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Applied Materials (AMAT) is the world’s largest semiconductor fabrication equipment producer. Founded in 1967, the company provides manufacturing equipment, services and software to the global semiconductor, flat panel display, solar photovoltaic (PV) and related industries. Applied completed its initial public offering in 1972, and is incorporated in Delaware. It competes with companies such as Amkor Technology (AMKR), Lam Research (LRCX), Novellus Systems (NVLS), and FSI International (FSII).

Operations

Applied sells its products to manufacturers of semiconductor wafers and chips, flat panel liquid crystal displays (LCDs), solar PV cells and modules, and other electronic devices. Its customers –  Samsung, Taiwan Semiconductor (TSM), and Intel (INTC - Free Intel Stock Report) being among them -  typically either use what they manufacture in their own end products, or sell them to other companies for use in advanced electronic components. Applied operates in four segments: Silicon Systems Group, Applied Global Services, Display, and Energy and Environmental Solutions.

The Silicon Systems Group segment - which comprised 55% of 2010 revenues - develops, manufactures and sells a wide range of manufacturing equipment used to fabricate memory, logic and other types of semiconductor chips. Meanwhile, the Applied Global Services segment (20%) encompasses products and services designed to improve the performance and productivity, and reduce the environmental impact of the factory operations of semiconductor, LCD and solar PV manufacturers. Next, the Display segment (9%), through its AKT subsidiary, designs, manufactures and sells equipment to fabricate thin film transistor LCDs for televisions, computer displays and other consumer-oriented electronic applications. Finally, the Energy and Environmental Solutions segment (16%) includes manufacturing solutions for the generation and conservation of energy.

Applied operates in a highly competitive space characterized by rapid technological change. As such, its competitive edge depends significantly on factors such as technical capability and differentiation, productivity and cost-effectiveness. Indeed, about half of the company’s expenses consist of research, development, and engineering costs.

What’s more, the semiconductor sector is highly cyclical, based on capital equipment investment by major semiconductor, flat panel display, solar PV and other manufacturers. Customers’ expenditures depend on many factors, including: anticipated market demand and pricing for semiconductors, LCDs, solar cells and modules, and other substrates; the development of new technologies; customers’ factory utilization; capital resources and financing; and global and regional economic conditions.

Despite the intense degree of competition and cyclicality, Applied certainly has the resources to stay competitive. As the largest producer of capital equipment, the company has already established a good deal of market share. Furthermore, foreign sales account for around 90% of the company’s business, which insulates it somewhat from specific pockets of regional weakness.

What’s more, with its sizeable cash balance and virtually no debt, Applied has plenty of financial power to attract top engineering talent, maintain its dividend (currently yields around 3.0%), as well as fuel growth through acquisitions. Indeed, the company recently acquired Varian Semiconductor, an industry competitor, for $4.3 billion. Moreover, the company has repurchased more than 39 million shares since 2009, providing a further boost to the bottom line. 

Performance and Investment Advice

Applied weathered the most recent recession quite well; although the top and bottom lines suffered somewhat in 2008 and 2009, they have since recovered and, in fact, are both on track to reach record levels this year. However, due to increased global economic uncertainty, management has tempered its shorter-term outlook. Indeed, the book-to-bill ratio has been less favorable recently, as several major customers have been pushing out orders in light of less demand visibility.

Despite this, the company stands to benefit from a longer-term trend towards high-performance electronics devices. Moreover, given its healthy balance sheet, strong market position, earnings prospects, and established global presence, Applied is well positioned for further growth.

In accordance with the general market turmoil we have seen lately, Applied stock has taken a beating, and was trading well below its 2007 high at the time of this writing. All things considered, we think long-term investors would be well-served to take advantage of shorter-term weakness to invest in this quality concern.
 
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.