Roland George Investment Program
Ultra Clean Technology
Jennifer Beebe
Company:
Ticker:
Market Cap:
Industry:
P/E:
P/B:
Ultra Clean Technology
Recent Price:
UCTT
Fair Price:
$262 Million
52 Week High/Low:
Semiconductor Equipment
Beta:
32.91
Forward P/E:
2.54
Avg Daily Volume:
Recommendation: BUY 3,000 shares
$11.42
$28.00
5.85-13.25
1.39
10.48
247,670
Market Analysis
October 2006 has provided excitement on Wall Street. The Dow closed over 12,000 for
the first time on Thursday, October 19, 2006.1 This record breaking high came only
days after mixed news regarding economic indicators was released. In the month of
September the growth of new jobs missed analysts’ estimates and at the same time the
unemployment figure dropped .01% to 4.6%.2 Investors are watching interest rates
closely as well. The latest inflation figures released were 1-2% over the Fed’s “comfort
rate”; analysts disagree over whether the next move from the Fed will be up or down. 3
In sharp contrast to 2005 oil prices have been falling, leaving consumers more
discretionary spending. While the Dow is at an all time high, other indexes are not
agreeing. These conflicting factors leave investors debating whether or not we are
entering a bullish market.
Industry Analysis
The semiconductor equipment industry is part of the information technology sector.
This industry is responsible for “the design, manufacture, and packaging of
semiconductors”.4 Currently in this industry, there are conflicting indicators on its future.
The North American Philadelphia Stock Exchange is down 6.73% year to date.5 This
decrease in value may lead investors to believe that this industry will not offer them
strong returns. Several forecasts, on the other hand, show both an increase in demand
for silicon and an increase in worldwide semiconductor revenues. In 2006 the industry
is expected to see an 18% increase in the demand for silicon showing that the industry
has a healthy future.6 iSuppli Corporation released a study stating that worldwide
revenues are expected to rise for the next five consecutive years. 7 This study did not
fail to mention the dramatic decrease in growth for the past two years. They referred to
fiscal year 2005 and 2006 as the “double bottom” and firmly state they expect to see a
comeback with double digit growth in 2007. This market bottom presents an opportune
time to enter.
1
http://www.dailynews.com/business/ci_4519711
http://www.thestreet.com/markets/economics/10313489.html
3
http://money.cnn.com/2006/10/19/news/economy/inflation/index.htm?postversion=2006102006
4
http://semiconductorbases.net/
5
http://money.cnn.com/data/markets/philsemi/ - pulled 10/20/2006
6
http://wps2a.semi.org/wps/portal/_pagr/103/_pa.103/248?dFormat=application/msword&docName=P039732
7
http://www.linuxelectrons.com/News/EDA/20060406121625934
2
Company Analysis
Fundamental Analysis
Ultra Clean Technology (UCT) was founded in 1991, with headquarters in Menlo Park,
CA, by Mitsubishi Corporation.8 In 1992 they began production of semiconductor
capital equipment. That is, they manufacture the machines that are used in
semiconductor manufacturing.
Today UCT is a preferred supplier to two of the top ten chip equipment makers in the
industry, Applied Materials, Inc. (ticker: AMAT) and Novellus Systems, Inc. (ticker:
NVLS). In 2002 the young company was acquired by Francisco Partners. Under their
new owners UCT was able to open a new manufacturing facility in Shanghai, China.
The product portfolio of UCT has become more diverse since their inception. Currently
they pride themselves in manufacturing five different subsystems to assist in the
production of semiconductors. 9 These five subsystems are:
 Gas Delivery Systems
 Frame Assemblies
 Top Plate Assemblies
 Chemical Delivery Systems
 Catalytic Steam Generation Systems
The company is undoubtedly most known for their Gas Delivery Systems. To solidify
their position in this market even more UCT is in the midst of having their Predator™
IGS patented.10 This new technology will be sure to give them even more of an edge; it
allows for the meeting or exceeding of industry standards at a reduced weight and cost.
This gives their customer more flexibility in manufacturing.
In recent news, after being acquired in 2002, UCT was able to acquire Sieger
Engineering, Inc. in June of 2006.11 Sieger was also involved in the manufacture of
semiconductor subsystems, as well as the medical industry. The transaction was
completed with the exchange of $16 million cash, 2.47 million shares of common stock,
and the assumption of $15 million of debt.
Sales for UCT are expected to rise 91% year over year for fiscal
year 2006. 12 Sales of
2005
$126 M have been realized already in 2006.13 A key contributing factor to this booming
sales growth is the company’s product diversification plan. They are seeing sales from
their gas delivery systems grow and at the same time revenues
from their other
2006
business
2004operations are growing. To illustrate this please refer to figure 1.
2005
Gas Delivery
Systems
1
2
Other Products
2004-$184M
Figure 1 – Total Revenue Breakdown
8
2005-$148M
http://www.uct.com/about/background.html
http://www.uct.com/products/whatUCTdelivers.html
10 http://www.uct.com/products/predator.html
11 http://www.uct.com/investors/inews/2006/062906.html
12 http://www.smartmoney.com/stockscreen/index.cfm?story=20060912intro&afl=yahoo
13
http://finance.yahoo.com/q/is?s=UCTT
9
2006-$282M (EST)
With strong performance and a quality product UCT sales can be expected to rise into
2007. With a continued commitment to product diversification UCT could see a 20% to
30% increase in sales for fiscal year 2007.
