Lam Research followed in the footsteps of WFE peer KLA with a top and bottom line beat in fiscal Q4, while guiding fiscal Q1 revenue slightly above consensus. Margins rebounded in fiscal Q4 with management forecasting fiscal Q1 GAAP operating margin to expand from Q4’s print. China’s revenue contribution dipping sequentially, which was a main focus on the call.
Lam slightly boosted its WFE outlook for calendar 2024, now seeing WFE spending in the mid-$90 billions, compared to its view for the low to mid-$90 billions in the March quarter. Management said the increased view was primarily driven by domestic China shipments, though recent news with the US targeting more restrictions on China’s ability to access HBM may play a negative role down the line, if implemented.
Lam sees foundry, logic, DRAM and NAND to all rise YoY in calendar 2024. Management noted that memory’s WFE will be “biased” towards tech upgrades, meaning the recovery still may not yet be fully under way as memory’s contribution dipped QoQ.
Overall, we are likely to close Lam as we are not comfortable with high exposure to China, combined with the decline in DRAM.
Revenue and EPS:
Lam returned to topline growth in its fiscal Q4, reporting YoY revenue growth of 20.6%, though QoQ growth was marginal, at just 2.1% QoQ. Lam’s fiscal Q1 guide points to revenue growth in the high-teens, or approximately 16.4% YoY at midpoint.
- Q4 revenue of $3.87 billion beat estimates by $40 million, with Lam reporting YoY revenue growth after five consecutive quarters of declines.
- FY24 revenue was $14.91 billion, down (14.5%) YoY.
- For fiscal Q1 (September 2024 quarter), Lam guided for revenue of $4.05 billion, +/- $300 million, for YoY growth of 16.4% and QoQ growth of 4.6%. This was slightly ahead of analyst estimates for $4.02 billion.
- This quarter, GAAP EPS of $7.78 beat estimates by $0.42, representing YoY growth of more than 30% and QoQ growth of 6%.
- Adjusted EPS of $8.14 beat estimates by $0.55, representing YoY growth of more than 36% and QoQ growth of nearly 4.5%.
- FY24 GAAP EPS was $29.00, down (12.7%) YoY.
- For Q1, Lam guided GAAP EPS of $7.79, +/- $0.75, for approximately flat QoQ growth and 17% YoY growth.
- Adjusted EPS was guided at $8.00, +/- $0.75, for a QoQ decline of (1.7%) but YoY growth of nearly 17%.
Margins:
Lam’s margins expanded sequentially down the line, as operating leverage improved while gross margins remained flat QoQ. This came despite China’s revenue contributing shrinking 300 bp to 39%, with management previously citing China customer mix as a gross margin tailwind. As stated, there were many questions about China’s revenue being smaller this quarter.
- GAAP gross margin was 47.5% in Q4, flat QoQ but up 200 bp YoY. Management guided to a gross margin of 47% next quarter, and an incremental headwind in December.
- Adjusted gross margin was 48.5% in Q4, down 20 bp QoQ but up 280 bp YoY. Both figures came at the high end of management’s guided range for the quarter.
- For Q1, GAAP gross margin was guided at 46.9%, for a YoY and QoQ contraction of 60 bp. Adjusted gross margin was guided at 47.0%, a 150 bp QoQ and 90 bp YoY contraction.
- GAAP operating margin was 29.1%, a 120 bp QoQ and 250 bp YoY expansion.
- Adjusted operating margin was 30.7%, a 40 bp QoQ and 340 bp YoY expansion — this was the highest adjusted operating margin since Q2 2023.
- For Q1, GAAP operating margin was guided to be 29.4%, for a QoQ expansion of 30 bp while remaining flat YoY. Adjusted operating margin was guided to be 29.5%, a 120 bp QoQ and 60 bp YoY contraction at midpoint.
- GAAP net margin was 26.3%, up 80 bp QoQ and 130 bp YoY, and reaching the highest level since Q2 2023, as improved operating margin aided bottom line growth. Adjusted net margin was 27.6%, up 60 bp QoQ and 260 bp YoY.
For the full year, GAAP gross margin was 47.3%, up from 44.6% in FY 2023; adjusted gross margin was 48.2%, up from 45.3% in FY 2023 as gross margins remained strong on China customer mix.
FY 24’s GAAP operating margin contracted 110 bp to 28.6%, as FY 23’s first half strength more than offset back half weakness.
Cash and Debt:
- Operating cash flow was $862.4 million in Q4, for a margin of 22.3%. OCF declined (23.2%) YoY, with the quarter seeing a ($260 million) detrimental impact from changes in operating assets and liabilities.
- Free cash flow was $761.7 million, for a margin of 19.7%, a nearly 1300 bp QoQ contraction, primarily as a result of the decline in OCF.
- Inventory was $4.22 billion, down slightly from $4.32 billion in the prior quarter.
- Cash and equivalents totaled $5.85 billion.
- Debt totaled $4.98 billion.
Key Metrics:
Interestingly, Lam reported DRAM and NVM revenue contribution shrinking QoQ, while logic/other revenue surged QoQ.
As a percentage of systems revenue, which was $2.17 billion:
- Foundry accounted for 43% of revenue, down from 44% last quarter.
- DRAM accounted for 19% of revenue, down from 23% last quarter. Two quarters ago, DRAM was 31% of revenue.
- NVM accounted for 17% of revenue, down from 21% last quarter.
- Logic/other accounted for 21% of revenue, up from 12% last quarter.
