KLA Tencor Is a Dividend Growth Stock

In this article, let's take a look at KLA Tencor Corp.(KLAC, Financial), a $8.29 billion market cap company, which is the world's leading manufacturer of yield monitoring and process control systems for the semiconductor industry.

Key Aspects

The firm has a dominant position supplying products in the process diagnostic and control tools to chip manufacturers.

Although the company faces important competition, KLA Tencor´s expertise in PDC has helped it to develop a knowledge base. It also has one of the largest R&D budget among its peers. Further, it has strong focus on tech advances in order to lower costs by reducing the number of faulty chips.

Among the risks, we can mention the cyclicality of the semiconductor industry and the competition of Applied Materials (AMAT, Financial) which attempts to penetrate the PDC market.

KLA Tencor has an attractive dividend policy showing its commitment to return cash to investors in the form of dividends as it generates healthy cash flow on a regular basis.The current dividend yield is 3.7%, which is good to protect the purchasing power, especially considering the consistency of track-record dividends payments (dividends have been paid since 2005) and favorable expectations regarding dividend growth for the next years.

The company has recently announced the decision to hike the quarterly dividend by $0.02 to $0.52 per share. Thanks to its strong balance sheet and good generation of cash flows, the firm can reward shareholders. Further, it spent $168.7 million to repurchase shares in fiscal Q3.

Revenues, Margins and Profitability

Looking at profitability, revenue declined by 11.21% and earnings per share increased in the third quarter compared to the same quarter a year ago ($0.81 vs $1.21). The net income has decreased by 35.3% to $131.64 million from $203.58 million when compared to the same quarter a year ago.

Finally, let´s compare the best measure of performance for a firm's management: the return on equity. The ROE is useful for comparing the profitability of a company to that of other firms in the same industry.

KLA-Tencor Corp's average shareholder equity for the quarter that ended in March 2015 was $548 Mil. Therefore, KLA-Tencor Corp's annualized return on equity (ROE) for the quarter that ended in March 2015 was 96.08%, which is higher than the industry median and the ones exhibit by Teradyne (TER, Financial), Applied Materials (AMAT, Financial) and SunEdison (SUNE, Financial). In general, analysts consider ROE ratios in the 15-20% range as representing attractive levels for investment. So based on this, KLA Tencor is a good option. It is very important to understand this metric before investing and it is important to look at the trend in ROE over time.

Relative Valuation

In terms of valuation, the stock sells at a trailing P/E of 24.4x, trading at a premium compared to a median of 19.8x for the industry. To use another metric, its price-to-book ratio of 16.8x indicates a premium versus the industry median of 1.64x while the price-to-sales ratio of 3.09x is above the industry median of 1.51x. These ratios indicate that the stock is relative overvalued.

Final Comment

The company is a leader in the market with a great portfolio of tools that make it a good bet for investors, as well as management´s willingness to return cash to them.

The PE relative valuation makes me feel bearish on this stock, because there are cheaper options in the same industry. Further, the share price has plummeted by 26% in a year to date basis and more than 30% in the past 12 months.

Manning & Napier Advisors, Inc sold out the stock in the second quarter, while Ken Fisher has reduced his position by 6.98% to 118,454 shares.

Disclosure: Omar Venerio holds no position in any stocks mentioned