Monday, November 19, 2018

A Current AIM Program International Equity Holding: Taiwan Semiconductor Manufacturing Co. Ltd. (TSM) by: Gregory Glaab. "Giants Can Still Grow"

Taiwan Semiconductor Manufacturing Co. Ltd. (TSM, $40.96): “Giants Can Still Grow”
By: Gregory Glaab, AIM Student at Marquette University

Disclosure: The AIM Equity Fund currently holds this position. This article was written by myself, and it expresses my own opinions. I am not receiving compensation for it and I have no business relationship with any company whose stock is mentioned in this article.


Taiwan Semiconductor Manufacturing Co. Ltd. (NYSE: TSM) is the largest foundry in the world, manufacturing integrated circuits and wafer semiconductor devices for some of the top technology companies. The company was founded by Chung Mou Chang on February 21, 1987 and is headquartered in Hsinchu, Taiwan.

• TSM has maintained historically high margins while enduring an industry-wide volatile summer.

• TSM’s price has fluctuated with crypto-currency prices, however this should not stay correlated long-term. 

• Analysts are optimistic due to performance of customers and complete market share of 7nm nodes; estimating double-digit earnings growth for 2019E and 2020E.

• TSM’s price could be heading for new heights due to, historically highs ratios and low valuation multiples.

Key points: 

Since TSM was added to the portfolio, TSM has endured a multitude of outside factors, negatively impacting the stock price. Since February, technology has been one of the most volatile industries. Tariffs, crypto-currency prices, and declining growth of consumer tech goods sales, have all hindered the industry’s performance. Even though these outside factors have affected the company’s price, TSM has maintained their gross and NI margins above their 5-yr averages of 47.1% and 34.5%. 

TSM saw high demand in 1H2018 for crypto-currency related products; producing its highest revenue contribution of 8.5% and 10.1% in Q1 and Q2, generating almost $16Bil in 1H2018. Crypto prices have fluctuated immensely, especially with Bitcoin and Ethereum having YTD returns of -52% and -69%. It is clear that blockchain and cryptocurrencies have not progressed as estimates had predicted. Because of this, analysts estimate crypto-currency related products to account for only 2-3% of overall revenue for next two years. By management focusing on less volatile markets, TSM will continue to see a steady revenue and cash flow stream.

Analysts are optimistic of TSM for 2019E and 2020E for two reasons; the company’s expected 100% market share in 7nm nodes by FY2019 and estimated double-digit EPS growth. GlobalFoundries, one of TSM’s biggest competitors, announced this summer that they will discontinue production of their 7nm nodes giving TSM 100% market share of this product. These products are a vital component in Apple’s iPhones and AMD’s products. Estimated EPS growth is mainly due to expected market share increases of their customers. J.P. Morgan analysts estimate, for every 5% incremental market share gain for AMD in PCs and servers, could add $616mn in revenue for TSM. AMD share price has seen a YTD return of 157.4% while the rest of US semiconductor companies have seen an average return of 6.7%. As TSM’s smaller customers continue to increase in size, TSM will continue to discover new sources of revenue.

After a volatile summer, many analysts consider TSM a value buy with strong growth potential. In September, J.P. Morgan stated TSM remains their “top large-cap pick in Asia semis, amid a maturing semis cycle”. TSM has increased their, sales, EBIT, and CF per share for the past 5 quarters while majority of their valuation multiple have remained stagnant or decreased.  

What has the stock done lately?

Just as TSM looked to be leaving its summer woes behind them, news broke on Oct 4th, that Chinese spy chips were discovered in data center equipment used by Amazon and Apple. Along with other large cap Asian tech companies, TSM has fallen almost 7% since the report was published. No one has claimed responsibility and there is still an ongoing investigation.

Past Year Performance: 

TSM has seen a total YTD return of 7.64% and a 52-week return of 6.5%. For many of the reasons I have highlighted, the company has experienced major volatility for the first time since FY2015. With consumer tech goods growth declining and the sluggish implementation of crypto-currency, blockchain, and automated vehicles, the company has not had any catalysts since February to drive the stock to new heights.

1 Year Stock Chart vs. Benchmark

Source: FactSet
My Takeaway:

TSM has faced many uncontrollable external factors that would have caused many other companies to crack under pressure. Mark Liu and C. C. Wei have continued to show their value by guiding the company through tough times while increasing market share and maintaining favorable margins. With strong management, TSM remains a safe bet whenever the business cycle comes to a close. Until then, there is still plenty of optimism given how well they are positioned within the industry.

1 Month Stock Chart

 Source: FactSet