FOOL CONFERENCE CALL SYNOPSIS*
By Greg Markus (MF Boring)

Applied Materials (Nasdaq: AMAT)
3050 Bowers Ave., Santa Clara, CA 95054
408-727-5555
www.appliedmaterials.com

WASHINGTON, DC (February 17, 1997) /FOOLWIRE/ --- Applied Materials released first quarter 1997 results on February 11th, 1997. Addressing investors and analysts were company officers Jerry Taylor and Steve Newberry.

JERRY TAYLOR, SENIOR VICE-PRESIDENT AND CFO. "Applied's financial performance in Q1 was quite good given the difficult environment in the industry. Q1 saw new orders of $901 million, up 32% from Q4 levels. Revenues were $836 million, down just 3% from Q4 levels. Earnings-per-share, on an ongoing basis, were $0.48, before the one-time acquisition-related write-off of $59.5 million, which was equal to $0.32 per share. Net income on an ongoing basis was $89 million, or 10.7% of revenues. Overall performance met early 1997 operating goals of exceeding 10% net income in this downturn environment."

ACQUISITIONS OF OPAL AND ORBOT. Both of these companies are in the metrology and inspection market and both of the acquisitions were done in January for a net cash cost of $246 million. Since the write-off of R&D was not tax-deductible, the effective tax rate on Q1 earnings was effected. The company expects to return to its normal tax rate of 35% through the balance of the fiscal year. The purchase price of the acquisitions will be amortized over eight years, at $7 million per quarter, and will be reflected almost entirely in cost of goods sold (COGS). The operating results of these two companies will be integrated into the Applied financial statements beginning in Q2.

Q1 RESULTS COMPARED WITH Q4 1996. A $25 million business re-sizing charge was taken in Q4 -- Q4 EPS of $0.49 on a slightly smaller amount of fully-diluted shares and slightly higher revenues. Gross margin in Q1 was 44.5%, up slightly from 44.1% in Q4. Pre-tax income was about the same in this quarter was $137 million, or 16.4% of Q1 revenues. Backlog at the end of Q1 totaled $1.448 billion, slightly above $1.423 at Q4 end. Q1 operating goals were met or exceeded in all key areas. The business re-sizing efforts initiated in August, 1996 allowed the company to reduce expenses by about $50 million from the Q3 1996 running rate. Revenues in the quarter were slightly above expectations as less customer pushouts were experienced and as some customers pulled in delivery during the quarter. A two-week worldwide holiday vacation shutdown did have a favorable effect of $12.5 million on operating expense in the quarter.

PRODUCTS. Q1 revenue mix by product was fairly consistent with Q4, although spares and service revenues were down 9%, partly due to customers having the right level of inventories, and also due to the holidays and slightly lower activity levels in some fabs. Applied experienced a sizable increase in RTP (rapid thermal processing) revenues. There were about 1.8 times Q4 levels. With a $100 million revenue rate, Applied's RTP systems are leading the industry in technology and market share. On regional mix, stronger revenues were seen from North American logic companies while Japanese and Korean DRAM investments slowed significantly. The company continued to see strong follow-ups to earlier strategic equipment investments, especially in the UK and in parts of Europe. In Asia/Pacific, revenues rose above Q4 levels as major strategic investments began at two major Taiwanese start-up companies.

Geographic revenue breakdown:
35% North America
24% Europe
15% Japan
6%  Korea
20% Asia/Pacific

Q4 breakdown:
22% North America 
24% Europe
28% Japan
10% Korea
16% Asia/Pacific

Q1 ORDERS. Orders exceeded management expectations by a wide margin. Orders were driven by strategic investments by customers, especially late in the quarter. Order patterns are quite uncertain across the industry, especially around the DRAM customer base. However, there are some signs of strategic investments within that customer base. A handful of major fab investment decisions were made by customers in Q1, where the company took orders ranging from $40 million to over $100 million, in two cases, from five key customers. These investments were made in the areas of advanced logic, flash memory, advanced microprocessor capacity, and two customers making investments in 64 Mbit, 0.25 micron architecture DRAM capability in Asia. Applied's global sales and service organization is a major reason why the company is able to grow its business and take market share in the current environment.

