Berkshire Hathaway (BRK.A -0.28%) (BRK.B -0.68%) stock was closing out 2022 in positive territory and doing better than the S&P 500. This outperformance is largely due to investors preferring value relative to growth during a period of rising interest rates and economic uncertainty.
While investors shouldn't chase the stocks in Berkshire Hathaway's portfolio -- often called Warren Buffett stocks -- just because they're hot right now, there are several holdings that stand out as good values as well as sources of passive income. Taiwan Semiconductor Manufacturing Company (TSM -0.34%), Celanese (CE -0.40%), and HP (HPQ 1.55%) are three dividend stocks worth buying now. Here's why.
A discounted chip maker in the bargain bin
Daniel Foelber (Taiwan Semiconductor):Taiwan Semi is unique because it is the world's largest pure-play chip foundry. Its customers include chipmakers such as Qualcomm, Broadcom, Advanced Micro Devices, Intel, and Nvidia.
You can think of a "fabless" chipmaker like Nvidia as the architect and Taiwan Semi as the construction crew. In this vein, an investment in Taiwan Semi can benefit from the growth of the industry and be less risky than a bet on a single fabless chipmaker.
Taiwan Semi's competitive advantage is its market positioning, manufacturing capacity, and its ability to stay up to date with new technologies so it can handle increasingly complicated customer requests.
In many parts of the economy, suppliers are often lower-margin, higher-volume businesses, whereas the maker of the finished product benefits from high margins. But Taiwan Semi operates a high-margin business at scale and sports a wide moat. After all, building a new chip factory is expensive and requires a specialized skill set to operate and stay relevant. In fact, Taiwan Semi has higher operating margins than many of its customers.
TSM Operating Margin (TTM) data by YCharts
In mid-November, Berkshire Hathaway disclosed a 60 million-share stake (worth over $4 billion) in Taiwan Semi, pole-vaulting the chip maker to a top-10 holding for Berkshire. Taiwan Semi stock is down over 38% year to date and 47% from its all-time high as of this writing.
The chip industry is no stranger to cyclicality and a slowdown in demand paired with supply chain challenges has taken its toll on semiconductor companies. And Taiwan Semi has its own unique set of geopolitical challenges with neighboring China. All told, there are a lot of headwinds facing the industry leader, but Buffett and his team are known for stepping in when others hesitate to hit the buy button.
Paired with its operational strength, Taiwan Semi's valuation looks as attractive as ever. Its price-to-earnings ratio is just 12.6 -- around a 20-year low. Its price-to-free-cash-flow ratio is 22.4 -- around a four-year low. The company also has a 2.4% dividend yield, adding a cherry on top of a valuation-based investment thesis.
Near-term risk and long-term opportunity
Lee Samaha (Celanese): Berkshire Hathaway bought stock in polymers and plastics manufacturer Celanese in 2022. In a sense, it's a classic Buffett-like investment. Over the last few years, management has been busy investing in productivity-enhancing technologies and reorganizing its less productive plants while investing in expanding low-cost production plants, such as its Clear Lake facility in Texas.
These actions are intended to improve long-term underlying return on invested capital (ROIC). That's usually seen as a critical metric Buffett focuses on, rather than trying to second-guess what profit will be like over the near term in a highly cyclical industry.
Data by YCharts
I used the term "long-term underlying" in connection with ROIC to reflect just how cyclical Celanese's end markets are. Its products are used across many industries, and demand fluctuates with the economy. In addition, given how tight demand and supply are in the chemicals industry, all it takes is a decline in demand, and chemicals prices tend to come tumbling down.
Indeed, with the slowdown in the economy and a fall in many chemicals prices through 2022 , Wall Street analysts predict Celanese's earnings will decline from $18.12 a share in 2021 to $16.13 in 2022 and then $12.93 in 2023.
While no one loves buying stocks with declining earnings, the Wall Street consensus puts Celanese stock at less than 8 times earnings in 2023. By that time, a new up cycle could begin, and management's actions will likely make the company more profitable through the next cycle. Meanwhile, investors will earn a dividend -- current yield is around 2.7%.
The market is underestimating HP's future
Scott Levine (HP): HP might only be nearing its one-year anniversary in the Berkshire Hathaway portfolio, but those who follow the Oracle of Omaha's holdings aren't singularly focused on the holding periods of his positions. When Berkshire Hathaway buys a stock, investors take notice -- especially when it offers a juicy forward dividend yield of 3.9% like HP, a leading manufacturer of personal computers, does.
Currently, investors have an excellent opportunity to follow in Buffett's steps and buy HP's stock while it's on the cheap. Trading at 6.4 times operating cash flow and a mere 8 times forward earnings, HP's stock is on the sale rack. For context, HP's stock has five-year average operating cash flow and forward earnings multiples of 7.5 and 9.
It's unsurprising that HP's stock has fallen out of favor with investors. The company reported $3.85 billion in free cash flow for the fiscal year that ended Oct. 31, a year-over-year dip of 0.8%, and the current year may see a further decline. On the fourth-quarter conference call, CEO Enrique Lores said the company "expect[s] to operate in a challenging macro environment during fiscal year 2023." This translates to, among other things, HP projecting free cash flow of $3 billion to $3.5 billion for the year.
With regards to HP, Buffett's strategy of being greedy when others are fearful is a wise approach. While the company faced supply chain challenges and lower demand in 2022, management is working to fortify the business. It's implementing a three-pronged approach -- digitizing the company, optimizing the portfolio, and increasing operational efficiencies -- to achieve annualized gross run rate savings of $1.4 billion by the end of 2025.
While the company executes its cost-reduction plan, investors may be wary of the stock's prospects. However, it's times like these, when the market underestimates an industrial stalwart led by an effective management team, when investors can plant the seeds of portfolio growth with smart stock purchases.
