Here’s Why Taiwan Semiconductor Keeps Powering Higher

Shares of Taiwan Semiconductor (NYSE: TSM  ) , the world's leading semiconductor contract manufacturer, have been on a veritable tear over the last several months and are currently trading just shy of 52-week and all-time highs. While the stock has made a big move, here's why the shares could have further potential upside in this rather frothy market.

A fundamental shift in semiconductors -- technological barriers
While many believe that manufacturing semiconductors is simply a matter of having the deep pockets to afford to build the factories themselves, this couldn't be further from the truth. There is a very large amount of research and development that goes into developing the manufacturing process -- which is like a "recipe" -- to build these chips. Only a few companies can afford to consistently spend the kind of money that it takes to stay on the leading edge (it's currently about $1.5 billion-$2 billion to do so).

As a result, it seems that the general purpose foundry industry has consolidated to Taiwan Semiconductor, Samsung (NASDAQOTH: SSNLF  )  and -- to the extent to which it can license the manufacturing recipes from others -- GlobalFoundries. TSMC commands the lion's share of the revenue, turning in over $20 billion in sales last year and on track to do about $23.5 billion this year (per sell-side consensus) -- far in excess of the roughly $4 billion each that Samsung and GlobalFoundries did last year.

With only a few players remaining on the leading edge, and with Taiwan Semiconductor out in front among the general purpose foundries, it will likely command pretty significant pricing power, driving increased revenue and gross margin dollars per wafer as customers find themselves with very few options.

TSMC has a de facto monopoly at 20-nanometer
Next year should be rather good for TSMC. Later this year, the upcoming Apple iPhone 6 is rumored to use a chip built on TSMC's 20-nanometer manufacturing process -- taking that business away from rival Samsung (note that most of Samsung's foundry revenues are from Apple).

While Samsung has been trying its hardest to grab new clients in order to support its foundry business, it remains to be seen just how many fabless semiconductor companies wish to build their chips at a company that also plans to compete with them. If Samsung fails to grab high volume foundry customers (think Qualcomm and MediaTek) to support its leading-edge business, then even it may not be willing to continue to invest in this market long-term.

At any rate, at 20-nanometer it looks like TSMC has a de facto monopoly as it has likely won Apple's A8 chip as well as Qualcomm's next generation modem/apps processor business throughout 2015.

Foolish bottom line
Taiwan Semiconductor captured the lion's share of the 28-nanometer foundry business and it looks like its share at 20-nanometer will be even higher if it has indeed scored Apple. While Samsung is taking a rather large game about its 14-nanometer plans, it is important to be careful in using its claims to assume that TSMC will lose significant share at that generation, particularly as it is in Samsung's best interests to appear to the rest of the fabless players that it will be ahead of TSMC.

Next year should be very good for TSMC, and the current run-up is likely due to the fact that the company will not only have leadership at 20-nanometer, but it will probably have a very good cost structure on the now-mature prior generation 28-nanometer technology (which will serve as the technology of choice for most high volume mobile parts).

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On June 05, 2014, at 2:25 PM, jdfollower wrote:

    How does Intel's foundry business fit into this discussion?

  • Report this Comment On June 05, 2014, at 3:15 PM, raghu78 wrote:

    Ashraf

    TSMC in the long term does face challenges as Intel, Samsung and Globalfoundries will all compete for foundry business. Intel will be strategic in that it will not enable a direct competitor like Qualcomm, AMD or Nvidia. Samsung/GF will go right after TSMC's biggest customers. I am quite sure that the Samsung / GF 14nm licensing deal has been done at the request of the leading edge customers like Apple, Qualcomm and AMD. The entire fabless industry sees the risks of being held hostage to one fab company for leading edge capacity. Since TSMC is prioritizing 20nm capacity for Apple, Qualcomm seems to be looking at Samsung for 20nm capacity

    http://www.bnppresearch.com/ResearchFiles/31175/Semiconducto...

    page 3

    "Increased competition in foundry sector

    In reality, instead of one camp completely winning over the other, the most likely scenario seems to be TSMC and Samsung (with GlobalFoundries) competing fiercely, and each getting sizable chunks of the leading-edge foundry business. The transition from 2D to 3D transistors could reshape the foundry industry. It is a departure from the past, when TSMC dominated the leading-edge foundry market and industry profits. If Samsung, GlobalFoundries and Intel execute their plans, they could be a credible threat to TSMC and TSMC’s longstanding above-industry growth may come to a halt "

    Also Apple and AMD in the long term could drive a lot of leading edge node business at Samsung/GF . Apple is poised to transition to ARMv8 across the stack by the time A9 ships.

    AMD with the new high performance ARMv8 K12 and x86-64 core is poised to regain lost server market share and increase their overall leading edge capacity requirements.

    http://blogs.barrons.com/techtraderdaily/2014/05/27/samsung-...

  • Report this Comment On June 05, 2014, at 4:09 PM, TMFAeassa wrote:

    "AMD with the new high performance ARMv8 K12 and x86-64 core is poised to regain lost server market share and increase their overall leading edge capacity requirements."

