The semiconductor shortage has been a boon for a number of companies up and down the supply chain.

And this week’s Stock of the Week is right in the sweet spot.

It not only plays a big role in the manufacture of semiconductors but also is diversified across multiple industries around the globe.

It hits all of my metrics for growth, value, income and cash return on capital invested (CROCI)…

In fact, as far CROCI is concerned… it’s one of the most cash-generative and cash-efficient companies in the world.

Cash is king, and this company knows it.

With the stock price just 10% higher than it was a year ago, there’s plenty of gas in the tank for a big move this year…

And if we see a downturn in the markets… this is one stock you’ll be glad to own.

The numbers prove it’s healthy… and resilient.

Check out the latest Stock of the Week below.

Want to see if your stocks make the grade? Send an email to mailbag@manwardpress.com.

Note: These are the types of stocks that I share with subscribers to my elite research service GVI Investor. To learn how to get access to all my best research and insights on the stocks that have the potential to generate 40% returns – or more! – per year… click here.

Transcript

Hi everyone. And welcome to another week with a Stock of the Week.

Remember, these are the stocks that meet my criteria. So, it gives you some insight into my thinking, but they’re not the full blown recommendations that I have in my research service GVI Investor. So it’s just to give you quite a bit of a taster, but a very useful taster indeed. And I’m going to run through it so you can understand what it is that I’m looking to do with this particular stock this week.

So this week’s stock is Applied Materials (Nasdaq: AMAT). Now, as you know, I’m Alpesh Patel, I run a hedge fund. I’ve been doing that for about 17 odd years, been writing in the Financial Times. So this pick is based on all that knowledge, as well as 18 odd books, you can see over my shoulder that I’ve written as well.

So what do I like about this company?

Well, let’s just give you a bit of a background on the company first. Applied Materials is a California-based firm that provides manufacturing equipment, services and software to, and this is the important bit, the semiconductor, display, and related industries.

We know that’s booming. We know there’s been a supply chain problem because the massive demand, okay. We know that that demand is not going down and it’s not going away.

This company operates through three segments. Semiconductor Systems. Really important. Applied Global Services. Because obviously a lot of this needs servicing. It needs servicing around the world, and then there’s display related markets as well. So it’s not just purely in the semiconductor side, there’s diversification in the business. And it’s global. All of these things incredibly important.

Let’s take a deep dive into some of this. The Semiconductor System segment develops manufacturers and sell various manufacturing equipment that’s used to make semiconductor chips, right?

So that part of the chain. And that’s what you want. You want a company which is global, diversified, it’s in ancillary businesses and it’s right along the chain, right?

The other part is what the Applied Global Services segment does. They provide the solutions to optimize the equipment and performance and productivity. They don’t just give you the equipment. They’re helping those companies who use the equipment, how to use it effectively, and so on. Now, the reason that’s important is because if you are just selling a product, you get a one off fee. If you’re selling a service, you’ve got ongoing relationships, you’ve got the ability to keep selling, and you’ve got ongoing revenues. That’s why that part’s important.

And that third segment I discussed. The Display and Adjacent Market segment. Well, they’ve got products for manufacturing, liquid crystal display technology to watch your TV on. Organic light-emitting, diodes LEDs. Obviously that’s not going anywhere. That’s, if anything, growing. And other display technologies for TVs, monitors, laptops, personal computers, electronic, tablets, smart phones as well.

Now why is that important? Well, it’s one thing to say, we know there’s a massive demand for semiconductors, because they’re being used everywhere. In electric vehicles to the traditional stuff… computers. But also alongside that, guess what else you need, which people often forget. You need the display screens. I mean, even a Tesla has a… not just this amazing number of semiconductors, they’ve got this massive, massive screen in the middle. So you’ve got that aspect of it. It’s got ancillary businesses, which satisfies that diversification.

