Recent Acquisitions By Applied Materials And Lam Research Are Showing Long Lasting Affects

| About: Applied Materials, (AMAT)

Summary

The $4.9 billion acquisition of Varian Semiconductor by Applied Materials is proving to be a disaster.

Lam Research's acquisition of Novellus is enabling the company to enter new and rising markets.

Lam Research's pending merger with KLA-Tencor will alter the purchasing strategy of semiconductor manufacturers.

There have been two acquisitions in the semiconductor equipment space in the past few years that are impacting company revenues and shares. While this is not uncommon, this article will point out that these decisions will continue to dominate the entire corporate strategy of the companies involved.

These are:

Applied Materials (NASDAQ:AMAT) - Varian Semiconductor (NASDAQ:VSEA)

Lam Research (NASDAQ:LRCX) - Novellus (NASDAQ:NVLS)

The article presents statistics showing what we can learn in the aftermath of the LRCX and AMAT acquisitions, and what to expect from the upcoming LRCX - KLA-Tencor (NASDAQ:KLAC) merger that will affect AMAT and LRCX market shares.

Applied Materials - Varian Semiconductor

Applied Materials shipped the world's first fully automated Ion Implanter -- the Precision Implant 9000 -- to a major European customer in early 1986. During the second quarter of fiscal 2007, the company exited the business. With the acquisition of Varian Semiconductor Associates (VSEA) in November 2011, Applied began to design, market, manufacture and service ion implantation systems again.

While the obvious rational for the acquisition of VSEA was to fill the gap in the Implant sector that AMAT exited four years earlier, the real motivation was because of VSEA's tool for AMAT's solar arsenal of equipment. Solar was hot and semiconductors not so hot in 2011, and that remains the scenario today.

AMAT's ill-fated amorphous silicon solar cells strategy using converted AKT (for displays) deposition equipment was replaced by the company purchasing HCT Shaping Systems for $475 million in June, 2007, a supplier of wire saws and from Baccini, based in Italy, a screen printer business, for $330 million shortly thereafter.

VSEA's implant business was acquired at a cost of US$4.9 billion.

My take

The acquisition of VSEA was the largest single mistake Applied Materials made in my 31 years of analyzing AMAT and the semiconductor equipment space since I formed The Information Network in 1985. This move even surpassed the January 2000 acquisition of Etec Systems for $1.7 billion, which was and shuttered in 2005.

I base this on three important factors:

  1. The implant business used for solar proved to be a failure, and AMAT stopped development of its Solon line of implanters in mid-2015. Solon saw limited acceptance at small solar manufacturers Suniva, Mission Solar and Neo Solar Power. Solon was also facing increased competition from Tempe-based Amtech Systems.
  2. According to the table below for AMAT, revenues in the semiconductor implant sector actually dropped from 2011 (which includes VSEA revenues for part of 2011 until the acquisition later in the year) to 2015. More importantly, AMAT's market share of the SAM (served available market) dropped from 76% in 2011 to 68% in 2015, losing share to Axcelis (NASDAQ:ACLS). What! AMAT acquires VSEA's implant business at a cost of US$4.9 billion and the company loses market share since the acquisition.
  3. This is the most insidious part of the failed acquisition. When AMAT acquired VSEA, current CEO Gary Dickerson and current CFO Halliday, as well as many employees, became employees of AMAT and many of the seasoned AMAT employees were given golden parachutes. If we glean across the table below we can compare AMAT's share in each sector prior to Dickerson taking the helm in 2011 and afterward in 2013 and 2015. The most obvious and most important feature is that AMAT's total share has dropped from 35% before Dickerson to 32% after Dickerson.

AMAT

CY2011

CY2013

CY2015

SAM

Rev

Share

SAM

Rev

Share

SAM

Rev

Share

Etch

4,325

500

12%

3,800

625

16%

6,175

1,125

18%

Deposition

5,675

2,600

46%

7,100

3,225

45%

7,000

2,875

41%

RTP/OX/Diff

1,350

530

39%

825

370

45%

750

370

49%

Implant

1,150

870

76%

800

625

78%

1,025

700

68%

Metrology/

Inspection

4,025

575

14%

4,175

500

12%

4,050

500

12%

Packaging

1,025

100

10%

1,075

65

6%

1,175

100

9%

Total

13,225

4,675

35%

13,975

4,785

34%

14,000

4,545

32%

Click to enlarge


As I wrote in a previous Seeking Alpha article entitled, Applied Materials' Spin Continues To Mislead Investors.

