Follow the top funds into this computer chip star

Rapid growth at this lesser-known semiconductor giant has got our international shares analyst excited.

Rodney Hobson is an experienced financial writer and commentator who has held senior editorial positions on publications and websites in the UK and Asia, including Business News Editor on The Times and Editor of Shares magazine. He speaks at investment shows, including the London Investor Show, and on cruise ships. His investment books include Shares Made Simple, the best-selling beginner's guide to the stock market. He is qualified as a representative under the Financial Services Act.

There were fears that sales of semiconductors, the most important parts of the electronics supply chain, were stalling earlier this year. Recent trading updates across the sector suggest that growth is back on the agenda, and one attractive investment is Taiwan Semiconductor Manufacturing (NYSE:TSM), which designs, makes and tests integrated circuits and other semiconductor devices.

Its headquarters and main operations are located in the Hsinchu Science and Industrial Park in Taiwan, and the shares are quoted in Taipei, but interactive investor customers can buy them in the form of American depository receipts (ADRs) traded on the New York Stock Exchange. 

Founded in 1987, the company has always placed a strong emphasis on its own research and development. Investors should be warned that a visit to TSMC's website is challenging for those unfamiliar with semiconductor technology, with its references to global capacity of more than 12 million 12-inch equivalent wafers per year, and the broadest range of technologies from 2 micron all the way to the most advanced processes, currently 7-nanometer.

Easier to comprehend is that third-quarter net revenue came in at $9.4 billion, up 10.7% on the same period last year and even better than the optimistic guidance given earlier by the company. Significantly, the figure was 21.3% ahead of the disappointing second quarter of 2019, when sales were depressed as customers digested the latest technological updates.

Margins, which had been squeezed earlier this year, recovered to last year’s levels and were at the top end of the guidance range.

Source: interactive investor  Past performance is not a guide to future performance

The prognosis for the fourth quarter, based on current business levels, is for revenue of $10.2 billion, a clear further quarterly gain. Margins are also set to improve.

Half the revenue comes from smartphone makers, sales that were up 33% quarter on quarter. High performance computing accounted for 29% of sales and, although this sector is showing decent growth, it is overshadowed at 10%. That could change dramatically, though, as industry experts believe this will be one of the biggest growth areas for semiconductors over the next two years.

High performance computing evolved as far back in the 1960s but tended to be very expensive to build and maintain. As with so much else in computing, massive leaps forward in technology and economies of scale have opened up opportunities for manufacturers to mass produce purpose-built high-performance chips tailored to individual customers.

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The interesting area is the much-hyped internet of things market. Although this is still only 9% of TSMC’s business it is the fastest growing with a 35% spurt and the one that may yet prove to be the boost that shareholders hope to see.

Automotive comes a distant fourth, just 4% of sales. Despite the travails of the motor industry around the globe, this section did manage decent growth of 20%. Computer chips have become a major part of modern vehicles, but it is hard to see this side of the business becoming a major part of TSMC, though any improvement in any part of the business is obviously welcome.

The shares stood at only $22 five years ago but peaked at $53.67 earlier this month. After settling back to $52 they are on the move again and have returned to their all-time high. 

Although the best chance to buy has passed, the shares still offer good prospects with a yield of 3%, which is quite high for New York quoted stocks at the moment. The price/earnings ratio at 25.6 is somewhat toppy but, again, is not out of line for American stocks, especially those with excellent prospects.

Hobson's Choice: Buy at up to $55. You would be in good company as the stock is included in the portfolios of a number of respected funds, including Murray International (LSE:MYI) and JPM Asia Growth.

Rodney Hobson is a freelance contributor and not a direct employee of interactive investor.