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Industry Insights Archives

Industry Insights: (March, 2008)

There are really only two major challenges facing the semiconductor industry - units and prices. Sounds simple? Not really!

The chip industry knows how to predictably drive IC costs down at the pace predicted by Moore's Law, so unlike many other industries, cost is really not the issue at hand.

The issues are units and pricing. First, let's look at chip units in this chart. As I've said for some time, my analysis shows that long-term chip unit growth, which was at 10% per annum for decades, stepped up to 14% in 2002 with the surge in consumer demand.

As you can see, we still appear to be on the accelerated 14% annual growth rate, but since November units have exhibited the seasonal weakness of approximately a 3% month-over-month drop in December and January. The question is whether or not it is just seasonal, or whether the 14% growth rate weakens as the weakening US economy impacts consumer spending? Only time will tell, but certainly the impact of the US economy on global consumer electronics spending is dropping as Asian and European consumers spend a bigger share. After just spending two weeks traveling around Asia, I must admit that the shopping malls over there certainly seemed a lot busier and more vibrant than those here in Silicon Valley.

By all accounts, chip inventories are not out of control, and if we believe the 14% unit growth rate, the industry has not been over-building units. It has over-built capacity in some areas - more about that later. I anxiously await the February and March chip data to see if it bounces back from the seasonal weakness or if we do indeed have a unit slow-down starting.

My other concern is the average chip selling price which continues to show weakness as can be seen in this chart.

There is relentless pressure on pricing with so many products now ending up in consumer hands. Add to this the dislocations which occur when spells of over-capacity cause supply-demand imbalance and we can see the effect. Pricing tries to recover periodically, only to be slapped back down again. Relentless pricing pressure is here to stay.

As for the equipment business, the wafer fab equipment segment held up reasonably well until the memory manufacturers realized they had an over-capacity situation building and needed to slow down on expansion plans. Previously, they had enjoyed some counter-cyclicality between DRAM and NAND. When the DRAM market was weak in '02-'04, they decided to convert old DRAM fabs to make NAND in response to strong demand for portable media. In '05 and '06, this resulted in tight DRAM supply and that market strengthened while NAND pricing crashed by over 65% in just one year. In 2007, the pendulum started swinging again with DRAM supply coming on-stream and prices crashing, while NAND still enjoyed very strong demand and growth. Now, entering 2008, we see NAND demand weakening while DRAM pricing is still at depressing levels - hence the pain being felt by memory manufacturers and their suppliers.

On the logic side, the foundries seem to have gained much better control of their capacity planning and capital spending such that they have not really over-built capacity. The last utilisation report for Q4'07 showed foundries running around 94 percent.

The "back-end" or Assembly/Test segment has been down for over six months, and with this month's 1.09 book-to-bill ratio, we saw some encouraging signs. If units do keep up their annual 14% growth rate, then undoubtedly, this sector will show earlier signs of recovery.

In conclusion, if I look just at the industry, my outlook is for a mild correction followed by another growth period in the second half of 2008. However, the wild card is the US economy and if it suffers a major recession, how it impacts the rest of the global economy. The chip industry is now very dependent on discretionary spending levels. Keep an eye on unit growth - if it remains strong, it will soon pull the industry through this cycle - if it weakens, batten down the hatches for an extended down-cycle.