This AI Giant Just Broke Through the $1 Trillion Market Cap Barrier: Here's What Comes Next

Taiwan Semiconductor Manufacturing (NYSE: TSM) just reached rarified air. The semiconductor giant -- known as TSMC -- just surpassed a market cap of $1 trillion after reporting phenomenal growth for the third quarter. Excluding state-owned enterprises, this is the ninth company in the world to reach a market value above $1 trillion.

Benefitting directly from growing spending on artificial intelligence (AI) computer chips, TSMC is dominating the semiconductor foundry market and is showing no signs of slowing down. Here's what might come next for the stock.

High-performance compute growth

TSMC is the only company in the world that can manufacture ultrafast computer chips with the smallest transistor length. These 3- and 5-nanometer "nodes" made up around half of the company's revenue in the third quarter, which shows the high prices and surging demand computer chip companies have for these products. Due to this demand, TSMC is now forecasting 30% revenue growth in U.S. dollar terms for 2024.

Let's break down this growth from the high-performance compute (HPC) segment, which is where TSMC classifies spending for AI computer chips. In Q3 of 2024, revenue for HPC chips made up 51% of overall revenue. In the same quarter last year, it made up 42% of revenue. This means there was $12 billion in HPC revenue last quarter compared to $7.26 billion in 2023 (in U.S. dollar terms), or approximately 65% year-over-year revenue growth. This is astounding growth for a company so large.

Management sees growth continuing through 2025. The company lays out capital expenditures on new factories in anticipation of demand in future years. As of the latest update, it is planning on spending $30 billion on capital expenditures in 2024. In turn, this should lead to revenue growth in 2025 and 2026 as long as these new factories are utilized.

Geographic diversification will finally materialize

A big change for TSMC in the next few years will be diversifying outside of its home market in Taiwan. The company and its customers want to stop Taiwan from becoming a chokepoint for semiconductor supply because of the Chinese government's military rhetoric around the island.

The good news is these new factories are in the process of being built. Three fabrication facilities are being built in Arizona, with high-volume production expected to come at the start of 2025 for the first facility. It has advanced process nodes, meaning it can serve customers for the all-important HPC segment. The second and third facilities will hopefully be ready by the end of this decade.

TSMC also has facilities being built in Japan and Europe to further its geographic diversification. Management is planning to spend tens of billions and perhaps over $100 billion on new factories outside of Taiwan in the next five to 10 years. Investors should track these developments, as they will be important to help alleviate geopolitical risk while also testing whether the same profit margins can be replicated outside of Taiwan.

TSM data by YCharts

What comes after $1 trillion?

TSMC's financial statements look solid, and the company looks poised for growth over the next few years. Net revenue was up 36% year over year last quarter in U.S. dollar terms, with operating margin expanding to 47.5%. This led to monstrous 54.2% net income growth in the quarter. While 50% earnings growth is not going to happen forever, I think it is plausible that TSMC can grow net income at a double-digit rate -- on average -- each year for the next five years due to the AI boom.

But does that make the stock a buy? I'm not so sure. Since the start of 2023, TSMC stock is up 170%. Its current price-to-earnings ratio (P/E) is well over 30, which is above the S&P 500 index average. Yes, TSMC is a better business than the average one on the index and should grow earnings faster than the average publicly traded stock. However, the stock is trading at one of its highest P/Es in history. That makes it ripe for multiple compression risk and reversion to the mean.

I wouldn't fault an investor for buying TSMC after it surpassed a trillion dollars in market value. In five years, I think it is more likely than not that its market cap is larger than it is today. I just don't think the stock is a can't-miss opportunity after rising 170% in less than two years.

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Brett Schafer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Taiwan Semiconductor Manufacturing. The Motley Fool has a disclosure policy.