The chip sector is getting back on its feet after a challenging period, but not every stock is a winner. While the industry’s long-term outlook seems bright, near-term concerns related to the Fed-engineered economic slowdown and supply challenges remain.

Therefore, investing in fundamentally sound chip stocks Taiwan Semiconductor Manufacturing Company Limited (TSM) and Broadcom Inc. (AVGO) could be wise. On the contrary, Advanced Micro Devices, Inc. (AMD) and Entegris, Inc. (ENTG) might be best avoided, considering their weak fundamentals.

Over the past year, the semiconductor industry hit snags from macroeconomic pressure, geopolitical unrest, and lingering effects of the pandemic. As inflation rose and tech companies took beatings from rising interest rates, demand for semiconductors fell, hurting the industry.

Marred by these headwinds, global semiconductor sales dipped 5.2% month-to-month in January and 18.5% year-over-year, as reported by the Semiconductor Industry Association (SIA). As Fed has warned of some toughness going forward, it could be challenging for the industry participants.

However, on the bright side, with megatrends that include remote working, the growth of AI, continued digitization, expansion of 5G, and soaring demand for electric vehicles, the sector is poised to benefit from the increasing demand for semiconductors. Moreover, easing supply-chain issues could bring the focus back to these catalysts this year.

As part of the bipartisan CHIPS and Science Act, the Department of Commerce is overseeing $50 billion to revitalize the U.S. semiconductor industry, including $39 billion in semiconductor incentives. Buoyed by this, several companies are investing heavily in chips to ramp up U.S. chip production.

In addition, the global semiconductor market is expected to exceed $1 trillion by 2030, growing at a CAGR of 7%, driven by the automotive, data storage, and wireless industries.

With that in mind, investors could lay their hands on fundamentally sound chip stocks TSM and AVGO this year. On the other hand, given the weak fundamentals and bleak growth prospects, AMD and ENTG could be best avoided now.

Stocks to Buy:

Taiwan Semiconductor Manufacturing Company Limited (TSM)

Headquartered in Hsinchu City, Taiwan, TSM manufactures, tests, and markets integrated circuits and other semiconductor products globally. Its products are used in automotive electronics, high-performance computing, and mobile device markets.

On February 14, TSM’s board of directors authorized a $3.50 billion capital injection plan for TSM Arizona.  The company tripled its initial $20 billion commitment to the Arizona chip facility in December, bringing it to $40 billion. This marks one of the biggest foreign investments in American history. The company could benefit considerably by expanding its business operations.

Moreover, on December 29, the company announced that its 3nm technology had achieved volume production with good yields, which was duly celebrated with the topping ceremony of its Fab 18 Phase 8 facility. The company believes 3nm technology could generate end products worth a staggering $1.50 trillion within five years of achieving volume production.

In terms of forward non-GAAP P/E, TSM is trading at 15.51x, 18.5% lower than the industry average of 19.02x. The stock’s forward EV/EBITDA of 8.14x is 35.3% lower than the 12.57x industry average. Furthermore, the stock’s forward Price/Cash Flow of 8.30x is 50.5% lower than the 16.77x industry average.

TSM’s net revenue increased 42.8% year-over-year to NT$625.53 billion ($20.49 billion) in the fourth quarter that ended December 31, 2022. Its gross profit grew 68.7% from the prior year’s quarter to NT$389.19 billion ($12.75 billion), while its income from operations came in at NT$325.04 billion ($10.65 billion), up 77.8% year-over-year.

In addition, the company’s net income and EPS increased 78% year-over-year to NT$295.90 billion ($9.69 million) and NT$11.41, respectively.

The consensus revenue estimate of $89.79 billion for the fiscal year ending December 2024 reflects an 18.7% year-over-year improvement. Likewise, the consensus EPS estimate of $6.94 for the same year indicates a 22.7% increase from the previous year. Moreover, TSM surpassed its consensus EPS estimates in all four trailing quarters.

Shares of TSM have gained 12.1% over the past six months and 19.9% year-to-date to close the last trading session at $89.29.

TSM’s promising fundamentals are apparent in its POWR Ratings. The stock has an overall rating of B, which equates to Buy in our proprietary rating system. The POWR Ratings are calculated by considering 118 different factors, each weighted to an optimal degree.

It has an A grade for Quality and a B for Sentiment and Momentum. In the B-rated 91-stock Semiconductor & Wireless Chip industry, it is ranked #18.

Beyond what we stated above, we also have TSM’s ratings for Growth, Value, and Stability. Get all TSM ratings here.

Broadcom Inc. (AVGO)

AVGO designs, develops, and supplies a range of semiconductor devices focusing on complex and mixed signal complementary metal oxide semiconductor-based devices and analog III-V-based products. It operates through two segments: semiconductor solutions and infrastructure software.

On March 6, AVGO introduced the industry’s first 5nm 100G/lane optical PAM-4 DSP PHY with integrated transimpedance amplifier (TIA) and laser driver, the BCM85812, optimized for 800G DR8, 2x400G FR4, and 800G AOC module applications. Monolithic fully integrated 800G PAM-4 PHY delivers best-in-class performance and efficiency for pluggable transceiver modules.

“This first-to-market highly integrated 5nm 100G/lane DSP PHY extends Broadcom’s optical PHY leadership and demonstrates our commitment to addressing the stringent low power requirements from hyperscale data center and cloud providers,” said Vijay Janapaty, vice president and general manager of the Physical Layer Products Division at AVGO.

