Is ASML Stock Overvalued as Customers Cut Back on Spending?

The semiconductor slump that cropped up in late 2022 is still ongoing, but indications are that a bottom for chip demand could be occurring. As a result, top chip manufacturing equipment company ASML Holding (ASML 2.04%) has been on the rise this year as its customers gear up for the upcoming next wave of chip demand. 

Many of ASML's chip equipment peers have struggled in 2023, but 2024 is looking like growth will be back in play -- but perhaps not for ASML. Some of its top fab customers (manufacturing facilities that make wafers, which eventually get cut into chips) are still in cash conservation mode. Is ASML stock now overvalued?

2024 to be a "transition year"

ASML had another excellent quarter over the summer of 2023. Third-quarter revenue for the Dutch company was 6.67 billion euros ($7.03 billion), up 15% from a year ago. Given ongoing equipment orders, especially from customers in China (more on that in a moment), CFO Roger Dassen reiterated the previous outlook that full-year 2023 revenue would be up 30% from 2022.  

Profit margins are expected to be up slightly compared to 2022 as well. Paired with ASML's ongoing share buybacks, earnings per share should be up a bit more than revenue this year. That's the fantastic news.

Now, the not-so-fantastic news. Even as chip designers and manufacturers continue to signal that their sales are poised to recover, ASML is indicating that 2024 could be a "transition year" with flat sales before "significant growth" takes hold in 2025.  

New export restrictions on sales to fabs in China go into effect at the start of 2024, and due to this factor, many of these customers are rushing to get orders filled right now. ASML's mix of revenue to China mushroomed to 46% in Q3, compared to just 24% last quarter.

With fabs outside of China still working through excess chip inventory and keeping fab activity to a minimum (and thus purchases of equipment from ASML and friends to a minimum), that creates headwinds for 2024. Expect those to be offset by the dozens of new fabs currently under construction and getting expanded, all of which will need to be filled with chipmaking machines.

All in all, ASML expects revenue to dial in at about 27.5 billion euros (approximately $28 billion to $29 billion) this year. And if you play it safe, expect about the same in 2024.

Are ASML's 2025 targets too optimistic?

Now here's where things get a bit trickier. ASML's stock trades for a premium (26 times Wall Street analysts' expectations for 2024 expected earnings per share) on the assumption it will be a high-growth operation for the duration of the 2020s. After all, multiple secular growth trends are driving the semiconductor market higher, like artificial intelligence, electric vehicles, and global interest in bolstering chip manufacturing.  

However, based on the conservative 2024 outlook, ASML might not meet some of the lofty 2025 goals that management had provided at the end of last year. Specifically, for its most optimistic scenarios, it had said to expect revenue of as much as 40 billion euros ($42.2 billion). In an uglier scenario like what may be shaping up, revenue guidance was said to be just 30 billion euros ($31.6 billion).  

We don't know what "significant growth" means based on Dassen's latest remarks. However, given the deep downturn the semiconductor industry is still trying to dig itself out of, I'm inclined to say ASML is trending toward the middle of that 2025 revenue range, somewhere around 35 billion euros ($36.9 billion) or lower -- or up as much as 21% from the initial guidance for this year and next. 

Given the uncertainty headed into 2024, ASML may not be a best-buy stock right now in the semiconductor industry -- especially not like it was this time in 2022 in the depths of the bear market. Headwinds are mounting for the top equipment maker, and the stock still trades for a hefty valuation. Some of ASML's peers trade for far cheaper, and may notch significant growth in 2024 as chip demand recovers. 

That isn't to say ASML should be ignored, though. The company is still likely to notch significant growth this decade as the chip market continues to advance. But at this juncture, I believe a more cautious approach should be taken. Perhaps use a dollar-cost average plan if you are looking to build a position in ASML for the long haul.