Combined, memory accounted for 36% of systems revenue, down from 44% last quarter.
Geographically, Lam saw China revenues moderate QoQ, while Taiwan and US revenue contribution rose substantially QoQ.
- China accounted for 39% of revenue in Q4, down from 42% last quarter, and also reaching its lowest share of revenue in fiscal 2024.
- Korea accounted for 18% of revenue, down from 24% last quarter, potentially as one of the leading factors in memory’s weaker revenue contribution on a QoQ basis.
- Taiwan accounted for 15% of revenue, jumping from 9% last quarter.
- The US accounted for 10% of revenue, rising from 6% last quarter.
Earnings Call:
DRAM Decline is Odd
The decline in DRAM is a concern as demand is surging for HBM3 and HBM3e, driven by memory being the most critical component in the upcoming generation of GPUs and ASICs. We expected more from Lam in this report considering HBM3 and HBM3e is the catalyst for memory stocks Micron, Samsung and SK Hynix, who Lam supplies.
Management stated that “The decline in the memory segment was mainly attributable to DRAM. DRAM came in at 19% of systems revenue compared with 23% in the March quarter as investments in mature nodes declined in the June quarter.” Theoretically, this decline in mature nodes should be offset by growth in HBM.
Per a previous Lam analysis in April Lam was expecting DRAM to triple YoY: “Lam is expecting its “HBM-related DRAM and packaging shipments to more than triple year-on-year and outpace WFE growth in this segment by a significant margin” in 2024.
CEO Timothy Archer added that in HBM, Lam is seeing “very, very strong demand. I think that whether or not at some point, it's shipping above peak, I think that this AI market is continuing to evolve at a very, very fast rate. And all we're focused on right now is ensuring we are building out our own capacity and capabilities. And ensuring that we maintain that technology leadership that's allowing us to hold 100% market share of the TSV formation in HBM.”
We were not the only ones expecting more from the DRAM segment, as one of the first questions on the call asked for more discussion on why DRAM isn’t showing up in the report. The answer was not clear, rather answering with what their technology can solve rather than addressing what is likely a competitive issue, where another supplier is taking the business (my best guess).
Question
Timothy Arcuri (Analysts)
[…] Can you just talk about — I know your leverage to the advanced packaging part of the HBM dollars being spent but that's still a pretty small piece of it. So can you just maybe give a chance to kind of discuss some of the view that you're not very levered to DRAM and give us a sense of maybe where you're investing and where you think you can gain share in DRAM.”
Answer
Timothy Archer (Executives)
[…] The other side of it, a lot of the excitement around DRAM is related to HBM. And there, as you commented, we play extremely well with our strong position in both TSV, etch as well as the TSV electroplating. And I think that we don't see any change in that strong position going forward. So we get the benefit both from the scaling and architectural changes that are occurring in DRAM going forward and from the advanced packaging and HBM related expansion. And all of these — on both of those sides are multiplied by the fact that you get fewer bits per wafer. And so everybody recognizes you're going to need a lot more DRAM wafers processed going forward. And ultimately, that translates into more equipment from LAM.
-End Quote
Another analyst asked for clarification on if DRAM should “at some point, come back strongly.” The CEO stated that “we see DRAM demand for DRAM equipment continuing to grow through 2025 and probably well beyond that.”
China is the Opportunity; but also a Major Risk
As stated, China revenue was at 39% down from 42% last quarter. To help illustrate the importance of China to Lam, the word was stated 33 times in the earnings call compared to HBM being stated 14 times. Not only is China a risk politically, but the revenue can be lumpy for Lam.
Source: Lam’s Quarterly Earnings Slides
There was a solid question on the call that helps investors understand the risk in terms of losing a customer due to restrictions, and why Lam may be lagging some of its peers
Question
Atif Malik (Analysts)
Doug, if I look at the 2023 year-over-year China sales growth among the big 5 equipment makers. All of them are up quite well. ASML is up like 250% and the U.S. peers are up in teens or 20%, but you guys were down 11% total China sales in 2023. And this year, you're expecting China sales to be up. So I'm just trying to understand the dynamics last year. Were this just a function of maybe NAND spending and the NAND project not being active or are there competitive elements in China that are working against you?
Answer
Douglas Bettinger (Executives)
Atif, I'll remind you that perhaps our largest customer got restricted when the regulations came out, our NAND customer in China. That customer was pretty strong in '22, went away in '23. So the year-over-year comparisons you're making, you've got to factor that in. And then the strength we're seeing '23 to '24 is a different mix entirely, really not any NAND in China to speak of, at least not domestic China. I don't know if that helps you, but make sure you're thinking about that.
Conclusion:
The decline in DRAM could be short-lived, to where the segment bounces back quickly next quarter. However, being in the midst of such strong HBM growth, it feels odd to see DRAM decline in light of the strong commentary we saw in the first half of the year.
In addition, Lam’s exposure to China is problematic. Theoretically, it would be harder for Lam to replace China revenue than a memory company that is sold out of supply 6-8 quarters out, or a GPU design company that is also seeing outsized demand. For stocks that have China risk, we’d rather own TSMC, for example, or more of Micron if we seek exposure to memory, or even Nvidia for the clear capex raise we got from Microsoft and Meta.
Our plan is to close Lam and to give the I/O Fund team the task of re-allocating it to a stock with less risk, and with its AI-related segments reporting more growth.
Damien Robbins, Equity Analyst for the I/O Fund, contributed to this analysis.
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