In this podcast, Motley Fool senior analyst Tim Beyers and host Deidre Woollard discuss:
- The challenges with standing up semiconductor factories in the U.S.
- The different types of chips Taiwan Semiconductor produces and what companies use them.
- Restrictions that impact ASML.
Deidre and Motley Fool analyst Kirsten Guerra explore what solar inverters do and which companies are profiting from this growing niche.
To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our quick-start guide to investing in stocks. A full transcript follows the video.
This video was recorded on July 20, 2023.
Deidre Woollard: The chips are still down in the near term, but a good times coming. Motley Fool Money starts now. Welcome to Motley Fool Money. I'm Deidre Woollard here with Motley Fool Analyst, Tim Beyers. How are you today, Tim?
Tim Beyers: Fully caffeinated, ready to go Deidre.
Deidre Woollard: Love to hear it. I wanted to talk to you today about semiconductors. Kicking off with Taiwan Semi, revenue was down 10%, net income down 23%. But that wasn't a surprise. We've seen all along slow sales for phones, PCs, the other side of that pandemic boom. It seems like there's hope on the horizon though, right?
Tim Beyers: I think so. Let's be clear. This is a cyclical business and there than macro headwinds. In the call, the Taiwan Semiconductor leadership team, particularly CC Wei, the Chief Executive Officer did acknowledge that they are macro headwinds, that they have competition here in North America in particular, for a new fabrication facilities that we're standing up here on US shores. There is the very distinct possibility. It looks like Taiwan Semi is saying that the facilities that they were going to build out in Arizona are at least on hold for the time being. If all of that is true, of course, there's going to be a short-term dip in revenue and profit margin while we adjust to the semiconductor cycle. But Taiwan Semiconductor has been at this for a really long time. They know how to do this. They are investing back into their business. They are investing into newer, smaller process technology. Most importantly Deidre, CC Wei did commit to like despite all of these short-term challenges that we're seeing, because of things like dips in smartphone sales and things like that. They still believe that over the long term, 15-20% compound annual revenue growth for the next several years is still to come. They are not backing away from that target that they made in 2022, Deidre. This is not great at the moment because of just where we are in the semiconductor cycle. But no one should question the long-term health of Taiwan Semiconductor based on these results.
Deidre Woollard: Yeah, absolutely not. You mentioned the issues they're having with building that facility in Arizona. Thought that was interesting. They've got this lack of skilled workers to build the equipment. They have to bring in workers from Taiwan, which is pushing the timeline out for that factory. I think it underlines this broader issue though that I'm thinking about what the semiconductor growth in the US is. The trained workers, not just for building the factories, but for the factories down the road. What are you feeling about the forecast for how fast the US can get up to speed? To me, I start to think maybe it's a little unrealistic. What do you think?
Tim Beyers: Well, I think that's right. I think this is part of the reason that we had the chips legislation from gosh, is it two years ago now, I'm going to get my timeline wrong. I feel like it's a year to two years ago, but that legislation is particularly designed to build up infrastructure that does not presently exist for chip manufacturing here on US shores. That includes to the point you just made Deidre, skilled workforce. A skilled workforce that knows how to construct and work inside fabrication facility, that's very specialized work. You're talking about clean rooms, you're talking about ultraviolet equipment. You're talking about really interesting levels of manufacturing process that we're just not used to here in the United States. We just haven't done it at the scale that they do it in Taiwan. Yes, we do have to bring in that expertise from overseas, but we definitely want to grow it up here in the US as well. Look, there are a really incredible engineering schools in the United States. Let's get some engineering training at those schools here in the US. I think some of the legislation we've seen is aimed to do some of that Deidre. But boy, we have a long way to go and actually build up that skill set.
Deidre Woollard: Yeah, absolutely. There were some legislation recently related to Columbus, Ohio and what they're doing with with training workers there. I think it's going to be an ongoing problem. Well, I want to get a little bit deeper into the weeds with Taiwan Semi, just because this is the biggest chip maker in the world.
Tim Beyers: Sure.
Deidre Woollard: I understand so little of it. But maybe you can help with that because I know there's the different nanometers. Looking at the results, the five nanometer and the seven nanometer right now they're about 53% of the revenue. But then there's the three-nanometer, which rumor has it might be used in the new iPhone coming out, maybe being announced in September. How do we understand this stuff from a very broad explain it to me like I'm five kind of way.
