Citi Comments on KLA (KLAC.US) Q1 Performance: Raises Earnings Forecast but Lowers Target Price to $275 to Reflect Overall Market Valuation Declines

According to Zhitong Finance APP, following KLA's (KLAC.US) September quarter “beat and raise” performance, Citigroup has raised its earnings per share forecasts for FY2027-FY2029 overall, but has lowered its target price from $290 to $275—not due to earnings, but due to valuation: the benchmark multiple has been compressed from 38x to about 35x, reflecting a general decline in market multiples. The rating remains “Buy,” corresponding to an expected stock price return of 73.2% at the October 28 closing price of $158.77, and a total return including dividends of 73.7%.

Citi analysts Atif Malik and Elizabeth Sun concluded that incremental supply is coming online, supporting robust AI-driven demand, with acceleration expected in the second half of calendar 2026; after supply constraints ease, the company expects continued quarter-on-quarter growth, and sees 2027’s growth as “more linear” than the step-up in the second half of 2026. However, the report begins with concerns: on an industry level, supply chain bottlenecks have not yet been resolved.

Earnings Beat Expectations

For the first quarter of FY2027 (ending September 30), announced on October 28, revenue was $4.136 billion, up 28.9% year-on-year and about 13% above last quarter’s $3.658 billion; GAAP diluted EPS was $1.18, and non-GAAP diluted EPS was $1.22, both above the midpoint of guidance ranges. Consensus was adjusted EPS of $1.19 and revenue of $4.04 billion—both slightly beaten. Quarterly operating cash flow was $1.53 billion, free cash flow $1.34 billion, and capital return for the season was $1.24 billion.

Second quarter guidance is for revenue of $4.7 billion ±$200 million, non-GAAP gross margin of 62.5% ±1.0%, and non-GAAP EPS of $1.44 ±$0.11. CEO Rick Wallace stated that the September quarter “exceeded the midpoint of guidance across all key metrics, validating our previous expectation of accelerated growth in the second half of calendar 2026.” He attributed the incremental gains to increased leading-edge process designs, larger device sizes and values, increased memory complexity, and the growing importance of advanced packaging.

WFE: Over $150 Billion in 2026, Above $200 Billion in 2027

Management’s view of the equipment market is consistent with peers: wafer fab equipment (WFE) spending is set to be in the mid-$150 billion range in 2026 and to exceed $200 billion in 2027. Demand is strong on three fronts—leading-edge logic and foundry, DRAM, and advanced packaging; both order backlog and visibility continue to improve.

Structurally, there is one point easy to misinterpret: the company expects memory to account for about 40% of its semiconductor process control systems revenue next year, up from around 38% in 2026, while foundry and logic will account for about 60%. Citi clarifies that this refers only to process control systems revenue from memory versus foundry/logic customers; it excludes packaging, wafer, and mask customers, and reflects KLA’s own business, not the structure of WFE itself—the company’s view of WFE is still that foundry and logic will drive the growth next year. Historically, a rising memory share has held back relative performance, but management takes a different view this time: with growing intensity in process control, the company believes it can outpace the market. Another detail: about 90% of September quarter memory revenue came from DRAM.

Supply Is the Real Variable This Cycle

The report treats supply as a standalone topic, and for good reason: customers remain highly eager for deliveries, and the company says that had more supply been available, it could have shipped more systems—but the impact of supply constraints is not quantified. Incremental supply coming online is what supports acceleration in 2H26; once supply constraints ease, the company expects continued sequential growth over the coming quarters, and describes 2027’s growth as more linear. Management’s confidence in outperforming WFE in 2027 comes from four factors: increased leading-node investment, greater DRAM process control intensity, advanced packaging expansion, and its own improved supply capability. Citi’s reservation lies here as well—it remains concerned about industry-wide supply chain tensions.

Three Easily Overlooked Sub-segments

Non-patterned wafer inspection. Order activity is beginning to emerge. After several years of heavy investment and high inventory buildup in this segment, customers have been digesting stock, and utilization rates are now high; management is starting to see order activity for deliveries and believes this could be an upside source, expecting a rebound next year. The segment is still driven mostly by services, but revenue outlook through mid-next year looks constructive.

Mask inspection. Growth is roughly in line with the overall market, but high unit prices make this business volatile. Market share gains mainly come from re-certifications; as the value of high-performance computing devices rises, the sampling rate relative to exposure steps increases substantially, and management believes they can outpace the market. New customer platform evaluations are underway, with initial shipments expected in about 6–9 months. True high-resolution imaging will await smaller High-NA feature sizes, and industry plans for High-NA are closer to 2030; the 6x12 mask format is expected to ramp around 2033, with equipment demand sooner. The entire product portfolio will eventually need this capability, so the near-term impact is limited but R&D investment is inevitable.

PCB and component inspection. Currently split about 50/50 between PCB and component inspection, but next year is expected to tilt toward PCB at about 60/40 or higher. Next-generation GPUs require higher-density PCB materials that are harder, have more layers, and are harder to cool, driving a shift in PCB wiring; substrates and PCBs are also more integrated into advanced packaging. This segment may grow faster than overall process control next year, but PCB remains a small portion of KLA revenue—semiconductor process control remains over 90% of the total.

Services and expenses. Service revenue is expected to accelerate with equipment shipments: new tools are entering the installed base faster than old ones are retired, service contract attachment rates remain high, and, based on current equipment forecasts, services have upward potential relative to the company’s target model. Expenses are a countervailing factor—operating costs in 2027 are projected to rise at about twice the previously discussed quarterly rate of $15–20 million, due to headcount expansion, service staff wage pressures in Korea and Taiwan, and rising depreciation; more details will be provided next quarter.

Earnings Revised Up, Valuation Multiple Down

Citigroup has raised its revenue forecasts for FY2027–FY2029 to $18.674 billion, $22.205 billion, and $26.408 billion, representing growth of 37.5%, 18.9%, and 18.9%. EPS forecasts are raised to $5.67, $6.91, and $8.45, up from previous $5.36, $6.59, and $8.11. On a quarterly path, FY2027 Q2–Q4 stand at $1.44, $1.48, and $1.53. Gross margin is guided up from 61.3% in FY2026 to 61.9%, 62.4%, and 62.8%; adjusted operating margin from 43.1% to 47.0%, 48.1%. On a calendar year basis, CY2026/2027/2028 EPS are raised by 3%/6%/4%, respectively.

The target price adjustment moves opposite to earnings: $275 implies a P/E of about 35x, down from $290 at 38x. Citi says this “reflects a lower market multiple,” and notes that 35x is already above the stock’s three-year average of 25x, justifying it by AI-related WFE exposure driving a re-rating. At the October 28 close of $158.77 and a market cap of $207.196 billion, the current price represents a FY2027E P/E of 28.0x and FY2028E of 23.0x.

Citi’s rationale for a “Buy” is twofold: process control intensity is rising, and there is a multi-year AI-driven WFE upcycle. KLA is a particularly “pure play” on these two themes. Risks cited include: intensifying or weakening competition from Applied Materials (AMAT) and ASML.US; inventory correction risk for 10nm/7nm foundry; and the pace of adoption of Gen 4/Gen 5 products and EUV-related offerings.