KLA Tencor is a Key Player in the Semiconductor Manufacturing Process

Author's Avatar
Oct 13, 2014

In this article, let's take a look at KLA Tencor Corp. (KLAC, Financial), an $11.26 billion market cap company, which is the world's leading manufacturer of yield monitoring and process control systems for the semiconductor industry.

Vast experience

The company has a portfolio of key products that make it a supplier of yield management solutions. It focuses on designed products with the most recent technology and with the latest transistor materials and films.

KLA-Tencor is a leader because of its dominant position in the process diagnostic and control market. PDC tools have the characteristic that it lowered costs because it reduced the quantity of faulty chips produced and this is very important.

When looking at competitive advantages, we must mention its leading technical expertise and extensive knowledge base. Obviously, this is based on R&D budgets, the largest in the PDC market.

Growth prospects

The firm faces the risk of the industry itself because of the cycles of the semiconductor equipment industry; but we think that the company´s semiconductor business will continue to grow in the long term. This is not easy to reach because new innovative products involve smaller circuit sizes and new materials.

Attractive dividend policy

KLA Tencor has an attractive dividend policy showing its commitment to return cash to investors in the form of dividends as it generates healthy cash flow on a regular basis. The current dividend yield is 2.7%, which is quite good to protect the purchasing power, especially considering the consistency of track-record dividends payments and favorable expectations regarding dividend growth for the next years. Dividends have been paid since 2005.

Revenues, margins and profitability

Looking at profitability, revenue grew by 1.98% led earnings per share increased in the most recent quarter compared to the same quarter a year ago ($0.80 vs $0.77). During the past fiscal year, the company increased its bottom line. It earned $3.47 versus $3.21 in the previous year. This year, Wall Street expects an improvement in earnings ($3.90 versus $3.47).

Finally, let´s compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.

Ticker Company ROE (%)
KLAC KLA Tencor Corp. 16.34
TER Teradyne Inc. 9.80
AMAT Applied Materials Inc. 13.71
ATE Advantest Corp -24.23
SUNE SunEdison Inc. -500.72
 Industry Median 3.93

The company has a current ROE of 16.34% which is higher than the industry median and the ones exhibit by Teradyne (TER, Financial), Applied Materials (AMAT, Financial), Advantest (ATE, Financial) and SunEdison (SUNE, Financial). In general, analysts consider ROE ratios in the 15-20% range as representing attractive levels for investment. So based on this, KLA Tencor is a good option. It is very important to understand this metric before investing and it is important to look at the trend in ROE over time.

03May20171348011493837281.png

Relative Valuation

In terms of valuation, the stock sells at a trailing P/E of 19.6x, trading at a discount compared to an average of 74.6x for the industry. To use another metric, its price-to-book ratio of 3.08x indicates a premium versus the industry average of 1.83x while the price-to-sales ratio of 3.91x is above the industry average of 1.69x.

As we can see in the next chart, the stock price has an upward trend in the five-year period. If you had invested $10,000 five years ago, today you could have $26,290, which represents a 21.3% compound annual growth rate (CAGR).

03May20171348021493837282.png

The share price has jumped by 25.8%, exceeding the S&P 500 performance.

Final comment

As outlined in the article, the company has a wide portfolio of tools and is a leader in a very profitable market. PDC tools as we have said lower costs, but also maximize productivity. Further, its knowledge in the market is a key advantage that competitors can´t reach.

The PE relative valuation and the return on equity that significantly exceeds the industry average and make me feel bullish on this stock.

Hedge fund gurus like George Soros (Trades, Portfolio), Louis Moore Bacon (Trades, Portfolio), David Dreman (Trades, Portfolio), Ken Fisher (Trades, Portfolio), Chuck Royce (Trades, Portfolio), Murray Stahl (Trades, Portfolio) and John Buckingham (Trades, Portfolio) added this stock to their portfolios in the second quarter of 2014, as well as Manning & Napier Advisors, Inc.

Disclosure: Omar Venerio holds no position in any stocks mentioned