ASML Stock: Clear Visibility of Future EUV Earnings – Buy on Weakness (NASDAQ:ASML)

Investment thesis

ASML Holding SA (NASDAQ:ASML) delivered a robust set of FQ4’21 results that demonstrated a clear revenue trail through 2025/26. We believe ASML’s well-diversified business model will continue to be its most important competitive advantage. Reliance on its DUV and EUV machines has been critical to the semiconductor supply chain, from logic to memory. Therefore, ASML doesn’t seem to have a request problem at all. Instead, he has a supply problem, and he’s doing his best to keep up with his customers’ demand as they ramp up production. The company has also opted for “fast shipments” to reduce the delivery cycle time of its machines to its customers.

Additionally, the company has also telegraphed a clear track record, demonstrating tremendous revenue visibility for its investors. Additionally, we believe the secular drivers behind digitalization, 5G, cloud computing and high performance computing will drive further growth in its EUV machines (both memory and logic) through 2025/26. After which, we should look at its High-NA EUV machines to drive the growth of sub-3nm process applications for Taiwan Semiconductor (TSM), Samsung (OTC:SSNLF), and Intel (INTC).

Nevertheless, ASML stock also fell to July 21 lows, despite the release of strong FY21 results and firm guidance. Despite this, we explain why investors should capitalize on its current weakness to add the one and only EUV maker to the wafer fabrication equipment (WFE) market.

Performance of ASML shares over 1 year

The sharp tech correction also hit semiconductor stocks, including major players in the WFE. Readers can quickly understand that the 1-year yield of the VanEck Vectors Semiconductor ETF (SMH) fell to just 8.6%. ASML’s 1-year yield also fell to 13.3%. Additionally, the 1-year return of Lam Research (LRCX) and Applied Materials (AMAT) stocks declined to -0.5% and 24.6%, respectively. Thus, the AMAT share maintained its outperformance compared to the ASML share.

Additionally, AMAT and LRCX stocks have 3-year average NTM EBITDA multiples that are quite close at 12.9x and 13.5x, respectively. But ASML’s stock price is significantly higher than its two peers, with a 3-year average of 27.9x. Notably, all three stocks are also trading near their 3-year average now. Some investors who were waiting for a mean reversion opportunity in their valuations could potentially seize the moment to add these stocks.

Although ASML stock is priced at a noticeable premium, we believe its fundamental thesis supports it. Given the company’s monopoly on the logic and memory EUV market, it’s clear why the market places such high valuation as ASML stock deserves. Additionally, we believe the company’s EUV leadership will continue to strengthen as the battle between Samsung, TSMC and Intel escalates over the next three years.

Clear long-term revenue visibility for ASML

Market attention was first focused on the impact on its EUV production after its recent fire in early January. We also talked about it in a recent article. However, the company’s strong guidance and commentary for FY22 has reassured investors that it can mitigate the impact reasonably well. As a result, we can focus on its commercial performance and EUV production rate in the future.

Investors can easily observe that FY21 was a fantastic year, as ASML’s revenue increased to €18.6 billion, up 33% year-on-year. It follows strong performance in FY20 as the semiconductor industry goes through a period of increased growth. Nonetheless, we believe the market has already priced in a strong performance in FY21. Therefore, investors wonder if ASML can continue its outperformance in the future. The critical question is whether ASML would return to its pre-pandemic single-digit growth or continue to post solid growth rates going forward.

We shared in our previous article that consensus estimates pointed to 16.6% year-over-year revenue growth in FY22. However, ASML provided strong guidance for FY22 well ahead of the consensus. CEO Peter Wennink pointed out (edited):

We expect net sales to increase by around 20% compared to 2021. And keep in mind that this 20% sales growth does not include revenue from the 6 EUV Fast Ships in Q4 2022. And if you factored in the 6 EUV Fast Ships, the percent growth would have been 25 %. For our EUV business, we still expect to ship approximately 55 systems of which we expect revenue from 6 systems to be deferred to 2023 due to rapid shipments. (ASML FQ4’21 results call)

Therefore, we believe that ASML’s strong guidelines have put an end to the notion of a supply glut on its EUV systems that would have a significant impact on its revenue visibility. Additionally, the company has adopted the “quick ship” cadence with its customers to help upgrade their EUV machines. Therefore, ASML would directly apply for factory acceptance at its customers’ sites (and recognize revenue upon final acceptance). Such a decision contributed to accelerating the ramp-up of its customers’ production. Wennink explained (edited): “We are fast shipping, skipping some of the factory testing and completing final acceptance testing at the customer site, which delivers more capacity as quickly as possible. This reduces the cycle time in our plant and frees up cabin space in our clean room so we can increase capacity faster.”

