The revelation that Warren Buffett bought 60 million shares of Taiwan Semiconductor Manufacturing (TSM 2.71%) in the third quarter changed the way investors and the market viewed this leading manufacturer of semiconductor chips.
Although it has a market share of over 50% in the contract chip manufacturing industry, the combination of a global chip shortage, trade issues, and geopolitical tensions with China has weighed heavily on its stock, which at one point this year had fallen by 60% from its peak. However, a better-than-expected third-quarter earnings report and Buffett's stock purchase have propelled the shares back upward, though they are still down 37% year to date.
Despite the surge in the share price that took place over the past month, investors may still want to take a close look at Taiwan Semiconductor for their own portfolios now, because it may be a long time before it's this cheap again.
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Business done differently
The semiconductor company's business model differs in several key ways from that of other chip stocks, such as that of its main competitor, Intel (INTC 1.77%).
One major difference is that Taiwan Semiconductor operates as a pure-play foundry, meaning it manufactures chips for other companies rather than producing its own branded products. This allows it to focus on its core competency of chip production while leaving product development and marketing to its clients, among which are "fabless" chip designers such as Advanced Micro Devices, Broadcom, and Nvidia.
In contrast, Intel is both a foundry and a design company -- it both manufactures its own chips and produces chips for other companies. But even Intel contracts with TSMC for some of its manufacturing.
The chipmaker's business model has proven to be highly successful, and it has consistently reported strong financial results. In 2020, TSMC's net income reached a record high of $18.2 billion, an increase of 57% from the previous year. It increased it another 17% in 2021, and over the last 12 months, its net income rose 45% year-over-year to $30.5 billion.
A growing, global footprint
In addition to its strong financial performance, Taiwan Semi has also been making efforts to expand its manufacturing footprint in the United States. In 2020, the company announced plans to construct two new foundries in Arizona, with a total original investment of $12 billion, but recently said it would triple that to $40 billion. These foundries will be used to produce advanced chips using 5-nanometer and 3-nanometer process technology.
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Taiwan Semi is also in talks with suppliers about building its first European plant.
The chipmaker's expansion into the U.S. is part of a broader trend of companies seeking to diversify their supply chains and reduce their reliance on manufacturing in China. It's also doing that in response to China's efforts to boost its own semiconductor industry, which has been aggressively expanding in recent years.
Overall, Taiwan Semi's business model of operating as a pure-play foundry has proven to be highly successful, leading to strong financial performance and attracting the attention of even investing legends such as Buffett. The company's plan to add manufacturing capacity in the U.S. is also a smart strategic choice that will help it better serve its customers and maintain its edge in an increasingly globalized and competitive market.
Market mispricings
Despite this, Taiwan Semiconductor's stock is as cheap now as it has been since 2016, trading at 13 times trailing earnings, 12 times next year's estimated earnings, and a fraction of its estimated long-term earnings growth rate.
Demand for semiconductor chips for smartphones and other electronic devices should remain strong, and the increasing use of artificial intelligence, machine learning, and data centers provides further tailwinds for the sector. As such, Taiwan Semiconductor stock is a buy at these prices.
