Episode 66 | Why Taiwan Semiconductor Leads the Industry

In Episode 66 of “Market News with Rodney Lake,” Professor Lake, director of the GW Investment Institute, provides an updated analysis of Taiwan Semiconductor Manufacturing Company (TSM), a key holding in the GW Investment Institute’s portfolios and cornerstone of the global AI supply chain. Lake highlights the company’s exceptional gross margins at 59%, strong revenue growth at 39%, and a profit-driving manufacturing model. He also praises CEO Dr. C.C. Wei and the management team for maintaining operational excellence, investing heavily in manufacturing expansion in the U.S. and Japan, and preserving a robust $60 billion net cash position. While acknowledging that TSM’s valuation has risen amid growing investor enthusiasm, Lake concludes it remains a world-class business with enduring competitive advantages, strategic global positioning, and a vital role in powering the AI-driven economy.

Chapters

• 0:00 Introduction
• 4:15 Business
• 15:01 Management
• 18:16 Price/Valuation
• 19:30 Balance Sheet
• 20:41 Conclusion

Transcript

Thank you for joining Market News with Rodney Lake. This is a regular program for the GW Investment Institute where we talk about timely market topics. I'm Rodney Lake, the director of the GW Investment Institute. Let's get started.
Welcome back to Market News with Rodney Lake. I'm your host, Rodney Lake. Today's episode coming to you from Foggy Bottom. George Washington University school of Business. Duquès hall. Duquès family studio right here in the heart of Foggy Bottom, Washington, D.C.. Thanks. This is an episode from the GW Investment Institute. This is the podcast. Thanks for those listening on the podcast.
Amazon, Spotify, and Apple and and everything else. Any other platform and certainly those watching on YouTube. Thanks for tuning in. Hit subscribe. Remember investment advice not this is not investment advice. This is educational purposes only, informational. So all that said, today we're going to be covering a company. So we have some episodes with interviews. We have episodes with general market news, which we just did.
And today we're going to tackle a company that's in the portfolio, a couple of our portfolios. That's a very important company, and we're going to use the GW Investment Institute framework, business, management, price/valuation, and balance sheet to review this company. And that company is Taiwan Semiconductor. We've reviewed this company before. They recently announced earnings. And it's a super important company.
So I thought it's useful. So let's dive in. Let's talk about this company again. Let's think about it. Let's make sure that we have a good view on this company, that we have a good understanding. Now, again, this doesn't necessarily mean that we're going to be able to stand up our own fab, alongside Taiwan Semiconductor and know how to build that and build these chips.
But what it does mean, and this is what we're always trying to get our students super focused in on, is that we can be better investors, analysts, business people if we can understand these companies. And stepping back for one moment and talking about why we do this and why we want to, why would we want to understand these companies in the first place?
And certainly for our students and anyone that's watching the show, we talk about this, but it's probably worth saying every once in a while to emphasize that we're long term investors. We also don't mind being concentrated. So if you look at our, you know, quarterly reports in our annual report from the GW Investment Institute, you'll see that we have some concentrated positions.
Now, to have concentrated positions means that you need to have confidence and conviction in those positions and to do that, you really need to understand the business, the management, the price versus the valuation, and the risk on the balance sheet. That's the framework. And to do that, you get to dive into these pieces. And at least for me, and everyone works differently.
And as people say, there are many ways to heaven, there are many ways to to make money. There are many ways to be a good investor, to be a good business person, to be a good analyst. But this is the way that we do it. One of the things that we try to do is really understand how the business works, how they make money, who are their customers?
And so for a company like Taiwan Semiconductor, these things are quite obvious to most people. If you do a little digging, you'll know and be familiar with their customers, and we'll talk about that. And sometimes it's not if it's a B2B and you're not really familiar with that, you got to do a little bit more work.
If it's a B2C Coca-Cola, for example, you know who the customers are. You meet everybody else that buys Coke and Sprite and all of their drinks. And so those really, you know, those consumer discretionary and consumer staples companies are there, easy to understand their business models. And you know, shout out to Peter Lynch one up on Wall Street I highly recommend that.
And we recommend that book. Two people. And he was a very successful fund manager at fidelity and ran Magellan for a long time and, and super successful track record. And part of his was this circle of competence that Buffett talks about understanding these companies and investing things that you can understand now, to have confidence, you got to try to understand that.
So we're going to tackle Taiwan Semiconductor. The ticker is TSM. We're going to go through the business, the management, the price/valuation, and the balance sheet. And we're going to score each and we're going to have a composite score. And we might move things around. But overall I think we'll come to a consensus on this score. Number one let's tackle the business.
