【2024.10】The shining pearl on the crown of the semiconductor industry: How to view the performance of asml holding?

In the high-end chip manufacturing equipment field, there is a company that cannot be bypassed no matter what, and that is $阿斯麦 (ASML.US)$ , this company monopolizes the supply of global EUV lithography equipment, thus becoming the gem on the crown of the entire chip manufacturing equipment industry.

Benefiting from the rapid development of the chip industry and the company's own industry position, ASML Holding's stock price has risen more than 10 times in the past decade, far exceeding the less than two-fold increase in the S&P 500 index during the same period.

The past success secrets of ASML Holding can be found in its performance. On October 16, ASML Holding will release its latest performance. Each time the company releases its performance, it may also mean a good trading or investment opportunity. Prior to this, investors need to understand how to interpret its performance.

So how should we interpret ASML Holding's performance? We can focus on its performance growth, moat, cash flow, and shareholder returns.

1. Performance growth

As a chip supplier, ASML Holding's performance is largely related to the development of the chip industry, which has both cyclical characteristics and long-term growth potential. Therefore, from the perspective of performance growth, ASML Holding can be considered both a growth stock and a cyclical stock.

ASML Holding's growth is mainly reflected in the continuous growth of revenue. ASML Holding's revenue has grown from 5.25 billion euros in 2013 to 27.56 billion euros in 2023, an increase of about 4.2 times in ten years, with a compound annual growth rate of about 18% during this period, and every year during this period has shown growth, without exception.

The cyclical nature of ASML is reflected in the changes in revenue growth and the fluctuations in net profit. From the perspective of revenue growth, in the industry's prosperous period, ASML's revenue usually shows an accelerating growth trend; on the contrary, in the industry's downturn period, its revenue growth tends to decline.

For example, from 2020 to 2021, the chip industry benefited from the online office demand brought by the pandemic, accelerated its expansion, and ASML's revenue also significantly accelerated. By 2022, after inventory accumulation in the chip industry began to decline, ASML's revenue growth also plummeted significantly. By 2023, as the chip industry began to bottom out, ASML's revenue growth also rebounded accordingly.

The cyclical nature of ASML is more prominently reflected in the fluctuations of net profit. In the prosperous year 2021, ASML's net profit growth rate once exceeded 60%; however, by the downturn period in 2022, its net profit directly declined by 4.4% year-on-year.

Therefore, we can observe the changes in ASML's latest revenue growth rate. If the growth rate continues to rise, the industry is in a prosperous cycle, which may also benefit its stock price performance; conversely, it may bring pressure on the stock price.

However, as ASML is positioned at the top of the chip industry chain, the downstream demand explosion will have a certain lag in the transmission of ASML's revenue growth. For example, when most chip design companies experience revenue growth, ASML's revenue in the 2024 Q1-Q2 earnings reports both showed a year-on-year decline, resulting in a short-term big drop in the stock price.

Therefore, we may need to combine the downstream demand situation to further assist in determining the direction of revenue growth. Inventory turnover rate is an important indicator to judge downstream demand. For example, when the inventory turnover rate of chip design companies like NVIDIA begins to climb significantly, it may indicate a strong demand cycle, which could be a positive signal for the revenue growth rate of upstream equipment suppliers like ASML; conversely, when the inventory turnover rate of companies like NVIDIA changes from rise to fall, it may also mean that ASML's revenue growth rate will face a sustained downward turning point.

2. Moat

The long-term competitiveness of a company largely depends on how deep its moat is. The deeper the moat of a company, the greater its competitive barriers, the smaller the competitive pressure, and the more likely it is to become a evergreen tree in the industry.

And ASML's moat may mainly come from its csi leading technology index. Here's a brief introduction. The technology of lithography equipment is mainly divided according to light sources, among which EUV (extreme ultraviolet light source) is currently the most advanced lithography equipment, applicable to advanced semiconductor chip processes below 7nm, while DUV (deep ultraviolet light source) is a relatively mature lithography equipment that can be used in semiconductor processes of 7nm and above.

