Taiwan Semiconductor (TSMC) (TSM -4.86%) surged 6% higher two days after the company announced its Q4 earnings. As the world's largest semiconductor foundry, it has become one of the world's largest and most influential companies.
However, it has grown to a market cap of $730 billion, which is a concern to some investors, since a massive size can slow growth rates. Will it remain a compelling investment as the chip shortage eases?
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The state of TSMC
TSMC continues to dominate the foundry space. It accounted for 53% of the entire foundry market in the third quarter of 2021, according to TrendForce. Moreover, it serves fabless chip companies such as AMD (AMD 0.69%), Nvidia (NVDA 0.76%), Qualcomm (QCOM -1.75%), and Apple (AAPL -0.57%). Most of the industry depends heavily on TSMC. Due to its technological lead over Samsung and other peers, TSMC is likely the most essential company in the semiconductor industry and arguably the world's most indispensable company in any industry.
In addition to its market power, it also continues to benefit from an ongoing chip shortage, and its spending plans are mind-boggling. To that end, it reported in April that it would invest $100 billion in new foundries over the next three years. Also, in the latest report, TSMC announced that it plans to spend between $40 billion and $44 billion in 2022 alone to increase production as artificial intelligence (AI), virtual reality (VR), Internet of Things (IoT), and other emerging industries demand more chips.
As long as the chip shortage persists, the added capacity should add to the top and bottom lines. Still, should supply catch up to demand, it could eventually reduce TSMC's pricing power, reducing or possibly reversing the company's revenue growth.
Industry headwinds
Nonetheless, Intel (INTC -1.79%), who is also a TSMC client, has entered the foundry business and made similar moves to add capacity. Also, peers such as UMC and GlobalFoundries have made expansion plans. This could hurt profitability later as the chip supply catches up to demand.
Intel claims it can catch up to TSMC by 2024 and reclaim the technical lead in 2025. Longtime industry analysts may recall that Intel lost its technical leadership in the early 2010s when development cycles expanded beyond two years. Moreover, AMD took a technical lead in some areas after many investors had left it for dead as recently as 2015. TSMC stockholders should not write off the possibility of Intel or another peer making such a comeback.
TSMC's financials
Taiwan Semiconductor reported revenue of $57 billion in 2021. This amounted to a 19% increase compared with 2020 and led to a net income of $21 billion, 15% more than last year. Although operating expenses grew at a slower pace than revenue, non-operating income dropped by 27% during the year to $470 million, cutting into profit growth.
Additionally, analysts forecast consensus revenue in 2022 of $75 billion, a 31% increase. Thanks mainly to the post-earnings bump, TSMC stock is up by just over 7% over the last year.
Furthermore, TSMC stock currently trades for 36 times earnings. This is significantly below its key clients. AMD sells for a 42 price-to-earnings (P/E) ratio while Nvidia is at 83 times earnings. Nonetheless, Qualcomm sells for 24 times earnings, and client-competitor Intel trades at an 11 P/E ratio, indicating a moderate valuation for the company.
Is it too late to consider TSMC?
TSMC continues to dominate and lead its industry. Admittedly, with both TSMC and its peers adding capacity, the chip shortage could abate in the foreseeable future, which could eventually reduce the company's revenue. Also, the emerging Intel threat could also point to competitive challenges later.
However, Intel remains far behind TSMC technically and has yet to prove it can catch up. With a moderate valuation and a substantial revenue growth set to continue despite its size, investors can likely still beat the market with this chip stock.