So what do they do? Well it's in the name Taiwan Semiconductor Manufacturing Company. That says a lot. Most of their production is in Taiwan. We'll talk about their moving some here to the US. They're moving some to Japan. That's good. For diversifying their supply chains. But importantly, right now it's mostly in Taiwan, which creates some tension in the geopolitical world.
And that sometimes puts pressure on the share price of Taiwan Semiconductor. And so it manufactures semiconductors and it does not compete with its customers, which is an important part of its business model Maurice Chang pioneered long ago. And that was let's be the fabricator for all of these chip companies, that so they can separate their design from the manufacturing.
And for example, shout out to Acquired, who does a great, does great work on their podcast for companies. I encourage you to listen. They have a couple different episodes around Taiwan Semiconductor if you want to do a deep dive. Obviously our episodes are about 20 minutes and we cover, from the investment perspective mostly. But if you want to do a deep dive on the company and a little bit of history and hear from Maurice Chang himself, who's a little bit older right now, but a great interview with him.
I encourage you to listen to those episodes on Acquired. So, you know, back to to Market News with Rodney Lake on the business side, a decision was made long ago that the business model would be to not compete with their customers. And so to do that, they don't design the chips, they manufacture the chips for their customers, and they don't have their own designs.
And so if they open up their fabrication facilities, they're not also running some of their own designs and then competing with their customers. And then customers are maybe tentative about using them fully, especially with the highest and things thinking that maybe, you know, there could be some issues with that, there could be some conflicts with that. They're simply manufacturing them for their customers, and they're putting in the investments to create that scale, those economies of scale, and then they can spread that across all of these designers.
And then the benefit for the designers and this business model is that they don't have to put up a capital if they have some innovative things, they can use this platform, which is then effectively, you know, amortized against all of these designers and Taiwan Semiconductor is the manufacturer for all these companies and some notable companies, which I'm know you'll recognize Apple, Nvidia, AMD, these are their customers.
Right. Some of the biggest and obviously there are many more. But you you will recognize their customers. And if you did a deep dive on this and you would get down to some companies, you maybe hadn't heard of or maybe loosely heard of, but they have the biggest names in the business, and they have other names as well, but they really manufacture and they're especially, an important part is for any of the high end chips that are on the three and five nanometer.
They're they're effectively making 90% of those chips. And so they're controlling and all those things, not all, but the vast majority of the high end things that are going towards AI, let's say that's 90%, controlled by their manufacturing base. And part of the reason is because they have invested over a long period of time, and they really are first class.
And I'm going to give a shout out to an investor, Richard Lawrence here at Overlook who's been on who's been on this, for a long time, actually for years. Well ahead of the AI trade. So shout out to you, Mr. Lawrence at Overlook, who has who has been a proponent of Taiwan Semiconductor and who has been a proponent of how superior this business model is.
And he really talked about the pricing power that Taiwan Semiconductor has, because they are first rate, because they are first class, because they are constantly innovating, constantly delivering best in class manufacturing facilities and best in class yields. So meaning that the the number of chips that come out versus the that that are useful, that they produce, their yields are the highest in the business.
And so that's super important. And again tip of the cap Richard Lawrence look them up if you haven't seen them. He's got some stuff on line around pricing power. Taiwan Semiconductor was in his portfolio long ago. He runs a group called Overlook. So shout out to you, Mr. Richard Lawrence, for being an early on person in Taiwan Semiconductor and really understanding the power of this business model and really understanding early days that because they were so forward thinking about investing in the technology, investing in the manufacturing that this would put them ahead of their competitors.
And obviously the AI wave is the next thing coming up. But anyway, tip of the cap to Richard Lawrence at Overlook. Look him up if you're curious. Has great work around pricing power, which Taiwan Semiconductor has. And when we get into the margins here, you'll see that. And so the business again, manufacturing chips selling to their customers who designs chips.
So let's let's go into some of the numbers just so you have a sense for Taiwan Semiconductor. And so what's the market cap for this company? 1.5 trillion. So this is a large company and it's actually grown quite a bit even recently. So the one year return is now almost 50%. And so you're 49.5 sitting as of today, October 21st.
So this company has been on a tear and earnings have been very good, here recently. And so the business is doing well. And let's now talk about those margins as we start going through the business again. So if you look at, again, market cap 1.5 trillion and now you're looking again up 50% year to date.
So part of that run is a very recent here. But look let's look at the revenue here through 9/30. This is they just announced these earnings recently. You're talking about 115 billion of revenue, up 39% growth, 39%. I'll say that again, up 39%. So that is the AI wave right there. Here's another important feature.
Now the gross margins. So this is an important and this is important when you talk about the strength of pricing power. And it's can be then reflected in gross and net margins. So if you look at the gross margins for Taiwan Semiconductor, the gross profit 68 billion on 115 billion in revenue, that's 59%, 59%. Now you would say that's in the exceptional category.
