Veeco Instruments Stock: Headwinds Persist (NASDAQ:VECO)

Veeco Instruments (NASDAQ:VECO), a supplier of semiconductor process equipment, has been able to recoup some of the substantial losses the stock suffered starting in the middle of July. This after a fairly long rally in the stock, driven by outperformance on the part of VECO compared to many industry peers. However, while some may take solace in the fact that the stock has bounced in the last couple of weeks, a return to the preceding rally is not guaranteed. Moreover, the possibility the stock could head lower once more can also not be excluded. Why will be covered next.

The rally in VECO comes to an end

A previous article from March 2024 mentioned how VECO had outperformed for quite some time, which in turn enabled a long uptrend in the stock. This was in large part due to resilient earnings growth, which saw VECO avoid the industry downturn that had negatively impacted most in the industry, including last year. So the bull case for VECO had a number of solid arguments backing it up.

On the other hand, the article reasoned there was reason to believe the ability of VECO to sustain growth in the top and the bottom line was subject to possible disruptions. The U.S. government could add new export restrictions to already existing ones imposed on China, which could be problematic since China is a large market for VECO and many other equipment suppliers. An argument could also be made to be wary of buying a stock that was arguably due for a correction after rallying for as long as VECO had. As such, VECO was rated a hold.

Almost half a year has passed since those conclusions were drawn, and it appears the article may have been prescient in hindsight by singling out U.S. government policy as a wildcard that could affect the path forward for VECO. The chart above shows the stock rose for much of the past 12 months. That is until mid-July when the stock began to decline.

Why support seems to be in place for VECO

The decline was triggered by reports the U.S. government was planning on new trade restrictions on the export of semiconductor equipment to China, something the previous article singled out as a potential headwind for VECO. The market did not react well to the reports and semis sold off due to fears of potentially lower sales and thus earnings, VECO included.

The stock fell further due to the stock market selling off in early August under the combined weight of fears about a wider war in the Middle East and a reversal of the carry trade in the Japanese yen. The stock fell to a low of $32.20 on August 5 before moving higher, which is interesting for a couple of reasons. Note that the $32 price point has been a pivot point before on a number of occasions.

For instance, the previous chart shows how an initial challenge to the $32 price point was rejected in December 2023. This caused the stock to turn south, but VECO was eventually able to overcome what looked like resistance at $32. The $32 price point has since provided support in several instances, suggesting that what used to be resistance has now become support.

Note, for instance, how in the previous chart the stock turned north each time it fell towards $32 or so in early 2024. What happened on August 5 is therefore not the first time, but the most recent example of support coming into play at $32 or so, which caused the stock to bounce and turn upwards. In addition, there could be an explanation as to why this is happening.

The stock peaked in July 2024 with a high of $49.25, the culmination of a long uptrend that can be traced all the way back to October 2022 with a low of $16.11 as shown in the chart above. More importantly, the 50% Fibonacci retracement of $16.11 to $49.25 is $32.68, which is close to where the stock has pivoted a number of times as shown earlier. This could explain why the stock seems to bounce whenever it gets close to $32 or so. Support is there.

Why VECO may not yet be in safe waters

An argument can be made in favor of long VECO after the recent decline in the stock and with support in place as detailed earlier. However, while the stock bounced off of what appears to be support after the August 5 low, it is not impossible for the stock to go for another challenge and break through on a subsequent attempt.

In fact, it is worth mentioning that a fair number of people seem to believe the stock is destined to head lower if short interest is any indication. According to the Nasdaq, short interest stood at 5,066K shares, as of 7/31/2024, which translates to a short float of 9.15% for VECO. While this is not in the double-digit range like other more heavily shorted stocks, it does suggest a significant amount of pessimism directed towards VECO, more than most.

It is not possible to know what is motivating every short out there, but one reason could be what may be a slowdown underway at VECO. As mentioned earlier, VECO was able to grow at a time when many in the semiconductor industry reported a decline in their top and the bottom line. FY2023, for instance, was a down year for the industry and many semis reported numbers that were worse YoY.

Will VECO be able to keep growing like it has in recent years?

In contrast, VECO managed to grow, for example, FY2023 revenue to $666M, which is the fourth consecutive year revenue grew YoY. VECO has thus outperformed by displaying an ability to grow at a time when many were unable to. However, if the recent numbers from VECO are a clue, then VECO may be slowing down, which could herald something worse.

A look at the most recent report shows why this is so. For starters, while the miss was a small one, VECO did come in below the consensus estimates for the top and the bottom line in Q2 FY2024. VECO posted non-GAAP EPS of $0.42, $0.01 less than expected on revenue of $175.88M in Q2 FY2024. The latter is up 8.8% YoY, but flat at just 0.8% QoQ.