Applied's latest technology offerings continue to find success in the marketplace. The Q1 press release points out a series of major product releases in the last six months:

"Applied Materials is aggressively developing new products, including a complete set of 300mm systems, throughout its diverse line of technologies." We are entering this cycle with an extensive array of new products that address 0.35 and 0.25 micron production requirements. In the past six months, we have introduced important new systems in each of our major product lines. These products and technologies include the Silicon Etch DPS (decoupled plasma source) Centura, a next-generation etch system featuring breakthrough source and chamber technology, and the Silicon Etch MxP+ Centura, a high volume solution for less critical etch applications; the Ultima HDP (high density plasma)-CVD (chemical vapor deposition) Centura, for high speed, 0.25 micron and below devices; the DxZ Optima, a new high throughput platform for CVD applications; the Liner TxZ Centura, a fully integrated CVD-PVD (physical vapor deposition) system for advanced multi-level metallization schemes; two Endura HP Liner/Barrier systems for depositing critical titanium and titanium nitride films; the High Temperature Silicon Nitride Centura, which uses single wafer technology for superior control of the thin nitride layers found in structures of 64Mb and 256Mb DRAM devices; and the Implant xR120 for high productivity ion implantation.

"Also, the Company is gaining position in two high growth markets, RTP (rapid thermal processing) and CMP (chemical mechanical polishing). Our highly successful RTP Centura has gained rapid acceptance by our customers. In addition, we believe that the Company's recent acquisitions of Opal and Orbot position us for significant revenue growth by our new Process Diagnostic and Control Group," CEO Morgan concluded.

"These products are providing the customer with tools for advanced technology and physical applications, especially for multi-level metal interconnect for next -generation of microprocessors, advanced DRAMs, and other advanced logic devices and ASICs. These are all based on our proven single-wafer multi-chamber architecture."

Q1 Geographic order mix:
28% North America
10% Europe
24% Japan
15% Korea
23% Asia/Pacific

Q4 Mix:
42% North America
17% Europe
26% Japan
5% Korea
10% Asia/Pacific

The meaningful increase in Japan was due to
investments in flash memory.

Order size breakdown, Q1 vs. Q4
>$10 million, 15 vs. 14
>$20 million, 9 vs. 5
>$40 million, 4 vs. 2
>$60 million, 3 vs. 1
>$80 million 3 vs. none. Of those, two orders surpassed $100 million

Another factor in Applied's success is its strong position in single-wafer multi-chamber architecture, where Applied is the leader. Q1 systems revenues totaled $650 million, 65% above Q4 levels and 50% above Q3 1996 levels. "The importance of strategic orders is that if you penetrate one of these strategic accounts, the hope of future follow-on business is quite high as the customer moves from the strategic investment to add-on capacity requirements downstream."

BALANCE SHEET HIGHLIGHTS. Total debt to capital was reduced to 10% at the quarter's end from 14% at year-end 1996 and from 16% one year ago. Applied ended the quarter with cash of $1.066 billion, up $29 million from Q4. While that change might not be highly significant on its own, the company did pay out almost $250 million for the two acquisitions in addition to reducing long-term debt by $54 million and short-term debt by $42 million. Applied also pushed hard on asset management, reducing receivables and inventory by $144 million before the addition of working capital items from Opal and Orbot. $93 million was also generated from a favorable change in tax liabilities.

STEVE NEWBERRY, GROUP VICE-PRESIDENT OF GLOBAL OPERATIONS AND PLANNING. "It would appear that we have finally found the bottom of the bookings free-fall that we've been experiencing for the last few quarters. As we go forward, we think that we've also experienced the bottom of our revenue cycle. Over the last three months, we've continued to see the environment for our customers to be a difficult one relative to the DRAM over-supply and the significant fluctuations they've experienced in terms of spot-market pricing." The recent announcement by the Korean manufacturers that they will attempt to hold back production 30-40%, which resulted in the spot market jumping up to the $9 range, shows that there is some potential for firming of pricing and supply. It's also not clear that that level of production pullback will occur.

