While dividend investors love their payouts, they face a conundrum: Rising interest rates in the U.S. have made steady dividend payers less attractive. In addition, companies with steady dividends are often big, mature companies. In this age of exciting technological disruption, many such companies in, say, retail and oil are having difficulties adapting.
However, the tech world itself has matured, and offers several promising candidates that pay out secure and rising dividends. One such company is Taiwan Semiconductor Manufacturing Co. Ltd. (TSM -3.61%), which has more than doubled its payout over the past five years, from $0.50 in 2014 to $1.34 today -- good for 167% growth and a current yield of 3.7%.
Taiwan Semi is the world's largest outsourced semiconductor manufacturer, with over 50% market share. TSM manufactures chips for other companies, including Apple (AAPL 0.14%), Qualcomm, and Nvidia.
There are several reasons Taiwan Semiconductor could be a long-term buy for dividend investors, but also some potential red flags in the near term. Here is a closer look at this unique company.
Reasons to buy TSM
One of the more interesting tech stories of 2018 was Taiwan Semiconductor beating Intel (INTC -2.48%) to become the first foundry to manufacture leading-edge 7nm semiconductor chips. Intel is one of only two semiconductor companies (the other is Samsung) to manufacture its own semiconductors. For years, Intel had been dominant in leading-edge nodes, which pack more transistors into ever smaller and smaller die sizes. So, the lower the number of nanometers, the more advanced the chip. Intel had been the first to produce 14nm chips back in 2013. However, Intel has stumbled in its progression to 10nm chips (which are equivalent to TSM's 7nm node). In its most recent projection, Intel announced its 10nm offerings won't be available until the end of 2019.
Meanwhile, TSM began producing 7nm chips at scale in 2018. How did it do it? Despite Intel's larger size, TSM's position as a manufacturer of so many different kinds of chips (mobile, PC, data center, GPUs) for a variety of clients has given it wide-ranging expertise. That cumulative knowledge, along with Intel's stumbles, seems to have allowed TSM to catch up and surpass Intel in the race to 7nm.
Furthermore, the other large outsourced chip manufacturer, GlobalFoundries, which is privately held, announced late last year that it was abandoning 7nm in order to focus on specialized trailing-nodes (higher nm, less advanced), due to 7nm's complexity and cost. That left TSM as one of only two manufacturers (it and Samsung) to produce 7nm chips.
As the semiconductor market rapidly expands, more and more companies, are going "fabless," (designing their own chips, while outsourcing manufacturing). Advanced Micro Devices spun out its manufacturing arm, GlobalFoundries, years ago. Meanwhile, new chip upstarts, as well as giant companies such as Apple that make their own processors, don't want to invest in expensive manufacturing fabs. All of these players, large and small alike, are turning more and more to Taiwan Semiconductor for manufacturing. That's a great long-term competitive position to be in.
But there's reason for caution
With such a competitive advantage and strong long-term tailwinds for TSM, are there reasons for caution? That's a yes.
Namely, Taiwan Semi is so big that it's significantly affected by global growth trends. Currently, the U.S.- China trade war has put a damper on semiconductor demand in general, especially from Asia and emerging markets. In its just-reported fourth quarter, TSM's revenue grew just 4.4% year-over-year. TSM also guided for a dismal (22%) decrease in revenue from Q4 to Q1. There is usually a seasonal drop in the first quarter of the year, but this was even worse than expected.
The culprit? Besides an overall slowdown, TSM is heavily affected by Apple's results, as TSM gets almost a quarter of its sales from iPhones, according to Bernstein Research. Apple's Q1 preannouncement on Jan. 2 gave a pretty bad outlook for smartphones in general and the iPhone in particular, which means TSM may be in for a challenging year, despite its 7nm success.
Finally, while the company does have competitive advantages at the most advanced leading-edge nodes, TSM only got 23% of revenues from 7nm last quarter, with the rest being from trailing-nodes. In short, TSM still gets the bulk of its revenue from nodes that other competitors have as well. Therefore, its 7nm advantage won't necessarily lead to eye-popping growth for the company.
To buy or not to buy?
I tend to like Taiwan Semiconductor's positioning over the long term, even if the near term is a bit dicey. The company's 3.7% dividend yield is a fairly good payout, and management could increase the dividend later this year, despite its challenges. That dividend only amounts to a 57% payout ratio, and the company trades at a reasonable 16 times earnings.
Still, you should not expect eye-popping growth numbers from TSM, which is more of a conservative play in the tech world. One could also make the case that TSMC's clients have much more exciting growth potential. Still, for dividend investors who like competitive advantages, stability, and a bit of upside from technological progress, TSM may be worth a look.
Check out the latest Taiwan Semiconductor Manufacturing Company earnings call transcript.