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January 25, 2023
TSMC (Taiwan Semiconductor Manufacturing Company) (NYSE:TSM) had a strong quarter despite issuing soft guidance for Q1 2023. The company is the world’s largest dedicated semiconductor foundry, and its stock has rose 77% since the start of 2020, but has retreated 25% since the start of 2022. But with the semiconductor industry facing some headwinds, is investing in TSMC worth the risk?
However, in their earnings call, they provided an update regarding their investment into their US Arizona facility – the company has been facing increased pressure from the US government to move its production out of China and into the US, which could lead to increased implementation costs. This is a source of concern for investors, as it could lead to higher costs and lower returns on their investments. It is important for investors to weigh the risks and rewards associated with investing in TSMC before making any decisions.
Despite this, Warren Buffett’s Berkshire Hathaway acquired a stake in TSMC valued at more than $4 billion just in the previous quarter, Q3FY2022. Therefore, it begs the question: Are TSMC investments in the US a concern for investors, and should investors be wary?
Q42022 Earning Updates
Pros and Cons: Arizona’s New Plants
TSMC announced recently in December that they have started the construction of a second fabrication plant (fab) in Arizona, which is scheduled to start production of 3nm process technology in 2026. This is in addition to the existing construction of the first fab, that is estimated to begin production of their N4 process technology in 2024. The overall investment of these two fabs will be approximately US$40 billion.
The earnings call on 12 January 2023 provided further details on this investment – Wendell Huang, the Chief Financial Officer of TSMC, mentioned that the initial cost to build the fab in US was much higher than if they were to build the fabs in Taiwan due to the higher construction cost of building and facilities (4 to 5x higher).
With the impending higher costs, the first question that comes to investor’s mind is – who will bear the additional costs? Will TSMC be footing the bills, impacting margins? Or do they have the power to pass the costs down to their customers? Mr Huang addressed this issue and provided some comfort, assuring investors that they aim to maintain their gross margins at 53% – through their strategic pricing of their products and their ability to leverage their economies of scales for savings and some government support.
How is TSMC able to pass down their costs? A deeper look towards their market share might shed some light on the strength of their business. According to Visual capitalist, TSM has a whopping market share of 54% in semiconductor industry, which is more than 3 times the market share of their nearest competitor, Samsung. With this, they also hold 90% of the global market share of highest-end chips, effectively being one of the most important companies in the world. With that knowledge, it suddenly is not that improbable when TSMC reports stable margins compared to competitors, highlights their ability to pass costs to consumers, and mentions their economies of scale coming in to support the margins. They are able to enjoy this due to the huge moat they have built up. The scary thing is while the rest is playing catch up, they are not resting on their laurels and is aggressively expanding their Research & Development by 20% in the upcoming quarters
What’s next for TSMC?
TSMC has provided their forward guidance for their upcoming quarter, in which they will see a sequential decline of 14.2% due to lower capacity utilization rates as customers adjust their inventory levels. With that, they will face some challenges from lower utilization rates, overseas fab expansion, and inflationary costs, but they are still looking to maintain their gross margin at around 53.5 – 55.55%. Despite the various challenges that they will face, they are still committed to spending to investing in their R&D.
Hence, for those vested in TSMC, do expect softer numbers for 1H2023. The things that we can do is to keep ourselves updated, prepare for the lower numbers, and closely track their 2H2023 results to see if there is a turnaround, or if there is a change in business environment. Some might want to sit out this slightly difficult period, and instead look for companies that are currently thriving.