Applied Materials’ China Push

China’s emergence as a clean energy powerhouse is driving some prominent Silicon Valley names into shifting their research and innovation facilities to the country. The focus on clean energy stems from the need to reduce dependence on oil and gas, which continue to be largely imported by China.

Applied Materials (AMAT), which makes equipment for the manufacture of solar panels, says China’s push for clean energy would result in the country producing nearly two-thirds of the world’s solar panels in 2010. It is no wonder then that Applied is setting up the world’s largest solar energy research and development center in Xi’an—a city about 600 miles southwest of Beijing.

For China, alternative energy is naturally of great strategic importance, since the country is fast overtaking all others as the most preferred manufacturing location. If the momentum is to be maintained, China will have to arrange for energy sources other than the fast-depleting fossil fuels.

In 2009, China’s green energy programs attracted $34.6 billion in investments, almost double the $18.6 billion that was invested in the United States. Although China does not give credence to a recent International Energy Agency report that said it surpassed the United States as the world’s largest energy consumer, its quest for advanced energy is attracting bigger and smaller names to the country.

The R&D facility in China serves three purposes, in our opinion. First, it finds low-cost local talent. The second is the preference the Chinese government is likely to show a domestic operation (the Chinese government remains the chief procurement agency in China). The third is the proximity to what is growing into the largest manufacturing hub for the industry.

The Chinese demand for energy has presented a strategic opportunity to Applied Materials that the company wants to grab with both hands, even as the United States, where it is incorporated, engages in energy diplomacy with Beijing. Although Applied Materials remains optimistic about the U.S. market, it clearly sees bigger promise in China.

In January, the firm moved its Chief Technology Officer Mark Pinto to the country to lead the Xi’an facility; the idea was to provide the highly sophisticated production process with the expertise of one of its brightest design and research talents. Pinto was the first high-ranking official of a major American technology company to relocate to China, and the move was reflective of China’s growing importance as a solar energy destination.

In May, Applied Materials signed an agreement with China Energy to monitor the performance of solar panels. Pinto says China’s political willingness to create clean-energy jobs is what is giving the country an edge over the U.S., and perhaps this political willingness is what is driving even smaller clean energy firms to seek business in China. NatCore Technology, a relatively small name, reached a deal with a group of Chinese firms to produce solar panels that are thinner and use less energy and toxic material to manufacture.

In July, Applied Materials announced that it would shutter its thin-film product business and focus resources on the crystalline silicon solar and advanced energy business instead. We had expected the company to pull the plug on the thin-film product line, given the many challenges in the market. At the time, management mentioned the significant demand for relatively cheaper crystalline silicon, especially from China and also in Europe.

However, management stated that it would continue to invest in the development of the more expensive thin film equipment, and we expect this research activity to be carried out at the Chinese facility.

We have a short-term Hold recommendation on the shares, as indicated by the stock’s Zacks #3 Rank.

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