AEM Holdings - Supplying the Lockheed Martin of Tomorrow (Part 1)
An Intel proxy that fits the Buffett quote: "It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price."
You may be wondering what I meant by the title of this report - i.e. “Supplying the Lockheed Martin of Tomorrow”. The idea for this title harkens back to the concept of the military industrial complex - which can be described in simple terms as “the relationship between the government, the military, and the businesses that make things for the military”. Basically, it describes the commercial “flywheel” between these three parties - a relationship which is best encapsulated as the sophisticated version of “you scratch my back, I’ll scratch yours”. Now picture all three of them sitting in a circle and commencing mutual back-scratching.
It should come as no surprise then that this relationship has been incredibly profitable for the defence companies participating in this military industrial complex; with two companies in particular serving as the poster children for this unholy alliance - Lockheed Martin and Raytheon. I think the following chart speaks for itself:
The reason behind Lockheed Martin’s meteoric share price performance is apparent - it benefitted from the phenomenon of the military industrial complex, simply by virtue of its outsized significance to the USA’s national strategic interest. In its role as the global police force, the US military is unrivalled in its size and reach - with national defense spending outpacing its next closest competitor by 300%. And given the geopolitical importance of global power projection to maintain the USA’s military hegemony, obviously Lockheed Martin’s shareholders have been generously rewarded as well.
However, in the coming decades, there is a new game of geopolitical power projection in town. Unless you’ve been living under a rock at the bottom of the Mariana Trench, you should have heard about the US-China rivalry for global top dog status by now. And while there are many spheres of influence that both sides aim to wield an advantage over the other, for the purposes of this stock recommendation we are only going to focus on one - Semiconductors.
In the video above, the guests being interviewed (who are experts in the Semiconductor sector) describe the industry as a “geopolitical chess piece” in the coming global conflict between the USA and China for strategic superiority. I won’t go into the weeds in the interest of time (you really should watch it anyway, it’s incredibly insightful), but allow me to dramatically oversimplify the highlights this one-hour long interview for you:
There are only 3 semiconductor foundries capable of manufacturing leading-edge chips (e.g. <5nm) in the entire world today - i.e. TSMC, Samsung and Intel.
The barriers to entry to penetrate this industry are nigh unscalable - due to: 1) the insurmountable upfront CAPEX requirements involved, 2) the unimaginable technical complexity of the sector, and 3) its highly commoditized nature. Hence, the 3 existing players are unlikely to see credible competition for awhile - keep in mind that they’re still accelerating towards higher transistor densities at warp speed, not standing still.
Given how the pandemic has accelerated the global adoption of the digital economy by a decade (e.g. where grandmas now know how to use Zoom on iPads to attend church), the global demand for leading-edge semiconductors has since skyrocketed to a practically unserviceable TAM. There are currently only 3 companies with foundries capable of supplying the entire global demand for leading-edge semiconductors.
With AI, Autonomous driving, IoT, Web3, Blockchain, Smart Cloud, Data Centers, VR/AR and incalculably more internet technologies about to reach industry maturity at the same time, Software has indeed Eaten the World. And the Software layer of the Internet relies on the existence of a robust Hardware layer - i.e. leading-edge semiconductors - to usher in the next Gilded Age 2.0.
Given how the next chapter of global GDP growth hinges on leading-edge semiconductors, having no access to them presents a severe impediment to secular economic growth for any economy. Coincidentally, all 3 of the aforementioned companies are aligned with the West - TSMC in Taiwan, Samsung in South Korea, and Intel in USA.
This means that all three of the above semiconductor companies have now become the strategic equivalent of Lockheed Martin to all Western governments - since the West will likely weaponize their semiconductor foundries for national strategic purposes by keeping the leading-edge chips they produce out of the hands of China in the upcoming global conflict. Hence the description, “geopolitical chess piece” - and why Intel represents the Lockheed Martin of Tomorrow.
The entire Macro backdrop for the semiconductor sector is impressive in both its scale and scope, and I highly recommend giving the above interview a listen to familiarize yourself with the sector’s contribution to the wider geopolitical context. However, if you think that the wider macro situation as described above is complicated - start worrying, because the semiconductor industry itself is even more so.
The reason why I decided to break out this stock report for AEM Holdings (AEM) into two parts is because in order to appreciate the investment case for AEM, we actually need to study two companies - Intel and AEM. The basic thesis here is that if Intel does well, AEM will follow in its footsteps by virtue of being an Intel proxy. Hence, this report is best consumed by dividing it into two parts - Part 1 where we try and peer into Intel’s crystal ball; and Part 2 where we actually do a deep-dive into AEM itself.
In this AEM Part 1 report, I’m largely going to be explaining why Intel is the Lockheed Martin of Tomorrow - and consequently why AEM as a core supplier to Intel (i.e. Intel proxy) can benefit from the rising tide that lifts all boats. Part of the reason why this report is so long is because without understanding the wider Intel story, it’s difficult to see how AEM is a wonderful business. Hence, I’ll need to first need to tell you the Intel story - and then the AEM story will automatically fall into place once you understand its business in Part 2. Strap in - you’re in for a treat.
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