We know that the lower the chip process, the more advanced the technology. Currently, the most advanced EUV lithography equipment, commercialized and mass-produced by ASML around 2018, is still unique in the world. ASML has therefore brought a monopoly position and a very high market share with its leading technological advantage.

According to Khaveen's data, in 2022, ASML occupied 82.9% of the entire lithography equipment market share, while in the most advanced EUV lithography equipment, as the only provider, the market share is 100%.

So can ASML continue to maintain the moat brought by its technological advantage in the future? In addition to observing changes in the competitive landscape of the lithography equipment market, we can also focus on two indicators of performance.

The first indicator is the research and development cost ratio. ASML's R&D cost ratio has been around 15% over the years, meaning that for every $100 received, $15 is invested in research and development, demonstrating a relatively high level of research and development efforts. This also indicates that ASML has not rested on its laurels, and continuous high-level research and development investment is key to maintaining its technological leadership.

The second indicator is the gross margin. The gross margin to some extent reflects the company's competitive advantage in the industry. The stronger the competitive advantage of a company, the stronger its bargaining power with customers, and the higher the gross margin. In the recent three fiscal years and the 2024 Q1-Q2 fiscal quarter, ASML's gross margin level has been above 50%, compared to around 45% in previous fiscal years, reaching a new height. The trend of ASML's gross margin may also indicate that its competitive advantage and moat are relatively stable so far.

For future performance, we can continue to observe the situation of ASML's R&D cost ratio and gross margin indicators, as this to some extent reflects ASML's determination to maintain technological leadership and enjoy the benefits of technological advantage.

3. Cash flow and shareholder returns

As a producer of semiconductor industry upstream equipment, ASML Holding, unlike TSMC, the foundry enterprise, needs to continuously update capacity and equipment according to the development of chip process technology, and its cash flow situation is relatively healthier. Since 2013, ASML Holding has spent approximately 8.24 billion euros on capital expenditures such as purchasing properties and equipment, accounting for less than 1/4 of the total net profit. During this period, ASML Holding's free cash flow reached 34.75 billion euros, which is basically on par with the net profit.

With a relatively abundant cash flow, ASML Holding also has the ability to carry out substantial shareholder returns. In the U.S. stock market, many listed companies reward shareholders through dividends and buybacks. Among them, dividends are the most direct way to reward shareholders, while buybacks can increase the company's return on net assets and earnings per share, and inject additional liquidity into the market, which can be said to be a win-win situation and is also very popular among shareholders.

Since 2013, ASML Holding has accumulated dividend and net repurchase amounts of 29.39 billion euros, accounting for approximately 83% of the total net profit during the same period, which can be considered quite generous. As for future performance, we can continue to observe whether ASML Holding can maintain its historical steady performance in terms of cash flow and shareholder returns.

Seeing this, you may have some new insights on how to interpret ASML Holding's performance. It is worth mentioning that every time many star companies release their performance, it may represent a rare trading opportunity for different types of investors.

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Conversely, if investors believe that the latest performance of a certain company will not be optimistic and will bring pressure on the short-term stock price, investors may consider short selling, which can be done by considering margin selling or buying put options.

Of course, if investors think that the bullish and bearish direction of a company's performance is unclear, but the stock price may experience significant fluctuations after the performance release, then investors may consider the straddle strategy of buying call and put options to capture potential opportunities.

Finally, to summarize,

In terms of ASML's performance, we can focus on its revenue growth, moat, cash flow, and shareholder returns.

In terms of revenue growth, ASML possesses both growth and cyclical characteristics. We can grasp its cyclical rhythm by observing the changes in revenue growth rate and industry inventory turnover rate.

Regarding its moat, ASML's technological leadership advantage ensures high market share and a secured moat. High research and development expenses are key to expanding its technological leadership advantage, while a higher level of gross margin is a significant manifestation of competitive advantage.

In terms of cash flow and shareholder returns, ASML historically has ample free cash flow and has been relatively generous in returning value to shareholders. We can observe whether it can sustain its solid performance into the future.

Every time a company releases its business performance, it may bring potential trading opportunities. Investors can consider suitable trading varieties based on their personal risk tolerance.