Summary
Investors in Taiwan Semiconductor Manufacturing Company or TSMC are not concerned that Warren Buffett decided to exit his stake in the leading pure-play foundry.
TSMC is seeing robust AI tailwinds, while a potential second-half recovery from its smartphone customers could surprise toward the upside.
Automotive tailwinds could bolster its underlying demand as customers move toward more advanced nodes, benefiting from TSMC's technological leadership.
TSM's valuation is not aggressive, making it an attractive set-up as it's also no longer in a downtrend.
Drew Angerer
Investors in Taiwan Semiconductor Manufacturing Company Limited $Taiwan Semiconductor Manufacturing(TSM)$ or TSMC have defied the negative news that Berkshire Hathaway $Berkshire Hathaway(BRK.B)$ $Berkshire Hathaway(BRK.A)$ CEO Warren Buffet decided to bail out of TSM completely.
The Oracle of Omaha applauded the high quality of TSMC's business model and management at Berkshire's recent annual meeting, calling it "one of the best managed and most important companies globally." Similar accolades have usually been reserved only for the leading companies in Buffett's portfolio, including Apple $Apple(AAPL)$.
Despite that, Buffett decided to rank geopolitical risks higher up the pecking order.
However, I didn't expect Buffett to withdraw entirely from TSM, even though he substantially pared his stake late last year. Despite Buffett's reticence about holding onto his stake in TSM, buying sentiment in the leading pure-play foundry's stock has improved over the past few weeks before the surge this week.
Therefore, I assessed that investors are likely looking past these "headwinds" and anticipating a more robust second-half trajectory demonstrating TSMC's recovery. As a reminder, TSMC posted a 1.1% YoY revenue decline from January to April 2023. With management guiding for a low to mid-single-digit fall in full-year FY2023 revenue, we should expect Q2's performance to remain tepid.
Accordingly, revised Wall Street estimates suggest that the company is projected to post a nearly 11% YoY decrease in revenue for Q2. Hence, investors buying up TSM at the current levels need to be confident about a second-half inflection bolstered by the digestion of substantial downstream inventory levels.
Supply chain sources suggest that TSMC's optimism is justified, underpinned by a stronger-than-expected uplift from the AI hype driving demand for TSMC's AI customers.
Mainland China's smartphone shipments are "expected to recover in the second quarter of 2023." DIGITIMES estimates suggest that the YoY decline is expected to drop to 10%, much better than Q1's 17% YoY fall. Moreover, it could imply a "high single-digit" QoQ growth, indicating that we could have seen the worst effects of the smartphone downcycle in Q1.
In addition, Apple could account for 90% of TSMC's 3nm process for its upcoming iPhone 15 chips. Accordingly, Apple will use the foundry's N3B process before transitioning to its enhanced N3E in 2024. With AAPL recovering from its January lows, market operators are likely expecting a robust second-half recovery from the Cupertino company. As such, a significant uplift from Apple's 3nm orders could bolster TSMC's revenue projections, as the company "estimates 3nm chips to contribute 4-6% or NT$80-$120 billion of its annual revenues in 2023."
With TSMC's smartphone segment accounting for 34% of its revenue base in Q1, a sustained second-half inflection can provide a pleasant surprise for TSMC investors moving ahead.
Moreover, TSMC reportedly sees robust demand for AI chip orders, with management corroborating the uplift at a recent symposium. TSMC CEO C.C. Wei "acknowledged the growth opportunities brought by AI and 5G" while highlighting the foundry's pure-play advantages. Notably, Wei underscored the criticality of TSMC's independence, arguing that "TSMC doesn't have its own products, and that it doesn't compete with its customers."
As such, IC designers "trust" TSMC, knowing they can rely on the company's technological leadership to fabricate their chips; Wei commented: "Will you give your product designs to companies that are also capable of designing?"
DIGTIMES reported that Nvidia $NVIDIA Corp(NVDA)$ had increased its advanced packaging orders with TSMC for its AI chips, driven by strong underlying demand from customers.
As such, TSMC could face tight supply over its chip on wafer on substrate or CoWoS packaging, with customers "requiring" TSMC's support to meet robust demand. As such, it underscores the value of TSMC's competitive edge against its rivals, as IC designers cannot afford to make mistakes in the rapidly evolving AI arms race.
Notably, DIGITIMES accentuated that "there are two camps in the AI chip sector: the Microsoft $Microsoft(MSFT)$ group and the non-Microsoft group." However, both camps need "packaging support from TSMC," corroborating the value of TSMC's technological leadership and expertise in helping their customers to capitalize on the AI chips demand.
And that's not all. While automotive chips accounted for only 7% of its Q1 revenue base, TSMC continues to see robust orders from auto chip designers. Accordingly, the foundry's "28nm manufacturing process remains near full capacity."
In addition, TSMC is reportedly working with NXP Semiconductors $NXP Semiconductors NV(NXPI)$ on a more advanced automotive chip, which is expected to be "the industry's first automotive embedded MRAM in 16 nm FinFET technology."
Auto chips are likely moving toward more advanced nodes, benefiting from TSMC's leadership in these processes. Therefore, the company's auto segment could see stronger-than-expected growth as TSMC benefits from greater revenue diversification, riding trends across AI, HPC, and EVs.
Hence, I believe investors who aren't unduly concerned about geopolitical risks might see attractive value in TSMC stock at the current levels as buyers return to defend the recent selloff.
TSM price chart (weekly) (TradingView)
I had anticipated a more intense selloff in late April, but buyers returned to defend stoutly. As such, TSM has moved away from a medium-term downtrend as it consolidated constructively.
Therefore, I believe a Sell rating is no longer justified, as TSM's valuation is not aggressive (rated "C+" according to Seeking Alpha Quant).
Coupled with constructive price action pointing to a fledgling uptrend recovery, I have confidence that we could subsequently break above its critical $100 resistance level toward a more robust medium-term recovery.
Source: Seeking Alpha
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