That's Nvidia, that's Visa. You know, those are this gets into those categories. This is a manufacturing business. Manufacturing business. You would think like heavy CapEx. Right. Very different than visa for example, but yet has 60% gross margins. That's exceptional. That is very exceptional. And best in class. And so when you think about that now, another notable piece and we talk about this and other episodes important to also look back, if you look back at 2021, what's happening with the gross margins?
They are 51% in 2021, 59% in 2022, drop down to 54, go to 56 in 2024, and back up to 59. So they have been high and they have consistently kept them up. So they were at 51, 59, 54, 56 now 59. So these are exceptionally good gross margins for any business, especially, a capital intensive business period.
These are best in class. So a tip of the cap, to the management, which we'll get to here. And so net income here, for the for the three months ending 9/30 that they just announced 50 billion. And so that is a 43% margin there. So, look, these are exceptional. And they earned $1.95 a share there.
And so these are exceptional. Fantastic. And then now let's talk about free cash flow. You're talking about free cash flow of 30 billion for the quarter end. So that's last 12 months, ending on the quarter. Those are the numbers I gave, just to be super clear. So that's that 12 months ending 9/30. That's the earnings that they just announced.
And so these are super exceptional numbers. And again, when you talk about the revenue has grown, almost 40% over that period, in the last 12 months, that that is super exceptional. And if you look back, as we talked about the revenue growth here in the superior business, you know, in 2021, it was 18% growth in 2022, 42% growth.
And then look, in 2023, you had -4%. A lot of people got worried. And now 2024, 33%. And you get to 2025 9/30 last 12 months, quarter ended 9/30 59%, fiscal year, by the way, is is a 12/31 for for Taiwan Semiconductor. So this is a superior business. And we let's just go back to the net income for a moment to talk about the net income over time.
So if you look at that, you're talking about in 2021, 38% net, 2022 45, 2023 38, then 24 40 and now 43. So accelerating, up on the net margins big AI obviously boom happening right now. They're riding this wave. But they were well-positioned before again, a heavy heavy investing in their manufacturing capability and now moving some of that to the US, moving some of that to Japan.
Most notably, you can find videos online. I encourage you to check them out of the Arizona facilities that they're bringing online. And so I think that's a net positive for Taiwan Semiconductor diversifying, at least a little bit. And just getting started on that manufacturing base. You don't move these fabs overnight. You don't move that expertise overnight.
And so the fact that they're getting that done and making progress on that, I think that's terrific for the defense application for the base of the company's manufacturing capabilities and getting it out of a geopolitical, let's say, hot zone, and diversifying, those capabilities in other places, U.S, Japan, as examples, most notably US, because that's where their biggest customers are, right?
Apple, Nvidia. So good place to be right here next to their customers. Generally a good thing in any business manufacture next year customers also helps obviously with tariffs. Next up. So what are we going to give before we move on rather to management. What are we going to get the business? I think you got to give the business here an 8 or 9.
Let's give it an eight. And the only reason we're going to do it is because right now, not as diversified as they can be on that production network, really still tied to Taiwan. So we're going to give it an eight for the moment. All right. So moving on. So Dr. Wei, C.C. is the CEO of Taiwan Semiconductor.
And if you look at what they've been doing it's again has just been phenomenal. They have the best customers right. And they certainly have been delivering and they still lead, right? Samsung is there as well. And so on the manufacturing side, but they're they are the clear leader in this world for manufacturing. And so I think, on the high end and again, they're controlling 90 plus percent or 90% percent depending on how you're counting, the high end market, 3 and 5 nanometer and especially focused on AI builds that they control the market.
And so for that you got to give a big, you know, kudos to the current management team and certainly Morris Chang in the past. And putting them is putting them in this position. And if you look at, you know, what's happening, for this on the CapEx side, so let's just take a quick look at what's happening on the CapEx side.
They're they're putting significant amounts of money to work now, too. So you look at, trailing 12 months, 9/30 just reported 40 billion, 30 billion the year before. So they've been investing significant amount of money. And you look back, we'll go from 21 now 30 billion to 21, 22, 36 billion, 30 billion, in 23, 30 billion in 24.
And now up to 40 billion, for the trailing 12 months through 9/30, expected full year, 40 billion. And if you look out and again, we care about what's going to happen in the future. You're looking at 45 billion in CapEx. And maybe we'll come back to some of those other numbers, for projections. But the future is absolutely looking bright.
There are some hot points. Management has been doing a good job of continuing to put them in a position to win, and win in this market and make their customers even more reliant on them. And so Nvidia is not standing up their own fabs. You know, they're happy to work with Taiwan Semiconductor. And so is Apple now.
