ASML is crucial to the chip supply chain.
ASML (ASML 0.74%) is probably the best artificial intelligence (AI) company you've never heard of, but without it, none of the amazing, transformative technology that surrounds us would be possible.
ASML is the sole supplier of equipment essential to the semiconductor manufacturing process and enjoys a technology monopoly. This makes it an attractive investment in itself, but is the rest of the company a strong buy?
ASML's machines matter
ASML's extreme ultraviolet (EUV) lithography tools are unique. These tools are essential for placing tiny traces on semiconductor wafers, especially at the nanometer level. Nearly every company that makes cutting-edge chips is an ASML customer, including Taiwan Semiconductor and Intel.
Image of an ASML lithography machine. Image credit: ASML.
These chip makers' products power Apple's iPhones and Nvidia's graphics processing units (GPUs), but none of this would be possible without ASML's machinery, making it a crucial player in the supply chain but one that brings its own challenges.
ASML's home base, the Netherlands (along with the US), doesn't want such advanced machinery to fall into China's hands, so some of ASML's products are banned from being exported to some countries. This reduces the maximum revenue the company can generate, but China remains ASML's main customer, as there are fewer restrictions on less advanced machinery. In the first and second quarters, almost half of ASML's sales came from China, with South Korea being its second-largest customer.
However, ASML's business is highly volatile, so it can change from quarter to quarter. In the second quarter, ASML sold 89 new lithography machines and 11 used ones, bringing in total revenue of €4.76 billion. Including ongoing machine management sales, ASML generated total revenue of €6.24 billion (about $6.97 billion). However, this is down from the €6.9 billion total sales it expects in the second quarter of 2023.
With such a large demand for chips from AI, why are ASML's sales shrinking? ASML's machines are ordered years in advance. Back in early 2023, there was a surplus of chips in the market, so no additional manufacturing capacity was needed. As a result, ASML's sales are sluggish. But management has assured investors that 2024 will be a slow year, but 2025 will be the company's best year ever.
So when assessing whether to buy ASML, you should keep in mind that 2024 metrics will be significantly worse.
Current valuation metrics do not properly value ASML
When looking at ASML's forward price-to-earnings (P/E) or historical price-to-earnings (P/E) ratios, the stock looks overvalued.
ASML PE ratio data from YCharts. PE = Price to Earnings Ratio.
At this price, ASML's stock price would be roughly the same as Nvidia's, except that Nvidia is growing fast while ASML is shrinking for now.
But as I said above, I think investors would be better off using either 2023 historical earnings or 2025 full-year earnings, which would give us the following valuation:
Year EPS P/E ratio 2023 (all-time high) $21.55 42.1 2025 (forecast) $33.44 27.1
Source: YCharts and Yahoo! Finance. EPS = earnings per share. P/E = price-earnings ratio.
That doesn't mean the stock looks as expensive as current indicators suggest. With that in mind, ASML stock doesn't look expensive at all. With the stock down nearly 20% from its all-time high, now may be a great time to initiate a position or add to existing holdings. These innovative technologies wouldn't be possible without ASML, and with the chip industry poised for significant growth in the future, ASML is poised to shine.
Keithen Drury has invested in Taiwan Semiconductor Manufacturing. The Motley Fool has invested in and recommends ASML, Apple, Nvidia, and Taiwan Semiconductor Manufacturing. The Motley Fool recommends Intel and recommends shorting Intel's November 2024 $24 call options. The Motley Fool has a disclosure policy.
