The Era of Sapphire is Here

Many month’s ago, I highlighted one of my thesis plays, regarding GTAT and its product “sapphire.” Naturally, I owned hundreds of thousands of shares in the $3 range, only to sell them out for a 25% profit, well before the real run.

Here are some of my early notes from The PPT.

 

Last night, during GTAT’s earnings announcement, they had this to say:

 

AAPL Agreement

• On October 31, 2013, GTAT and Apple (AAPL) entered into a Master Development and Supply Agreement and related Statement of Work, pursuant to which GTAT will supply sapphire material exclusively to Apple for consumer electronics. GTAT has granted Apple certain intellectual property rights in connection with its sapphire growth technologies. Although the agreement does not guarantee volumes, it does require GT to maintain a minimum level of capacity. GT will be subject to certain exclusivity terms during the duration of the agreement. GT expects this arrangement to be cash positive and accretive to earnings starting in 2014. Gross margins from this new materials business are expected to be substantially lower than GT’s historical equipment margins.
• GTAT also entered into a Prepayment Agreement with Apple pursuant to which GTAT will receive approximately $578 million in four separate installments, as payment in advance for the purchase of sapphire goods. GTAT is required to repay this amount ratably over a five year period ending in January 2020, either as a credit against Apple’s purchases of sapphire goods under the MDSA or as a direct cash payment. GTAT’s obligations under the Prepayment Agreement are secured by certain of its assets. While the MDSA specifies GTAT’s minimum and maximum supply commitments, there are no minimum purchase requirements under the terms of the MDSA.
• Finally, on October 31, 2013, GTAT entered into a lease agreement with an affiliate of Apple in order to lease a facility in Mesa, Arizona that GTAT will use for the purpose of manufacturing the sapphire goods under the MDSA.

Impact on 2H13 results

• To service the sapphire material agreement announced today, the company has dedicated the vast majority of its ASF capacity in the second half of 2013 to expanding its own materials capacity. This shift in business model has effectively precluded the company from shipping significant levels of ASF units to other customers during the second half of 2013 and will continue to do so for the balance of the year.
• Given the impact of its shift from ASF equipment sales to building ASF capacity for its own internal use as the company prepares to service the Apple agreement, GT is revising guidance for fiscal year 2013, which ends December 31, 2013, as follows: Revenue in the range of $290 million to $320 million Gross margin in the range of 30% to 32% Non-GAAP EPS in the range of a loss of $0.40 to a loss of $0.50; GTAT sees 2014 revenues in the range of $600-800 mln.

On October 30, 2013, GTAT terminated its credit agreement with Bank of America and the other lenders from time to time party thereto. As of October 30, 2013, there was approximately $96 million outstanding under the term loan component of the Credit Agreement, which amount was paid in full on October 30, 2013 by the Company using its available cash.
And here are some analyst notes:

• Pac Crest notes GTAT misses and lowers as it changes its model and inks a deal with Apple. GT tossed old 2013 guidance out the window after it inked a deal to provide sapphire directly to Apple rather than sell sapphire tools. GT will now be supplying tools to itself as it builds a sapphire plant in Arizona. GTAT misses and lowers as it changes its model and inks a deal with Apple. Firm notes the Apple deal is likely for watches, not phones.Recurring Apple rev should support R&D funding, but lowers GTAT’s EPS outlook.
• Canaccord notes, while Apple has locked up GTAT in the near term, firm believes this deal could result in a more competitive sapphire furnace due to the increased R&D. Firm believes this has been the major challenge for GT sapphire LED customers. Initial reactions in the after-market are positive as approximate 2014-2016 guidance plus a large $578M prepayment from AAPL are leading firm to believe that this agreement is rather significant and possibly transformative. Its initial view is that it could result in $500M+ in annual revenues over a 5+ year time frame. Tgt to $13 from $10. 
• As mentioned, GTAT was upgraded to Buy from Neutral at BofA/Merrill and upgraded to Overweight from Neutral at Piper Jaffray.

Anyone who is doubting this as being anything less than ‘transformative’ is unable to read the tea leaves and should cease offering advice to others, on the basis that one can only be stupid for a finite period of time. This is the moment when smartphone makers walk away from gorilla glass in exchange for sapphire. This is the turning point that we will remember for years to come.

There are just two ways to play this, one of which is to be long GTAT. The other, for sake of discretion, will be revealed soon. However, I am sure most of you already know what stock I speak of.

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