United Microelectronics: Good, But Not As Good As Competitors

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Summary

  • As a semiconductor foundry company, we analyzed its wafer ASP trend and forecasted its wafer pricing to grow by 20% in 2022 amid the tight industry supply.
  • We forecasted its wafer capacity growth and determined its $5 bln capacity expansion will not produce meaningful incremental profits, but UMC to still benefit from rising ASPs.
  • The company’s revenue by process nodes shows it is focused on the matured process nodes with key customers including Texas Instruments, MediaTek and Realtek.
  • While we find shares of UMC attractive at these price levels, we expect them to face tough competition from Samsung and TSMC.

Close-up Shot of Silicon Wafer in Bright light at Advanced Semiconductor Foundry, that produces Computer Chips.

SweetBunFactory/iStock via Getty Images

UMC logo

UMC

In this analysis on United Microelectronics Corporation (NYSE:UMC), we analysed the company's foundry business revenues in terms of pricing and capacity growth as well as its revenues by process nodes. With SEMI expecting capacity growth to be steady in 2022 while demand is expected to remain robust, we believe this could provide a favourable pricing environment in 2022. While the company is planning a capacity expansion as it is operating at maximum capacity, we determined that the cash flows generated from the expansion be greater than the cost expansion. However, the company's focus on the production of wafers between 28 nm and 90 nm enables it to serve a large portion of the Discrete, Analog & Opto market that competitors TSMC (TSM) and Samsung (OTC:SSNLF) are moving away from.

Revenue Growth Driven by Wafer Pricing Growth

Based on UMC's quarterly earnings data, in the past 3 quarters, the company's revenue growth has been driven by higher wafer ASPs. In Q4 2021, we calculated that its ASPs has increased by 21% YoY based on its revenue and wafer shipments. In its Q4 earnings call, management guided further growth for its ASPs in Q1 2022.

Our wafer shipments will remain flat. ASP in US dollar will increase by 5%. Gross profit margin will be approximately 40%. - Jason Wang, UMC Co-President

UMC Wafer Revenue and ASPs

Q3 2020

Q4 2020

Q1 2021

Q2 2021

Q3 2021

Q4 2021

Shipments (8" K Wafers)

2,254

2,293

2,372

2,440

2,503

2,546

Growth %

1.7%

3.4%

2.9%

2.6%

1.7%

ASP ('USD')

715.17

693.41

696.04

748.77

802.24

838.96

Growth %

-3.0%

0.4%

7.6%

7.1%

4.6%

Revenue (USD mln)

1,612

1,590

1,651

1,827

2,008

2,136

Growth %

-1.4%

3.8%

10.7%

9.9%

6.4%

Source: UMC

In terms of wafer pricing beyond 2021, according to Digitimes's report, the company is expected to further increase its wafer pricing by 10% in Q1 2022 based on industry sources. Following that, another report by DigiTimes again indicated further price hikes for UMC in March 2022. We think this is expected as the industry is reported to face tight supply. UMC indicated in their earnings briefings that it is operating at full capacity.

As shown in the chart below, SEMI forecasts the total industry semiconductor capacity to rise to 6.6 mln wafers per month by 2024 from 950,000 wafers per month in 2020, representing a CAGR of 3.96% from 2020 to 2024. Whereas in terms of the demand outlook, WSTS forecasts the total semiconductor market size to grow by 8.8% YoY in 2022. Thus, we view the expected strength in semiconductor demand bodes well for wafer pricing in 2022 as seen with a higher market CAGR of 8.8% (demand) than the forecasted semiconductor capacity growth of (3.96%) in 2022 (supply).

semiconductor capacity and fab count

SEMI

Source: SEMI

We forecast UMC's wafer pricing to grow by 20% based on the reported price increases by DigiTimes amid the tight supply environment. However, we conservatively assumed 0% ASP growth beyond 2023 as we believe market demand could normalize.

