ASML | Cracking the semiconductor code

Welcome to the first episode of Cracking the ASML Code.

In this episode, we delve into the world of ASML, a company so critical to modern technology that major tech giants, and possibly the global economy itself, would feel the impact if it ceased to exist. ASML is the backbone of the semiconductor industry, powering devices we rely on daily with its world-leading lithography machines.

We'll explore why ASML's stock recently took a hit, discuss the industry’s cyclic nature, and tell you what this means for long-term investors.

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Disclaimer:
Nothing in this podcast can be considered financial advice. This is for educational purposes only. We may hold positions in the businesses discussed. Do your own research.

Transcript

Welcome to Episode 1. Cracking the ASML code. A podcast by The Dutch Investors

Imagine a company so essential that the world’s biggest tech giants – and perhaps the global economy itself – would struggle to function without it. That’s ASML. This isn’t just a company that supports tech giants; it’s a backbone of modern technology. If ASML were to disappear, the impact would be dramatic, with ripples across industries worldwide.

In today’s episode, we’re diving deep into the fascinating world of semiconductors to uncover the secrets and mechanics behind this one-of-a-kind company, ASML. Let’s get started!

Chapter 1

On November 14th, ASML's stock took a sharp dive, dropping nearly 20% right after they reported their Q3 results. Why such a big reaction? It mainly boils down to two things: a more cautious outlook from the company and a smaller order book than investors had expected.

Let's break it down a bit further. The semiconductor industry, where ASML is a key player, goes through cycles. It has periods of high demand and growth followed by slower phases where demand can cool off. And if there is one thing investors don’t like, it’s uncertainty, so investors took some chips of the table.

But that’s not all i want to talk about in todays episode. We, The Dutch Investors, stand for long-term investing and while these things do matter, especially in the short-term, the quality of the company, the competitive advantage and price you pay are much more important in the long run. So let’s take a step back and look at some of the fundamentals of ASML and why we believe ASML is such a high-quality company according to our research.

Chapter 2

I would assume most of you listening know what ASML does, or well, sort of does, because who really knows. Even the former CEO recently said that he doesn’t really know all the ins and outs of the machine. So who are we to tell you. But there are a few key things we can tell you about. Or this episode would make no sense…

Anyway, if you’re unfamiliar with ASML, let’s give you the quickest and most simplified version. ASML is the global leader in lithography systems, owning over 90% of the market. What is lithography? Simply put, it’s a process that helps create complex patterns on silicon wafers – a critical step in making computer chips. ASML basically makes the massive bus sized machines, needed to make the chips. ASML’s customers are some of the biggest names in the chip industry, including TSMC, Samsung, Intel, and SK Hynix. Without ASML, these companies wouldn’t be able to make the advanced chips we use in everything from smartphones to laptops.

ASML builds two main types of lithography machines:

The first one is the DUV or Deep Ultra Violet Machines: These are used to create less advanced chips, such as those found in everyday electronics like household appliances, basic smartphones, and older model cars. These chips don’t require the highest level of processing power but are essential for many standard devices.

EUV – Extreme Ultra Violet Machines: These machines can create the world’s most advanced chips, down to a size as tiny as 2-3 nanometers, or a billionth of a meter. To put this in perspective, that’s roughly 50,000 times smaller than the width of a human hair. ASML's lithography machines use laser pulses to vaporize tin into plasma that is 100 times hotter than the sun's surface. This process repeats 50,000 times per second to create tiny transistor patterns on silicon wafers. Think of ASML’s machines as super-precise laser printers that "draw" incredibly tiny circuits on silicon chips, like creating a detailed map at a microscopic level. Each machine costs around $300 million dollars. They need 3 jumbo jets to transport the entire machine to a customer. Yeah, I know, it’s crazy. 

ASML spent about 30 years developing EUV technology, and they’ve completely cornered the market. Competitors like Nikon and Canon tried to develop similar systems but couldn’t match ASML’s technology and ultimately stopped trying.

Even in DUV technology, which is less complex, ASML dominates with around 80% of the market share. To put ASML’s lead into perspective, consider this example: China purchased a DUV system and tried to reverse-engineer it at a major university. And let me tell you, China is extremely good at copying stuff, especially technology. But even with all the parts right in front of them, they couldn’t replicate the machine's function.

Adding to their advancements, ASML has already installed their first High-NA EUV machine, which pushes the boundaries even further. This system can print transistors that are about 1.7 times smaller and achieve nearly three times the density compared to their earlier EUV machines. And, if you think that’s impressive, they’re already developing the next generation – Hyper-NA. They just don’t stop innovating. It’s very impressive.

Chapter 3

Alright. So we’ve talked about the stock price drop, the cyclicality in the semiconductor industry and their impressive lead. But nothing lasts forever. A company like this must have a moat to protect itself from competition and we believe they do.

First of ASML holds over 16.000 patents, making it incredibly difficult to just copy or recreate something. Just think of the China example, since they aren't really concerned with patents at all. Furthermore, its machines are tailored to fit each client’s needs and come with dedicated support and maintenance, which keeps them running smoothly and minimizes downtime. This deep customization and support mean switching from ASML to another provider would be a major, costly change for clients, requiring an overhaul of their operations. So that’s very unlikely.

One key factor in ASML's success is its strong, specialized supplier network. ASML works with over 5,000 suppliers, mainly in the Netherlands and Germany, who create highly specific parts that fit perfectly into ASML's machines. Some suppliers, like Cymer, Trumpf, and Carl Zeiss SMT, are even partly owned by ASML, producing components exclusively for them. For instance, Trumpf makes a CO2 laser for ASML that’s made up of over 450,000 parts. This level of detail and integration is nearly impossible for competitors to match, making it a powerful competitive advantage.

Chapter 4

So, what’s the takeaway from all of this. What should we, as investors, learn from ASML’s story?

1. Well, first of all, when investing in semiconductor stocks, understand the market cycles. The chip industry goes up and down. While there are ups and downs in demand, a cautious forecast doesn’t mean it’s a bad long-term investment. Focus on the big picture.
2. Competitive Edge Matters: ASML’s tech lead, strong patents, and unique partnerships with suppliers make it hard for others to catch up. This protects their business from competition. However, I would like to emphasize that any moat can be broken, even a fortress like ASML today.
3. Innovation matters: ASML, or any tech / semiconductor company has to invest advancing its technology. This is crucial for staying ahead or, perhaps even more important, not falling behind, like Intel is today. In todays tech world, innovation helps secure and keep an edge.

And that wraps up today’s episode! I hope you found our deep dive into ASML as fascinating as I did.

If you’re interested in getting more insights like this and want to save time on research so you can focus on what matters most, head over to thedutchinvestors.com. 

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Thanks for listening and we’ll see you in the next one.