Analyst Conference Call Summary

semiconductors

conference date: November 15, 2018 @ 1:30 PM Pacific Time
for quarter ending: October 29, 2018 (fourth quarter, Q4 fiscal 2018)

Forward-looking statements

Overview: As expected, revenue down sequentially and only up a bit y/y, following several strong quarters. But non-GAAP EPS was up 4% y/y to $0.97.

Basic data (GAAP):

Revenues were $4.01 billion, down 10% sequentially from $4.46 billion and up % from $3.97 billion in the year-earlier quarter.

Net income was $876 million, down 25% sequentially from $1.17 billion and down % from $982 million year-earlier.

EPS (diluted earnings per share) were $0.89, down 24% sequentially from $1.17 and down 2% from $0.91 year-earlier.

Guidance:

For Q1 fiscal 2019 revenues will drop to $3.56 to $3.86 billion, which would be down 12% y/y at midpoint. Non-GAAP diluted EPS estimate of $0.75 to $0.83.

Not ready to call the bottom of the current cycle. But customers point to improving demand in the second half of 2019.

Conference Highlights:

Gary Dickerson, CEO, said "While near-term market headwinds remain, overall industry spending remains robust, and we are focused on positioning Applied Materials for the long term, expanding our role in the A.I.-Big Data era and winning the major technology inflections ahead." Results were in line with guidance. Not seeing the large fluctuations that characterized the industry in the past.

Wafter fab industry is larger and more resilient than in the past. However, industry spending has pulled back in recent months on macroeconomic trends and weak memory spending. But memory supply and demand are relatively well balanced. Leading edge technologies continue to push forward, including EUV in 2019. But despite challenges wafter fab equipment spending still at high levels, about $50 billion per year for the industry, but full-year 2018 higher total industry spend than 2019.

Applied has more diversity in its products than its competitors. Improved position in memory, scaled the service business, and grown display (though it is expected down in 2019). A new semiconductor playbook is needed including new designs and 3D and chip interconnects, requiring new material engineering that is the strength of Applied.

Non-GAAP numbers: net income $956 million, down 21% sequentially from $1.21 billion, and down 5% from $1.01 billion year-earlier. EPS $0.97, down 19% sequentially from $1.20, and up 4% from $0.93 year-earlier. 45.5% gross margin, down from 46.2% year-earlier. 26.6% operating margin, down from 28.7% year-earlier.

Semiconductor Systems sales were $2.31 billion, down 16% sequentially from $2.75 billion, and down 5% from $2.43 billion year-earlier. Revenue by type, as % of total: Foundry 23%, DRAM 26%, Flash 34%, logic and other 17%. Segment operating income was $638 million or $684 million non-GAAP, margin was 27.6% or 29.6% non-GAAP.

Applied Global Services (AGS) revenue was $977 million, up 2% sequentially from $954 million and up 18% from $831 million year earlier. Non-GAAP Operating income was $290 million.

Display segment revenue was $702 million, down 5% sequentially from $741 million and up 4% from $677 million year-earlier. Non-GAAP operating income was $206 million, with a 29.3% gross margin. Demand being driven by Gen 10.5 and OLED displays.

Cash and equivalents (including long-term investments) balance ended at $5.60 billion, up sequentially from $5.59 billion. Cash flow from operating activities was $1.08 billion. Capital expenditures were $165 million. $195 million was used for cash dividends. Long-term debt was $5.31 billion. $751 million was used to repurchase stock in the quarter.

Cost of goods sold was $2.23 billion, leaving gross profit of $1.78 billion. Operating expenses of $764 million consisted of: research and development $518 million; selling and marketing, $127 million; general and administrative $119 million. Leaving income from operations of $1.02 billion. Interest and other expense net $18 million. Income tax $122 million.

For the full year fiscal 2018, Applied grew net sales by 19 percent to $17.25 billion. GAAP basis: operating income of $4.80 billion, and EPS of $3.23. Non-GAAP adjusted basis: operating income of $5.0 billion, and EPS of $4.45. The company generated $3.79 billion in cash from operations, paid dividends of $605 million and used $5.28 billion to repurchase 102 million shares of common stock.

Q&A:

Market share due to EUV, tech inflections? In 2012 to 2017 we held or increased market share each year except one year was flat. In 2018 we are gaining or holding share in most of our business. We expect a decline in 2019 due to introduction of EUV. 3D NAND spending recovery will be favorable to our mix. Moore's law scaling is slowing. We are targeting five new areas for growth, including entirely new types of products.

Down 20% display outlook for next year? We grew display rapidly the last few years. In 2019 it may decline 15% to 20%. TV transitioning to Gen 10.5 for large screens. We expect smart phone displays to be flat y/y. We expect OLED to lead growth after that.

Do you disagree with peers on foundry cap ex growth? Our long-term perspective has not changed. We need a thousand times performance per watt improvement. There is a headwind in 2019 because of the long lead time EUV tools.

Export control effects? This was just one Chinese customer subject to an export control, the others are normal at this time. The impact moved us from expecting being up in Q1 to being down. So it is a significant customer.

Not calling a bottom yet? That is specific to our semi business, customers indicate first half of 2019 revenue might be higher than second half of 2018, if varies by end market, we are being cautious and trying to be prudent in setting expectations.

NAND and DRAM China programs? We see no change except the one customer in China so far. We have a large display business in China. The rest is balanced between foundry, logic, and memory.

What is your exposure to the smartphone market vs. the datacenter? It is hard to disaggregate the silicon types to end devices. While handset growth is slowing, it is still growing. We expect aggregate semiconductor device demand will keep growing over time.

Share buying, were buying more shares when the price was higher? We use excess cash for shareholders, we have greatly reduced our share count over time, it averages out.

DRAM position? We have diversified across device types over the past decade, increasing market share. Periphery transistors are moving to logic-like to drive speed. We like the progress we are making in DRAM. 2019 should be a strong year, even if our market share does not hit 20%.

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