Despite some concerns about a bubble in the artificial intelligence (AI) sector, AI stocks are climbing back to record highs after the Federal Reserve decided to cut key interest rates.
A benchmark for AI stocks is the VanEck Semiconductor ETFan exchange-traded fund (ETF) that counts Nvidia, Taiwanese semiconductor productionAnd Broadcom as his three largest investments, is up 10% from two weeks ago, but is still down 16% from its July peak.
One AI stock in particular appears oversold, is expected to rebound in sales, and has a wide economic moat thanks to its unique product advantages, all of which makes it an excellent buy for the new year.
I’m talking about ASML (NASDAQ: ASML)the leading manufacturer of lithography systems, machines that use light to make semiconductors.
Image source: Getty Images.
What is ASML?
ASML is a Dutch company that was founded in 1984 as a joint venture between electronics company Philips and Advanced Semiconductor Materials International (ASMI), a manufacturer of chip machines.
After decades of innovation, new product rollouts and acquisitions, ASML is today the clear leader in lithography systems. In 2010, it introduced its first prototype of an extreme ultraviolet (EUV) machine, which uses a shorter wavelength that allows for smaller chip features that make them faster and more powerful.
EUV machines have become the state-of-the-art industry standard for semiconductor manufacturing, but ASML is still the only company producing them. It does have competitors making less advanced deep ultraviolet (DUV) machines.
That gives ASML a wide economic moat, as the EUV machines are very expensive to make and the company has unparalleled intellectual property, a long history of research and development, and significant supplier and customer relationships in the industry. ASML has spent 20 years developing the technology, working with suppliers and partners to do so.
The machines are highly complex, contain about 100,000 parts, and require dozens of freight containers and trucks to transport, as well as three cargo planes. In a typical quarter, ASML sells a small number of these very expensive machines. In the second quarter, it sold 100 lithography systems.
Where ASML stands today
Thanks to its dominant position in the sector, ASML has built a formidable business, generating a turnover of more than 30 billion dollars this year. The company is also very profitable, with an operating margin that has hovered around 30% in recent years.
The company does face challenges, however. The industry is emerging from a cyclical downturn after revenue surged in 2023, and management has said 2024 would be a transition year as it expects strong demand to return in 2025.
In addition, the intensifying tech cold war with China has also had consequences for the company. In response to the American demands, the Dutch government has banned ASML from exporting its most advanced systems to China, which could have consequences for its turnover.
Why the stock is a bargain before 2025
Slow growth in recent quarters, worries about China and concerns about a broader AI bubble have all weighed on the stock since its July peak. ASML has fallen 28% since then.
But looking ahead to 2025, the future looks much brighter. The company expects strong revenue growth next year, pointing to sustained growth in key semiconductor end markets such as green energy, electrification and emerging applications.
In addition, the foundry industry is on the verge of a construction boom as a number of chip companies such as TSMC, Samsung and Intel are planning to open new fabs to accommodate the skyrocketing demand for semiconductors in the AI era. That should ensure a bright future for ASML over the next five years, as it faces no competition in EUV machines.
While earnings are currently suppressed due to the cyclical slowdown, the stock trades at a forward price-to-earnings ratio of just 24 based on 2025 earnings estimates. Given ASML’s competitive advantages and future growth opportunities, the stock appears to be a bargain at that valuation.
Should You Invest $1,000 in ASML Now?
Before buying ASML stock, you should consider the following:
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Jeremy Bowman has positions in Broadcom. The Motley Fool has positions in and recommends ASML, Nvidia, and Taiwan Semiconductor Manufacturing. The Motley Fool recommends Broadcom and Intel and recommends the following options: short November 2024 $24 calls on Intel. The Motley Fool has a disclosure policy.