Now how has the company been doing? Let’s have a look at it. 2017. It was up 60%. The share price in 2019 up 86%, 2020 up 41%, 2021 at 82%. You’ll have noticed I left out 2018. When the markets fell, it did indeed fall. It was down 36% in 2018. So we’re not talking a one-way bet. And yes, you could argue,  “It’s gone up so much in 2020 and 2021. Are you really saying it can continue going in that direction?”

Well, I have to look at the financials. And when I look at the financials, what do I find? Well, based on my own value/growth/income rating, which remember is an algorithm, which incorporates the valuation of the company based on its profitability to its share price, based on its revenue growth, based on the dividend deals it produces, it’s got an 8 out of 10 score. Okay. Hardly anything gets 10. So ignore that. Call it an eight out of nine score. So it’s right up there.

What else?

Well, you’ll know, cash return on capital invested. Incredibly important to me. It’s that number I take from Goldman Sachs and which shows on their research that company’s in the top 25% by cash return on capital invested generate 30% returns on average per annum, as indeed has this company.

Well, it meets that criteria, in actual fact cash return on capital invested sits at 25.5%, making it one of the most cash generative companies in the world for the capital that it invests. It’s very efficient. In other words, it’s efficient at producing cash. It’s efficient at using the capital that it has as well. All very important when you’re talking about impact on share prices and profitability.

Six months ago, price percentage change. It’s gone up 10% in six months. So I think that’s a little bit cautious over the last six months. Could have done better.

And that’s why I think there is, over the next 12 months, which is my typical holding period, gas in the tank, as it were Sortino ratio of one. In other words, the rewards that we get outweigh the volatilities. And when I look at the return alpha, it’s been consistently outperforming the market. Which is what that’s a measure of, which is important to me as well.

The slight downside, little bit volatile, 20% volatility. Marginally a bit more than I’d ideally like. I don’t like too much volatility, because whilst I want to get to the top of the hill, I get my returns. I don’t want a big roller coaster ride to get there. That’s one way of thinking about volatility. There’s a whole bunch of other factors that I often look at and I’ve no issues with it. In others words, it’s ticking a lot of boxes for me. So all of that side is good.

Return on capital employed. Also good. Free cash flow conversion. Also good. Gearing. Not bad at all. Not over-geared, ticks a lot of green boxes for me. That’s why it’s my stock of the week for you all.

And when I look at the forecast of growth, which is critical, of course, turnover is forecasted to grow 14.7%, earnings forecast is growing 16.7%, all solid. You know what’s interesting about those two figures? They’re both above the three year average. And if you look at how well the share price is doing, you may think, wait a minute, this is all factored into the price, which is why the price has risen so much in the past 12 months. I think you’re right. I think a lot of this is factored in, and I think if it meets or exceeds these targets, the price will rise further, because confirmation in these difficult economic circumstances that it can meet those expectations.

I think that’s where we are in the world at the moment. We’re at that stage where if somebody meets expectations, we’re a bit relieved. And of course it exceeds them, then the share price goes up even further.

Okay. So just wanted to give you those insights into my stock of the week. Great things. All also to round up, turnovers been increasing, earnings have been increasing. Yes, total borrowing has been increasing over the last few years, but it’s leveled off. Net asset value. The assets it owns, its current assets as well. That’s been increasing. So whilst it’s borrowed, it has increased its assets. So it’s got something for that borrowing. Operating profits. I wouldn’t quite say they’re exponential, but they are steeply rising, and operating cash flow has being going up as well. All signs of a very, very healthy business.

Let me put it another way… If there’s a market crash, I don’t think there would be, and I wake up at 3 in the morning, I ask myself, when I look at these figures, would I feel come that I bought it and I did the right thing, even though the market’s been dragging everything lower?

Yes, I would.

Now that’s important, because it’s not just about the returns. There are things we can’t control such as market falls. I like the kind of stocks, as you know, which are resilient. In other words, should the market fall those stocks shouldn’t fall as far. And should the market rise, they should rise and outperform significantly better. And outperforming and doing significantly better is what I want for my pension and my son’s inheritance.

Hope you found that insight into my Stock of the Week useful. Thank you very much.

 

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