The company's customers have been accelerating their activities relative to sub-0.35 micron feature sizes, in the 0.25 micron and below area in particular. This has been reinforced recently by announcements from Mitsubishi, NEC, Samsung, and Hitachi indicating they're going to increase their production of 65 Mbit devices from the 100-500,000 units/month level to the 1-3 million units/month. The potential for that production to expand to even higher levels exists because these devices are being produced on lines that were originally planned for 16 Mbit production with a later conversion to 64 Mbit. In this environment, the companies have accelerated the introduction of 64 Mbit designs. While the production volumes may not be significant, the overall sub-0.35 micron devices are beginning to ramp in microprocessor and DRAM type of applications.

The company has seen its mix shift to 0.25 micron and below. The company's order rates for these systems are nearly double, as a percentage of orders, systems designed for larger feature sizes. 65% of new orders are being sold into 0.35 micron lines and below. Clearly, semiconductors have become a larger component of the overall electronics market -- Micron currently estimates semiconductor content at 15-18%. North American markets are healthy, as are European, while Japan is expected to grow despite the slowdown from last year's growth. The company believes that the PC market will remain strong in 1997. In the last quarter, 40% of orders for DRAM were in 0.25 micron and below and in non-DRAM, 50% of orders were for 0.35 micron and below. The company believes it is currently very well positioned to compete in these applications, especially in DPS metal etch, poly etch, as well as in MXT+ dielectric etcher. With the introduction of its Ultima HDP-CVD, Applied has had a number of major signings and expects continued success here. The company plans to accelerate its 300 mm. efforts -- over the last six months, customers have focused on developments on development in this area. The company will also concentrate on its infrastructure -- in information technology, business processes, and in account servicing, especially in Asia/Pacific, where the company expects the greatest growth over the coming few years.

The company is pleased that it has been able to expand gross margin on declining revenues, which is something it hasn't been able to do in the past. Moving forward, the company plans to achieve further material cost and period cost reductions in the aim of achieving the type of gross margins seen at the top of the cycle. The company is beginning to see its "lean manufacturing" initiative yield results and expects to see efficiency gains in the 10-15% range by the end of the year. The company expects that it will be moving off the bottom of the cycle and that it will see increases in bookings and revenues in the 10-15% range. Over-capacity continues to exist in DRAM. Non-DRAM appears to be in balance -- it looks as though there needs to be significant purchases if the industry doesn't want to fall behind in 1998.

Q2 AND FY 1997 GUIDANCE. Relative to guidance given last quarter, the company sees opportunities for a slightly improved forecast for the year. The company expects Q2 new orders of $925 million and revenues of $875 million with net income exceeding 10% of sales, yielding EPS of $0.48 on about 188 million shares outstanding. The company expects a slightly improved gross margin in the quarter. Some R&D costs for 300 mm. will begin to accelerate to support greater customer interest.

Orbot and Opal will contribute $25 million to bookings and revenues in the quarter. As the company unwinds distributor agreements with those businesses, it expects upside possibilities in revenues and bookings in H2 1997. The company expects those businesses to have a dilutive impact of a few cents in 1997 and an additive impact in FY 1998.

For FY 1997, the company is expecting revenues of $3.6+ billion with new orders above revenues in each remaining quarter. The company expects EPS from continuing operations of $2.10-2.20 on 190 million shares, with net income after write-offs of $1.78-1.88, for the year.

QUESTION & ANSWER SESSION. The bulk of orders taken in the quarter were for non-DRAM investment and the company believes that the outlook for customers taking delivery on those orders is very good. PC growth continues to be in the 15-17% range and bit growth continues to be in the 75%+ range. Most of the orders taken in the quarter will be shippable in Q3-Q4 with some shipments in Q1. Fab investments being made now are being targeted for fabs coming on-line in late 1998 and early 1999.

