Taiwan Semiconductor ($TSM) – This is now an absolute bargain
Here's my updated view of TSM after recent price pressure.
Mounting Chinese export fears, upcoming tariffs, and a global trade war are among the many factors currently impacting the market. Semiconductors are leading the decline, with the SMH semiconductor ETF losing about 18% since its January 22 high.
This includes one of the most important companies globally, Taiwan Semiconductor Manufacturing Company (TSM). After setting a well-deserved all-time high in late January, TSM shares have been on the decline, losing 23% since, giving up about four months of well-deserved gains and resulting in shares down about 10% YTD.
Is it justified?
Let’s find out!
Let’s start with some key data:
Performance
TTM share price return: 26%
1-month share price return: -10%
Valuation
FWD P/E: 19x
FWD PEG: 1x
Growth projections
Expected 4-year revenue growth CAGR: 20%
Expected 4-year EPS growth CAGR: 20%
Dividend
Current yield: 1.37%
Payout ratio: 7%
TSM has a very bright future
While I understand investors' (over)reaction to a multitude of headwinds, I will strongly argue that TSM shares are unjustly punished. This creates a great opportunity to aggressively buy more shares in one of the best-performing, most promising, and most important companies globally.
While the company is most certainly facing headwinds (there is no denying those), it is executing flawlessly, rapidly growing sales even amid export curbs, maintaining an impressive margin profile, and absolutely dominating the semiconductor manufacturing market, accounting for over 50% of all semiconductors produced. The company is absolutely leaving competitors in the dust with far better processes and technological dominance, leading to far better products no peer can match.
As a result, TSM is slowly starting to operate a pure monopoly, accounting for over 90% of the advanced node manufacturing market. For reference, advanced nodes are all semiconductor products below 7nm. In this category, no peer, including Samsung and Intel, can match TSM’s chip quality and capabilities, practically making it the industry standard.
In fact, most of these peers are at least 2-4 years behind TSM in terms of node quality and performance, and with TSM operating as perfectly as it does, catching up is practically impossible, especially considering the CapEx intensity and dependence on R&D in the industry. I mean, TSM spends roughly $30 billion to $40 billion in CapEx annually… good luck even matching that, let alone catching up.
As a result, TSM is currently capacity-constrained when it comes to advanced nodes. Apple, AMD, Nvidia, and others are fighting for capacity amid booming AI demand, and TSM is reaping the benefits.
With a powerful moat, an advanced node monopoly, and booming demand for these nodes, TSM is excellently positioned for rapid growth in the years or even decades ahead. Management is confident it can continuously outpace the underlying industry and expects to deliver a five-year revenue growth CAGR of close to 20%, driven by a mid-40s CAGR in AI-related revenue and a long-term gross margin of at least 53%, no matter the circumstances.
Indeed, TSM is poised for incredible growth and remains one of the better investments for the decade ahead, in my opinion.
The way I see it, when these companies see their share price drop on broader industry or market pressure driven by near-term headwinds, these discounts are nothing short of an opportunity or gift to investors.
This time is no different. We now have a brilliant business, guiding for mid-20s growth this year, a 5-year revenue CAGR of approximately 20%, with a powerful moat, and operating a monopoly in a critical industry trading at an earnings multiple of just 19x the current FY25 Wall Street consensus.
That discount cannot be justified in any way, even when considering the overestimated geopolitical pressures.
This is just a brilliant business, now trading at a ridiculous discount… Here are some final numbers to consider:
The operating margin now sits just shy of 50% and did not drop below 41% even at the bottom of the latest cycle.
The net income margin was 43% in the latest quarter, which is very impressive. Even at its lowest point, it didn’t drop below 36%.
ROE growth of 400 bps to 30.3% in FY24 (ROE of 36.2% in Q4)
Despite cyclical pressures, the company realized a ROCE and ROIC in the mid-twenties in 2024, which is likely to improve again to over 30% in the years ahead.
The company also maintains a pristine balance sheet with a whopping $74 billion in cash and a total debt of only $30 billion.
Net of CapEx, TSM generated $26.5 billion in FCF in FY24.
Risks are overstated.
Since I covered TSM shares in January of this year, following the Q4 results, there haven’t been too many outlook or thesis-changing headlines, but I just want to highlight a few developments.
First of all, I want to address some risks/threats that have emerged or grown lately, starting with shortly addressing the U.S. tariff threat, with tariffs imposed on semiconductors not out of the question.
Positively, direct exports to the U.S. only account for less than 5% of TSM’s total export, so the direct impact would be very limited. However, there is also the indirect impact, with a much larger number of semiconductors indirectly shipped to the U.S. after being processed elsewhere. Again, the impact on TSM should be limited, so I wouldn’t view these potential tariffs as a massive threat to TSM’s business.
Furthermore, TSM is also taking a very cautious approach to the U.S.-imposed Chinese export restrictions, focusing particularly on advanced and AI chips. In simple terms, TSM is not shipping any nodes below 16nm to China, whether used for AI or not, to ensure it is acting according to U.S. restrictions.
