Annabelle Chih
Elevator Pitch
My investment rating for Taiwan Semiconductor Manufacturing Company Limited’s (NYSE:TSM) shares is a Buy now.
I previewed Taiwan Semiconductor’s financial results for the third quarter of 2022 with my earlier October 11, 2022 write-up. My attention turns to the financial and stock price forecasts for TSM in the current year in view of the company’s recently released Q4 2022 results and its 2023 guidance.
Investors should watch out for TSM’s progress in expanding overseas capacity, an increase in Berkshire Hathaway’s (BRK.A) (BRK.B) stake in the stock, and above expectations 2023 financial results as potential catalysts for the stock. I have upgraded my rating for Taiwan Semiconductor from a Hold earlier to a Buy now. I think there is room for TSM’s shares to rise in 2023 following a review of the stock’s valuations and re-rating catalysts.
TSM Stock Key Metrics
Taiwan Semiconductor’s key financial metrics disclosed as part of its most recently quarterly earnings announcement were decent, and this is validated by the fact that TSM’s share price jumped by +6.4% after it reported Q4 results.
As highlighted in its Q4 2022 financial results presentation, the company’s revenue declined by -1.5% QoQ to $19.9 billion in the final quarter of the previous year. But TSM’s Q4 2022 top line performance wasn’t as poor as what its QoQ revenue growth metric suggested. In fact, Taiwan Semiconductor’s revenue still expanded by +26.7% YoY in Q4 2022, and its recent quarterly top line was in line with its prior revenue guidance in the $19.9-$20.7 billion range.
More importantly, Taiwan Semiconductor managed its expenses well in the most recent quarter and this translated into better than expected profitability for the company. TSM’s Q4 2022 gross profit margin of 62.2% turned out to be +170 basis points better than the mid-point of the company’s earlier gross margin guidance at 60.5%. The company also delivered an operating profit margin of 52.0% for Q4 2022, which exceeded the mid-point of its operating margin guidance (50.0%) by +200 basis points.
As a result of reasonably good top line growth that was in line with management guidance and above expectations profit margins, TSM achieved a +4% earnings beat for the fourth quarter of the prior year.
What Are Taiwan Semiconductor’s Catalysts To Watch For?
Given that TSM’s shares have already risen following its better than expected Q4 2022 bottom line, the key question on investors’ minds is what are the other re-rating catalysts for Taiwan Semiconductor?
In my view, there are three potential catalysts relating to Taiwan Semiconductor that investors should watch for.
One key catalyst is geographical diversification.
An October 12, 2022 Bloomberg article highlighted that there are concerns that TSM and its facilities might potentially be “destroyed in a Chinese invasion.” While the jury is out on the likelihood of China attacking Taiwan and its impact on Taiwan Semiconductor, it is hard to argue that TSM’s shares are already discounted because of geopolitical risks.
Therefore, Taiwan Semiconductor’s share price and valuations can benefit from meaningful geographical diversification. At the company’s most recent Q4 2022 earnings briefing, TSM guided that its “overseas capacity could be 20% or more of our total 28-nanometer and below capacity in five years or more time.” Investors will be more comfortable assigning a higher valuation multiple to TSM, when the company shows that it is making progress with its geographical diversification plans.
Another key catalyst is an increase in Berkshire Hathaway’s equity interest in TSM.
On November 14, 2022, Seeking Alpha News reported that Berkshire Hathaway “took new positions in Taiwan Semiconductor Manufacturing” which amounted to “60.1M shares” in the company. It was no surprise that TSM’s share price surged by +10.5% the next day.
Berkshire Hathaway’s purchase of TSM shares is widely perceived as a sign that Warren Buffet recognizes Taiwan Semiconductor as an attractive investment candidate. If subsequent 13F filings indicate that Berkshire Hathaway continues to raise its stake in Taiwan Semiconductor, this will definitely drive up TSM’s stock price again.
The third catalyst relates to Taiwan Semiconductor’s financial performance in 2023, which I detail in the subsequent section.
What Is The Forecast For 2023?
Taiwan Semiconductor’s management comments at its most recent quarterly results call suggest that TSM could potentially deliver a better set of results than what investors are anticipating.
Firstly, Taiwan Semiconductor expects to achieve a “slight growth” in its top line for 2023 in USD terms. TSM sees inventory levels peaking in the second quarter of 2023, which lays the groundwork for a strong 2H 2023 revenue recovery.
Secondly, TSM holds the view that it can maintain its gross profit margin at 53% or even better this year. It is noteworthy that 53% is also Taiwan Semiconductor’s gross margin goal for the long run. This sends a strong message that Taiwan Semiconductor is confident that it has the bargaining power to pass on higher costs to clients in the form of price hikes.
Thirdly, the company is guiding for 2023 capital expenditures in the $32-$36 billion range, which is lower than the $36.3 billion of capital expenditures it incurred last year. Taiwan Semiconductor also stressed at its Q4 2022 results briefing that its “capex is spent in anticipation of the growth that will follow in future years.” In other words, there is a very good chance that TSM’s actual capital expenditures might come in at the lower end of its management guidance. Lower-than-expected capital expenditures will be a boost to TSM’s operating profit margin.
What Do Analysts Believe About Taiwan Semiconductor?
Analysts believe that TSM’s shares are undervalued and warrant a Buy rating, and I don’t see any reason to disagree with them.
The average analyst rating for Taiwan Semiconductor is 4.3, with ratings of 1 and 5 referring to Strong Sell and Strong Buy ratings, respectively. The consensus sell-side target price for TSM is $105.81, which translates into a +22% upside as compared to its last traded price of $86.80 as of January 16, 2023.
As discussed above, I have identified three catalysts which could potentially bring about a positive re-rating of TSM’s share price.
In terms of valuations, Taiwan Semiconductor’s consensus forward fiscal 2024 P/E of approximately 12.5 times as of January 16, 2023 is rather undemanding for a company with an impressive track record of consistently delivering high ROEs (Returns on Equity). As per S&P Capital IQ’s historical financial data, TSM has generated ROEs in excess of 20% in 18 of the past 19 years; the only exception was 2009 when its ROE declined to 18.4% during the Global Financial Crisis.
Is TSM Stock A Buy, Sell, or Hold?
TSM’s shares are rated as a Buy. Taiwan Semiconductor’s valuations are inexpensive, and there are multiple re-rating catalysts for TSM.
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