As tech giants scramble for AI chips and global advanced manufacturing capacity tightens, Taiwan Semiconductor Manufacturing's (TSM) position as a core beneficiary in this arms race is increasingly solid—while its stock valuation remains relatively inexpensive.
Microsoft, Meta, Alphabet, and Amazon have collectively planned capital expenditures of $725 billion this year, with a significant portion flowing toward AI chips. This massive demand directly benefits chip manufacturers, particularly the world's largest foundry leader, TSM. TSM's gross margin in the first quarter has climbed from approximately 59% a year ago to about 66%, and its capital expenditure for this year is expected to approach the upper end of the forecasted range of $52 to $56 billion.
TSM's CEO, C.C. Wei, stated last month that he is "confident" in achieving revenue growth exceeding 30% this year. Concurrently, Nvidia's purchase commitments to TSM have surged from around $16 billion two years ago to over $95 billion in the latest fiscal quarter ending January this year, reflecting intense customer demand for capacity.
Although the ramp-up of N2 process production and the costs of U.S. factory construction will pressure gross margins in the short term, these are strategic initiatives rather than structural weaknesses. TSM's current stock price corresponds to a forward price-to-earnings ratio of about 21 times, lower than the approximately 26 times average for components of the Philadelphia Semiconductor Index, making its valuation attractive given its numerous advantages.
**Gross Margin Expansion, Driven by Full Capacity Utilization**
The most direct manifestation of TSM's competitive advantage is its recent rapid gross margin expansion. When sales growth outpaces expense growth, gross margins rise—a scenario particularly evident when TSM's fabs operate near full capacity, as high utilization rates effectively dilute the high fixed costs of chip manufacturing.
TSM does not produce memory chips but holds a near-monopoly on manufacturing all other categories of advanced chips, encompassing Nvidia's market-leading AI chips and Apple's smartphone chips. Strong demand has led some customers to begin locking in capacity in advance, even prepaying billions of dollars to secure chip supply. Nvidia's purchase commitments in the latest fiscal quarter ending January this year exceeded $95 billion, a significant portion of which will flow to TSM—a figure that stood at only about $16 billion two years ago.
TSM's CFO, Wendell Huang, informed analysts last month that the company's gross margin would narrow in the second half of this year—but the reason is not concerning. TSM is advancing mass production of its latest-generation advanced N2 process, where costs naturally rise during the ramp-up phase and will recede once production stabilizes.
Another pressure point is U.S. factory construction. Operating a chip fab in the U.S. is more costly than in Taiwan, which will inevitably weigh on overall margins. However, TSM's strategic rationale is clear: expanding its geographic footprint both hedges against geopolitical risks in China and brings it closer to U.S. clients like Apple and Nvidia, who seek to increase local suppliers.
In the medium to long term, as the advanced process matures, gross margins are expected to recover. TSM's plans to expand N3 process capacity in Japan and the U.S. will also provide additional support—the N3 process uses older, lower-cost manufacturing equipment, enabling it to meet AI chip demand while improving capital expenditure efficiency.
**Substantial Capital Expenditure, But Revenue Growth is Faster**
The scale of this year's capital expenditure, nearing the $56 billion upper limit, may raise concerns among some investors about whether TSM is overexpanding. In the semiconductor industry, excessive capacity expansion often backfires—if demand cools, manufacturers are forced to maintain significant idle capacity, adding unnecessary costs.
However, currently, TSM has not exceeded reasonable expansion boundaries. C.C. Wei stated clearly last month that this year's revenue growth will exceed 30%, outpacing capital expenditure growth, indicating that the expansion remains manageable. Furthermore, customers' actions to lock in capacity and prepay provide strong backing for future revenue, making TSM's revenue growth a relatively high-certainty expectation.
In the high-end process domain, TSM faces virtually no substantive competition. Samsung's foundry business, while the world's second-largest, is far behind TSM in revenue scale. Intel and the Japanese startup Rapidus are striving to enter the market but have made limited progress. Elon Musk's recently announced Terafab advanced process project plans to leverage Intel for advanced chip production, but this prospect is, at best, a long-term vision.
High demand combined with a near-monopoly market position grants TSM strong pricing power. As customers transition to more advanced processes, rising average selling prices will continue to drive revenue growth for years to come. However, TSM's management remains cautious on this front. C.C. Wei stated last month, "We are not adjusting pricing significantly; we are just ensuring our customers can succeed in their respective markets."
Despite its many advantages, TSM's valuation appears quite modest. Its current stock price corresponds to a forward price-to-earnings ratio of about 21 times, lower than the approximately 26 times average for Philadelphia Semiconductor Index components and significantly below those of Intel and AMD.
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