Makers of semiconductor manufacturing and processing equipment have seen their shares come under pressure as the result of softening demand for memory chips and the protracted U.S.-China trade conflict. Micron Technology Inc. (MU), the largest U.S.-based maker of memory chips, recently announced a cut in capital spending plans, and other DRAM and NAND memory companies are unlikely to add capacity amid uncertain demand, as Thomas Diffely, a senior research analyst focusing on semiconductor capital equipment and technical design software at D.A. Davidson & Co., observed in a recent report cited by Barron's.

Diffely has downgraded his ratings on 5 semiconductor manufacturing equipment companies to neutral from buy, including: Advanced Energy Industries Inc. (AEIS), Applied Materials Inc. (AMAT), Ichor Holdings Ltd. (ICHR), Kulicke & Soffa Industries Inc. (KLIC), and Lam Research Corp. (LRCX). He cut his price targets on all these stocks, plus 7 others, per Barron's.

The table below summarizes the challenges facing these stocks.

Key Takeaways

  • Semiconductor equipment makers face sharp drops in sales revenue.
  • Chipmakers are cutting capital investment due to weak demand.
  • The U.S.-China trade war is adding to uncertainty in this market.

Significance For Investors

Diffely warned that reduced capital spending by semiconductor manufacturers could “create a revenue hole” for suppliers of chipmaking equipment. "There is a significant uncertainty in the timing and magnitude of the wafer fab equipment recovery...the equipment names will be largely rangebound until some clarity returns," he wrote.

"The all-important memory recovery continues to lag expectations and the near-term data flow will likely remain negative," Diffely wrote.“To make matters worse, geopolitical turmoil in China has created uncertainty and is dampening demand from this important semiconductor customer base," he added. In this vein, he made reference to the recently-eased U.S. sanctions against Chinese telecom firms Huawei Technologies and ZTE.

Huawei spends about $20 billion annually on semiconductors, according to research by investment banking firm Evercore ISI cited in a report by CNBC. The total sourced from U.S.-based chipmakers was nearly $11 billion in 2018, per Bank of America Merrill Lynch.

Among the major U.S.-based chip manufacturers that had stopped selling to Huawei after it was blacklisted by the U.S. Department of Commerce were Qualcomm Inc. (QCOM), Broadcom Inc. (AVGO), Intel Corp. (INTC), and Xilinx (XLNX). Whether they can count on the recent relaxation of the U.S. ban being more than temporary is highly uncertain. "We note that status of Huawei restrictions still remains in flux, and it is possible the company's fate remains part of the ongoing US/China trade negotiations," BofAML warns.

Looking Ahead

Lam Research is scheduled to report 2Q 2019 earnings on July 31, followed by Kulicke & Soffa on Aug. 1, Advanced Energy on Aug. 2, Ichor on Aug. 6, and Applied Materials sometime in the Aug. 14-19 timeframe, per Yahoo Finance.

The consensus estimates for all 5 stocks anticipate significant year-over-year (YOY) declines in both sales revenues and EPS, also per Yahoo Finance, based on data as of July 18. Lam Research: sales down 24%, EPS down 36%. Kulicke & Soffa: sales down 52%, EPS down 92%. Advanced Energy: sales down 31%, EPS down 73%. Ichor: sales down 45%, EPS down 76%. Applied Materials: sales down 21%, EPS down 42%.