MKS Instruments Could Soon Rally Or Fall To New Lows

It’s been a year of turbulence for MKS Instruments (NASDAQ:MKSI). The stock has lost more than half its value in 2022, weighed down by a number of headwinds. The stock can even be said to be in a downtrend, especially in the last few months. However, there is reason to believe the stock could be due for a rally in the short term. Why will be covered next.

The stock could be getting ready for a big move

The chart below shows how the stock has lost 55% YTD. The stock has gradually lost ground as the year has passed, culminating in the low of the year at $74.65 on October 14. The stock actually came within pennies of matching the March 2020 low at $74.75. In doing so, MKSI has pretty much completed a 100% Fibonacci retracement, starting from the March 2020 low, when the stock rose in the aftermath of COVID-19, to the high at $195.84. The stock is currently worth $79.22, which means the stock is as much as 60% off its highs.

However, the stock has bounced in recent days with MKSI gaining 6% in one week. In addition, the chart shows how the stock has almost reached the point at which two trendlines are about to converge. Note how the slope of the upper trendline is at a steeper angle than the lower trendline, which results in them converging on one another.

The stock has spent months respecting the boundaries imposed by these two trendlines. On the one hand, the stock has been unable to fall below the support provide by the lower trendline, which connects a sequence of lower lows. The lower trendline is descending, resulting in a stock that has also descended over time.

On the other hand, the stock has also been unable to break through the resistance imposed by the upper trendline despite repeated attempts. But this cannot continue since the stock has almost run out of space with convergence close by. Two things could happen. The stock could fall below the lower trendline, which would open the door to new lows, especially with no support levels close by.

Alternatively, the stock could break through the upper trendline. If MKSI goes for the second option, the stock could potentially make it all the way back to the $120-125 region. Note that the $120-125 region is the highest the stock has been able to reach in recent months, suggesting the presence of stiff resistance in this region. The stock is therefore likely to stall once it gets there. Nevertheless, the stock will have gained 50%.

It’s not certain which route MKSI will end up taking. The stock has lost close to a third of its value in the last three months, which suggests MKSI is due for a bounce or a move up. What is highly unlikely is for the recent price action to continue. Something has to give, resistance or support, and whatever happens, it is likely to come soon.

The next earnings call could be the catalyst

Next month’s earnings release, and guidance in particular, could be the trigger for the stock to move up or down. Consensus estimates expect revenue of $949M and non-GAAP EPS of $2.45. MKSI is projected to earn $8.92-10.19 on revenue of $3.59B in FY2022. In comparison, non-GAAP earnings were $11.38 on revenue of $2,949.6M in FY2021. Note that the projections account for the acquisition of AtoTech, which was recently completed.

The next guidance should provide some early insights as to how the addition of AtoTech is benefiting or detracting from MKSI, which could be important with the latter encountering headwinds when it comes to growth in 2022. The table below shows how quarterly earnings have declined in recent quarters.

Q2 revenue increased by 2% YoY to $765M, but lower margins led to a decline in the bottom line. GAAP EPS declined by 11.8% YoY to $2.32 and non-GAAP EPS declined by 14.2% YoY to 2.59. Adjusted EBITDA was $208M in Q2 FY2022, down from $211M in Q1 FY2022 and $229M in Q2 FY2021. However, these numbers beat consensus estimates for the top and the bottom line. Another strong earnings beat in combination with upbeat guidance may be enough to push the stock higher.

(GAAP)	Q2 FY2022	Q1 FY2022	Q2 FY2021	QoQ	YoY
Sales	$765M	$742M	$750M	3.10%	2.00%
Gross margin	44.2%	45.0%	47.4%	(80bps)	(320bps)
Operating margin	21.5%	23.1%	24.8%	(160bps)	(330bps)
Income from operations	$164M	$172M	$186M	(4.65%)	(11.83%)
Net income	$130M	$143M	$146M	(9.09%)	(10.96%)
EPS	$2.32	$2.57	$2.63	(9.73%)	(11.79%)
(Non-GAAP)
Sales	$765M	$742M	$750M	3.10%	2.00%
Gross margin	44.2%	45.0%	47.4%	(80bps)	(320bps)
Operating margin	24.1%	25.6%	27.7%	(150bps)	(360bps)
Income from operations	$184M	$190M	$208M	(3.16%)	(11.54%)
Net income	$145M	$151M	$168M	(3.97%)	(13.69%)
EPS	$2.59	$2.71	$3.02	(4.43%)	(14.24%)

Click to enlarge

Source: MKSI Form 8-K

It’s worth mentioning that the above numbers were achieved in spite of supply chain constraints, which limited MKSI’s ability to meet demand. If not for these constraints, the quarterly numbers could have been better. From the Q2 earnings call:

“While there’s clearly a lot of focus on the current macro environment, our business levels remained strong in the second quarter. Our operations and engineering teams executed extremely well, navigating industry-wide supply chain constraints to deliver to our customers. Availability of certain components somewhat improved in the second quarter but we continue to remain supply constrained in our ability to fully meet customer demand.”