    In the same way that Bulldozer, Piledriver, Steamroller, and the upcoming Excavator were supposed to regain lost server share? ;-)

  • Report this Comment On June 05, 2014, at 11:22 PM, raghu78 wrote:

    ashraf

    "In the same way that Bulldozer, Piledriver, Steamroller, and the upcoming Excavator were supposed to regain lost server share"

    You can ridicule what you want but even AMD accepts the Bulldozer was a failed design. It takes time to correct such mistakes. You are not going to be smiling come 2016 :-)

    In fact lets see Intel's revenues for the 2014 - 2016 period and see if they can grow revenue from 2013. I can tell you a third straight year of revenue shrink is on the cards.

  • Report this Comment On June 05, 2014, at 11:23 PM, raghu78 wrote:

    ashraf

    "In the same way that Bulldozer, Piledriver, Steamroller, and the upcoming Excavator were supposed to regain lost server share"

    You can ridicule what you want but even AMD accepts the Bulldozer was a failed design. It takes time to correct such mistakes. You are not going to be smiling come 2016 :-)

    In fact lets see Intel's revenues for the 2014 - 2016 period and see if they can grow revenue from 2013. I can tell you a third straight year of revenue shrink is on the cards.

  • Report this Comment On June 05, 2014, at 11:32 PM, TMFAeassa wrote:

    raghu78

    " It takes time to correct such mistakes. You are not going to be smiling come 2016 :-)"

    And you think on an R&D budget even smaller than it was just a few years ago, and with Intel continuing to extend a very robust micro-architecture on a larger-than-ever R&D budget, that AMD will suddenly take back gobs of share?

    Of course, anything can happen...it's just a matter of likelihood :-)

    Regards,

    AE

  • Report this Comment On June 06, 2014, at 2:36 AM, raghu78 wrote:

    Ashraf

    A smaller R&D budget has not limited AMD from beating Intel in the past as they did with Athlon 64 / AMD x86-64 or Hypertransport. Remember Itanium and IA-64. Its extinct thanks largely due to AMD's x86-64. Why didn't all the money Intel had do anything to stop IA-64 from going extinct. A smaller R&D budget does not stop AMD's small Cat cores from competing with Intel's Atom.

    See your problem is you think money alone can create leadership products. Why is it then Intel sucks at GPU and HPC against Nvidia. Its actually the people and the ideas which they bring to life. AMD has a solid leadership team - Rory Read, Papermaster, Keller, Raja. Recently Richard Huddy joined AMD back from Intel.

    AMD's execution was the problem in 2006 - 2011 time frame. The Bulldozer disaster's effects are what AMD is facing today. Luckily the Cat cores along with the semi-custom wins have given them a shot in the ARM (pun intended) to develop their 2 next gen high performance cores. From 2012 things have started to fall in place and the results will be there in 2016. Though those results might not be to your liking. :-)

  • Report this Comment On June 06, 2014, at 8:36 AM, TMFAeassa wrote:

    raghu78

    With R&D, you may not necessarily get what you pay for, but you certainly don't get what you don't pay for.

    Intel's R&D focus on GPUs was minimal until the company saw that it could improve CPU mix by including more and more powerful GPUs. We've now seen the company go from completely laughable GPUs (pre-Gen 6), to "hey, it's not terrible" (Gen. 6), to actually decent with Gen. 7/7.5, and Broadwell's Gen. 8 should improve things.

    Further, on the point re: Cat cores...there's a reason those SoCs (Hondo/Temash/Mullins) don't do well in the market. Silvermont has much more sophisticated power management and delivers *significantly* better performance/watt in CPU tasks.

    By 2016, Intel will have iterated out the successors to Goldmont and Skylake (Cannonlake) on 10nm, as well as likely a bevy of SoCs targeted at a slew of markets based on that IP (as well as improved graphics, and other goodies).

    If you think Intel is standing still while AMD will make a miraculous advance, then that's fine, but I just don't share that particular view.

  • Report this Comment On June 06, 2014, at 10:31 AM, raghu78 wrote:

    Ashraf

    Again you keep spouting rubbish. Mullins does have sophisticated power management for its design goals. The 2.8W SDP and 4.5W TDP means Mullins is a good fit for tablets. If Intel wanted to go after smartphone market thats their headache. Again the power efficiency advantage of Intel is due to 22nm FINFET vs 28nm planar.

    Let see how Intel's Sofia with Silvermont cores fares next year on TSMC 28HPM.

    Intel does not have any significant transistor density advantage as Beema/Mullins have roughly the same 100 sqmm die size of Baytrail. Both compete against Baytrail in CPU perf while thrashing it in GPU and overall compute perf.

    Intel's progress in the last few years has been minimal and they have mainly been beefing the FP unit - AVX for sandy, AVX2 for haswell, AVX-512 for Skylake. They could afford to do that as AMD failed miserably with Bulldozer.

    I am not saying Intel is standing still but their pace is slacking and a new AMD x86-64 core has a good chance of upsetting Intel. The fact that its Jim Keller who is leading the development augurs well for a return to competition in the high end CPU core space.

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