This not only removes any regulatory issues but also means that potential additional restrictions in the future are unlikely to further impact TSM, as the company already maintains a reasonable margin of safety.
Again, this lowers future risk.
Other notable developments include the late-January earthquake in Taiwan, which will impact Q1 revenue. Production stopped temporarily, and some equipment needed to be checked. As a result, Q1 revenue is expected to be at the lower end of the guided range. Fortunately, damages were limited to roughly $161 million.
Alright, then moving to a more notable and impactful development, TSM last week announced a massive additional investment in U.S. capacity, with the promise for a number of additional facilities/fabs to be built through the end of the decade, in addition to its mega investment into three facilities in Arizona.
TSM has now committed to an additional $100 billion investment over the next four years to expand its U.S. presence further. The cash will be invested in five new facilities, including fabs and R&D. With this it plays into the needs of the U.S. government, which wants to lower dependence on foreign chip production (likely now putting TSM in the Trump’s good book). Still, it also plays into the needs of its customers, with the likes of Apple, Nvidia, and AMD, among others, eager to get their chips from U.S. soil.
Generally, I believe these commitments are a long-term positive.
However, TSM shares actually dropped on the news, in part driven by broader sentiment and also because the investments might drag on margins in the years ahead. Realizing a margin profile similar to that of its Taiwanese facilities is a tough task that will at least take a few years to complete. In other words, more U.S. production could dilute margins through the end of the decade and, therefore, profits.
In addition, it is not entirely clear whether these investments will exceed recent CapEx projections or were already accounted for. We will likely see a higher CapEx in the years ahead, putting additional pressure on cash flows.
Nevertheless, I like this move by TSM management. With this, it grows Western production capacity and remains on Trump’s good side, which isn’t a bad place to be. Furthermore, it strengthens its moat and lowers the threat coming from Intel, which really only had a focus on Western production going for it…
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Outlook & Valuation
As already touched on before, TSM has an absolutely terrific outlook, with a current consensus pointing to a revenue and EPS CAGR of 20% over the next four years.
The company is simply sublimely well-positioned to benefit from the growing demand for semiconductors in general and advanced nodes in particular. This will likely result in incredible growth over the next four years, but considering TSM’s incredible moat and dominance, I anticipate it benefiting from technological growth and subsequent growth in semiconductor demand well into the next decade.
Below, you’ll find my current projections through FY28.
Looking at all the brilliant financial numbers this company consistently delivers, as well as its moat and dominant market position in a critical and fast-growing market, you’d think it deserves to trade at an absolute premium.
There simply aren’t many businesses that are as brilliant as this one.
I mean, a company of this quality and with a growth outlook as shown above… a forward earnings multiple of over 30x or a PEG of above the sector median of 1.5x wouldn’t be too crazy, similar to what we see for a company like ASML.
However, TSM trades nowhere near the multiples awarded to its more Western peers, with the company constantly the victim of poor sentiment and investors still pricing it at a massive discount due to its commitment to Taiwan, where the company and most of its operations are positioned.
Alright, yes, I understand that a discount is warranted here. Taiwan is under constant threat from China and heavily dependent on protection from the U.S. A potential invasion from China would most certainly mean the end of TSM. However, what many seem to miss is that there is no way the U.S. is giving up Taiwan nor that China would risk an actual invasion, as it would likely lead to a much bigger conflict. Taiwan, or rather TSM, is simply too big and strategically important to the West, making an invasion highly unlikely.
I understand a discount is priced in here, but if Taiwan were actually to be invaded, the entire semiconductor sector would be done for. Nvidia and AMD wouldn’t be able to produce their chips, ASML would lose its largest customer, and the Defense sector wouldn’t be able to get critical advanced chips. Are we pricing all these at a discount because of dependence on TSM?
Didn’t think so.
Again, yes, this might not really be a fair comparison, but the point remains that such a massive discount is just ridiculous for a business like TSM.
For reference, after the recent decline, TSM shares now trade at just 19x the FY25 EPS consensus, a 12% discount on the semiconductor sector median. However, a better reflection of the undervaluation is a bargain PEG of just below 1x, which is a 40% discount to the sector. Shares trading at a PEG below 1x are generally seen as bargains, and that is no different here.
TSM shares are just completely mispriced right now. Despite being one of the highest quality picks in the sector, it trades at a significant discount to the median.
As I argued in January, I continue to consider a 25x multiple or a PEG closer to the sector median a fair long-term multiple for TSM. This multiple balances its insane quality and outlook with its above-average risk profile.
Using this and my current FY27 EPS prediction, I calculate a target price of $310 per share, reflecting potential returns of 20% annually (CAGR) or a total 3-year return of 72%.
I believe this is one of the better risk-reward profiles you’ll find out there right now!
In my opinion, this makes TSM shares a strong buy.
Lovely analysis. Look forward to more such goldmine content.
I linked to your post in my Monday emerging market links collection post: https://emergingmarketskeptic.substack.com/p/emerging-markets-week-march-17-2025