Lam Research Is Citi's No. 1 Semiconductor Pick; Applied Materials Downgraded

• Lam Research Corporation LRCX shares are down 8 percent year-to-date, while shares of Applied Materials, Inc. AMAT have plunged 34 percent.
• Citi’s Atif Malik maintained a Buy rating on Lam, while downgrading the rating on Applied Materials from Buy to Neutral.
• The merger between Lam and KLA-Tencor could become a formidable competitor to Applied Materials, Malik noted.

On October 21, Lam announced its plans to acquire KLA-Tencor Corp KLAC in a deal worth $10.6 billion. Referring to Lam as the #1 pick, analyst Atif Malik said that the merger is a positive and that “consolidation is necessary in the industry amidst flattish WFE spend next year.”

The WFE spend estimates for 2015 and 2016 have been reduced from $33 billion to $32 billion and from $35 billion to $32 billion, respectively, to reflect the recent capex cuts by Intel and TSMC as well as decline in Samsung DRAM spend next year.

Malik wrote, “We are downgrading AMAT to Neutral on lower C16 foundry and DRAM equipment sales where our revised WFE forecast has come down the most Y/Y.”

The combination of Lam and KLA-Tencor would represent “a more formidable competitor” to Applied Materials in the longer-term. Malik added, however, that Applied Materials’ strong capital return and share buybacks would keep the stock range bound in the near to mid-term.

The two concerns that arose due to the failure of the AMAT/TEL merger – the considerable R&D product overlap and Applied Materials attempting a tax inversion by re-domiciling abroad – are not concern areas for the deal between Lam and KLA-Tencor.

In the report Citi noted, “First, LRCX and KLAC do not have any areas of overlapping products – LRCX competes in the deposition and etch markets and KLAC competes in the process control market. While the customers of these two companies are the same, the merger will not result in reduced competition.”

“Second, both LRCX and KLAC are domiciled in the US and intend to maintain their domicile,” Malik added.

The price target for Lam has been reduced from $97 to $91, while Applied Materials’ price target has been cut from $23 to $18.