In AMAT's Q1, 2016 conference call, CEO Dickerson stated:

"In 2015, we believe that we made solid share gains in wafer fab equipment, with almost all of our major businesses growing or maintaining their market position. I expect that 2016 will be an even stronger year for us."

Dickerson also attempts to reinforce his hyperbole by noting how strong the 3D NAND market is projected to be in the same conference call. The drawback is equipment to make 3D NAND is ALREADY installed in plants around the world, and when production ramps up for additional capacity purchases (after 2016 and not in 2016), those 3D manufacturers will also etch purchase equipment from LRCX. Tokyo Electron, and Hitachi High Technologies, and deposition equipment from LRCX and ASMI. In other words, a rising sea raises all ships.

If AMAT lost share in 2015, by what logic can we expect it to gain share in 2016 when it is competing for the same customers by the same competitors?

The acquisition of VSEA for its implant business brought lackluster equipment for solar, which closed down, lackluster equipment for semiconductors, which lost market share, and lackluster management that allowed total market share to drop from 35% in 2011 to 32% in 2015.

I know I'm going to get comments such as "I don't care what you say, the stock is up 20% since its Q2 conference call. But I addressed that issue in my previous article in Seeking Alpha entitled, Applied Materials Stock Bounced On Display Orders - But Is It Sustainable?

So to those naysayers, I say read that article, illustrating that the $700 million in display orders is a typical year's worth of equipment for AMAT for a year in display and not the end-all-to-be-all to justify the pop in stock.

Lam Research - Novellus

I previously discussed this merger in an October 19, 2015 Seeking Alpha article entitled 'Lam Research - What To Expect Near Term And Long Term. http://seekingalpha.com/article/3582546-lam-research-expect-near-term-long-term

By way of comparison about AMAT, I've compiled a similar table below showing revenues and market shares for 2011, 2013, and 2015.

Lam

CY2011

CY2013

CY2015

SAM

Rev

Share

SAM

Rev

Share

SAM

Rev

Share

Etch

4,325

1,884

44%

3,800

2,026

53%

6,175

3,252

53%

Deposition

5,675

932

16%

7,100

726

10%

7,000

1,080

15%

ECD

278

181

65%

156

142

91%

186

178

96%

Packaging

1,025

29

3%

1,075

36

3%

1,175

72

6%

Total

6,978

1,142

16%

8,331

904

11%

8,361

1,329

16%

Click to enlarge

As I pointed out in the above mentioned article, it was my hypothesis that LRCX was positioning itself for the lucrative 3D market:

  1. 3D NAND memory cells, manufactured by companies such as Intel (NASDAQ:INTC), Micron Technology (NASDAQ:MU), and Samsung (OTC:SSNLF)
  2. 3D Logic chips referred to as FinFETs by AMD (NYSE:AMD), IBM (NYSE:IBM), Freescale (NYSE:FSL), Globalfoundries, and TSMC (NYSE:TSM) or called TriGate by Intel
  3. 3D chip packaging using through silicon via technology (TSV) by UMC (NYSE:UMC), STATS ChipPAC, and Tezzaron.

Prior to the acquisition, which was completed in mid-2012, LRCX primarily focused on etch, while Novellus addressed the deposition market (semiconductors and packaging)

My take

In 2013, LRCX had a 10% share in the deposition sector, down from 16% in 2011. Market share recovered to 15% as the company dropped its legacy sputtering products and introduced ALD (atomic layer deposition) equipment, which I expect to be a leading technology in 3D.