The former is also up YoY, but down $0.03 QoQ. In terms of GAAP, VECO earned $0.25 per share. VECO finished Q2 FY2024 with cash, cash equivalents, restricted cash and short-term investments totaling $305.15M, but this was offset by $275.55M of long-term debt on the balance sheet. The table below shows the latest numbers from VECO.

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Source: VECO Form 8-K

Guidance was also somewhat below expectations. VECO was expected to announce $0.46 on revenue of $182M, but guidance calls for Q3 FY2024 revenue of $170-190M and non-GAAP EPS of $0.39-0.49.

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Source: VECO Form 8-K

However, VECO was able to soothe concerns people might have by sticking to its previous FY2024 guidance by tightening it. From the Q2 earnings call:

“And now for some additional color beyond Q3 as we’re halfway through the year. We’re tightening our 2024 revenue guidance to $690 to $730 million from our prior range of $680 to $740 million and correspondingly, we now expect diluted non-GAAP EPS for the full year between $1.65 and $1.85 per share from our prior range $1.60 to $1.90 per share.”

Source: VECO earnings call

In comparison, VECO earned $1.69 on revenue of $666.4M in FY2023. FY2024 is thus expected to be the fifth consecutive year of expansion. Earnings of $1.75 would give VECO a P/E ratio of 21.2x with the stock at $37.16.

How the U.S. government could drive the stock lower

However, while the streak of YoY growth seems impressive at first, especially considering how other semis have been hit by a downturn in demand in the industry, it’s worth reminding that VECO had help in getting it done. If not for China, the growth streak would have already ended. In the previous fiscal or FY2023, all geographic regions saw sales contract with the exception of China.

FY2023 sales grew by 3% YoY to extend the growth streak to four consecutive years, but this would not have been possible if sales in China did not expand by 76% YoY to negate contraction elsewhere. This tailwind from China was once again in effect in the most recent Q2 FY2024. The table below breaks down sales by geographic region and how much each region contributed as a percentage of total sales.

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Source: VECO Form 10-Q

See how, for instance, sales in China increased by $15.39M YoY in Q2 FY2024, which is more than the entire YoY increase of $14.24M in Q2 FY2024. China’s share of total revenue reached 37.2% in Q2 FY2024, up from 30.9% in Q2 FY2023. This continues the recent development in which China’s contributions have been going up in recent quarters. For instance, China’s share of revenue stood at 19% in FY2022, but it is now almost double at 37.2% as of Q2 FY2024.

This is why an argument can be made that VECO is not in as strong a position as one might have concluded after seeing VECO outperform other semis by continuing to grow when others slipped due to the downturn in the industry. If China is excluded, then VECO would have contracted like many others have. It took a big jump in sales in China to flip what would have been contraction into growth territory.

This brings us to why a change in U.S. government trade policy could adversely affect VECO. If sales in China go down, because of new trade restrictions that limit tech exports to China or what not, then the tailwind that helped VECO cope during the industry downturn could lose strength, if not go away entirely.

Keep in mind that the U.S. government has yet to impose major restrictions on VECO, which likely helped contribute to the recent bounce, but the possibility is still out there. If there are new restrictions, this could result in worse numbers from VECO, which might power the stock lower, including through support. It’s possible the recent bounce in the stock could reverse and the slide could resume.

Investor takeaways

There are some positives and some negatives to note. On the one hand, the stock was able to recover from the recent slide and an argument can be made to go long after a much-needed correction in the stock following a long uptrend. Support seems to be in place and that should provide VECO with some resilience. Growth may be slowing down, but VECO is still growing.

There are also high expectations in the industry for next year, which might help VECO draw investors given its recent track record. VECO is still an important part of the semiconductor supply chain, including for EUV. The latter is expected to see growth thanks to AI due to the need for high-performance chips. There are several reasons why someone may want to have VECO.

However, the various headwinds that caused the recent drop in mid-July are still there for the most part. It’s no coincidence the stock fell after a long uptrend in July after reports surfaced of new trade restrictions on China. VECO is highly exposed to potential fallout because it sells so much to China. It depends on the rules, if any, but changes in what can be sold to China could power the stock lower.

VECO is in a tricky situation, and I am neutral on VECO in light of everything stated before. In the best case, there are no new restrictions and VECO continues as it has before. In the worst case, sales and earnings drop due to restrictions. This could drive the stock down, similar to what happened in July. Both are possible, but which is the more likely one is hard to say.

Bottom line, there is a case for long VECO, but it comes at the risk of a sudden selloff. If people are confident there will be no significant restrictions on VECO, then long VECO is worth considering. But if someone feels the risk of a selloff induced by export restrictions is not something to be comfortable with, then it may be best to stand on the sidelines.