Please ensure Javascript is enabled for purposes of website accessibility

This High-Growth Chip Stock Just Beat Guidance and Raised Its Dividend

By Billy Duberstein – Oct 14, 2020 at 5:15PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Yet the stock dipped on the news. You should scoop some up.

High-growth semi-cap equipment maker ASML Holdings (ASML -1.99%) just had its third-quarter earnings report  today, October 14. The company is the sole provider of extreme ultraviolet lithography (EUV), which is a key technology to making smaller and more powerful semiconductor chips for the next decade. EUV anchors a machine portfolio that also includes deep ultraviolet lithography, and metrology and inspection -- technologies that should eventually grow over the next decade as more and more advanced semiconductors are made to fuel AI, 5G, and the Internet of Things.

ASML, one of the first companies to report this earnings season, just delivered a handy beat over analyst expectations, all while raising its dividend and announcing the restart of its share buyback. However, the stock slipped after the announcement. Here's why you should consider picking up some shares on any pullbacks.

A semiconductor rising out of a blue animated motherboard.

Image source: Getty Images.

Guidance was just OK, but due to short-term fluctuations...

For the third quarter, ASML grew revenue 32.5% year over year, with net income up 69.4% as margins expanded. Both figures handily beat analyst expectations.

So why did the stock fall? Investors probably shouldn't read too much into this. Most technology stocks fell Wednesday, as the prospects for a stimulus deal before the election appeared to fade. Nevertheless, there were what some might consider "flies in the ointment" regarding ASML's outlook.

Next quarter, management forecasts revenue between 3.6 billion and 3.8 billion Euros -- sequentially lower than the 4.0 billion Euros made in the third quarter. Management also said that due to some timing uncertainty with certain customers, some EUV sales may slip from the fourth quarter into next year. Finally, the company gave a general outlook for 2021, forecasting "only" low double-digits growth, which might seem underwhelming in light of this quarter's sterling results.

Why investors shouldn't worry

Regarding next quarter, investors should know that the current quarter benefited from extra revenue recognition for four EUV machines that were actually shipped in the second quarter but weren't recorded as revenue until the third quarter. Given that EUV machines can go for $150 million per machine, that's a huge difference. Taking those away from the current quarter, revenue would grow sequentially in Q4. Additionally, ASML is proving out its margin expansion story, with gross margins projected to rise to 50% from just 47.5% in the recent quarter.

It may seem counterintuitive, but ASML's EUV machines are actually a lower-margin product right now despite their being a monopoly. Management noted EUV machine gross margins were around 40%, and EUV service revenue should just hit breakeven in the current quarter. That's because EUV production is just ramping up, and margins should expand on higher volumes in the future. In addition, EUV has to be somewhat cost-competitive over multiple deep ultraviolet lithography (DUV) passes, which is a less efficient and more difficult (though less expensive) alternative to EUV scaling.

Still, as ASML moves from shipping about 35 EUV machines this year to 45 to 50 next year, those margins should continue to go up. So while management gave guidance for low-teens growth in 2021, operating margins and earnings per share should grow much faster than that.

Additionally, I think management is being cautious with guidance due to all of the uncertainty around the U.S.-China trade war and recent government restrictions on sales to certain Chinese foundries.

Not only that, but as EUV is becoming more mature, management now says it will be requiring down payments for EUV machines from customers, as opposed to the past, when management gave customers extended payment terms as they were proving out the technology. That should greatly help free cash flow, which will fuel more share buybacks and dividends.

Speaking of dividends...

While ASML's dividend only yields about 0.75%, management confidently hiked the payout. ASML pays a bi-annual dividend, with the next payment coming in November. That dividend will total 1.20 Euros per share, 14% above the 1.05 Euro dividend paid at the same time last year. Better yet, the company is resuming share buybacks as part of its three-year, 6 billion-Euro program.

No change to the outlook

ASML remains a solid growth stock with a wide moat and a bright future. While its share price may waver a bit around events like earnings, it's looking like a solid buy-and-hold for the long term. Despite Wednesday's pullback, ASML's stock is still up 38% on the year clouded by a global pandemic, so shareholders shouldn't have too much to complain about here.

Billy Duberstein owns shares of ASML Holding and has the following options: short October 2020 $260 puts on ASML Holding. The Motley Fool owns shares of and recommends ASML Holding. The Motley Fool has a disclosure policy.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

ASML Holding Stock Quote
ASML Holding
$591.84 (-1.99%) $-12.01

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 11/26/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.