This Bullish Analyst Highlights Taiwan Semi's 3nm Strength and Margin Expansion Potential, Raises Forecast

Needham analyst Charles Shi maintained Taiwan Semiconductor Manufacturing Company TSM with a Buy and raised the price target from $210 to $225.

The re-rating followed Taiwan Semiconductor’s upbeat quarterly print Thursday.

Shi said that Taiwan Semiconductor’s third-quarter print showed a much more robust performance of 3nm primarily due to Apple Inc AAPL.

Also Read: What’s Going On With Nvidia Stock On Friday?

In contrast, the analyst says 5nm revenue is leveling off after six consecutive quarters of strong sequential growth.

Shi maintained his belief that $110 billion is the correct revenue target for 2025 and noted the potential for significant margin improvement. With no 2nm production expected next year, which would otherwise lower margins, he expects Taiwan Semiconductor’s gross margin to return to 60% in the second half of 2025.

As a result, he revised his earnings per share (EPS) estimates to reflect this margin upside and raised his price target.

With 2024 revenue likely reaching $90 billion, hitting $110 billion in 2025, representing 23% growth, now appears even more plausible, as per Shi.

The broader market now shares this view, with consensus estimates aligning at $110 billion—an increase from the $96 billion forecast a year ago. Although additional upside could materialize if utilization rates for 7nm and above return to 2022 levels, he remained conservative and modeled a more gradual recovery.

As Taiwan Semiconductor’s 5nm capacity growth stabilizes and 3nm additions slow down, Shi expects volume rather than price to drive growth in 2025.

While 2024 has seen an estimated 8% increase in wafer shipments and a 20% rise in average selling prices (ASP), the analyst’s 2025 model anticipates 13% growth in shipments and a more minor 10% increase in ASP. This projection includes a 5%-10% price hike on 5nm and 3nm.

As per the analyst, the absence of a new node ramp in 2025 presents an opportunity for margin improvement. With 2nm ramping not expected until 2026, Taiwan Semiconductor’s margins should benefit as the impact of 3nm dilution subsides.

Although Taiwan Semiconductor will continue to invest in capital expenditures (CapEx) for 2nm, depreciation will not impact its income statement until mid-2026, when 2nm revenue starts flowing in, he noted.

For 2024, depreciation expenses will likely rise 30% year-over-year due to the 3nm ramp. Still, Shi anticipates only a 5% year-over-year increase in 2025, pushing Taiwan Semiconductor’s margins toward 60% in the latter half of the year.

While market expectations for Taiwan Semiconductor’s 2025 CapEx have increased from the mid-$30 billion to nearly $40 billion, the analyst noted these estimates are overly optimistic.

His analysis suggests that most of the 2025 CapEx will be driven by 2nm expansion and did not foresee additional capacity plans for other nodes. Taiwan Semiconductor management has confirmed the potential for more 5nm to 3nm conversions, which reduces the likelihood of further 3nm greenfield expansions. Shi currently projects $35 billion in CapEx for 2025, translating to a capital intensity of 32%.

The analyst’s projections suggest that with 20% revenue growth, gross margins in the high 50s, and capital intensity in the low 30s, Taiwan Semiconductor’s free cash flow margin could expand beyond the current estimate of 32% for 2024.

This scenario would also boost the company’s return on equity (ROE) above 30%, per Shi. He added that strong free cash flow could pave the way for dividend increases if Taiwan Semiconductor maintains its commitment to returning 70% of free cash flow to shareholders, setting a positive outlook for the stock.

Price Action: TSM stock is down 1.81% at $202.12 at the last check on Friday.

Also Read:

• Apple iPhone 16 Sees 20% Sales Surge in China, But AI Absence Prompts Early Price Cuts

Photo by Sundry Photography on Shutterstock