Headlines in the financial press this week have been dominated by news that semiconductor giant Intel Corporation (NASDAQ: INTC) would be ramping up spending in the chip-making space.
The announcement by Intel came as a surprise to many investors given it was widely expected the chip giant would exit the so-called “foundry business”.
Let’s break it down, first. Semiconductors can be a convoluted space. Put simply, companies operating in the chip space are split into two areas.
First off, there fabless companies (or “fabs”) that purely design the chips but have no role in actually manufacturing them.
The second area is the foundries themselves – the firms that actually manufacture the chips but do not have the intellectual property behind the designs.
So, what does this new move by Intel mean for the two areas and should investors think about buying into this giant semiconductor stock that’s betting on a renaissance?
For shareholders of Intel, this announcement looks odd. That’s because Intel tried something similar a few years ago by increasing investments in its foundry business – only to keep trailing the leading players.
These leading players include Taiwan Semiconductor Manufacturing Corp Ltd (NYSE: TSM) (TPE: 2330), otherwise known as TSMC, and Samsung Electronics Co Ltd (KRX: 5930).
Intel shares have underperformed versus other chip companies such as TSMC and leading fab Nvidia Corporation (NASDAQ: NVDA).
Whereas Intel shares have nearly doubled over the past five years, TSMC is up four-fold while Nvidia is up an incredibly 14x.
One thing that isn’t perhaps widely recognised by investors is just how capital-intensive the foundry business is. Producing semiconductors is an incredibly technical, and complex, industrial feat.
Massive capital outlays means barrier to entry are high and the competitive landscape that exists today has come about as more and more foundries dropped out of producing the leading semiconductors.
As a result, today the two Asian foundry giants make up a majority of the overall revenue pie for foundries operating on the cutting-edge (see below).
Sources: FT.com, Bain/IC Insights/Gartner
Yet, as the semiconductor shortages worldwide this year have brought the chip space into focus, it has also highlighted to politicians in the West the dangers of having so much advanced semiconductor production concentrated in Asia.
Clearly, for most observers – investors included – the announcement by Intel was driven by some modicum of political pressure from the US government to have
Chip transistors measuring 5nm (known as nanometres) are right now the most advanced semiconductors available but that is soon to be usurped by the 3nm model (basically 1/20,000 the width of a human hair).
Still a ways behind
Intel plans to spend around US$20 billion in capital expenditure on building out its foundry capabilities this year.
That looks huge. However, when it’s taken in context of how much leader TSMC plans to spend this year to stay on top – up to US$ 28 billion – it becomes clear how much of an uphill task Intel faces to catch up.
It’s consensus within the technology community that Intel is still at least two years behind TSMC in terms of its production capabilities.
For long-term investors, I believe the odds look stacked against Intel making a mark on the cutting-edge space.
However, even for investors in the leading Asian giants, it’s become clear that geopolitics is now one more component that has to be considered when thinking about the long-term competitive landscape.
Disclaimer: ProsperUs Head of Content Tim Phillips owns shares in Taiwan Semiconductor Manufacturing Co Ltd.
Tim, based in Singapore but from Hong Kong, caught the investing bug as a teenager and is a passionate advocate of responsible long-term investing as a great way to build wealth.
He has worked in various content roles at Schroders and the Motley Fool, with a focus on Asian stocks, but believes in buying great businesses – wherever they may be. He is also a certified SGX Academy Trainer.
In his spare time, Tim enjoys running after his two young sons, playing football and practicing yoga.