For investors looking for artificial intelligence (AI) stocks to consider buying, there doesn’t appear to be much value around. Most AI-related shares aren’t what I’d call cheap after the game-changing technology went mainstream last year.
However, leading chipmaker Taiwan Semiconductor Manufacturing (NYSE: TSM) looks undervalued to me. The stock can be scooped up for just 15 times 2024’s forecast earnings.
Here’s why I’ve come round to the idea of adding shares of TSMC (as it’s known) to my portfolio.
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It was founded in 1987 with the promise never to design chips, only to manufacture them. Importantly, this meant that the firm would never compete with its customers.
Today, it’s the go-to contract chipmaker for both Apple and Nvidia, as well as a thousand other firms, including Tesla. They bring the designs and TSMC does the building.
Looking forward, it seems certain that data centres, smartphones, or any new cutting-edge technology, will need increasingly powerful chips.
However, that doesn’t mean TSMC is immune to the cyclical nature of the global economy. In 2023, it expects net sales to have fallen around 10% year on year to $68bn.
But once the global economy recovers and customers work through excess stock, revenue should power higher. Wall Street expects as much as $100bn in revenue for 2025.
Meanwhile, the firm boasts an incredible 38%-40% net profit margin.
Cheap for a reason
The shares are likely cheap due to rising geopolitical tensions between Taiwan and China.
Indeed, it was political risk that made Warren Buffett sell Berkshire Hathaway‘s stake in TSMC only a few months after buying it in 2022.
To be honest, China’s repeated promise/threat to reunify Taiwan has always put me off the shares. It remains a constant risk.
Yet TSMC manufactures all Nvidia’s most-advanced chips, so adverse political developments would also be disastrous for the latter’s share price. But I continue to hold Nvidia shares, which are also much more expensive.
The fact is, no product is more central to international trade today than semiconductors. The supply chain disruption caused by an invasion would affect nearly every industry, from AI and gaming to telecommunications and car manufacturing.
So I see this risk as one for the whole global economy, not solely TSMC.
Manufacturing diversification
Furthermore, the company is due to open a new fabrication plant in the US next year and a second in Japan. Reports say it might build a third plant in Japan to make cutting-edge 3-nanometer chips.
This geographic diversification should help de-risk the investment case moving forward.
A league of its own
Sitting at the heart of the semiconductor industry, TSMC should benefit directly from the AI revolution. And though less than 10% of its revenue currently comes from AI chips, this market is forecast to grow at a near-50% compound annual growth rate in the next five years.
Even Warren Buffett said that “there’s no one in the chip industry that’s in [TSMC’s] league, at least in my view.”
Unlike the Oracle of Omaha, I don’t have to worry about losing money for shareholders. This means I’m willing to stomach a bit more risk when pursuing market-beating returns.
Therefore, I’ve decided to add the stock to my portfolio, with a minimum five-year holding period in mind.
