Nvidia (NVDA 0.03%) has been the poster child for the artificial-intelligence (AI) revolution, with the stock up 212% this year, following blowout guidance in late May.
Since then, a lot of other semiconductor stocks have rallied as well. But with the magnitude of the AI boost still uncertain, investors seemed disheartened when Taiwan Semiconductor Manufacturing (TSM 0.14%), the world's largest chip foundry, threw cold water on semiconductor demand during its recent earnings report.
That is except, of course, demand for Nvidia GPUs.
AI chips are only 6% of TSMC's revenue
Some investors anticipated booming AI demand that would lead the chip industry out of its downturn. Yet on last week's earnings call, TSMC management appeared to throw cold water on that notion. CEO C.C. Wei noted, "While we have recently observed an increase in AI-related demand, it is not enough to offset the overall cyclicality of our business."
Wei doesn't mean AI demand isn't great. It is. It's just that AI chips -- which TSMC defines as the GPUs, CPUs, and ASICs used specifically in AI training and inference -- account for only 6% of TSMC's revenue.
But outside of that 6%, TSMC is still seeing weakness across basically every other end market, from PCs to smartphones and non-AI servers. Even with AI demand surging, TSMC's high-performance computing division, which also includes PCs and non-AI servers, was down 5% overall. And most other categories except auto were down on the quarter as well. While digital consumer electronics like chips for TVs and set-top boxes surged, that seems like an anomaly, and they made up a tiny percentage of revenue.
Image source: Taiwan Semiconductor Manufacturing.
While TSMC had originally forecast revenue to be down by mid-single digits in 2023, it now sees revenue down about 10% this year. It seems the chip downcycle that began in 2022 could be longer lasting than some thought, in spite of AI demand.
Management said the discrepancy was due to several factors, most notably the weaker-than-expected recovery in China, after it lifted its zero-COVID policies last year. And while demand may be improving somewhat from its low, manufacturers are still being cautious with their inventory builds. That's limiting demand from chipmakers themselves.
But Nvidia may be the exception
Some may confuse that TSMC said AI wasn't enough to offset the cycle to mean AI demand isn't as strong as some thought, but that's not the case.
In fact, Wei even projected that AI chip demand will grow at a 50% annualized growth rate over five years, increasing AI's portion of TSMC revenue to a low-teens percentage. For perspective, compounding 50% over five years would mean a stunning 6.6-fold growth over 2022 numbers.
Currently, Nvidia dominates this space, with between 80% and 95% market share of AI accelerators. But the remaining parts of the industry are really custom ASICs produced by large cloud providers, not general-purpose GPUs that can be programmed outside their respective cloud platforms. While Advanced Micro Devices just unveiled its own AI accelerator, the MI300, it didn't announce an anchor customer, and won't be in mass production until mid-2024. So a lot of that amazing growth can probably be attributed to Nvidia.
In its recent fiscal year, Nvidia made $15 billion in data center revenue. So if TSMC's projections are right and Nvidia's data-center segment grows at a 50% CAGR for five years, it would reach about $100 billion in data-center revenue by 2028. And Nvidia still has its other gaming and auto chip segments to contribute as well.
But all hope is not lost for chips
It's quite possible the chip rally outside Nvidia ran a little far, too fast; however, it's likely that non-AI chips will eventually recover. Despite this year's 10% decline, TSMC did say it still expects revenue to grow between 15% and 20% on average over the medium term -- a projection it first made in January 2022.
TSMC grew revenue by 42.6% last year in 2022, so it's not surprising it had a decline in 2023. However, this year's 10% decline would put TSMC's 2023 revenue just 28.3% higher than 2021 revenue, or a CAGR of 13.3% over the past two years.
That would mean TSMC would exit this year slightly below its long-term growth trend, at least according to its 2022 guidance. So if TSMC's guidance is to be believed, 2024 and beyond should be stronger for the rest of the industry. After all, all those PCs and phones bought during 2020 and 2021 will have to be replaced sometime.