In December, the company launched a new solution enabling companies to store mainframe data anywhere, including the cloud. Its CA 1 Flexible Storage solution provides hybrid IT environments with safe and affordable mainframe data storage alternatives. The new solution should boost AVGO’s revenue stream.

AVGO’s forward non-GAAP P/E of 14.85x is 22% lower than the industry average of 19.02x. Furthermore, the stock’s forward EV/EBIT of 13.06x is 18.9% lower than the 16.11x industry average, while its forward Price/Cash Flow of 14.06x is 16.2% lower than the 16.77x industry average.

For the fiscal 2023 first quarter that ended on January 29, AVGO’s net revenue increased 15.7% year-over-year to $8.92 billion. Its adjusted EBITDA rose 17.8% year-over-year to $5.68 billion, while its non-GAAP net income came in at $4.48 billion, up 19.8% from its year-ago period. AVGO’s non-GAAP EPS stood at $10.33, indicating a 23.1% year-over-year increase.

Analysts expect AVGO’s revenue and EPS for the fiscal second quarter (ending April 30, 2023) to increase 7.3% and 11.5% year-over-year to $8.70 billion and $10.11, respectively. It surpassed the consensus EPS and revenue estimates in each of the trailing four quarters, which is promising.

Over the past six months, the stock has gained 23.8% to close the last trading session at $632.46.

AVGO’s POWR Ratings reflect solid prospects. The stock has an overall rating of B, which translates to a Buy in our proprietary rating system. It has an A grade for Quality and B for Sentiment. Within the same industry, it is ranked #5 out of 91 stocks.

In addition to the POWR Ratings I’ve just highlighted, you can see AVGO’s ratings for Growth, Value, Momentum, and Stability here.

Stocks to Avoid:

Advanced Micro Devices, Inc. (AMD)

AMD operates as a global semiconductor company in Computing and Graphics; and Enterprise, Embedded, and Semi-Custom. It serves original equipment manufacturers, public cloud service providers, original design manufacturers, independent distributors, online retailers, and add-in-board manufacturers.

AMD’s non-GAAP operating expenses increased 45.2% year-over-year to $1.60 billion for the fourth quarter that ended December 31, 2022. Its non-GAAP operating income came in at $1.26 billion, down 5% from the prior-year quarter. The company’s net income amounted to $21 million, registering a decline of 97.8% year-over-year. Also, its non-GAAP EPS decreased 25% year-over-year to $0.69 for the same period.

In terms of forward EV/Sales, AMD is trading at 5.45x, 105.3% higher than the industry average of 2.65x. Its forward Price/Sales multiple of 5.94 is 126.2% higher than the industry average of 2.63x. Its forward Price/Cash Flow ratio of 24.48 compared with the industry average of 17.05.

Street expects AMD’s EPS and revenue to decrease 50% and 9.8% year-over-year to $0.56 and $5.31 billion for the fiscal first quarter (ending March 31, 2023). The stock has slumped 14.5% over the past year to close the last trading session at $87.45.

AMD’s POWR Ratings reflect weak prospects. It has an overall rating of D, equating to Sell in our proprietary rating system.

It has a D grade for Growth and Stability. It is ranked #82 out of 91 stocks in the Semiconductor & Wireless Chip industry. Click here to see the additional ratings for AMD (Value, Momentum, Sentiment, and Quality).

Entegris, Inc. (ENTG)

ENTG is engaged in developing, manufacturing, and selling microcontamination control products, specialty chemicals, and advanced materials handling solutions. It operates in four segments: Specialty Chemicals and Engineered Materials (SCEM); Microcontamination Control (MC); The Advanced Planarization Solutions (APS); and Advanced Materials Handling (AMH).

In terms of forward non-GAAP P/E, ENTG is trading at 31.69x, 64.5% higher than the 19.27x industry average. Likewise, the stock’s forward EV/Sales and EV/EBITDA of 4.72x and 17.12x are 77.9% and 35.5% higher than the 2.65x and 12.64x industry averages, respectively.

For the fourth quarter of fiscal 2022, which ended on December 31, 2022, ENTG’s operating income declined 9.9% year-over-year to $143.78 million. Also, the company’s non-GAAP net income decreased 5.6% from the previous year’s quarter to $124.45 million, while its non-GAAP EPS stood at $0.83, down 13.5% year-over-year.

The consensus EPS estimate for the first quarter (ending March 31, 2023) reflects a 50.4% decline from the prior year’s quarter to $0.53. Also, the company’s EPS for the fiscal year 2023 (ending December 2023) is expected to decrease 30.3% year-over-year to $2.60.

The stock has lost 31.2% over the past year to close the last trading day at $82.45.

ENTG’s weak fundamentals are reflected in its POWR Ratings. The stock has an overall rating of F, which equates to a Strong Sell in our proprietary rating system.

It has a D grade for Value, Stability, Sentiment, and Quality. Within the same industry, it is ranked #90. To see the other ratings of ENTG for Growth and Momentum, click here.

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TSM shares were trading at $86.01 per share on Wednesday afternoon, down $3.28 (-3.67%). Year-to-date, TSM has gained 15.47%, versus a 0.97% rise in the benchmark S&P 500 index during the same period.

About the Author: Shweta Kumari

Shweta's profound interest in financial research and quantitative analysis led her to pursue a career as an investment analyst. She uses her knowledge to help retail investors make educated investment decisions. More...

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