Taiwan Semiconductor Manufacturing Company Limited (NYSE:TSM) Q1 2023 Earnings Call Transcript April 20, 2023
Taiwan Semiconductor Manufacturing Company Limited beats earnings expectations. Reported EPS is $1.31, expectations were $1.2.
Jeff Su Good afternoon, everyone, and welcome to TSMC’s First Quarter 2023 Earnings Conference Call. This is Jeff Su, TSMC’s Director of Investor Relations and your host for today.TSMC is hosting our earnings conference call via live audio webcast through the company’s website at www.tsmc.com, where you can also download the earnings release materials. [Operator Instructions]. The format for today’s event will be as follows: first, TSMC’s Vice President and CFO, Mr. Wendell Huang, will summarize our operations in the first quarter 2023, followed by our guidance for the second quarter 2023. Afterwards, Mr. Huang, and TSMC’s CEO, Dr. C.C. Wei, will jointly provide the company’s key messages. Then we will open the line for questions and answers.
As usual, I would like to remind everybody that today’s discussions may contain forward-looking statements that are subject to significant risks and uncertainties, which could cause actual results to differ materially from those contained in the forward-looking statements. Please refer to the safe harbor notice that appears in our press release. And now I would like to turn the call over to TSMC’s CFO, Mr. Wendell Huang, for the summary of operations and the current quarter guidance.Wendell Huang Thank you, Jeff. Good afternoon, everyone. Thank you for joining us today. My presentation will start with the financial highlights for the first quarter 2023. After that, I will provide the guidance for the second quarter 2023. First quarter revenue decreased 18.7% sequentially in NT or 16.1% in U.S. dollar as our first quarter business was impacted by weakening macroeconomic conditions and softening end market demand, which led customers to adjust their demand accordingly.
Gross margin decreased 5.9 percentage points sequentially to 56.3%, mainly reflecting lower capacity utilization and a less favorable foreign exchange rate, partially offset by a more stringent cost controls. Total operating expenses accounted for 10.8% of net revenue, which is lower than the 12% implied in our first quarter guidance mainly due to stringent expense control and lower employee profit sharing. Operating margin was 45.5%, down 6.5 percentage points from the previous quarter. Overall, our first quarter EPS was TWD 7.98 and ROE was 27.5%. Now let’s move on to revenue by technology. 5-nanometer process technology contributed 31% of wafer revenue in the first quarter, while 7-nanometer accounted for 20%. Advanced Technologies, defined as 7-nanometer and below, accounted for 51% of wafer revenue.
Moving on to revenue contribution by platform. HPC declined 14% quarter-over-quarter and accounted for 44% of our first quarter revenue. Smartphone declined 27% to account for 34%. IoT declined 19% to account for 9%. Automotive increased 5% to account for 7% and DCE decreased 5% to account for 2%. Moving on to the balance sheet. We ended the first quarter with cash and marketable securities of TWD 1.59 trillion or USD 52 billion. On the liability side, current liabilities decreased by TWD 71 billion, mainly due to the decrease of TWD 65 billion in accounts payable. On financial ratio, accounts receivable turnover days decreased 2 days to 34 days, while days of inventory increased 3 days to 96 days. Regarding cash flow and CapEx. During the first quarter, we generated about TWD 385 billion in cash from operations, spent TWD 302 billion in CapEx and distributed TWD 71 billion for second quarter 2022 cash dividend.
Overall, our cash balance increased TWD 42 billion to TWD 1.39 trillion at the end of the quarter. In U.S. dollar terms, our first quarter capital expenditures totaled $9.94 billion. I have finished my financial summary. Now let’s turn to our current quarter guidance. We expect our business in the second quarter to continue to be impacted by customers’ further inventory adjustment. Based on the current business outlook, we expect our second quarter revenue to be between to USD 15.2 billion and USD 16 billion, which represents a 6.7% sequential decline at the midpoint. Based on the exchange rate assumption of USD 1 to TWD 30.4, gross margin is expected to be between 52% and 54%, operating margin between 39.5% and 41.5%. This concludes my financial presentation.
