Applied Materials Could Be Headed Lower Despite Record Revenue

On Thursday evening, semiconductor equipment manufacturer Applied Materials AMAT released the firm's fiscal fourth quarter results, and they were pretty darned good. That, however, was not enough. The stock was trading lower overnight and was down more than 9% on the U.S. at the U.S. open. For the three-month period ended October 27, Applied Materials posted an adjusted EPS of $2.32 (GAAP EPS: $2.09) on revenue of $7.045 billion.

The top- and adjusted bottom-line results both bested Wall Street's consensus view with that top-line print good enough for a firm record. Full fiscal year revenue of $27.18 billion was also a firm record. The adjustment made was primarily due to unrealized losses on strategic investments.

Operations

That $7.045 billion worth of revenue showed year-over-year growth of 4.9%. The cost of products sold grew 4.4% to $3.71 billion. This left a gross profit of $3.335 billion (+5.2%) as gross margin improved from 47.1% to 47.3%. Total operating expenses increased 7.6% to $1.289, leaving a GAAP operating income of $2.046 billion (+3.8%). This put the firm's operating margin at 29%, down from 29.3%. Once adjusted, gross margin improves to 29.3% but still is down from 29.5%.

After accounting for interest, other income and losses, and taxes, GAAP net income printed at $1.713 billion (-13.6%), which works out to $2.09 per fully diluted share. Once adjusted, net income grew 7% to $1.917 billion. That works out to the $2.32 per diluted share that we mentioned in the above section.

Segment Performance

• Semiconductor Systems generated revenue of $5.177 billion (+6%), producing an operating income of $1.824 billion (+4.8%) on an operating margin of 35.2% (down from 35.7%).
• Applied Global Services generated revenue of $1.639 billion (+11.4%), producing an operating income of $492 million (+22.7%) on an operating margin of 30% (up from 27.3%).
• Display generated revenue of $211 million (-29.2%), producing an operating income of $5 million (down from $63 million) on an operating margin of 2.4% (down from 21.1%).

Fundamentals

For the period reported, operating cash flow printed at $2.575 billion. Out of that came capex spending of $407 million, leaving free cash flow of $2.168 billion (+74%). Out of that number, the firm repurchased $1.442 billion worth of common stock for its treasury, while dishing out cash dividends of $329 million to shareholders.

Applied Materials ended the quarter with a cash position of $9.471 billion and inventories of $5.421 billion. This left the firm with current assets of $21.22 billion. Current liabilities add up to $8.468 billion, including short-term debt of just $799 million. That puts the firm's current and quick ratios at 2.51 and 1.87, respectively, which is excellent.

Total assets amount to $34.409 billion, of which little more than 11.5% is in the form of goodwill or other intangibles. Total liabilities less equity comes to $15.408 billion, including long-term debt of $5.46 billion. This is something that the firm could take care of out of pocket if needed. This is a very strong balance sheet.

Guidance

For the current (fiscal first) quarter, Applied Materials is projecting revenue of $7.15 billion, give or take $400 million. This was taken as a disappointment by Wall Street as it was looking for something more like $7.25 billion. For the current quarter, the firm sees adjusted EPS of $2.29, give or take $0.18. This is really not so bad at all. Though there are estimates for as much as $2.44 out there, the consensus seems to be for about $2.27.

Wall Street

Since these earnings hit the tape last night, I have seen 11 highly-rated (four-plus stars at TipRanks) sell-side analysts opine on AMAT. After allowing for changes, there are eight "buy" or buy-equivalent ratings and three "hold" or hold-equivalent ratings. One of the "holds" did not post a target price, so we have just 10 of those.

The average target price across those 10 analysts is $225.60 with a high of $250 (Mark Lipacis of Evercore ISI) and a low of $179 (Joseph Moore of Morgan Stanley). Once omitting those two as potential outliers, the average target across the other eight analysts rises to $228.38.

My Thoughts

There is a lot to like. Better than expected adjusted profitability, record revenue generation, beefy cash flows, an excellently-managed balance sheet. So, what is Wall Street worried about this morning? Probably the lumpiness in the results, for one. Then there is the projection for current quarter revenue that was a notch below what Wall Street had estimated.

The strong results were driven by AI. Within the Semiconductor Systems segment, the foundry and logic subcomponent drove 73% of the sales. Flash memory has withered and only drove 4% of those sales. After that, we look at the Display segment. At first glance, one wonders if the segment is being discontinued. It is not. During the call, CFO Brice Hill spoke of being ready when clients are to support the adoption of OLED technology in IT devices. Basically, the success of the quarter was driven by one main business. The rest of the business is treading water or, in the cases of Flash and Display, withering.

Readers will see that in August, AMAT hit resistance at the "half-way back" point of its July through early August sell-off, and from there formed a flat base (defined in purple) with a high of around $214 and a low of $171. The top end of that range had been tested multiple times and had held. The low end of the range had held on an "almost" test in early September and then failed this morning as the share price sunk below the level.

Relative strength is weakening, and the daily MACD is now postured bearishly with all three components now in negative territory. The stock in recent days, has surrendered its 21-day EMA, losing the swing crowd and failed at its 50-day SMA, preventing portfolio managers from increasing long-side exposure.

Using $171 as a downside pivot, it is my feeling that unless that level is retaken later on Friday or at least when we have our next tech rally, this stock could fall as low as the mid-$130s where there was significant support for these shares in 2023.

As a Potential Alternative...

Keep your eyes on Lam Research LRCX. Not that Lam is kicking doors down, but the guidance was slightly stronger and thought down on AMAT weakness.

Readers will see that at least support for the lower trendline of the flat base has not yet broken. This could be where the technical opportunity is.

At the time of publication, Guilfoyle had no positions in any securities mentioned.