ASML Holding (NASDAQ: ASML), the dominant company in ultraviolet lithography equipment used in semiconductor manufacturing, has suffered numerous shocks in recent years. The pandemic has caused long-lasting ripples in global chip demand and supply, impacting ASML customers’ orders for lithography equipment. ASML also faced its own supply constraints and has built more capacity to make more machines available to chip manufacturing customers.
The biggest risk of all, however, was geopolitical – a symptom of the US-China battle for computing power supremacy that became apparent during the “trade war” that began in 2018. The US and the Netherlands (where ASML is based) have banned the sale of ASML’s most advanced lithography equipment, EUV (extreme ultraviolet), since 2019. New restrictions on the also highly advanced but previous generation DUV (deep ultraviolet) machines will also come into effect in 2024.
The geopolitical intrigue shows no signs of abating and ASML shares are down more than 20% since July 2023. So is ASML a ‘buy the dip’ candidate?
China is showing off new technology that is considered impractical
To continue the advance of semiconductor power – and therefore computing power – the chip industry has adopted ASML’s EUV technology. So far, only ASML has produced a machine capable of this, and it costs more than 200 million euros each. It’s a high price tag, but it’s one the industry is willing to accept since making chips with features as small as a few nanometers is even more expensive using DUV machines.
This monopoly position and computer technology’s dependence on increasingly powerful chips have led many investors to bet on ASML’s long-term progress. After all, ASML expects to sell many more lithography machines over the next ten years at increasingly higher price tags.
That’s not to say that making highly advanced chips without EUV is impossible. Although excluded from EUV, Chinese tech giant Huawei – which has landed on the US government’s list of organizations that pose a national security risk several times over the past five years – recently unveiled the Mate 60 Pro smartphone. It houses a very capable processor with N7 manufacturing technology (referring to the number of nanometers in dimension features on the chip size).
Outside of China, manufacturers love it Taiwanese semiconductor manufacturing company And Intel have adopted some EUV (along with DUV) to make N7 and more advanced chips. The Huawei chip, which was thought impossible, appears to have been made without EUV anyway.
Details are scarce, especially from Huawei, but industry engineers believe the chip powering the Mate 60 Pro uses multi-patterning techniques using only DUV. If true, it’s a game changer for China, and it could potentially mean the US will want to place more restrictions on DUV machines that ASML can sell to China.
How dependent is ASML on DUV?
Suffice to say, more restrictions on ASML could hurt the investment thesis in the company. In fact, on September 1, the Dutch government announced restrictions on the sale of ASML’s most advanced DUV equipment (called immersion DUV lithography), which will come into effect on January 1, 2024.
Older DUV equipment is still for sale in China, and Chinese chip makers are gobbling up these machines. As a result of shifting some DUV sales from 2024 to the second half of 2023, ASML management has increased expected sales growth this year from approximately 25% to 30%.
But new DUV restrictions could put a dampener on ASML. Of the €4.5 billion in customer bookings for lithography equipment in the second quarter of 2023, only €1.6 billion was for the most advanced EUV machines. That means that about two-thirds of ASML’s future revenues will still be tied to DUV, as well as services related to those machines. And China accounts for about 20% of ASML’s total revenue, all of which is related to DUV. So, more geopolitical bumps in the road would certainly slow down the company’s growth.
Even after a decline from recent highs, ASML shares trade at a premium of 30 times trailing-twelve-month earnings per share, and 25 times analyst expectations for 2024 earnings. I still think ASML is a top semiconductor stock to buy in the very long term, as chip manufacturing is making a slow but steady transition to EUV, plus lots of DUV sales to China and elsewhere as well. But expect many more bumps in the road as the market tries to come to grips with how US-China relations could further impact ASML’s business.
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Nicholas Rossolillo has positions at ASML. The Motley Fool holds positions in and recommends ASML and Taiwan Semiconductor Manufacturing. The Motley Fool recommends Intel and recommends the following options: Long January 2023 $57.50 Calls on Intel and Long January 2025 $45 Calls on Intel. The Motley Fool has a disclosure policy.
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