While mass layoffs have predominantly characterized tech firms lately, GlobalFoundries (NASDAQ:GFS) is bringing some much-needed positive energy to the sector. Earlier this morning, the semiconductor contract manufacturing and design company inked a deal with automaker General Motors (NYSE:GM). Under the terms of the agreement, GlobalFoundries will earmark production capacity for GM’s key chip supply. In the afternoon session, GFS stock is up roughly 3%. GM stock is up slightly as well.
This deal underscores the framework that President Joe Biden and his administration have set with the CHIPS Act. Indeed, the partnership comes just days after Biden’s State of the Union address, which emphasized the need to bring chip manufacturing back to the United States.
GlobalFoundries’ agreement with GM — which will last for at least three years — cements its expansionary ambitions. “At GF we are committed to working with our customers in new and innovative ways to best address the challenges of today’s global supply chains,” said Dr. Thomas Caulfield, President and CEO of GlobalFoundries. The CEO added:
“GF will expand its production capabilities exclusively for GM’s supply chain, enabling us to strengthen our partnership with the automotive industry and New York State, while further accelerating automotive innovation with U.S.-based manufacturing for a more resilient supply chain.”
To be sure, the benefit doesn’t exclusively favor GFS stock. General Motors and its competitors have learned a terrible lesson about supply-chain disruptions and vulnerabilities because of the pandemic. Under this new deal, GM will secure supply flow of the critical chips undergirding its vehicles.
GFS Stock Rises as Chipmakers Get What They Wanted
Although GM executives may be able to sleep a bit easier following the nightmare that the pandemic imposed, GFS stock may be the biggest winner of this deal. Both GFS and GM stock have produced similarly strong results on a year-to-date (YTD) basis, but GFS has been more stable.
More importantly, semiconductor manufacturers have essentially gotten what they wanted, forcing global automakers to accept a range of concessions. These include “longer order commitments and higher inventories.” Further, key suppliers have begun investing in chip production. Last year, Reuters noted that GM and Stellantis (NYSE:STLA) also said they would “work with chip designers to design components.” The outlet reported:
“Taken together, the changes represent a fundamental shift for the auto industry: higher costs, more hands-on work in chip development and more capital commitment in exchange for better visibility in their chip supplies.”
The main challenge underlying GFS stock and its ilk during the pandemic centered on profitability. While automakers use gobs of chips, they tend to be of the lower-margin variety. Therefore, semiconductor firms were all too happy to oblige the initial production cuts that automakers requested (in fear of a Covid-19 economic apocalypse) as it helped redirect capacities toward higher-margin chips.
For GM and the broader auto retail market, the pandemic imposed a huge impact. Because of supply-chain disruptions, inventory of desirable three-year-old used cars declined. GM inked its production earmarking agreement in part to avoid such imbalances from erupting again.
Why It Matters
Notably, both GFS stock and GM carry optimistic assessments from Wall Street analysts. For the latter, experts rate the automaker as a consensus “moderate buy” with an average price target of $49.10. This implies upside potential of approximately 15%.
Meanwhile, analysts rate GFS stock as a consensus “strong buy.” Currently, the average price target for GlobalFoundries stands at $71.21, implying upside potential of about 10%.
On the date of publication, Josh Enomoto did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.