United Microelectronics Corp. (UMC, Financial) is a Taiwanese chip foundry that has operated in the shadow of its larger brethren, Taiwan Semiconductor Manufacturing Co. Ltd. (TSMC). While its market capitalization pales by comparison to Taiwan Semiconductor, as well as Samsung (XKRX:005930, Financial) and Global Foundries (GFS, Financial), it still maintains a steady revenue growth business at the low nanometer end of the consumer chip sector. Given the projected overall growth in the chip sector as well as its favorable fundamental value metrics, the stock is a worthy candidate for consideration by enterprising investors at $8.06 per share.
The business
United Microelectronics is a global semiconductor foundry. The company manufactures integrated circuit components for a wide array of end-user applications spanning every sector of the electronics industry.
It provides low-end chips for the auto industry, data centers, cloud and industrial servers as well as networking systems. The company’s established customer base represents diverse industries and applications, including communications, consumer electronics, personal computers, memory, next generation light-emitting diodes (LED) and graphics segments. Its customers include Qualcomm (QCOM, Financial) and Texas Instruments (TXN, Financial).
Latest earnings report
United Microelectronics posted its first-quarter 2022 earnings results on April 27. Revenue was $2.22 billion — a 34.7% increase over the same period last year, but below analysts' expectations of $2.26 billion. The company posted earnings per share of 28 cents, beating the Street’s consensus of 22 cents.
Gross profit increased 19% on a quarter-to-quarter basis and 120% year over year to 27.5 billion New Taiwan dollars ($926.53 million). Its gross margin was 43.4% and its operating margin was 35.2%.
Revenue from its low-end 40 nanometer chips comprised 38% of total revenue.
The company’s second-quarter guidance anticipates a 4% to 5% increase in its wafer shipments, an increase of 3% to 4% in average selling price and a 1.6% increase in its gross profit margin from 43% to approximately 45%. The company will continue to operate at 100% capacity.
United Microelectronics posted operating cash flow of $1.05 billion, and it held $6.02 billion in cash and equivalents.
Co-President Jason Wang stated on the earnings call that the company “started 2022 with solid first quarter, as strong wafer demand kept our fabs operating at full capacity. Although wafer shipments declined slightly, higher average blended pricing lifted our overall revenue.” Wang attributed the slight reduction in overall wafer demand to a decrease in personal computer and gaming systems sales that accelerated during the pandemic.
Wang said that continuing strong demand for auto chips, industrial servers as well as networking operations had helped offset softness in chip demand from smartphones, notebooks and personal computers.
Prospects
The prospects for the company will be linked to the overall outlook for low-end 40 nanometer chip demand, from which the company currently derives the bulk of its wafer revenue. The company has been able to raise its average selling price for these chips due to high demand and pandemic-induced limited supply. Should the supply-demand imbalance remain unchanged, the company expects it will continue to increase the prices of its low-end chips. The big question for the intermediate term is how long will the drought in overall chip supplies last? And is the continuing supply imbalance limited solely to the high-end chip sector, or will the current dearth of low-end chip supplies also come to a post-pandemic end?
The low end of the chip market will continue to see steady, though not spectacular, growth. Consumer appliances, toys, internet of things devices, some smart phone circuity as well as autos still use the lower 40 nanometer and below chips configurations, which will ensure earnings for this segment of the chip market will continue to experience steady, predictable growth. In addition, United Microelectronics is expanding its wafer offerings to include chips used for non-critical electric vehicles components. Increased EV sales should also help the company’s bottom line.
One of the risks for potential investors is the extent to which demand for the low end of the chip spectrum will continue to grow and allow smaller foundry companies such as United Microelectronics to sustain earnings growth going forward. Though demand has been robust for much of 2021 to date, the company, like other chip manufacturers, is not immune from the boom-bust overcapacity cycle that has plagued the industry for years.
Investors recently have reacted to strong earnings reports from semiconductor stocks with a collective yawn; indeed, the average forward earnings multiple for the PHLX Semiconductor Index has plummeted 23% this year to approximately 19 times. Increasing interest rates surely can explain part of investor disfavor with tech stocks, but there are other more prominent issues presently at play.
The bigger issues may prove to be geopolitical in nature. Questions potential investors should ask are, to what extent will the Russian-Ukrainian conflict continue and what impact will that unforeseen war have on inflation, raw material shortages and the price of energy? The ramifications these important factors will have on chip manufacturers is difficult to ascertain.
The unpredictable consequences of the geopolitical storm impacting Western Europe and the global economy is not the only problem impacting the current supply-demand imbalance. Another problem that exacerbates uncertainty is that chip manufacturing companies are now themselves feeling the impact of the supply chain disruptions. Recently, many of these companies that manufacture the equipment that foundry companies need to produce chips have announced that lead times for their machines have increased.
What started as a pandemic-fueled accelerated demand for laptops and other chip-centric gadgets has spiraled into a structural problem for the industry. Many semiconductor company CEOs and analysts say the problem will persist into 2023 and 2024. As Tom Caulfield, chief executive of contract chip manufacturer GlobalFoundries recently said, “There’s this wishful thinking that by the end of 2022, supply will be balanced with demand. I just don’t see it.”
All of the factors noted above need to be addressed before enterprising investors can make an informed decision as to whether United Microelectronics is selling below its intrinsic value. Should investor concerns about the geopolitical, inflationary and Covid-19 lockdown status of China lift or attenuate, United Microelectronics, as well as other chip companies, could see their stock prices rise. Demand will continue to surge, not only due to order backlogs, but also due to strong growth in cloud applications and its attendant infrastructure, including data centers.
Value investing metrics are favorable
In light of the uncertainties and concomitant risks delineated above for all semiconductor companies, enterprising investors should consider the number of favorable fundamental value investing metrics for the company.
Financial strength measures are favorable with debt-to-equity at 0.18, debt-to Ebitda at 0.44 (better than 67.7% of companies in the semiconductor industry) and interest coverage at 27.49. Profitability measures are noteworthy as they far exceed the industry median. The operating margin of 24.11% is better than 81% of companies in the semiconductor industry). It also has a return on equity of 20.76% a return on assets of 12.43% and Joel Greenblatt (Trades, Portfolio) return on capital of 43.29%.
At its current price of $8.06, the stock is trading at 7.58 times forward earnings; its current price-earnings ratio is 11.81. The 52-week high is $12.68, while the 52-week low is $7.49.
United Microelectronics' shares have a current yield of 3.6% — an inordinately high level for a tech stock. While continuation of this generous yield might fall prey to a decline in overall semiconductor demand and other geopolitical and macroeconomic factors, it does provide some cushion to help mitigate any further downside risk.
Given its favorable fundamental metrics as well as its recent sold earnings growth, at its current price level, United Microelectronics provides enterprising investors with a favorable risk-reward profile.