Now let me turn to our key messages. I will start by making some comments on our first quarter ’23 and second quarter ’23 profitability. Compared to fourth quarter, our first quarter gross margin decreased by 590 basis points sequentially to 56.3% primarily due to a lower capacity utilization. Compared to our first quarter guidance, our actual gross margin exceeded the high end of the range provided 3 months ago, by 80 basis points, mainly due to more stringent cost control efforts. We have just guided our second quarter gross margin to be 53% at the midpoint mainly due to a lower capacity utilization rate and higher electricity costs in Taiwan. After last year’s electricity price increase of 15% in the second half of 2022, TSMC’s electricity price in Taiwan has increased by another 17% starting April 1 this year.
This is expected to take out 60 basis points from our second quarter gross margin. We expect the impact from higher electricity costs to continue throughout the second half of this year and dilute our full year gross margin by about 50 basis points. In 2023, our gross margin faces challenges from lower capacity utilization due to semiconductor cyclicality, the ramp-up of N3, overseas fab expansion and inflationary costs, including higher utility costs in Taiwan. To manage our profitability in 2023, we will work diligently on internal cost improvement efforts while continuing to sell our value. Excluding the impact of foreign exchange rate, which we have no control over, we continue to forecast a long-term gross margin of 53% and higher is achievable.
Next, let me talk about 2023 capital budget. Every year, our CapEx is spent in anticipation of the growth that will follow in future years. As I’ve stated before, given the near-term uncertainties, we continue to manage our business prudently and tighten up our capital spending where appropriate. That said, our commitment to support customers’ structural growth remains unchanged, and our disciplined CapEx and capacity planning remains based on the long-term market demand profile. Thus we expect our 2023 capital budget to be between USD 32 billion and USD 36 billion. With this level of CapEx spending in 2023, we reiterate that TSMC remains committed to a sustainable and steadily increasing cash dividend on both an annual and quarterly basis.
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We will continue to work closely with our customers to plan our long-term capacity and invest in leading edge, and specialty technologies to support their growth while delivering profitable growth to our shareholders. Now let me turn the microphone over to C.C.C. C. Wei Thank you, Wendell. Good afternoon, everyone. First, let me start with our near-term demand and inventory. 3 months ago, we said we expect fabless semiconductor inventory to start gradually reducing 4Q 2022 and we forecast a sharper reduction throughout the first half of 2023. However, due to weakening macroeconomic conditions and softening end market demand fabless semiconductor inventory continued to increase in the fourth quarter and exited 2022 at a much higher level than we expected.
In addition, the recovery in end market demand from channels reopening is also lower than our expectation. Therefore, the fabless semiconductor inventory adjustment in first half ’23 is taking longer than our prior expectation. It may extend into third quarter this year before rebalancing to a healthier level. For the full year of 2023, we do our forecast for the semiconductor market, excluding memory, to decline mid-single-digit percent while foundry industry is forecast to decline high single-digit percent. We now expect our full year 2023 revenue to decline low to mid-single-digit percent in U.S. dollar terms and our business to do better than both semiconductor ex memory and foundry industries, supported by our strong technology leadership and differentiation.
We concluded our first quarter with revenue of USD 6.7 billion, which is towards the low end of our guidance range, provided in U.S. dollar terms. Moving into second quarter 2023, we expect our business to continue to be impacted by customers for the inventory adjustment. We now expect our revenue in the first half of 2023 to decline by about 10% over the same period last year in U.S. dollar terms as compared to mid- to high single-digit percent decline previously. Having said that, we believe we are passing through the bottom of the cycle of TSMC business in the second quarter. While we forecast only a gradual recovery, for the semiconductor ex memory industry in second half 2023, TSMC’s business in the second half of this year is expected to be stronger than the first half, supported by customers’ new product launches.
