The semiconductor sector is a bit weak today because of a Lehman Brothers downgrade to chip equipment. But at these prices, I am willing to take my chances.
Kulicke and Soffa’s (NASDAQ:KLIC) CEO, Scott Kulicke, recently announced his company’s new Power Series line of bonders at China Semicon, the yearly trade show for demonstrating new products to the industry (and for cutting deals with chipmakers). The Power Series comes with special capabilities for fine wire pitch (ultra thin gold wire), copper wire, and LED-chip packaging. I think these new machines are going to be well-received by chipmakers in preparation for the next cycle. With gold over $1,000 ounce and full-spectrum LEDs providing a 100 to 1 cost advantage over current lighting, I think any machine that saves manufacturers money on their packaging of semiconductors (and can also bond LEDs) will sell.
These bonders create a strong cost incentive for KLIC customers to buy them. The cost of conventional gold wire has become prohibitive. The Power Series machines will package the thinnest gold wire possible, thus reducing their customer's overall cost of assembly. When KLIC’s Ultra bonders were first released gold wire was $550/oz. Why not incentivize copper bonding, say on even a few machines? This is the choice that these machines offer. The price of virgin-grade polysilicon has also increased 300% in the last 2 years. In his last call, Mr. Kulicke spoke about the potential of copper to replace gold in some lower-end applications. He said that although gold wire has been the chipmakers' habit, copper wire is not necessarily that much less reliable for some applications.
Then there is the fact that these machines can also bond LEDs. Lighting (lumens) accounts for 20% of all elecricity-usage in the United States. LEDs can now produce the same level of lumens and at better quality (because you can "adjust" or tinker with every level of the color spectrum digitally) at 1/100 the cost of electricity required by our current lighting fixtures (incandescent and fluorescents). There is a switch afoot - abetted by the energy crisis - which is accelerating the use of LEDs in commercial applications (parking garages, street lights, landscape lighting, accent lighting in hotels and public buildings). LEDS reduce ongoing lighting-labor costs for installation and replacement. For example, changing the bulbs (LEDs) in a parking garage is necessary only once or twice a decade instead of once or twice a year.
Lastly, there's the new series of die bonders that will come out in 1Q'2009. The same customers that buy their ball bonders from KLIC also buy their die bonders. KLIC has not previously tried to penetrate the die bonder market in a big way (until now). They are the market leaders in ball bonders (50+% market share), but their share in die-bonders is small single-digits. Yet think about that. Their customers purchase ball bonders from them and then discover that they're carrying a new line of die bonders as well, just like the ones they've always bought elsewhere. What's easier? You're already in the store. That's why I think the die-bonders could be a hit and will amplify earnings precisely when the ball bonders are hitting their stride for the next up cycle next year. The same value-added machinery that customers are accustomed to with KLIC's ball bonders will be available in die bonding as well.
The gold pass-through cost for KLIC has been especially misleading in prior financials, which is why KLIC has chosen to break it out as a separate item for analysts. They pass that cost on through to their customers. Yes, it's part of KLIC's cost of goods, but in a real sense it's not. Excluding the gold-pass-through, KLIC's profit margins are close to 50%.
I think the shares (under $5) are severely undervalued for three reasons: the company's intent on de-leveraging to a net debt of zero by 2009; the emergence of new products that will cut the packaging costs of chipmakers; the entry into three semiconductor fields which should show strong demand in the next two years: LEDs, copper bonding, die-bonding – while still maintaining and gaining share in their customary market, ball bonding.
Key Statistics: strong profit margins 56% (minus gold pass through); return on equity 52%; quarterly income growth 48%; a P/E of 6, forward P/E 7; Price to sales 0.32; price to growth 0.77. KLIC is currently at trough valuations - near 10 year lows - at what is arguably a trough in the semiconductor cycle. I think clean tech powered by semiconductors is going to be the "next new thing", and KLIC's bonders will be there in the thick of it.
To add a little color to my notes on KLIC, please see yearly range of prices for last 10 years (below). What can't be seen on this chart of high/low prices is that coming into 2008, KLIC is in one of its strongest financial positions ever. I would encourage subscribers to read the transcript from September 07 and listen to the latest conference call on January 24, 2008. At each previous juncture when KLIC was in the $4s, the share price increased 300% within 52 weeks of the low.
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Disclosure: John Gilluly has a position (long) in KLIC.