CMP continues to do well in evaluations -- the company has had four design wins in the last three months and has received a production buy from a customer who took delivery of evaluations systems in the last six months. Progress is being made in working on production-level throughput. For 1997, the company will be looking at oxide capability, and later in the year, metal.

Total backlog for Opal and Orbot is approximately $40 million. Revenues and orders for the quarter were immaterial.

$22 million in operating expenses will come back during the quarter as the two week shutdown this quarter represented a one-time savings and as the company implements a company-wide salary review. Headcount improved by 200 in the quarter even as 500 people came on board with the two acquisitions.

DRAM order content has gone from about 45% to about one-third DRAM. From a strategic invesmtment standpoint, customers are going ahead with investments because of commitments customers have made in foreign countries and for positioning on leading-edge processes. Originally, customers were targetting 65 Mbit DRAM on 0.35 micron processes and now discussion has gone in the direction of 0.30-0.28 to one-quarter micron. In non-DRAM, business has picked up.

Orders for the first half are running about $200 million higher than expected. Revenues are running higher than expected even as much of the order activity is scheduled for delivery in Q2-Q3 and Q3-Q4.

The company believes that DRAM is still 20-25% oversupplied -- if the Korean cutbacks do take place, then that oversupply number could descend to 10%. The company is not sure that the cutbacks will reach the 30-40% that has been stated. In non-DRAM, the company thinks that overcapacity is at the 10% level but that actual oversupply is around 3-5%. As the demand side of that equation continues to accelerate, the company anticipates strong ordering activity in the second half.

The company expects to make progress from quarter to quarter on gross margin, but it doesn't guarantee reaching peak gross margins during the year as it absorbs Orbot and Opal and as new products continue to come out. The company is much more confident about making that margin goal in early 1998.

Hyundai and Samsung are continuing with their Oregon and Austin DRAM investments. The $105 Anam order was for ASICs. Outside of a fab which just opened in Wales, the Korean companies are not being very aggressive at the moment.

The Ultima HDP-CVD platform came into the market in September. Customers have been pleased with its process capability, cost of ownership, and production worthiness. On advanced generation activities, customers have time to look at new platforms as there isn't great market pressure to put those into production. In competitions with the Novellus product, Applied has won four of the last five head-to-head contests. The company expects to step up production by a significant amount going into the second half of the year.

The company sees its extensive experience in single-wafer multi-chamber designs as a competitive advantage, in that competitors have a steep learning curve to climb. As high volume production goes to 12 inch designs, the company sees that experience increasing in its value.

The company has not yet seen significant 64 Mbit production, so it doesn't have yield assumptions. Historically, preliminary yields have been in the 20-30% range and can take a period of years to get to the 90%+ range. The company believes the industry, and certainly the leading companies, can introduce these devices at a 50% yield. Customers are playing it close to the vest with information, though, and the company will have more to say about yields and its models in coming quarters.

The company believe that ordering for 0.25 micron systems for DRAM will be dictated by competitive pressure, however, the demand side has to come along. Nonetheless, the major players "won't be left standing at the station" as competitors make strategic investments in these systems.

The process control and diagnostics market is now $1.2 billion and has a potential to go to $3.5 billion by the year 2001. CMP market potential for the year 2000 will be $1 billion and RTP will be a $500-700 million by the turn of the century. The dry etch market will be $6 billion by 2000; CVD, $3.4 billion; PVD, $3 billion; and high-current implant will be about $800 million. Core products revenues will double by the year 2000 while new products represent even greater growth potential.

* A Fool conference call synopsis represents an effort to highlight the salient points of a conference call and should not be taken as an authoritative accounting or transcription of the entire event. Note: Statements made by a company other than historical information may constitute forward-looking statements for which the company can claim protection under the Safe Harbor Act. Please consult the company's filings with the SEC for information on risk factors which might cause actual results to differ materially from the information contained in these forward-looking statements.

Today's Headlines

Feedback about News & Commentary? Send us your comments.