Next, let me talk about our N3 and N3E status. Our 3-nanometer technology is the first in the semiconductor industry to high-volume production with good yield. As our customers’ demand for N3 exceeds our ability to supply, we expect N3 to be fully utilized in 2023 supported by both HPC and smartphone applications. Sizable N3 revenue contribution is expected to start in third quarter and N3 will contribute mid-single-digit percentage of our total wafer revenue in 2023. N3 will further extend our N3 family with enhanced performance, power and yield and offer complete platform support for both HPC and smartphone applications. N3E has passed the qualification and achieve performance and yield targets and volume production is scheduled for second half ’23.
Despite the ongoing inventory correction, we continue to observe a high level of customer engagement at both N3 and N3E with a number of tape-outs more than 2x that of N5 in the first and second half year — in the second year, I’m sorry. Our 3-nanometer technology is the most advanced semiconductor technology in both PPA and transistor technology. Thus we expect customers a strong multi-yield demand for our N3 technologies and are confident that our 3-nanometer family will be another large and long-lasting node for TSMC. Now I will talk about our N2 status. Our N2 technology development is progressing well and on track for volume production in 2025. Our N2 top neurosis transistor structure to provide our customers with the best performance, cost and technology maturity.
Our nanosheet technology has demonstrated excellent power efficiency and our N2 deliver full node performance and power benefits to address the increasing need for energy-efficient computing. At N2, we are observing a high level of customer interest and engagement from both HPC and the smartphone applications. Our 2-nanometer technology will be the most advanced semiconductor technology in the industry in both density and energy efficiency when it is introduced, and will further extend our technology leadership well into the future. Finally, I will talk about TSMC’s global footprint and talent development status. As we have said before, we are expanding our global manufacturing footprint to increase customer trust, expand our future growth potential and reach for more global talents.
In Arizona, despite some challenges in obtaining permits our fourth fab is scheduled to begin production of N4 processing technology in late 2024. In Japan, we are building a specialty technology fab the volume production is scheduled for late 2024. In Europe, we are engaging with customer and partners to evaluate the possibility of building a specialty fab focusing on automotive specific technologies based on the demand from customers and level of government support. In China, we are expanding 28-nanometer in Nanjing as planned to support our customer in China, and we continue to follow all rules and regulation fully. At the same time, we continue to invest in Taiwan and expand our capacity to support our customers’ growth. In Kaohsiung, our fab construction continues, but we have adjusted our previous 28-nanometer expansion plan to now focus on capacity expansion for more advanced nodes, and we will remain flexible going forward.
In terms of talent development, a key to TSMC’s success is adherence to our core value of integrity, commitment, innovation and customer trust and our discipline and spirit of working together as 1 team. In both the U.S. and Japan, we recruiting from the top local colleges and universities and our progress is well on track. We have hired more than 900 US employees today in Arizona and more than 370 in Japan. We also plan to hire more than 6,000 employees in Taiwan in 2023. All of our hirings are to support our future growth potential. In addition to providing extensive training program for new overseas employees, many of them are brought to Taiwan for [indiscernible] experience in our fabs so that they can further their technical skills, while being emerged in TSMC’s operation, environment and culture.
As we expand our global footprint, our priority work continue to be identified, attract and hire talent whose core values and principles are aligned with TSMC’s so that we can establish TSMC culture in all our employees, no matter where we operate. This concludes our key message. Thank you for your attention.Jeff Su Thank you, C.C. This concludes our prepared statements. Before we begin the Q&A session, I would like to remind everybody to please limit your Should you wish to raise your question in Chinese, I will translate it to English before our management answers your question. [Operator Instructions]. Now let’s begin the Q&A session. Operator, can we please proceed with the first caller on the line?
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Question-and-Answer Session
Operator: Yes, Jeff.
