KLA-Tencor Bad Earnings: A Good Reason for Having GAAP

| About: KLA-Tencor Corporation (KLAC)

KLA-Tencor (NASDAQ:KLAC) was expected to lose about -$.06. It lost -$.12 non-GAAP (a slight miss). However, it lost -$2.57 using GAAP (a huge miss). This occurred even though KLAC’s $396.6M in revenues slightly beat analysts’ estimates of $394.1. The GAAP results (-$2.57/share) for the second quarter of fiscal 2009 include a $435 million charge for the aggregate impairment of goodwill and purchased intangible assets. New bookings for the quarter were estimated by KLAC in Jan. 2009 at $235M - $245M (I haven’t seen the conference call data yet). These are not enough to replace this quarter’s (Q2 2009) revenue of $396.6M. The near term future looks dim. The Q2 2009 revenue, $396.6M, is far down from the Q2 2008 revenue of $636M. The new bookings as a gauge of revenue replacement are even farther down (midpoint number = $240M).

This “write-off” tends to clear the way for KLAC to record positive results in the FY2010. Perhaps this is why the stock did not even move downward after hours. Still someone has lost. The book value of the company is now less. Stockholders’ equity has taken a hit. Really the stock should go down as a result. However, analysts tend to ignore one time charges to a large extent. Analysts probably will not downgrade the company too much for this huge miss. Yet it is a huge miss!

They should downgrade the company. Sure they have now increased the likelihood of better future earnings. However, more importantly they have shown bad management skills. This loss did not come out of thin air. I haven’t traced back through KLAC’s books, but it seems most likely that these intangible assets were bought by KLAC within the last few years. In other words they bought technology (patents and human capital), and goodwill associated with that technology, that would significantly lose its value in a few years.

Is this different from a bank buying risky mortgages (or risky companies)? To my mind it is not. Rather it is exactly the same kind of mistake. Does it indicate bad management (at least in this case)? I think it does. Does this indicate the company is likely to do well in the future? It doesn’t instill me with confidence. On this basis alone, I think this stock is in for a fall in stock price. It now clearly has negative earnings for FY 2009. FY 2010 doesn’t look much better. Semiconductor manufacturers are forecast to do poorly throughout 2009. Semiconductor equipment manufacturers will do poorly too. Virtually all the major semiconductor makers have announced bad results lately. The list includes: INTC, BRCM, QCOM, TXN, etc. Below are a few facts from recent news.

  1. Orders for "durable goods" fell 2.6% last month to about $176 billion, following a 3.7% drop in November and an 8.5% slump in October.
  2. NEC Electronics Corp. (OTC:NELTY) reported a net loss of 19.9 billion yen for the December quarter. The chipmaker estimated losses for the fiscal year ending March 31 will total 65 billion yen, revised wider from the loss of 8 billion yen forecast in its last quarterly outlook. NEC Electronics Corp. said it would cut production at its plants, including in California, slash jobs and lower its capital spending.
  3. Toshiba (TOSBY.PK) said it expects a net loss of 121.1 billion yen ($1.35 billion) in the third quarter ended Dec. 31, a reversal from net income of 80.5 billion yen generated in the same period last year. Toshiba Corp. said it would lower costs by $3.3 billion by cutting 4,500 contract jobs and halving capital expenditures.
  4. TXN is cutting factory output to work off inventories, the company said this week. It plans to cut 3,400 jobs, more than half through layoffs. TXN is cutting its 2009 capital spending to $300 million from $763 million a year earlier, while also cutting its research-and-development spending.

There are many more negative stories in the semiconductor space. If companies are cutting back (and cutting Capex), they will not be buying new semiconductor manufacturing equipment. It could be quite some time before KLAC turns a profit again. I see this as another possible short play in a down market. The industry is down, and the management is responsible for serious recent mistakes. I don’t see the difference between buying risky loans and buying risky companies. KLAC belongs in the same category as the banks that took on too much risk.

As for the outlook for the economy, most of the news has been negative lately. The Fed’s outlook was worse in January than it was in December. The Davos conference issued very negative statements. The IMF has continually revised its world economic performance forecast downward in recent months. I believe IMF’s latest world GDP forecast is for 0.5% growth for all of 2009. The forecasts for the US and Western Europe are substantially worse. Considering the IMF GDP estimate was 3% world economic growth just 3 months ago, a significant downtrend still seems to be in place. In this kind of environment semiconductor equipment makers will be hurt severely. If they are showing questionable management on top of the negative environment, investors should be even more wary of them.

Disclosure: Short KLAC.