UMC Wafer Fabrication ASP Projections

2019

2020

2021

2022F

2023F

2024F

2025F

2026F

Wafer ASP (TWD)

20.50

19.86

21.60

25.92

25.92

25.92

25.92

25.92

Growth %

-3.1%

-3.1%

8.8%

20%

0%

0%

0%

0%

Source: UMC, Khaveen Investments

Overall, in the past 3 quarters, UMC's revenues growth has been buoyed by stronger wafer pricing. We believe that with the constrained supply growth, semiconductor demand growth which is expected to be robust in 2022 and demand growth greater than supply growth bodes well for the ASP growth of UMC in 2022, but we also conservatively assumed no growth in its ASPs beyond 2022.

Cost of Expansion Higher Than Expected Cash Flows

Based on UMC's Q4 2021 report, the company's utilization rate has been at least 100% from Q1 2021, indicating insufficient capacity to meet robust demand. Thus, at maximum capacity, we expect the company's capacity expansion to meet its customer's demand and grow its revenues.

umc wafer capacity

UMC

Source: UMC

In 2021, the company has announced its plans for capacity expansion to allocate TWD 150 bln ($ 5.4 bln) over the next 3 years. According to UMC, the company is expanding its P6 plant and is expected to be completed by 2023. It also mentioned that the project is expected to add 27.5k wafers per month which are 3.67% higher than its current capacity. In addition, it is also expanding its Fab 12A P5 facility with an incremental capacity of 10k wafers per month or 1.3% higher than its current capacity.

Additionally, the growth of its capacity by 37.5K wafers per month from its total capacity of 750K wafers per month represents a CAGR of 2.47% to 2023. We forecasted its wafer capacity to grow based on the 2.47% CAGR.

UMC Revenue Forecasts

2019

2020

2021

2022F

2023F

2024F

2025F

2026F

Wafer Production ('K') ('a')

7,227

8,902

9,861

9,686

9,926

10,171

10,422

10,679

Growth %

1.2%

23.2%

10.8%

-1.8%

2.5%

2.5%

2.5%

2.5%

Wafer ASP (TWD) ('b')

20.50

19.86

21.60

25.92

25.92

25.92

25.92

25.92

Growth %

-3.1%

-3.1%

8.8%

20%

0%

0%

0%

0%

Wafer Fabrication Revenue (TWD mln) ('c')

148,124

176,811

213,011

251,088

257,289

263,643

270,153

276,825

Growth %

-1.9%

19.4%

20.5%

17.9%

2.47%

2.47%

2.47%

2.47%

* c = a x b

Source: UMC, Khaveen Investments

However, we calculated an expected revenue contribution from the expansion based on its Q4 2020 wafer ASP of $839 with the incremental capacity of 37.5K wpm. We then estimated its EBITDA from the project with the company's 10-year average. Based on the company's allocated investment costs of TWD100 bln ($5.4bln), this gives us a payback period of 37.5 years with an EBITDA of $144 mln.

According to UMC's annual report, its buildings have a useful life estimated between 20 to 56 years. Assuming the lifespan of the investment project's assets is 38 years based on the midpoint, its cash flows would not be sufficient to cover the initial investment costs. Additionally, the company has an average depreciation to fixed assets rate of 16% in the past 10 years, this would translate to a useful life of just 6.25 years for the investment, much lower than the 37.5 years expected payback period.

Capacity Expansion Payback Period

Current Capacity (Kwpm)

750

Incremental Capacity Expected (Kwpm) ('a')

37.5

Wafer ASP Assumption ('USD') ('b')

839

Estimated Revenue ($ mln) ('c')

378

Average EBITDA Margins ('d')

38.2%

EBITDA ($ mln) ('e')

144

Total Investments ($ mln) ('f')

5,413

Payback Period (Years) ('g')

37.5

* c = a x b x 12/1000

e = d x c

g = f/e

Source: UMC, Khaveen Investments

Overall, its capacity expansion plans are highlighted to grow its revenues. Based on its announced plans in its Taiwan facilities, we used the capacity incremental CAGR of 2.47% as our wafer growth forecasts. However, the investment costs associated with the expansion may be too high assuming a useful life of 38 years as we calculated its EBITDA estimate of $135 mln translating to a payback period of 37.5 years.

