Why We Cut Our Price Estimate For Applied Materials

We have reduced our price estimate for Applied Materials (NYSE:AMAT) by about 15% to $45 per share, to account for headwinds in the semiconductor industry, which is seeing weaker pricing for memory components and slowing demand from smartphone and electronics manufacturers. Key changes to our model include lower revenues and margins for the Semiconductor Systems business and the Applied Global Services operations. Our fair value estimate is still above the current market price. Below, we take a look at the rationale for the changes.

View our interactive dashboard analysis on what to expect from Applied Materials in Q1 FY’19. You can modify any of the key forecasts and drivers to gauge the impact changes would have on the company’s EPS.

Memory Customers Slow Investments

The market for semiconductor products appears to be peaking off, with NAND memory prices seeing declines over the last few quarters driven by oversupply, and DRAM prices also projected to drop from 2019 onwards after seeing a strong run. Customers in the foundry space, who generally manufacture chips on a contract basis, are also optimizing capacity at the current nodes, although Applied has indicated that foundry and logic chip related spending would be stronger compared to memory business. Macroeconomic risks and global trade tensions are also aggravating the market headwinds, with the U.S moving to block the export of chip production equipment to some memory manufacturing companies in China, amid allegations that they stole intellectual property from U.S. companies.

Capital Spending Declines

Applied expects WFE demand to come in the mid-$40 billion range for 2019 based on its annualized Q1 guidance, and the company noted that 2019 spending would be below 2018 figures. That said, Applied expects the slowdown to be relatively short-lived, noting that its customers expect demand to pick up during the second half of 2019. Moreover, many semiconductor companies are continuing to invest in their longer-term technology transitions that won’t necessarily bolster capacity.

Adoption Of EUV Hurts Applied

Applied could also see some headwinds from the semiconductor industry’s adoption of extreme ultraviolet (EUV) technology for chip production, which has been under development for a long time. EUV lithography essentially eliminates the need for multiple deposition/etch processes as well as multiple masks, that Applied Materials and other companies sell. While Dutch semiconductor maker ASML is likely to be the biggest beneficiary of this new technology, Applied could potentially stand to lose some market share in the near-term, hurting its revenues.

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