Taiwan Semiconductor Manufacturing (TSM 1.00%) is the world's largest contract semiconductor factory, meaning it doesn't sell its chips directly to consumers. Instead, it sells its products to companies like Nvidia, Advanced Micro Devices, or Apple (AAPL 0.06%). While this helps diversify its customer base, it can also cause troubles when the consumer becomes weaker, as it is at the mercy of its customers and how often they order.
TSMC's latest revenue report revealed some cracks in the business that could inform investors of how other customers are performing. So let's look at this report and see its implications for some of its clients.
Investors have expected this slowdown for a while
Taiwan Semiconductor makes some of the world's most powerful and smallest chips, including 3 nanometer (nm), 5 nm, and 7 nm products. Because Intel hasn't performed well in its research and development department lately, Taiwan Semiconductor's only real competition in this segment is Samsung. With Samsung directly competing against many of TSMC's customers, it's unlikely they'd switch away from TSMC as their supplier.
This is important to understand because if Taiwan Semiconductor's revenue is falling, it's not because it is losing customers; it's because its customers aren't ordering as much.
Taiwan Semiconductor is also heavily concentrated with a few clients. One company (unnamed in its annual report but widely assumed to be Apple) made up 23%, 25%, and 26% of sales in 2019, 2020, and 2021, respectively. Zooming out a bit, 71% of 2021 revenue came from its 10 largest clients. With a focus on its large clients, if a handful of them struggle, Taiwan Semiconductor will also feel the pain.
That's precisely what happened in March, as TSMC's revenue figures decreased by 10.9% from February 2023 and 15.4% from March 2022. Part of this slowdown can be attributed to the strong dollar, as other currencies (like the New Taiwan dollar) haven't risen as much, further exaggerating the sales drop.
While this is unfortunate for Taiwan Semiconductor investors, this slowdown was expected, as seen in its stock valuation.
TSM PE Ratio data by YCharts
With the downturn already priced into the stock, it didn't react much to the news of slowing sales. However, the stocks of its largest customers didn't move, which could be a huge warning signal to investors.
Apple must execute flawlessly for the stock's valuation to make sense
With Apple being its largest client, it's improbable that all of Taiwan Semiconductor's sales slowdown came from other sources.
That's a problem for Apple because unlike TSMC, its stock is priced for perfection.
AAPL PE Ratio data by YCharts
With the stock at 28 times earnings and falling revenue (Apple's revenue fell 5.5% last quarter), Apple stock can't afford another down quarter. But, with analysts only projecting sales to fall by 4.6% this quarter, the pain may not be as much as TSMC's performance makes it seem.
I think that projection is undershooting the current environment, and investors should beware of Apple's stock before earnings. On the flip side, with Taiwan Semiconductor's stock already priced for a downturn, it's looking attractive at these prices. Investors will hear from both companies in the next few weeks and get a better picture of the current operating environment, but beware of Apple's stock in the meantime.
