and research firm Gartner estimates the same to have declined further (by 8.5%) in 2013. 
However, the accelerated changes in device technology and the adoption of new materials in the industry are expected to re-accelerate demand for semiconductor equipment in the next two years. Gartner estimates capital equipment spending in the semiconductor industry to increase by 16% and 17% in 2014 and 2015, respectively.
Rising mobile shipments, a recovering DRAM market, growing NAND demand and the pending technology transitions (22nm and 16 nm, FinFET, and 3D NAND) are key factors driving demand for semiconductor equipment.
Applied To Retain Its Leadership In The Semiconductor Equipment Market
Applied derives around 55% of its valuation from the SSG segment alone and an additional 34% is attributable to the Service business, which is largely focused on the semiconductor market. Accounting for approximately 15% of the market, Applied is the No. 1 semiconductor equipment supplier. Its position will be eve stronger once it completes the acquisition of Tokyo Electron, for which it received CFIUS approval in late February. We will look for an update on the call.
The company anticipates healthy investment by its semiconductor customers in 2014 and believes that the major technology trends will play to its strength. With a robust pipeline of new products, Applied believes that it is well positioned in the semiconductor market, and will see profitable growth in 2014 and beyond.
Intel (NASDAQ:INTC), TSMC and Samsung (OTC:SSNLF), which are the top three customers for Applied and together account for more than half of the total capital spending in the industry, have indicated strong capital investment plans for 2014 with the aim of enhancing their technological capabilities. Samsung and Intel are each forecast to spend approximately $11 billion this year, whereas TSMC is expected to spend slightly less than $10 billion.
Intel is in the process of transitioning from 300-millimeter to 450-millimeter wafers in a few years and is also currently investing in building its next-generation 14 nm manufacturing process. Intel intends to step up its investment this year to drive long term growth by maintaining its technology lead over other players in the market. TSMC is expanding its 28 nm capacity and is also in the initial stages of ramping production at 20 nm. . Though Samsung is estimated to lower its capital spending marginally this year (by $50-$60 million), it retains its top slot in semiconductor capital spending.
TV & Mobile Investment To Drive Display Demand
Applied’s display net sales of $159 million in Q1 were flat as customers pushed out orders. However, the company expects growing demand for TV and mobile investments to fuel demand for display equipment in 2014. Growing global TV sales and larger average TV sizes are increasing significantly faster than historical trends and are driving demand for display equipment. Applied expects the TV segment to grow by low-single-digit in 2014.
In mobile devices, the screen resolution is becoming an important differentiator and is leading to significant growth in higher definition screens. Applied expects multiple Gen 6 LTPS factories to be built in the next 12 to 18 months to support this demand. The company believes that its has the potential to book $500 million of display orders over the next two quarters.Notes: