Europe’s chip darling may fall victim to its hype

ASML’s share price swells when computer chips shrink. It’s been a fairly reliable relationship in recent years, sending the semiconductor equipment manufacturer’s market value to 191 billion euros. Yet the Dutch company may struggle to live up to the resulting puffed up valuation.

The Veldhoven-based group sells lithography machines to chipmakers like Intel and TSMC. These bits of kit, which can cost over 100 million euros each, allow the manufacturers to print tiny designs onto the surface of chips using projected light patterns. ASML’s so-called extreme ultraviolet machines, which are at the vanguard of making semiconductors smaller and faster, helped revenue grow by 18% last year. Chief Executive Peter Wennink is expecting “double-digit” growth this year as well, according to full year results released on Wednesday.

The question is whether that’s enough to satisfy investors’ heady expectations. ASML trades at 38.5 times next year’s earnings, using the median Refinitiv estimate. That’s well above the average of 30 times for European semiconductor peers, and is roughly the same as the valuations of U.S. sector stars like Nvidia and Advanced Micro Devices.

ASML’s multiple could look less heady over time, as its earnings grow. Assume that, by 2025, it warrants a 25 times earnings multiple – the current median for semiconductor groups, according to Refinitiv. To keep his market capitalisation the same as it is now, Wennink would have to increase the company’s earnings at an annual rate of 17%, according to a Breakingviews calculation. That’s a high bar to clear.

A continuing trade war between China and the United States would make Wennink‘s job even harder. Chief Financial Officer Roger Dassen on Wednesday mentioned export controls as a risk. For example, ASML could need to require a licence from the U.S. government to send any parts directly from America to Chinese customer SMIC. China accounted for 18% of sales by shipping destination last year.

ASML’s equipment will continue to play a crucial role in making computer chips faster and smaller. But its valuation may also need to shrink a little. Reuters