Business Context and Reporting Period
Company: Applied Materials, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: May 2, 1999 (Second Fiscal Quarter)
Industry Context: The semiconductor equipment industry is recovering from a severe downturn in fiscal 1998 caused by the Asian economic crisis and DRAM overcapacity. Applied Materials reported record new orders for the quarter, signaling an industry recovery driven by demand for PCs and communications applications.
Key Financial Metrics
| Metric (in thousands) | Three Months Ended May 2, 1999 |
Three Months Ended April 26, 1998 |
Six Months Ended May 2, 1999 |
Six Months Ended April 26, 1998 |
|---|---|---|---|---|
| Net Sales | $1,117,626 | $1,176,316 | $1,860,103 | $2,484,001 |
| Gross Margin | $517,241 (46.3%) | $554,289 (47.1%) | $838,344 (45.1%) | $1,183,730 (47.7%) |
| Net Income | $141,639 | $141,221 | $194,524 | $370,114 |
| Diluted EPS | $0.36 | $0.37 | $0.50 | $0.98 |
| Cash & Equivalents | $518,564 | $575,205 | $518,564 | $575,205 |
| Short-term Investments | $1,499,076 | $1,188,351 | $1,499,076 | $1,188,351 |
| Total Liquidity | $2,017,640 | $1,763,556 | $2,017,640 | $1,763,556 |
| Long-term Debt | $613,336 | $616,572 | $613,336 | $616,572 |
| Backlog | $1.4 billion | $917 million | $1.4 billion | $917 million |
Material Changes vs. Prior Period
- Revenue: Net sales for the quarter decreased 5% year-over-year but increased 51% sequentially from the first quarter of fiscal 1999. The six-month sales decline of 25% year-over-year reflects low volume in the first quarter due to the prior industry downturn.
- Profitability: Net income remained relatively flat quarter-over-quarter ($141.6M vs $141.2M) despite lower sales, aided by a $20 million litigation settlement gain and lower operating expenses. However, six-month net income dropped significantly to $194.5M from $370.1M due to the weak first quarter and a $65 million charge in the prior year's fourth quarter related to a doubtful litigation note.
- Margins: Gross margin percentage decreased slightly year-over-year (46.3% vs 47.1%) due to lower business volume preventing fixed cost absorption, though it improved sequentially from 43.2% in Q1.
- Liquidity: Total cash and short-term investments increased to approximately $2.0 billion, up from $1.76 billion at the end of the prior fiscal year. Operating cash flow for the six months ended May 2, 1999, was $258.6 million, a significant increase from $141.5 million in the prior year period.
- Orders: New orders reached a record $1.4 billion for the quarter, a 35% increase from the previous quarter, driven by strong demand in Taiwan and North America.
Guidance, Outlook, and Risks
- Outlook: Management expects the industry recovery to continue, supported by accelerating demand for semiconductors in PCs and communications. The company anticipates sufficient liquidity from operations and existing credit facilities to meet requirements for the next 12 months.
- Acquisition: On May 28, 1999, the company announced an agreement to acquire Obsidian, Inc. in a stock-for-stock merger expected to close by June 1999. Approximately 2.5 million shares will be issued.
- Year 2000 (Y2K): The company estimates total Y2K costs between $30 million and $50 million, with $12 million incurred to date. Substantially all mission-critical internal systems and current generation products are Y2K ready. Risks remain regarding supplier readiness and customer site upgrades.
- Risks:
- Industry Volatility: The semiconductor equipment industry is cyclical; a decline in DRAM prices or PC demand could lead to order cancellations.
- Geopolitical: Continued stagnation in the Japanese economy or instability in Asian markets could adversely affect demand.
- Supply Chain: Dependence on key suppliers for critical parts poses a risk of production interruptions.
- Litigation: Ongoing patent disputes with AG Associates, KLA Instruments, Varian, and Novellus could result in significant costs or injunctions.
Investor Verification Checklist
- Order Conversion: Verify if the record $1.4 billion in new orders converts to revenue in the next quarter, given the risk of customer cancellations in a volatile market.
- Obsidian Acquisition: Monitor the closing of the Obsidian, Inc. acquisition and the impact of the 2.5 million share issuance on earnings per share.
- Y2K Costs: Track actual Y2K remediation costs against the $30M-$50M estimate and watch for any unexpected liabilities from supplier or customer failures.
- DRAM Pricing: Monitor DRAM device prices; a decline could trigger cancellations of the current $1.4 billion backlog.
- Litigation Outcomes: Review developments in the AG Associates and Varian/Novellus patent lawsuits, as outcomes could materially impact financial results.