For the past 10 years or so, a popular phrase in the technology industry has been, "data is the new oil." The thinking behind that saying is that while oil powered much of the 20th-century economy, the collection, processing, and use of data in decision-making would power the economy of the 21st century.

Given the current massive shortage of semiconductors coming out of the pandemic pushing up prices for various goods, especially cars, it looks as though that term is turning out to be true.

Assuming accelerating data growth continues this decade and beyond, Applied Materials (AMAT -5.97%), the largest, most diverse semiconductor equipment company in the world, stands to benefit handsomely. Yet although the company just reported another strong quarter last week, miraculously, the stock still trades at a cheaper valuation than the overall market.

A semiconductor wafer emerges from a pile of gray minerals.

Image source: Getty Images.

Another quarter of booming growth

In the company's fiscal third quarter ending in June, Applied's revenue surged 41%, while earnings per share grew a whopping 79% and free cash flow doubled. Applied has the largest and broadest portfolio for semiconductor equipment in the industry, spanning etch, deposition, metrology, and even advanced packaging, along with a slew of value-add services. 

Currently, just about all of Applied's segments are firing on all cylinders, with each of its segments outperforming expectations, according to management. Though the semiconductor equipment industry is in a boom right now, Applied took market share last year on top of that, despite its already being the largest company in the space.

So why's it so cheap? 

Despite these eye-opening results, Applied Materials' stock still trades at a discount to the market, at 19.3 times this year's earnings estimates (its fiscal year ends in September). That's below the 31 P/E ratio of the S&P 500 and even lower than the 22 P/E forward ratio for the S&P based on next year's earnings estimates.

With a high-margin business and balance sheet with $6.1 billion in cash against just $5.5 billion in debt, Applied Materials is also repurchasing shares at what seems like a great price. Last quarter, the company bought back $1.5 billion in stock. If one annualizes that to $6 billion, that's good enough to retire 5.2% of the company's shares at current prices, on top of a 0.75% dividend, good for a total shareholder return of nearly 6%.

The reason investors may not be giving Applied Materials its due is due to the highly cyclical past of the semiconductor industry, which has traditionally caused rather large swings in equipment sales from year to year. 

A brain on top of a semiconductor chip on printed circuit board.

Applications like 5G and artificial intelligence are driving a semiconductor super-cycle. Image source: Getty Images.

Why Applied's future may not be as cyclical in its past

While it's always dangerous to say "this time is different," there are a number of reasons why semiconductor equipment sales should be more consistent into the 2020s, and why companies that produce them should also be more resilient.

First, given the increasing importance of semiconductors, as well as the difficulty and capital intensity of producing leading-edge chips, chip foundries have announced multi-year investment plans, to the tune of hundreds of billions of dollars. On the conference call with analysts, Applied's management disclosed a backlog of orders reaching nearly $10 billion -- an all-time record for the company.

At the same time, Applied Materials and its peers have also developed lots of value-add services to help customers get the most of out of their machines, while also developing recurring subscription services within that services segment, which currently makes up 21% of revenue. Chief Financial Officer Dan Durn talked at length about Applied's growing recurring revenue segment on the conference call:

Connecting the installed base to our AIx servers enables us to perform data-enabled services for our customers. Today, we have just over 4,300 connected tools, which is up over 30% from our 2020 baseline. We're also growing the number of secure remote connections, which allows us to connect our best experts to the installed base to perform remote analytics, diagnostics, and optimization from anywhere in the world. The number of remote-connected tools now exceeds 3,200, which is up over 36% from our 2020 baseline. Another key focus is transitioning our recurring revenue to subscriptions in the form of long-term service agreements. Today, we're generating 60% of our recurring revenue from subscriptions, and our goal is to reach around 70% by 2024. We also have a subscription renewal rate of around 90%. Another sign of customer value is the tenure of the agreements. Across the entire base of subscription agreements, we've increased the tenure from 1.9 years at the end of 2020 to 2.2 years today. In fact, of our subscriptions booked in Q3, 77% were multi-year agreements. We track all of these KPIs very closely. Finally, another key metric we disclose is AGS segment operating margin, which provides a good indicator of the value our services bring to customers. In Q3, it crossed 30% for the first time in 15 years.

Another point of good news on the services front is that Applied's machine sales are growing faster than overall company sales, with systems revenue up 53% last quarter. Applied earns services revenues based on the number of chambers in its installed base, so those surging equipment sales should lead to future recurring services revenues for the life of those machines it's selling today.

Given the long-term spending plans by customers and rising recurring services revenues, Applied's current financial strength could be more consistent in the future than the market is giving it credit for. If that's true, shares sure look cheap after its 13% pullback from recent highs.