Facing a number of headwind factors, TSMC's stock price recently fell 5%

Taiwan Semiconductor (Taiwan Semiconductor) shares fell about 5% after the recent release of the second-quarter earnings report. The results were somewhat mixed. Specifically, the semiconductor manufacturing giant is currently facing several industry headwinds, leading to unstable demand dynamics, which in turn has had a negative impact on its short-term financial situation.

For the rest of the year, although $Taiwan Semiconductor(TSM.US)$ TSMC is likely to continue to face this kind of pressure, but it is expected that starting next year, the situation will improve substantially. As macroeconomic uncertainty gradually eases, demand for semiconductors will revive, and the overall performance of the semiconductor industry is expected to rebound strongly.

Overall, I think TSMC's stock price is drastically discounted compared to the company's future profit growth expectations. This may indicate that the recent decline in stock prices is a good opportunity to buy the company's stock. Therefore, I am bullish on TSMC's stock.

As the semiconductor industry is going through a downturn cycle, TSMC's business has recently faced some challenges. As a leading semiconductor foundry, TSMC helps $Apple(AAPL.US)$ apple, $NVIDIA(NVDA.US)$ The world's largest technology companies, such as Qualcomm (Qualcomm), and AMD, use their proprietary technology to bring their chips to life.

The current short-term downturn may be due to a combination of factors, including soaring inflation, geographical issues, and the aftermath of the previous pandemic where consumers bought large amounts of electronic devices.

The complex interplay of these conditions has led to increased macroeconomic uncertainty, lower consumer spending, and significant fluctuations in semiconductor demand. Additionally, spending on consumer electronics products (such as PCs, smartphones, and tablets) has declined, further impacting demand for semiconductors to power these devices, and ultimately TSMC's performance.

Due to these challenges, TSMC's financial position declined in the second quarter. In particular, the company's second-quarter revenue fell 6.2% month-on-month to US$15.7 billion, down 13.7% year over year. Global economic conditions have dampened demand in the terminal market, leading to unfavorable inventory adjustments for TSMC customers.

In addition, TSMC's gross margin also declined continuously by 220 basis points to 54.1%, mainly reflecting declining capacity utilization and rising electricity costs. Thankfully, however, tighter cost controls and more favorable exchange rates partially offset some of the challenges. However, despite the cyclical downturn in the industry, TSMC continued to invest in the development of N3 and N2 technology, which further reduced its operating margin by 350 basis points to 42%. As a result, TSMC's earnings per share of American Depositary Receipts (EPADR) fell 26.5% from last year to $1.14.

The semiconductor industry's weak environment is expected to continue into the second half of this year. TSMC management expects the company's revenue to be between US$16.7 billion and US$17.5 billion in the third quarter, up 9.2% month-on-month, but down 14.9% year-on-year from last year's US$20.2 billion.

Furthermore, the company's gross margin is expected to be between 51.5% and 53.5%, while its operating margin should be between 38% and 40%. This indicates that compared with 54.1% and 42.0% in the previous quarter, TSMC's gross margin and operating profit margin will decline further. Compared with 60.4% and 50.6% in the third quarter of 2022, the company's gross margin and operating profit margin will drop sharply.

Despite this, as macro challenges ease, it is expected that in the near future, TSMC's performance will improve, and the industry will break out of its current slump. Management is expected to indicate during the earnings call that they are optimistic about the outlook for the fourth quarter. TSMC's 3nm production is expected to increase significantly, which will increase its gross margin by three to four percentage points compared to the third quarter. Additionally, TSMC management expects the company's long-term gross margin to reach 53% or higher, indicating that its profitability is likely to recover.

This expectation is also reflected in Wall Street's view, and these predictions also seem to indicate a recovery in the semiconductor industry. Although TSMC's ADR earnings per share in fiscal year 2023 are expected to fall by about 25% from the previous year, the company's ADR earnings per share are expected to rebound strongly by 24% to reach $6.12 by fiscal year 2024. Furthermore, TSMC's ADR earnings per share are expected to rise sharply by 34% to reach $8.19 by the 2025 fiscal year.

This sharp fluctuation in profitability highlights the introduction of SMC's highly cyclical business model. Therefore, investors are reminded that TSMC's apparently unfavorable performance this year is a typical market reaction, and they should not worry too much.