A transcript of the Q2 FY2022 earnings call can be found here.

MKSI finished the quarter with cash and cash equivalents of $1,065M on its balance sheet, partially offset by debt of $820M. Keep in mind that the balance sheet is set for changes with the AtoTech acquisition, a transaction that will cost $16.20 in cash and 0.0552 share of MKSI stock for every share of AtoTech. Debt is expected to rise to around $5B with AtoTech.

Valuations are currently lower than they have been on average in the past

Another argument in favor of higher stock prices can be found by looking at valuations. Multiples for MKSI are lower than they have been in the past or in comparison to most semis. For instance, MKSI trades at 9 times forward earnings with a trailing P/E of 8. In comparison, the average in the last five years is 19x and 20x respectively. It’s also lower in comparison to other names with the sector median at 21x and 20x respectively. The table below shows some of the multiples for MKSI.

	MKSI
Market cap	$5.16B
Enterprise value	$5.11B
Revenue (“ttm”)	$3,012.6M
EBITDA	$832.9M
Trailing P/E	7.96
Forward P/E	9.03
PEG ratio	0.50
P/S	1.46
P/B	1.41
EV/sales	1.70
Trailing EV/EBITDA	6.13
Forward EV/EBITDA	5.53

Click to enlarge

Source: SeekingAlpha

Why the stock could decline further

However, it’s also worth pointing out that further declines in the stock are not out of the question. MKSI is after all still dealing with a number of headwinds that have weighed on the stock all year. For starters, semiconductor stocks were among the big winners of loose monetary policy in recent years, but monetary tightening has caused semis to be among the most affected this year.

For instance, while the SPDR S&P500 ETF (SPY) has lost 21% YTD, the iShares PHLX Semiconductor ETF (SOXX) has lost 41% YTD or almost twice as much. Furthermore, there are concerns about where the semiconductor industry is heading. A number of industry heavyweights like AMD (AMD) have reported weakening demand for the chips they supply.

If semiconductor demand goes down, then so too will demand for the equipment needed to manufacture those semiconductors. Keep in mind that Lam Research (LRCX) and Applied Materials (AMAT) are two of the leading suppliers of semiconductor manufacturing equipment. According to the most recent Form 10-K, these two were responsible for 27% of FY2021 revenue at MKSI.

In addition, the aforementioned companies have been hit by the decision of the U.S. government to restrict trade with customers in China. LRCX, for instance, has already announced that these export restrictions to China will reduce FY2023 revenue by $2-2.5B. MKSI has yet to announce what kind of impact these restrictions will have, if any. But it’s possible forward guidance could be affected by these trade restrictions, which could propel the stock lower.

Investor takeaways

The next earnings call could be an important one. It will be the first with AtoTech as part of MKSI and investors are curious if the addition was worth adding all that debt at a time when taking on more debt is becoming more expensive due to rising interest rates. Earnings growth has also stalled recently. Any improvement or deterioration on that front could send the stock up or down. MKSI is dealing with a lot of uncertainty, especially after the recent trade restrictions with China, and guidance will be crucial.

The charts also suggest the stock is approaching an important junction. The stock has been stuck between support and resistance, but this cannot continue for much longer with the trendlines not far from converging. The stock could break through resistance and the recent price action looks encouraging, but the stock could also fall below support. There are arguments to be made in favor of the former, but there are also arguments as to why the latter could happen.

I am neutral on MKSI. The stock is probably due for a bounce after the recent decline and the stock is not expensive. On the other hand, the decision to add billions in debt to its balance sheet at a time when the semiconductor industry appears to be on the verge of a downturn could come back to haunt MKSI. MKSI could find itself in a position with declining sales and profits, just when interest payments are set to jump.

Bottom line, there are as many valid arguments to be made in favor of long MKSI as there are in favor of the opposite. Both sides could be wrong, which means taking either side comes with risks. The risk of getting it wrong is high. When neither side is more persuasive than the other, it may be better not to take sides at the moment. Staying on hold is best for now.