Taiwan Semiconductor Manufacturing (NYSE: TSM) is on a roll. On the heels of a three-year slump in chipmaking services, TSMC is facing unprecedented production demand. The artificial intelligence (AI) surge that started two years ago seems to have legs for years, and that’s not even the whole story — modern cars need a ton of processors, and the smartphone market is also coming back from a long downturn.
So, TSMC’s stock has doubled in 2024. Its market cap has been hovering around the rare $1 trillion level since October.
At the same time, TSMC shares are trading at lofty valuation ratios. Is the stock overvalued today, or is TSMC still a great buy at today’s high prices?
The company works in a hardware manufacturing industry. It’s a high-tech business, far removed from building homes, tractors, or industrial machinery, but it’s still a relatively low-margin business that requires very large capital investments. Chipbuilding facilities don’t grow on trees, you know.
TSMC’s capital expenses added up to $24.6 billion over the last four quarters. That’s more than Apple, Tesla, and Nvidia spent on capital investments — together.
Companies with costly assets tend to grow fairly slowly, and their stocks often trade as very modest valuation ratios. The 10 largest industrial stocks, for example, currently trade at an average price-to-sales ratio (P/S) of 2.5. TSMC’s stock is worth 12.8 times sales. It’s the same story with price-to-earnings or price-to-free cash flows — TSMC’s stock is soaring at historically high ratios, and it looks expensive next to companies with similar business models.
The company backs up its pricey stock valuation with robust business results.
After a temporary dip amid the recent shortage of semiconductor materials and engineers, TSMC’s sales and profits are soaring again. Revenues rose 39% year over year in the recently reported third quarter. Net income jumped 54% higher in the same period, and cash profits really soared. TSMC’s free cash flows nearly tripled, rising 172% to $185 billion Taiwanese dollars (approximately $5.7 billion in U.S. dollars).
So you may be paying a premium for TSMC shares, but it’s a world-class business and arguably worth every penny of its high stock price. Growth-oriented valuation metrics look quite reasonable with a forward-looking P/E ratio of 23 times next-year estimates and a price-to-earnings-to-growth ratio (PEG) of 1.1. Both figures suggest that the current stock price is just about right — neither terribly expensive nor particularly cheap.