The first one to ask a question, Gokul Hariharan from JPMorgan.Gokul Hariharan First of all, can I talk — can I ask a bit about the near-term demand dynamics? Could you talk a little bit about what you’re seeing by segments? Is the inventory correction trend largely similar across HPC, smartphone, IoT and auto? Or are you seeing any different dynamics in these segments, especially auto, you saw some shortage still in the last quarter. And maybe also talk a little bit about 7-nanometer. Previously, we had an expectation, 7-nanometer will start recovering in second half of this year. Do we think 7-nanometer will still be recovering in second half? That’s my first question.Jeff Su Okay. Thank you, Gokul. Let me — please allow me to summarize your first question.
So Gokul’s first question is more focusing on the near-term dynamics. He wants to know basically about the inventory trend across different segments and also the end demand status across the different segments, including auto. And then also, what about particularly for TSMC 7-nanometer status in terms of the utilization recovery.C. C. Wei Okay. Gokul, let me answer the question. We observed the PC and smartphone market continue to be soft at the present time, while automotive demand is holding steady for TSMC and it is showing signs of soften into second half of 2023. I’m talking about automotive. On the other hand, we have recently observed incremental upside in AI-related demand, which helps the ongoing inventory digestion. What is the second question?Jeff Su The second part is on 7-nanometer.
We had really — previously said 7-nanometer utilization is lower. Do we expect this to pick up or recover in the second half?C. C. Wei It will be recovered but slowly. As I said, most of the N6 and N7’s technology loading still in HPC and smartphone. However, looking into the future, some of the specialties such as RF, connectivity, WiFi, all those kind of things will start to build up the loading their demand. And we expect in the long term, 7-nanometers loading will become more healthier. Did I answer the question?Gokul Hariharan Yes. That’s very clear. My second question, I just wanted to get TSMC’s opinion on competitive landscape. Your IDM competitor is getting into foundry. Intel has been claiming that they will be attaining process parity and then process leadership by 2025 and talking about engaging with several fabless companies.
How does TSMC see this competitive threat? And how do you benchmark TSMC N3 and N2, which is coming in 2025 with Intel’s offerings over the next, let’s say, 2 to 3 years? And maybe I think TSMC has not commented about foundry market share for quite some time. So could you talk a little bit about what you see, N3 market share, in the next couple of years with TSMC now that you’re ramping up that node as well.Jeff Su Okay. Thank you, Gokul. Let me summarize your second question. A lot of it is related to the competitive landscape. I think Gokul’s question is specifically in terms of IDM that has been claimed meaning it will achieve process parity in terms of technology with TSMC and absolute process leadership. So he wants to know and they’re also talking about engaging with several large fabless customers.
So Gokul would like to know how do we see or comment on this competitive threat. How do we benchmark our N3 or our N2 process technologies versus this IDMs offerings for the next 2 to 3 years. And lastly, if we have any comment on what market share we believe we can achieve.C. C. Wei That’s a long question. Gokul, this is C.C. Wei again. Let me say that, as usual, we don’t comment on our competitors’ status, but then we emphasize again on our 3-nanometer and 2-nanometer. Our 3-nanometer is the first in the semiconductor industry to high-volume production. And I believe it is the most advanced semiconductor technology in both PPA and transistor technology. And for 2-nanometer technology, that was, again, to be the most advanced semiconductor technology in the industry and when we introduce into mass production.
And this one, we’re fully confident that we will further extend our leadership position well into the future. As for the market share we are very confident that we continue to have a very high market share. And I cannot tell you that the real number, but very high percentage.Gokul Hariharan Okay. Maybe if I ask- thanks C.C. for that, if I ask, is N3 — your expectation that N3 market share will be higher than N5 at the same time based on what you see today?C. C. Wei Very hard to answer your question, but let me say that it’s well very similar in a very high percentage.Jeff Su Okay. Thank you, Gokul. Operator, can we move on to the next participant, please.Operator The next one to ask questions, Bruce Lu from Goldman Sachs.Bruce Lu I want to ask about AI, for the machine learning AI, which management has been saying that, that is a key growth driver.
