Applied Materials, Inc. — Form 10-Q Summary
Reporting period: Third quarter of fiscal 2016, ended July 31, 2016; year-to-date results cover the first nine months. Fiscal 2016 year-to-date includes 40 weeks versus 39 weeks in the comparable 2015 period. Amounts are in U.S. dollars unless noted.
Business context and performance
Applied Materials supplies manufacturing equipment, services and software to the semiconductor, display and related industries. Its three reportable segments are Semiconductor Systems, Applied Global Services, and Display and Adjacent Markets. In Q3 2016, the company reorganized certain display-related activities into Display and Adjacent Markets and recast prior-period segment results.
| Metric | Q3 2016 | Q3 2015 | First nine months 2016 | First nine months 2015 |
|---|---|---|---|---|
| Net sales | $2.821 billion | $2.490 billion | $7.528 billion | $7.291 billion |
| Gross profit / margin | $1.192 billion / 42.3% | $1.018 billion / 40.9% | $3.112 billion / 41.3% | $2.993 billion / 41.1% |
| Operating income / margin | $596 million / 21.1% | $396 million / 15.9% | $1.375 billion / 18.3% | $1.270 billion / 17.4% |
| Net income | $505 million | $329 million | $1.111 billion | $1.041 billion |
| Diluted EPS | $0.46 | $0.27 | $0.99 | $0.84 |
Q3 non-GAAP adjusted diluted EPS was $0.50, versus $0.33 a year earlier; nine-month adjusted diluted EPS was $1.09, versus $0.90. These are non-GAAP measures and exclude specified items, including acquired-intangible amortization and, where applicable, restructuring and other discrete items.
Orders, segments and material changes
- Q3 new orders were $3.658 billion, up 26% year over year and 6% sequentially. Nine-month orders rose 22% to $9.384 billion.
- Backlog ended at $4.949 billion, up from $3.142 billion at the start of the fiscal year; approximately 67% was expected to ship within the next two quarters. Backlog can be rescheduled or canceled.
- Semiconductor Systems Q3 sales were $1.786 billion, up 9% year over year; segment operating income was $511 million. Foundry demand increased, while memory orders declined sequentially.
- Applied Global Services Q3 sales were $657 million, up 2%; operating income was $175 million. Segment orders fell 7% sequentially, primarily on lower services demand.
- Display and Adjacent Markets Q3 sales were $313 million, up 69%; operating income was $63 million. Orders rose 153% year over year, driven by mobile-display and TV equipment. Nine-month segment operating income declined 13% to $142 million, reflecting product mix and higher development costs.
- Asia Pacific accounted for 85% of Q3 sales. Taiwan, Micron, Samsung and Intel each represented at least 10% of nine-month consolidated sales; together they represented 49% of company sales.
Cash flow, balance sheet and capital allocation
- Nine-month operating cash flow was $1.669 billion, versus $692 million. Capital expenditures were $165 million, implying operating cash flow less capex of approximately $1.504 billion.
- Cash and cash equivalents were $2.828 billion; short- and long-term investments totaled $1.398 billion, for combined cash and investments of $4.226 billion. Working capital was $4.4 billion.
- Total debt was $3.343 billion, all long-term at quarter-end; the company repaid $1.207 billion of debt during the nine months. No borrowings were outstanding under its credit facilities. Long-term debt’s estimated fair value was $3.8 billion.
- Financing cash outflow was $3.202 billion, including $1.721 billion of share repurchases and $336 million of dividends. The company repurchased 89.5 million shares year to date and authorized a new $2.0 billion repurchase program in June; $1.95 billion remained available at quarter-end. Quarterly dividends were $0.10 per share.
- Approximately $3.3 billion of cash, cash equivalents and marketable securities held by non-U.S. subsidiaries could be subject to U.S. tax if repatriated. The company intended to indefinitely reinvest approximately $2.8 billion abroad.
Outlook, risks and contingencies
Management expected advanced foundry and 3D NAND spending to support the semiconductor business for the remainder of fiscal 2016, and expected strong investment in mobile-display manufacturing equipment. The filing provides no clear numerical company-wide revenue or earnings guidance. Management stated that operating cash generation, existing liquidity and borrowing capacity should meet liquidity needs for the next 12 months.
- Results are exposed to cyclical and difficult-to-forecast semiconductor and display equipment demand, customer spending patterns, technology transitions and global economic conditions.
- Customer and geographic concentration are significant: four customers represented 49% of consolidated sales in the first nine months, while most Q3 sales were to customers outside the United States. Segment orders and sales can vary substantially with customer mix.
- Other stated risks include supply-chain interruptions, inventory obsolescence, competition and product-development execution, currency and interest-rate exposure, cybersecurity incidents, and possible impairment of goodwill or intangible assets.
- The company reported $50 million of maximum potential payments under certain guarantee agreements and approximately $100 million of parent guarantees for subsidiary banking arrangements; it did not consider payment under the former probable.
- Korean criminal proceedings involving former and current employees were on appeal to the Korean Supreme Court; Applied Materials was not a party. The company said other legal matters were not expected to materially affect its financial condition or results.
- Q3 effective tax rate was 10.5%, versus 12.3% a year earlier; the nine-month rate was 12.7%, versus 13.3%. Management attributed changes primarily to geographic income mix and tax-liability adjustments.
- In the prior-year nine-month period, a $35 million tax-provision adjustment corrected an immaterial historical intercompany-sales tax accounting error; the company said restatement was not required. Prior-year results also included a $89 million gain on derivatives tied to the terminated Tokyo Electron transaction.
Important facts for investors to verify
- Whether order growth and the $4.949 billion backlog convert to sales as expected, including the risk of cancellations and shipment timing.
- Whether semiconductor foundry and 3D NAND investment, and mobile-display demand, remain strong enough to sustain recent growth and margins.
- Customer concentration, especially the large share of Display and Adjacent Markets orders and sales attributable to a small number of customers.
- The effect of substantial repurchases and dividends on cash balances, debt levels and future capital allocation.
- The assumptions behind non-GAAP adjustments, segment recasting, tax rates and the indefinitely reinvested foreign cash balance.
- Potential developments in the Korean legal proceedings, guarantees, customer credit quality and other disclosed risks.