I am bullish on Taiwan Semiconductor Manufacturing Co. ("TSMC") (TSM) on my forecast for continued growth in at least the high teens. I think the company faces favorable industry dynamics from a demand perspective. Also, the introduction of its 20-nanometer node should be received favorably, thus positioning the company for revenue growth in fiscal 2014 and 2015.
I think 14 times earnings and 3 times book is reasonable for a company growing at a 20+% pace. I think the biggest risks to the outlook are a weaker U.S. dollar and near-term demand weakness, but I think both of those impacts will be transient.
TSM data by YCharts
Consequently, I think the play is to get long TSMC and be aware of a support break at the $14 per share level.
- Mark Liu and C.C. Wei have been named co-CEOs, which should work out well for shareholders as the two were previously co-COOs.
- There are reports of capacity utilization declining on lower high-end smartphone demand; this could weigh on the gross margin.
- Volume production of the 20nm node is expected to begin early next year.
During 2012, TSMC estimates that its revenue market segment share was 45% of total global foundries. The majority of sales, 85%, came from fabless semiconductor and system companies.
TSMC has planned expenditure geared towards increasing its productive capacity at its 300nm wafer fabs; also, the firm plans to develop new process technologies in 20-nanometer and 16-nanometer nodes.
Looking forward, I expect continued demand for 28nm nodes and eventually demand for 20nm and 16nm nodes, which will command higher ASPs. I think TSMC should see continued revenues growth for the foreseeable future.
TSMC's operating expenditure is remarkably low relative to others in the industry. This is attributable to the organization's structure as a manufacturer; the most significant costs are costs of revenues. Consequently, the expense structure increases profitability and the valuation.
The liquidity and solvency positions are solid, based on the cash ratio and financial leverage ratio.
TSM Net PP&E (Quarterly) data by YCharts
Between the end of the third quarter of 2011 and the end of the 2013 third quarter, the productive capacity increased 54%; my preferred interpretation is that demand is expected to increase, but this could also be a warning sign of overcapacity.
TSMC is generating a return on capital above its cost of capital. Also, the company's 10-year average EPS growth rate is north of 20%.
A weaker U.S. dollar could adversely impact the financial performance in calendar 2014 and 2015. Also, a decline in demand could adversely impact near-term performance. But I view a revenue slow down from an adverse currency or demand impact as short term in nature as interest rates in the U.S. are expected to rise and demand is expected to remain strong over the medium term. Consequently, I deem the fundamentals of the business to be bullish for the valuation.
I'm going to use the multiplier models to value the common equity shares of TSMC. I'll evaluate TSMC on an absolute basis, relative to its historic valuations, and relative to the S&P 500. Readers should note that TSMC could have a 20+% valuation tailwind in calendar 2014 and/or 2015.
|TSM ("TTM")||S&P 500||TSM 5-Year Avg.|
Courtesy of Morningstar
P/CF is a 3-year average
On an absolute basis, 14.5 times earnings and 3.3 times book value is a fair price to pay for a company with TSMC's fundamentals. Relative to its five-year averages, TSMC is fairly valued to moderately undervalued, but relative to the S&P 500 the results are inconclusive. Given the growth rate, on a forward basis, TSMC is undervalued.
The share price is up substantially since 2009, but the company is undervalued; consequently, I think the share price will go higher. I think the $14-$16 per share zone should hold as support.