Tim Beyers: Here's the thing. If you were five and if I could get you a ball that if you through it, it would bounce higher and go farther because the amount of bounce that we can pack into that super ball is just getting better. You know what? The seven nanometer ball is pretty good. I can bounce that thing up to the top of the garage. The five nanometer is really awesome because I can bounce that thing up to the chimney. But that three-nanometer, that thing is going into my neighbor's yard. I can start making cats go crazy down the block. Yeah, get me the three-nanometer ball. The point here is that once you start with a lower-scale, smaller scale, what you can do is pack more transistors, more compute power into a smaller format. The smaller the chip, the less energy potentially. You end up using a lot of energy when you have a lot of chips packed together in a tight space that generates heat, and that becomes problematic. But once you get down to smaller scale, you create a much more efficient and particularly a more power efficient chip. But with the same compute dynamics. That's really useful. These are really important. Like you mentioned, the iPhone and the newer iPhones. You absolutely want power-efficient chips that do more and have more compute power in the format of a smartphone, because you want your smartphone to not chew up the battery within 30 minutes. You want it to be very power efficient. You want that chip to be small. We want it to pack a real punch in terms of compute power. But you want it to be extremely power-efficient so that Apple can run ads that say, hey, we have 15 hour battery life or 24 hour battery life on the new iPhone. Those small form factor chips are part of the reason you can get that.
Deidre Woollard: That was a really great explanation. With these different nanometer sizes, is there more complexity to making them as it goes along?
Tim Beyers: There's no question because once you get down to three nanometers and lower, you are talking microscopic upon microscopic types of lithography here, and you are etching onto the smallest of the smallest silicon particles here. It is incredibly complex. This is why fabrication facilities are so complex to build. Its why the particles are so sensitive. You have things like clean rooms. This is really hard stuff to do. The equipment is expensive, the facilities are expensive, and the expertise to run them is incredibly sophisticated. It's hard to get and it's hard to train. Once you get to do it, it really does command a premium. The reason that Taiwan Semiconductor has grown in importance over time is because this stuff is hard and they know how to do it better than anybody else in the world because they've been doing it since the 1980s.
Deidre Woollard: Well, we talked about how important they are for Apple. Another company that they're really important for is Nvidia. Nvidia's ambitious forecasts for AI had galvanized the stock market. None of that happens without Taiwan Semi. On the earnings call, there was a little bit of a question about, is Taiwan Semi giving up too much value in the AI chain? CC Wei, the CEO that you mentioned earlier, he laughed it off. He said, oh, we're happy to see our customers doing so well, if they do well, we do well. Is there a way for them to extract more value from AI?
Tim Beyers: Oh, I'm sure there is, but they shouldn't do it.
Deidre Woollard: Okay. Why?
Tim Beyers: You do not want to get into the business of competing with your customers because you don't want to give somebody else an excuse to say like, you know what, maybe we should band together and start building our own fabrication facilities. Maybe we should do that. You don't want to give somebody an excuse to do that because that's what Intel has been doing for years, and Taiwan Semiconductor started showing the industry like, look, we are Switzerland. This is all we do. We are great at this. You don't have to do anything, just send us your chip designs, do what you do best, and we'll do the other stuff. That has been a great sales pitch for 40-plus years. Like why do you want to screw with that? I get that you might be able to extract some value here and maybe because of really custom Taiwan Semiconductor process, you could build an AI chip that has TSM baked in secret sauce because of the secret sauce of a very private manufacturing process that they could generate and stand up in their own factories. But no, I wouldn't do it. I think the risks are just too much. Here's the thing, when Nvidia needs its chips, and it needs them fast, and it needs to meet demand, guess who gets to charge a premium for moving to the front of the line? TSM gets to do that. They get margin on this. He is right. CC Wei is so right about this. When it's a win-win-win for you and your customer and the overall customer, the profits are going to come and they make plenty of profit. This is a company that's been generating cash flow. I'll put it this way, Deidre, I've been collecting dividends on Taiwan Semiconductor stock since 2006.
Deidre Woollard: Nice.
Tim Beyers: I am very happy to continue to do so. They don't need to do anything in order to keep distributing those dividends to me. Yeah, keep it up. I'm happy.
Deidre Woollard: It's not broke. Don't try to fix it.
Tim Beyers: Exactly.
Deidre Woollard: Let's talk a little bit about ASML. They reported yesterday. The originator of things because they're the Netherlands-based lithography maker. Good quarter for them, 38% increase in profit. They've got that monopoly on the chip-making machines. They are feeling a little bit of the semiconductor slump that we talked about, the cyclical thing. I thought it was interesting on the earnings call that they didn't give guidance for 2024. I think nearly every analyst tried to ask them the question in a slightly different way and the CEO did not budge, which I was like when a CEO is stubborn. How should we interpret that?