Consequently, the growth of ASML’s EUV business remains very robust. The company recognized revenue on 42 EUV machines that cost approximately €150 million each on average in FY21. Given the company’s forecast of revenue recognition on 49 EUV systems (six deferred to 23 due to fast shipments), we believe demand remains resilient. Additionally, EUV systems will continue to be essential to support global digitization efforts, which require more advanced process chips and increased silicon content.

Additionally, Samsung, TSMC, and Intel will also compete aggressively in the era of sub-3nm processes. Intel recently announced its order for ASML’s first TWINSCAN EXE:5200 High-NA system. ASML also clarified that Intel’s order of 5200 models is in addition to five other orders of 5000 models that it expects to ship in 2024. We believe the High-NA system will be a crucial driver in the race to foundry between Intel, TSMC and Samsung. Both Intel and Samsung are looking to dethrone foundry leader TSMC in their quests to be No. 1 respectively. Intel CEO Pat Gelsinger’s plans to regain leadership are evolving as we watch the company suffer short-term profitability losses. Additionally, as we explained in a recent Intel article, its increased CapEx expansions have also negatively impacted its free cash flow profitability.

But, while we focus on the battles between TSMC and Intel (which is also a TSMC customer), let’s not forget logic and memory leader Samsung. Digitimes reported that foundry Samsung recently telegraphed its plans to overtake TSMC by 2030. Samsung has no doubt given itself more flexibility with its timeline. But, if it plans to knock TSMC off its perch by 2030, doesn’t that also mean it also intends to overtake Intel? Digitimes underlined (edited):

Samsung is actively investing in production capacity and technology to achieve its goal of being the world’s leading system semiconductor manufacturer by 2030. Samsung currently has a total of five wafer foundries located in Gyeonggi Province, South Korea and Austin, Texas. An additional foundry in Pyeongtaek is currently under construction and is expected to be completed in the second half of 2022. Given the continued growth of global wafer foundries, as well as growing demand for 5G and IoT, the global chip shortage should persist. Samsung estimates that its wafer foundry production capacity will double by 2026. However, so far, Samsung’s large investments have yet to be reflected in the business performance of its wafer foundries. (Digits)

Notably, the company is also expected to launch its 3nm gate-all-around process ahead of TSMC’s 3nm production. Samsung is also likely to continue investing in ASML’s EUV High-NA machines to help them achieve its goal of overtaking TSMC.

So which company will be one of the main beneficiaries of the battle between TSMC, Intel and Samsung? ASML will be happy to collect orders for each of them, with the 5200 model costing 300 million euros each, twice the amount of current EUV machines.

ASML Stock is Buy It Now

We shared earlier that ASML stock’s EBITDA EV/NTM is back to its 3-year average. We believe that several age-old drivers will continue to support its growth, coupled with the battle between the three leading foundries. Additionally, the stock has also returned to our implied fair value zone.

Additionally, Morgan Stanley also weighed in (edited): “ASML is the industry leader in EUV lithography technology, and adoption of its machines is a matter of ‘how much’, not ‘if’, being as EUV technology presents a roadmap to downscaling to 3nm and the company’s tools are needed for sustainable secular growth in high-end computing, data centers and smartphones.”

Additionally, the valuation gap between its stock price and the consensus price target is the largest since the bottom of the COVID-19 bear market. So, wait no longer if you’ve been waiting to add a highly profitable leader (both net income and free cash flow) with an EUV monopoly.

As such, we reiterate our buy rating on ASML shares.