Surviving through Focus on Low-End Semiconductor Market

Based on its revenue breakdown by process node from its annual and quarterly reports, the company derives the majority of revenues from more mature process nodes above 14nm to 90 nm with 40 nm contributing the largest process node at 23.3% of revenues. From 2018 to 2020, its share of revenues from nodes within this range has increased from 58.7% to 65.8% in 2020.

UMC Process Technology

2018

2019

2020

2021

14 nanometers and under

2.60%

0.00%

0.00%

0.0%

28 nanometers

12.60%

11.30%

13.60%

20.0%

40 nanometers

25.30%

23.10%

23.30%

18.0%

65 nanometers

12.50%

14.70%

17.40%

19.0%

90 nanometers

8.30%

13.60%

11.50%

8.0%

0.11/0.13 micron

11.60%

12.60%

11.10%

12.0%

0.15/0.18 micron

13.70%

13.10%

12.80%

13.0%

0.25/0.35 micron

10.10%

8.70%

7.80%

7.0%

0.50 micron or higher

3.30%

2.90%

2.50%

3.0%

Source: UMC

In addition, based on wafer pricing data from IC Insights, UMC trails market leader TSMC and GlobalFoundries (GFS) with lower wafer pricing. TSMC's wafer pricing is the highest and increased to $1,634 in 2020. This is followed by Global Foundries and UMC.

foundry wafer asp

IC Insights

Source: IC Insights

The chart below shows competitors with each process node capability up to 5/3nm. For UMC, it is at the 28nm category as its 14nm node contributed 0% in revenue in 2020. Larger competitors such as TSMC and Samsung have more advanced leading-edge nodes up to 5/3nm and SMIC and Global Foundries at up to 16/14nm. According to a report by DigiTimes, the company has in the past stated that it is not looking into the development of the 7nm node due to the challenges to address those markets.

Number of players in process nodes

Mirae Asset Management

Source: Mirae Asset Management

Nonetheless, we believe that the company's dependency on the matured nodes is not a significant threat as there is still use for these nodes in certain semiconductor products such as analog semiconductors. For example, in the 28nm node according to Omdia, as smartphones shift towards smaller nodes, other devices such as OTT devices and smart TVs are increasingly using these chips based on this node. It also highlighted the manufacturing cost increase when switching to 14nm nodes thus suitable for devices with higher volumes to absorb the costs such as smartphones.

According to SIA, the discrete, analog and optoelectronic market represents 32% of the semiconductor market in 2020 across various end markets including communications, automotive, and industrials. Some examples of chips using mature nodes are:

  • CMOS image sensors
  • display driver ICs
  • flash memory controllers
  • microcontrollers (MCUs)
  • power MOSFETs
  • power management ICs (PMICs)

The company mentioned the significance of matured nodes in some analog products including MCUs, display driver ICs and power management ICs in the following quotes.

MCUs are one of the key applications driving the growth of mainstream 40nm and below technologies. - Walter Ng, vice present of sales at UMC

DDIC and PMIC production spans mature technologies from the 150nm through the 22nm/28nm nodes. - Walter Ng, vice present of sales at UMC

Furthermore, UMC's key customers include several analog companies such as Texas Instruments, MediaTek, and Realtek. In a DigiTimes report, MediaTek (OTCPK:MDTKF) is believed to shift some orders from TSMC to UMC due to lower costs for the Amazon (AMZN) Echo Dot smart speakers.

Overall, despite its limitations of process technologies relative to larger competitors such as TSMC and Samsung with the most advanced nodes in the industry and trailing GlobalFoundries and SMIC (OTCQX:SMICY), we highlighted the company's focus on the matured node which are still incorporated in various applications, especially in the DAO market which is around 32% of the total semiconductor market. In addition, with its key analog customers, we expect the company's growth to be supported by its focus on the lower-end markets.

