TRADE INSTRUCTIONS
Date: September 13, 2017
Name: KLA-Tencor Corp.
Symbol: KLAC (NasdaqGS)
Type: Open
Limit: Buy below $101

TRADE TARGETS
Holding Period: 4 months
Target Return: 13.8%
Annualized Return: 41.4%
Target Price: $115
Stop Loss Level: $88

COMPANY DESCRIPTION
KLA-Tencor Corporation designs, manufactures, and markets process control and yield management solutions for the semiconductor and related nano-electronics industries worldwide. It offers chip manufacturing products, such as front-end defect inspection tools, defect review systems, advanced packaging process control systems, metrology solutions, in-situ process monitoring products, and lithography software; wafer manufacturing products comprising wafer manufacturing products comprising surface and defect inspection, wafer geometry and nanotopography metrology, and data management; and reticle manufacturing products, such as defect inspection and pattern placement metrology products. The company also provides light emitting diode (LED), power device, and compound semiconductor manufacturing products consisting of patterned wafer inspection, defect inspection, surface metrology, and data management products; thin-film head metrology and inspection, virtual lithography, in-situ process monitoring, transparent and metal substrate inspection, and data management products for data storage media/head manufacturing; and stylus and optical profiling, and optical inspection products for microelectromechanical systems manufacturing, as well as products for general purpose/lab applications. It offers its products and services for bare wafer, IC, lithography reticle, and disk manufacturers. Link to company website.

TRADE RATIONALE       
M&A activity in the semiconductor field is heating up, and deal sizes are getting progressively bigger so $15 billion market-cap KLAC is no longer too expensive to be acquired. At the moment there is no chatter to suggest that anyone is taking a serious look at buying this business, but that is precisely the point. By the time you’re seeing articles on the internet about a company being in play, it’s too late to participate in the initial surge that accompanies such an announcement.

Why do I think KLAC might emerge as a possible acquisition candidate? First, the company has the type of balance sheet that is easy to digest. It currently holds more cash than debt, so the acquiring company can keep its debt ratios in check. Second, it is priced at only 13.5 times forward earnings, so paying a 25% premium to get the deal done would push that multiple up to 17 times next year’s profits; hardly a king’s ransom in the tech sector.

Finally, as to why someone might want to buy it. If a corporate tax cut happens before the end of this year, it will most likely include a repatriation feature for companies currently holding cash overseas. If so, then a lot of very large tech companies will suddenly have a huge amount of money to spend here in the U.S., and buying this California-based company would secure a reliable domestic source of vital components without the worries of how a potential trade war with China might impact overseas vendor relationships.

But even if none of that comes to pass, KLAC is an undervalued company in a rapidly growing sector. It earns a perfect IDEAL score of 10 due to its solid dividend yield (2.5%), rapidly growing net operating cash flow, and moderate valuation multiple so the downside risk should be quite limited.

NOTE: This stock is optionable.