Tim Beyers: I think you should interpret it that this is a conservative Dutch company that is not going to try to tell you something that is either untrue. They're just not going to try to fake it, and you know what, I appreciate that. They don't have enough visibility into that far ahead. So they're not going to try to pretend that they do have that visibility. Now what they're saying is that they still have a robust backlog for their extreme ultraviolet lithography machines. They have a very rich backlog that is well above €30 billion. That's not changing, and demand for their machines is also likely not changing. As there are more fabrication facilities stood up around the world, there will continue to be demand for those machines. But there are also some other macroeconomic factors and there are political factors. They did say also that China is a very important market, historically, those EUV machines, which are their most advanced machines. There aren't as many of those going to China anymore. There are import and export restrictions, and that's problematic, that cuts them off at the knees a little bit here and we don't know when that ends. In the meantime, they have some older machines, those deep lithography machines that are still deep ultraviolet, I should say. For some older chips, some larger form factor chips, and you know what? They can sell those into certain customers in China. Yeah, they're not completely cut off. But due to economies, inflation, some of these import restrictions, things are a little bit squishier, and you know what? I appreciate them not guessing when none of us really knows.
Deidre Woollard: Yeah, I think that's true. There is that concern with the EUVs. I guess those ones make the memory chips. What is it that the EUVs do and why is that important?
Tim Beyers: Well, we just talked about the super balls. Those three nanometer super balls, you need those EUV machines to make the three-nanometer super balls. They are what you use for making the most advanced chips. They do the most precise etching onto the smallest form factors. They are just a brilliant design, and up to this point, there's really nothing like them, and so you need them. If you want to compete in areas where Taiwan Semiconductor, for example, is really generating huge amounts of revenue. Making tiny but really powerful chips for smartphones and making tiny but really powerful chips for high-performance systems that drive things like AI, that go into data centers, you need EUV machines. Like I said, that backlog is big, and it's probably only going to get bigger, Deidre?
Deidre Woollard: Yeah, absolutely. Well, thank you for breaking this all down for me today. I really appreciate it.
Tim Beyers: Thanks, Deidre.
Deidre Woollard: It's hard out there. Let's talk solar energy and how we can take advantage of the sun. I sat down with Kirsten Guerra where to break down the world of solar inverters and the two companies dominating the market. You've done some research recently on the world of solar inverters and some of the companies that make them. Let's start with first with what a solar inverter does. Because I know about solar panels, but I know nothing about solar inverters.
Kirsten Guerra: Always happy to talk solar. What's an inverter? Basically, when sunlight reaches us and our solar panels, it arrives in the form of direct current or maybe you've heard of it as DC. But nearly every country's electrical system across the world uses energy in the form of alternating current or AC. An inverter is the component required of every solar array that makes that conversion happen. In a way that's it. It's actually super simple concept. But to complicate things a little bit further, until recent years, what's been most popular are called Central and string inverters. This is where you have a whole group of solar panels. Just like imagine 10-12 solar panels. They all collect that DC energy. Then there's that transported through a wire and that energy moves along to a singular shared inverter, where all of that conversion happens in one place. More popular now for residential and Small Business installations at least are what are called microinverters, which are a lot like what they sound. They're smaller inverters, but there's more of them. They are attached to each individual solar panel. The DC to AC conversion there happens right at the panel level. I'm sure we'll talk more about what that means for the businesses in this space, but that's the basics on what an inverter does.
Deidre Woollard: Cool, thank you. It sounds like if you have the microinverters versus the other inverters, you'd get to tweak things a little more easily. Maybe you get better capacity or things like that.
Kirsten Guerra: So one of the big advantages of that microinverter setup is that you get individualized. You can see into exactly which panels are producing. For example, that's one major thing. If one panel is shaded in a serially wired traditional inverter array, when that one panel is shaded, you're going to see a drastically reduced overall performance from the entire array because it's limited by that singular panel. But when you have microinverters, you get that visibility into the fact that one of those panels is under contributing and that then you can go in and fix that issue and get more from the overall array. Over the long term, you get a lot more out of your array. Even though the costs a little bit more upfront, it's worthwhile in the end.
Deidre Woollard: Makes sense all about bank for your buck. One of the things you refer to in your research was the importance of the installers. There's the gatekeepers and it sounds like they have their preferences, which is an impact on the inverter market. So if they like your product, that's probably really great news. But if they don't or if another company becomes more attractive, is there a risk there?
Kirsten Guerra: Yeah, for sure installers are very key players to understand this market. If you imagine yourself as a homeowner and you're trying to make this decision for solar, you have to realize this is a very low frequency, low familiarity, high commitment type purchase. You really are trusting in the expertise of the installers that are helping you. To get a lay of the land here, companies like Enphase and SolarEdge create the inverters themselves or like a JinkoSolar creates the solar cells and panels. But the installers, like a Sunrun, for example, are actually the people that come into your home or onto your home and they're physically installing those solar systems and they also often have an ongoing maintenance relationship for if anything goes wrong with that system, that's great when they love your product. But when they do, it's really important to, that's an advantage, you really want to remain very focused on maintaining because those relationships are built over very long periods of time Enphase, SolarEdge, they've been working at this. So you have to keep producing at a certain quality level and continuously earn that trust because it can be lost very quickly.
