Taiwan Semiconductor Manufacturing (TSMC) (NYSE:TSM) It’s something of an enigma for investors: The company dominates advanced semiconductor manufacturing and plays a key role in the supply chains of all the big chip companies.
However, the company’s unique challenges may give investors pause, despite its obvious importance, so investors should consider a variety of factors before deciding whether to buy TSMC.
Current situation of TSMC
Perhaps no company has benefited more from manufacturing outsourcing than TSMC, whose importance as such semiconductor companies has grown as chip design companies have decided it is better to outsource manufacturing.
TSMC and its competitor Samsung stood out for their willingness to invest in manufacturing the world’s most advanced chips, which will see TSMC capture a 62% share of the industry by the first quarter of 2024.
But when advanced manufacturing is taken into account, that percentage jumps to 90%. Moreover, cutting-edge niche markets such as the AI chip market stand out for their rapid growth. Allied Market Research predicts a compound annual growth rate (CAGR) of 38% for the AI chip market through 2032. This is far higher than the 6% CAGR the same researcher predicted for the overall semiconductor market.
As such, TSMC benefits from its close relationship with Nvidia, and is a manufacturing hub for many companies, including Advanced Micro Devices, Qualcomm, and Apple, as the company makes chips for them.
Unfortunately, there are other factors that give investors pause about TSMC. First, most of its production takes place in Taiwan. Many investors worry that China could invade Taiwan and destroy much of TSMC’s manufacturing capacity, and that risk was enough to make Warren Buffett sell off his TSMC shares.
Another concern is growing competition: Samsung is ramping up factory construction to become more competitive, and Intel, which is pushing to expand manufacturing in the United States and Europe, is spending tens of billions of dollars a year to build the world’s most advanced factories outside Taiwan.
Financially speaking, TSMC
For now, TSMC is likely to benefit from expected growth, with revenue expected to reach about $40 billion in the first half of 2024, up 28% year-over-year.
Still, gross margins for that period fell to 53% compared with 55% in the first two quarters of 2023, which the company blamed on higher production costs for 3-nanometer chips. As a result, net income came in at just under $15 billion, up 22% from last year.
These rising costs haven’t stopped TSMC’s stock from nearly doubling. But the increase has led to growing concerns about the company’s valuation. Thanks to the stock’s rally, its P/E ratio recently jumped to 31. This recent increase has pushed the earnings multiple to its highest level since the end of the 2021 bull market.
The story continues
Additionally, fabs like TSMC aren’t trading at a higher P/E ratio than their clients like Nvidia and AMD, likely as the market is factoring in geopolitical challenges. Therefore, investors should probably look at its earnings multiples as higher, meaning the stock price may be outpacing the company’s growth.
Should you still buy TSMC?
Taking all factors into account, TSMC stock remains a buy.
This outlook doesn’t mean investors should ignore TSMC’s concerns. To be sure, a Taiwan invasion is unlikely, but possible. Still, the current P/E ratio is low enough to act as a discount to account for geopolitical risk, yet high enough that new investors should use dollar-cost averaging when buying the stock.
Additionally, investors should also be mindful of growing competition, with Samsung and Intel potentially dominating much of the advanced manufacturing. That said, the 38% compound annual growth rate for AI chips means that a rising tide will likely float all boats. No “ship” will float as high as Taiwan Semiconductor Manufacturing Co., Ltd., as TSMC is the largest fab company.
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Will Healy has investments in Advanced Micro Devices, Intel, and Qualcomm. The Motley Fool has investments in and recommends Advanced Micro Devices, Apple, Nvidia, Qualcomm, and Taiwan Semiconductor Manufacturing. The Motley Fool recommends Intel and recommends shorting Intel’s November 2024 $24 call options. The Motley Fool has a disclosure policy.
Is Taiwan Semiconductor Stock Still a Buy? was originally published by The Motley Fool.
