Taiwan Semiconductor Manufacturing (NYSE: TSM) 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 had legs for years, and that's not even the whole story – modern cars need tons of processors, and the smartphone market also coming back from a long decline.
So, TSMC 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 high valuation ratios. Is the stock overvalued today, or is TSMC still a great buy at today's high prices?
The company works in hardware manufacturing industry. It is a high-tech business, far from building homes, tractors, or industrial machinery, but it is still a relatively low-margin business that requires very large capital investments. Chip building facilities don't grow on trees, you know.
TSMC's capital expenditures added up to $24.6 billion over the past four quarters. That's more than Apple, Teslaa Nvidia spend on capital investments — together.
Companies with expensive assets tend to grow fairly slowly, and their stocks often trade at very modest valuation ratios. The 10 largest industrial stocks, for example, currently trade at an average price-to-sales (P/S) ratio of 2.5. TSMC stock is worth 12.8 times sales. It's the same story with price-to-earnings or price-to-free cash flow – TSMC stock is soaring at historically high ratios, and it looks expensive next to companies with business models similar
The company backs up its expensive stock valuation with solid business results.
After a temporary dip amid the recent shortage of semiconductor materials and engineers, TSMC's sales and profits are soaring again. Revenue rose 39% year over year in the recently reported third quarter. Net income jumped 54% higher in the same period, and cash profit increased. TSMC's free cash flow nearly tripled, rising 172% to $185 billion Taiwan dollars (about $5.7 billion in US 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's estimates and a price-to-earnings-to-growth (PEG) ratio of 1.1 . Both figures suggest that the current stock price is about right — neither terribly expensive nor particularly cheap.