Earnings for UCT in fiscal year 2006 have increased substantially. Total EPS in 2005
were $0.12 and 2004 saw $0.59 in earnings.14 Already in 2006 quarter one and quarter
two have provided $0.35 in earnings. Figure 2 shows historic income statements and
the pro forma income statement for quarters three and four of the current year.
According to these statements UCT is expected to see a total of $0.81 in earnings.
Revenue1
COGS2
Gross Profit
Q4 (EST)
83,080
66,464
16,616
2006
Q3 (EST)
73,280
58,624
14,656
Q2
68,469
57,759
10,710
Q1
57,195
33,518
8,191
2005
Q4
Q3
38,781
27,540
33,518
24,967
5,263
2,573
Operating Expenses
R & D3
G & A4
Operating Income
1,039
7,477
8,100
916
6,595
7,145
733
4,762
5,215
598
3,845
3,748
429
4,172
662
495
3,002
(924)
Other Income
EBIT
Interest Expense5
EBT
Income Tax Expense6
8,100
848
7,252
2,466
7,145
928
6,217
2,114
5,215
36
5,179
1,222
3,748
487
3,261
1,130
62
724
724
41
30
(894)
(894)
(328)
Net Income
4,787
4,103
3,957
2,131
683
(566)
0.25
0.21
0.22
0.13
0.04
(0.03)
EPS
1
Assuming sales target of $282 million achieved.
Assuming average of 80% of sales.
3
Assuming continued 1.25% of sales.
4
Assuming continued 9% of sales.
5
Assuming 8% interest on debt.
6
Assuming 29% effective tax rate.
2
Figure 2 - Pro Forma Income Statement for 2006 Q3 and Q4
Technical Analysis
UCT has consistently outperformed both the NASDAQ and the semiconductor
equipment industry; however, there is a strong correlation with UCT and these two
benchmarks. All three see the same timing of tops and bottoms. While UCT’s stock
price is up 74% over last year the price still remains low. With semiconductor sales’
growing internationally this is a good time to enter the market before the price of UCT
goes any higher. With these two benchmarks, the NASDAQ and semiconductor
equipment industry, expected to see increased growth through year end 2007 UCT will
undoubtedly follow suit. Figure 3, on the following page, shows the percentage change
in price for UCT, NASDAQ, and the industry since January 1, 2006.
14
ULTRA CLEAN HOLDINGS, INC. , Annual Report, 2005
Figure 3 - Chart provided by Baseline
Risk Analysis
There are three major sources of risk when investing in UCT. These risk factors are
summarized below:
 UCT is a young company with limited financials. With an IPO in quarter 1 of
2004 UCT is a very young company.15 Fiscal year end 2006 will provide
investors with only their third annual report.
 Outstanding lawsuit against Celerity Inc. On September 2, 2005 UCT filed
suit against Celerity, Inc. claiming that their technology did not infringe on
Celerity’s patents.16 On September 13 Celerity submitted a counter claim that
UCT was infringing on seven patents. To date there has not been a verdict on
the case.
 Majority of revenue comes from a very limited customer base. In 2005
Applied Materials, Inc., Lam Research, and Novellus Systems, Inc. alone
accounted for 89% of UCT’s sales.17 If any of these customers experiences a
dramatic drop in sales it will adversely affect UCT’s sales.
Valuation Analysis
CAPM for required rate of return:
K = krf + B(km+krf) = .047+1.39(.10+.047) = 12%
Malkiel’s Model using EPS
P*=
15
.12(1+5.75)
(1+.12)
+
(
21.8(1.09)(1+.35)2
(1+.12)2
(1+.12)2
)
=
$28.00
http://premium.hoovers.com/global/msn/index.xhtml?pageid=10021&PDate=Q:2004:1
ULTRA CLEAN HOLDINGS, Annual Report, 2005
17
ULTRA CLEAN HOLDINGS, 10-Q, August 14, 2006
16
Holt's Model
Industry: Semiconductor Equipment
Pessimistic Scenario:
UCTT earnings grow 20% year over year.
PE UCTT
=
(
1+.20+0
1+.20+0
)
2
=
1.0000
=
1.1736
=
1.3611
PE SEMIQ
UCTT Fair P/E = (1.00)(21.8) = 21.80
UCTT FY2007 EPS = $1.09
Fair Value = $23.76
Anticipated Scenario:
UCTT earnings grow 30% year over year.
PE UCTT
=
(
1+.30+0
1+.20+0
)
2
PE SEMIQ
UCTT Fair P/E = (1.27)(21.8) = 25.48
UCTT FY2007 EPS = $1.09
Fair Value = $27.89
Optimistic Scenario:
UCTT earnings grow 40% year over year.
PE UCTT
=
(
1+.40+0
1+.20+0
)
2
PE SEMIQ
UCTT Fair P/E = (1.46)(21.8) = 29.67
UCTT FY2007 EPS = $1.09
Fair Value = $32.34
Fair Price: $28.00*
*All calculated prices were given equal weight.
Recommendation
UCT is at an exciting point in their company history. They are facing an industry
promising increased demand over the next several years and they are solidifying their
position as a leader in the market place. With their swelling sales and strong earnings
UCT will offer investors a strong return over the next 15 months. Due to the weakened
projections for 2006 in the industry stock prices have been beaten down making this an
ideal time to invest. UCT will soon be on many analysts’ lists of stocks to watch. Before
this happens it is my recommendation that the Roland George Investment Portfolio
acquires 3,000 shares of UCTT.