The flagship sector for LRCX increased from 44% in 2011 to 53% in 2015. In Table 1 above, AMAT also exhibited growth in market share. According to The Information Network's report "Plasma Etching: Market Analysis and Strategic Issues," both companies gained share from Japanese suppliers Tokyo Electron and Hitachi High Technologies, but data in the report note that the strong U.S. dollar against the Japanese Yen took away about 15% of revenue growth in 2015 for Japanese companies because revenues were converted to Dollars, and revenue growth was impacted by conversion of Yen to Dollar.

Most importantly the overall market share for LRCX, which had dropped from 16% in 2011 to 11% in 2013 during the company restructuring its deposition unit, grew back to 16% in 2015.

For 3D Logic and NAND, deposition-etch plays a critical role. In addition, delays in EUV Lithography purchases by ASML customers is forcing semiconductor manufacturers to resort to multiple patterning techniques using DUV scanners, which also makes additional use of deposition-etch processes.

Lam Research - KLA-Tencor

I previously discussed this merger in an October 26, 2015 Seeking Alpha article entitled, Making Sense Of The Lam Research - KLA-Tencor Merger.

With the LRCX - NVLS merger, each company's products were complementary, with many processes using a deposition - etch sequence. With the LRCX - KLAC merger, again we have complimentary product lines. After each deposition or etch process (as well as many others) semiconductor manufacturers rely on inspection or metrology equipment as a means of assuring that the process is running smoothly and there are no parameters that are out of specs that can impact yield.

My take

KLAC dominates the metrology/inspection (commonly referred to as Process Control) with a 50% share, well ahead of AMAT in second place with a 12% share. According to The Information Network's report "Metrology, Inspection, and Process Control in VLSI Manufacturing," KLAC has products in nearly all the 15 sectors that encompass the process control market, while AMAT is in four.

Metrology

/Inspection

CY2011

CY2013

CY2015

SAM

Rev

Share

SAM

Rev

Share

SAM

Rev

Share

KLAC

4,425

2,420

55%

4,020

2,140

53%

4,060

2,030

50%

AMAT

4,425

540

12%

4,020

475

12%

4,060

495

12%

Click to enlarge

The Process Control market is comprised of two types of products - standalone and integrated. With standalone metrology, for example, high-performance standalone metrology systems provide thin film, optical critical dimension (OCD), overlay and wafer stress for transistor and interconnect metrology applications. These are discrete systems.

Integrated metrology (IM) systems are installed directly onto wafer processing equipment to provide near real-time measurements for improved process control and maximum throughput.

To confuse the topic even more and yet trying not to be boring, IM systems are sold directly to end customers and through OEM channels. With the LRCX-KLAC merger, all of KLAC's IM products could be integrated with the deposition or etch tools of LRCX. By optimizing throughput and performance, the cluster tool will simplify the purchasing decision for a semiconductor manufacturer and eliminate the need for purchasing an add-on IM module from a different metrology supplier and bolting it on a Lam tool.

With standalone systems, LRCX will have an opportunity to negotiate with an existing KLAC customer to sell deposition-etch systems, and visa versa.

Conclusion

The acquisition of VSEA by AMAT was a bad deal, pure and simple. It gave AMAT implant tools for solar that were discontinued, implant tools for semiconductors that have been losing market share, and most importantly a management team that has resulted in lost of market share since the acquisition.

I've presented these arguments with facts and statistics, not the hyperbole that management has been using to pump up the stock. I pointed out in numerous articles in Seeking Alpha that this strategy has continued to mislead investors.

I could envision that VSEA management, who are now AMAT management, used the same strategy into convincing previous AMAT management to invest $4.9 Billion to buy into this lame technology and management.

Along with the migration of VSEA people to AMAT, existing employees left in vast numbers. - the same people that brought the company to market leadership. It the vacuum created, individuals running a $1 billion company (VSEA) now overnight started running a $6 billion company.

On the other hand, Lam Research is well positioned to gain even further market share from AMAT. Also, and I've pointed out in previous articles that the strong dollar has artificially increased share of US equipment suppliers when Yen and Euro revenues were converted to dollars. That will change for 2016 against the Yen, as it is strengthening, and will result in artificially lower market shares for AMAT and LRCX.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.