And they don't like resources right. They don't like resources. They don't like neither those companies like smart people. But this part of the business is really managed by Taiwan Semiconductor. And that is because they are part, going back to the business model. And again, another big kudos to the management team for sticking to their knitting, sticking to this business model that's working and not competing with their customers.
So that makes their customers have even more confidence in them. And again, when you talk about Apple and Nvidia having great confidence in them, and as their companies have grown, so has Taiwan Semiconductor. And now that they're all riding this AI wave, obviously they're they're in there too. Qualcomm would be another company as an example. And we own shares in that in Qualcomm as well.
So look you got to give management a fantastic score as well right now. And I would say even a nine on the management here. Really terrific. So let's let's move on very quickly. That was kind of a very quick, management, but, they're doing a great job, investing heavily. Again, top, you know, capital allocator, top executer.
And so if you have to give them lots of points on capital allocation, putting smart money to work, really making things work at the factory and really partnering with their customers and sticking to their business model. So again, a nine on that. So now let's go to the price/valuation. And so look, if you look at the PE and you can use that as a proxy as we always do here, or virtually always look, you're talking about, you know, 28 times, that's not, you know, that's not a terrible or a great valuation.
And so if you look at against some of their competitors, they're probably slightly below that. But, you know, some of that is into the. Okay. Well, there is an issue potentially with, you know, the geopolitical situation. And if you look at what's happening on the capital allocation here, which you could, you could pull into some of the valuation, which is they have just below 1% dividend yield.
Say they do have a dividend. You know, you probably tick off a few points here on the valuation. And lots of people, again, have understood this story better and have come into this company. And so it has pushed up the valuation. And so year to date they're up 50%, nearly 49% on the one year return, 46. 
And so lots of people have come in to this company more recently. So the valuation, you know, so you're saying, okay, we're an eight for the business, we're at nine for the management. You're probably at a seven here for the price versus valuation. So let's then now let's move on to the balance sheet. So what's happening on the balance sheet here.


Well here's another a great score for, for them. Not too concerned about what's happening on the balance sheet. Even cash and cash equivalents of 90 billion and debt of 30. So 60 billion of net cash. Really not where a bulletproof balance sheet right now. And generating 30 billion in free cash flow. So pretty quick review of the balance sheet.
But let's let's look at it over time to see if this is a, you know, more recent phenomenon or they've been responsible for a long time. So you go back to or for some time, you go back to 21, you're 42 and cash and and 27 and debt. So you know, not not as strong as they are now.
But let's look at 22, 50 and 28 and then 23, 55 and 31. And then you look at 24, 73 and 31. So so you can see the trend. And now they're at 90 and 31 with that 60 net cash balance there. So we're sleeping like babies at night with 60 billion of cash on this balance sheet.
You know the geopolitical stuff maybe is keeping us up. But not the balance sheet. The balance sheet. We're sleeping like babies with Taiwan Semiconductor balance sheet. So that would be a ten. So if you let's go through the scores and obviously we can modify some of these. And you can say you know it deserves a little bit here or there, but you're talking about, you know, an eight for the management team you're talking about or sorry, the business and nine for the management team.
You're talking seven, for the business or price valuation and a ten, you know, and so you can make arguments to say on average this is probably an eight, right. If you average those out and massage the scores a little bit, eight, 8.25, depending on how you want to place this. But a very good score.
Right. And you're really just taking the ding, on, on the price versus the valuation. But you're really talking, you know, 8.25, eight and a half, depending on what, eight between 8 and 8 and a half, depending on how you want to massage some of those scores. Right. If you want to move the valuation down a little bit, you want to you want to, you know, you're not going to be better than the ten on the balance sheet.
But however you want to place that you're talking, let's say between 8 and 8 and a half, that that's an excellent company. That's an excellent score. And this is an excellent company. It is a company and a couple of our portfolios. But it is something I think you have to watch as a business person right now with the AI boom.
So I encourage you to get up to speed if you're not up to speed already on Taiwan Semiconductor. Again, not investment advice. We we do own shares in this company and we're following it closely, our analysts are going to continue to follow this closely. That is really important to think about. Right. Because, this company is important to think about because of all the things that are happening in the world of AI.
And it really sits at the center of that on the manufacturing side. So I encourage you, if you're not up to speed, get up to speed, and if you are up to speed, continue to follow this company. Things are always changing. That's the business world. So thank you for paying attention for this episode. If you do like our show, we ask you to subscribe.
Thanks for watching on YouTube. Thanks for listening on Spotify, Amazon and Apple. And that is a wrap for this episode of Market News with Rodney Lake. We'll see you on the next one. Thank you.