Risk: Declining Foundry Market Share

UMC's market share has decreased in the past 5 years from 7.9% in 2016 to 7.5% in 2020 based on market data from Trendforce. In contrast, leading competitors such as TSMC and Samsung have gained market share in the period. This highlights the disadvantage of UMC's focus on the matured nodes and its market. Based on a 5-year revenue CAGR, TSMC's revenue growth has higher compared to UMC.

Company

Revenue CAGR (5-years)

TSMC

10.86%

UMC

7.57%

Source: SeekingAlpha

Thus, we believe that despite its focus on the matured nodes with demand from the analog market, the company risks further losing market share as of market leaders TSMC and Samsung advance their leading-edge node capabilities with higher pricing power. We forecast UMC's market share to continue declining.

UMC foundry market share

Trendforce, Khaveen Investments

Source: Trendforce, Khaveen Investments

Furthermore, the company's margins are also lower than market leader TSMC. Compared to SMIC, its gross margins are lower but its net margins are slightly higher than SMIC.

Company

Gross Margins

Net Margins

FCF Margins

TSMC

49.87%

35.37%

14.25%

UMC

18.36%

8.76%

11.63%

Source: SeekingAlpha

All in all, we view its focus on the matured node market provides a double hit to the company. This is due to the inferior revenue growth of the company as well as with weaker pricing power with lower margins by focusing. We believe that its market share could continue to decline while its margins remain weaker than its competitors.

Valuation

The company's 10-year average revenue growth is 7.5% and we projected it to grow at a forward 5-year average rate of 5.6%.

UMC earnings and margins

UMC, Khaveen Investments

We valued the company with a DCF analysis as we expect it to continue to generate positive FCF. Our industry average is based on a perpetual terminal value with a discount rate of 11.2% less a long-term GDP growth rate of 2.4%

Based on a discount rate of 11.2% (company's WACC), our model shows its shares are undervalued by 26%.

UMC stock valuation

Khaveen Investments

Verdict

In this analysis, we examined UMC's foundry business in terms of pricing, capacity growth outlook and revenue breakdown by process nodes. As the semiconductor market is expected to remain robust with strong semiconductor demand forecasted of 8% by the IDC and an industry capacity growth of 3.96% by SEMI, we believe this could provide further upside to its wafer pricing in 2022. Moreover, while the company is increasing its capacity to meet customer demand, our estimates show there are high costs incurred with minimal cash flows to cover the investment costs. Finally, we highlighted its focus on the matured nodes between 28nm to 90nm accounting for most of its revenue which demand is expected to be supported by analog chips due to costs factors with TSMC reported losing orders from MediaTek to UMC as an example. However, compared to TSMC and Samsung which have technological leadership and higher wafer pricing, we expect UMC's market share to continue to be pressured. Overall, we rate the company as a Buy with a target price of $11.38

This article was written by

Khaveen Investments profile picture
5.21K Followers
Khaveen Investments is a Global Macro Quantamental Hedge Fund managing a tactical asset-allocated portfolio of globally diversified investments. We have interests in 100+ investments across multiple asset classes, countries, sectors and industries. Our investment approach takes both a top-down and bottom-up approach encompassing macro-economic, fundamental, quantitative and technical analysis. We serve accredited investors throughout the globe, which include HNW individuals, SMEs, associations, and institutions. Our investment managers have decades of investment experience between them, with research expertise in emerging technologies such as Artificial Intelligence, Cloud Computing, 5G, Autonomous & ElectricVehicles, FinTech, Augmented & Virtual Reality and the Internet of Things.www.khaveen.com

Disclosure: I/we have a beneficial long position in the shares of UMC either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: No information in this publication is intended as investment, tax, accounting, or legal advice, or as an offer/solicitation to sell or buy. Material provided in this publication is for educational purposes only and was prepared from sources and data believed to be reliable, but we do not guarantee its accuracy or completeness.

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