Why Intel’s Foundry Troubles Are TSMC’s Gains

Intel‘s (INTC -0.47%) foundry business recently suffered a major setback after it was revealed that chipmaker Broadcom determined that Intel’s newest chip manufacturing process, called 18A, could not execute large-scale production of its chips at the quality standards that Broadcom required. Intel launched its foundry business, which manufactures chips for third parties, in 2021.

While this is disappointing news for Intel, it should be good for rival Taiwan Semiconductor Manufacturing (TSM -0.21%), or TSMC as it is commonly called, and its investors.

Intel is struggling

For a foundry business to be successful, it needs scale, newer technology, and high utilization rates at its facilities. For Intel, the company’s foundry business has struggled with growing revenue and profitability. This can be seen in its second-quarter results. Revenue grew just 4% year over year to $4.3 billion, while its operating loss increased from $1.87 billion to $2.83 billion.

Intel management said the increased losses stemmed from an uncompetitive cost structure as well as power, performance, and area deficits. It also noted that elevated research & development (R&D) expenses and the ramping up of new facilities in Ireland weighed on Intel’s results.

The company is betting on new, more advanced technology to help power this business. In March, Intel announced it would invest more than $100 billion to build new foundries in the U.S. over five years. Given this ambitious plan, and with losses mounting, the rejection of Intel’s newest technology by one of its large customers is a major blow to the company’s ambitions.

Moving designs to a new foundry operator can be expensive, so Broadcom’s rejection can have a bigger impact beyond just its decision. The news also comes after a report that SoftBank walked away from negotiations with Intel on manufacturing new artificial intelligence (AI) chips, as Intel’s foundries did not meet its production quantity and speed standards.

Following the news, Citigroup analyst Christopher Danely doubled down on his call for Intel to exit the foundry business altogether. He said it was too expensive and had a “minimal chance of succeeding.”

TSMC is the biggest beneficiary of Intel’s woes

Intel’s foundry struggles are ultimately TSMC’s gain. The Taiwanese company is the largest chip manufacturer in the world and saw its growth soar as a result of the strong demand for AI chips. TSMC counts companies such as Apple and Nvidia among its largest customers, and Nvidia executives have extolled the role of TSMC in its success.

While Intel’s foundry business grew revenue by only 4% last quarter, TSMC saw its revenue surge by 33% year over year to $20.82 billion. Meanwhile, with demand for its services high, the company is set to raise prices next year. Morgan Stanley analysts report that TSMC will increase prices by 10% for AI semiconductors and chip-on-wafer-on-substrate products, by 6% for high-performance computing, and by 3% for smartphones.

A successful Intel foundry business could add more competition for TSMC’s services, given its aggressive expansion plans. However, the more these grand expansion plans look unfeasible, the better the position it puts TSMC in moving forward. Ultimately, a large Intel foundry business could create too much industry capacity, which could hurt pricing and utilization at both companies.

At this point, however, it looks like Intel is looking to scale back its ambitions. The company has announced it will cut 15% of its workforce, and according to reports, these cuts will mostly impact its foundry business. Meanwhile, according to the Commercial Times, Intel is also now outsourcing all of its sub-3nm process manufacturing to TSMC.

The threat of Intel as a potential competitor now looks greatly diminished.

TSMC stock looks like a buy

Given its dominant position as the world’s premier semiconductor contract manufacturer, and with Intel’s potential competitive threat dwindling, now looks like a great time to buy TSMC stock. The company saw huge demand for its services because of the AI boom, while at the same time, due to current supply and demand dynamics, it also has strong pricing power.

As large language models (LLMs) continue to advance, they will need more and more computing power to train. And by extension, AI-focused companies will need exponentially more graphics processing units (GPUs) and other advanced chips. Throw in the potential of a hardware upgrade cycle to help run applications, and TSMC has a long runway of growth in front of it.

TSM PE Ratio (Forward 1y) data by YCharts

With the stock trading at a forward price-to-earnings (P/E) ratio of just above 19 based on next year’s analyst estimates, the stock is cheap considering its growth outlook. Intel’s foundry woes, meanwhile, only add to TSMC’s attractiveness as an investment.

Citigroup is an advertising partner of The Ascent, a Motley Fool company. Geoffrey Seiler has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Apple, Nvidia, and Taiwan Semiconductor Manufacturing. The Motley Fool recommends Broadcom and Intel and recommends the following options: short November 2024 $24 calls on Intel. The Motley Fool has a disclosure policy.