In just a couple of years, Nvidia has gone from niche PC video game chip designer to household name -- at the very heart of conversations surrounding AI. Nvidia stock has rallied 164% so far in 2023 and is up nearly 11,000% over the last 10 years.
But there's a lot more to the AI story. Nvidia may command the spotlight at the moment, but don't fret if you missed the boat. Give Applied Materials (AMAT 2.98%) some attention right now.
The quiet powerhouse of chip manufacturing and research
Applied Materials is a chip fabrication equipment maker. It makes and sells the complex machinery used to make chips by chip fabs (a fab is a factory that makes semiconductors). Currently, Applied is just ahead of ASML Holding as the largest chip fab equipment provider as measured by annual revenue.
Data by YCharts.
In addition to being the largest chip fab equipment company, Applied also has the broadest portfolio of fab machines. You see, chipmaking is a complicated process involving many dozens of steps. Applied has equipment that addresses nearly every step in fabricating a chip. ASML, by contrast, is a specialist, focused on one type of equipment (lithography, to be specific, the machinery that produces ultraviolet light to shape microscopic features onto silicon chips).
But there's much more to Applied than simply making machines. It's also a trusted chemistry and physics research partner to its customers. That's where the name "Applied Materials" comes from, as chip design requires a deep level of understanding of semiconducting materials (like silicon, which is normally an insulator, but conducts electricity in certain situations) and how they interact with other parts of the physical world.
To double down on its R&D capabilities, Applied recently announced plans to invest up to $4 billion over seven years to build the EPIC Center, a facility to test out new semiconductor technology and collaborate with others in the industry -- from chip designers to manufacturers to university labs. EPIC Center will ultimately be Applied's sandbox, but it will invite others to come play in it, too. Among those that announced their excitement about this project were none other than Nvidia, as well as Taiwan Semiconductor Manufacturing, AMD, Intel, and universities like MIT.
Although it's far from a household name, suffice to say Applied Materials is a critical part of the global technology industry.
Why buy Applied Materials now?
While many chip stocks have soared in price in recent months and now carry premium valuations, Applied has not gone parabolic. Shares trade for just 18 times trailing-12-month earnings per share (EPS) as of this writing.
Chip fab equipment spending is in a slump this year, as many manufacturers have cut expenses to deal with economic slowdown. However, Applied has been able to tread water during this downturn by shifting its focus to high-growth pockets of the market, like chip fabs focused on electric vehicles and other industrial technology. In the most recent quarter, revenue and EPS rose 6% and 7% year over year, respectively.
Yet, when thinking about all of those new advanced semiconductors needed for AI, Applied is most certainly in line to benefit. When the AI boom starts to catch up with advanced chipmakers, the line to purchase Applied's higher-end machinery could get crowded. What is currently a slow-growth business could go through a spurt of faster expansion, perhaps starting in late 2023 or 2024. Indeed, Nvidia said it secured significant chip supply to meet AI demand for the back half of 2023, likely with partners like TSMC. That could have a trickle-down effect for Applied.
Let's also not forget the dozens of new fabs being built and refreshed starting this year in response to the chip shortage during the pandemic. It takes years to build these expensive facilities. Eventually, once the walls go up, machinery from Applied will be needed to fill them.
If you feel like you missed out on Nvidia, that's OK. There are other leaders in the semiconductor industry poised to benefit from AI and other high-performance computing technology in the years ahead. Applied Materials is one of them, and its shares still look reasonably priced.