Deidre Woollard: Interesting, let's talk a little bit about the markets because I feel like in solar is California's been the leader biggest market for solar. Part of that is the credits that you get from the household with solar panels, you get the credits back from the utilities. But there's a little thing that's happening here about reforming net metering rates. It's happening in California is starting to happen in other states. How does this impact the solar inverter companies?
Kirsten Guerra: This can be a big concern, especially at least in the short term. When you install a solar array on your home or small business, you think in terms of a payback period, which is like, I have to pay a considerable amount of money upfront, but how long will it take me to recoup all of that cost and energy savings before I start directly benefiting from that array. When a state or a country changes the amount that they will pay those solar owners for the electricity they generate with their solar arrays, which is what we typically call their net metering rate. When they change that as California did this April, that totally changes that equation for payback period in how people decide whether they want to install an array or not. When it changes, it can definitely be a shock to the local solar industry. Especially now when you couple that with high-interest rates, that adds just another financial barrier to considering new installations. But over time, markets adjust when you lower net metering rates, that typically creates less incentive for the homeowner to sell off all their energy back to the grid. But it creates more incentive to add battery storage to the system. For example, that's what has happened in Germany in the past. They lowered net metering rates and as a result, battery attachment rates in Germany today are over 90%.
Deidre Woollard: There's two main players here. You've got SolarEdge and Enphase that you mentioned. What's the core difference between these two?
Kirsten Guerra: Both Enphase and SolarEdge play in that microinverter space I described. Enphase really deals with true microinverters as I described them. SolarEdge, what they sell they call power optimizers, which are also individually placed per panel, but they still rely on aggregating and converting energy with a more centralized string inverter. With the power optimizer out, you still get that visibility into which panels are under contributing and things like that. But the conversion is actually still done in a more centralized place. That does still leave SolarEdge Technology open to a single point of failure. If the inverter itself fails, that's going to be an immediate maintenance issue. Another major difference between these two businesses is that for Enphase, 76% of their revenue comes from the US and for SolarEdge, 36% of their revenue comes from the US. SolarEdge has a far more of an international presence Enphase of course, is trying to push further into the international market. But today, that is a major difference between the two, Enphase is more reliant on the US markets. Then just a similarity between both of the businesses, in addition to the microinverter approach, is that they are also both in backup batteries and EV chargers now. They're both really trying to be the complete home energy management solution in this space.
Deidre Woollard: That's the part I'm really interested in is battery storage because we're recording this and it is really hot out. [laughs] Solar is big, but getting bigger. This battery storage thing, we're having power outages, rolling blackouts, things like that. It's still a really tiny part of these businesses, but how big could it get?
Kirsten Guerra: Yeah, it could really be significant, like I mentioned earlier, that Germany has an attachment rate of 90%, so that's 90% of all home solar installations also have a battery attached as part of that system. Since Enphase and SolarEdge both added batteries to their product lineups, the immediate uptake has been low, but I would expect demand to grow considerably over time, in part due to the incentives of the changes in those metering rates that I mentioned. Like in California, now that they've lowered metering rates considerably, the way that that has manifested in the battery market is that now if you're a California resident and thinking about solar, from before your expected payback rate to install solar has nearly tripled. But if you attach a battery as part of your system and said the expected payback period only doubles. Now, obviously that's still a big change. It's why there's been a slowdown in new installations for the short-term again, but it is between tripling your payback period and only doubling it. Obviously, one of those is a better opportunity. There is still a strong economic incentive in favor of battery installation over time.
Deidre Woollard: Interesting, yeah, definitely something to watch it. You've been researching Enphase why do you like is this an opportunity as an investment right now?
Kirsten Guerra: For Enphase specifically, all those changes in California have stirred a lot of fear over what this means for the solar market. For Enphase, I have estimated California to be around 25% of their revenues. To be clear, fear is totally founded here. That's a considerable chunk of their revenues that's being called into question. But I think that that fear is very overblown. It's out of proportion. In the short-term yes, this creates a tough market for Enphase. But we really care about the long term here. Another way to think about this is that solar officially became the cheapest source of energy in 2020. To me, that means that with every new catalyst we see in the energy sector, every time something happens to make a region reconsider their energy independence, solar increasingly will become the answer. That's a huge runway for solar.
Deidre Woollard: As always, people on the program may have interest in the stocks they talk about and the Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. I'm Deidre Woollard. Thanks for listening. We'll see you tomorrow.
