The Semiconductor Industry serves as a driver, enabler and indicator of technological progress. Developments in the industry determine the way we work, transport ourselves, communicate, entertain ourselves and respond to our environment. The PCs we work on, the cars we drive, the phones we communicate with, the electronic gadgets on which we watch movies, listen to music and play games on, and the planes and weapons used to transport or protect us use semiconductor devices.
As environmental issues have become more of a concern today, semiconductor devices are being made to reduce power consumption, reduce heat dissipation, capture solar energy, create more efficient lighting solutions and so forth.
The past decade has seen big changes in the industry, with most players streamlining operations and transferring more routine production to low-cost locations. This led to the development of the Asian market, where most memory production and backend operations have shifted.
However, since innovation remains largely within the country, the sector is one of the biggest employers of labor, with a corresponding significant impact on the overall economy.
End Market Perspective
The consumer and computing markets remain the most important, but because of the gradual convergence of functionalities, it is growing increasingly difficult to identify which devices are computing and which consumer. Semiconductors are spurring this change, facilitating the convergence.
PC market growth will be moderate in the next few years, more than made up by growth in mobile devices. A lot of the growth in the next few years will come from price-sensitive emerging markets, which is an added negative. Innovation in the mobile segment depends on the ability of semiconductors to provide greater functionality and better experience at higher speeds and by consuming less power.
ARM Holdings (ARMH) is a significant beneficiary of the trend favoring mobile computing, since its simpler processor architecture consumes less power. As a result, companies like Qualcomm (QCOM), Texas Instruments (TXN) and others have based their products on ARM cores. Intel (INTC) appears to have fallen behind in the race, but its recently-announced Bay Trail processor based on the Silvermont microarchitecture could make up for lost time.
At the same time, dumber terminals mean increasing demand for cloud services, which is pushing demand for servers and data centers and thereby helping Intel, which is the dominant player in the segment. While ARM is likely to enter this turf just like Intel is entering mobile, Intel’s is very strongly positioned here.
Other than tablets, the consumer electronics market also includes gadgets like LCD TVs, Blu-ray players and smartphones.
The Consumer Electronics Association ("CEA") expects U.S. consumer electronics sales to be up 2.4% this year, following a sharp drop-off in 2013. The CEA expects global spending on technology to decline 1% this year to $1.06 trillion.
However, spending on tablets and smartphones is expected to remain strong at roughly 43% of all tech spending. Smartphone prices will take a tumble however. The new category of smartwatches will do around 1.5 million units. HD TVs, while remaining a very small percentage of total TV units, will grow from 60K units to 485K units.
The wireless infrastructure segment of the communications market has been stronger than the wireline segment in the last few years. This segment is expected to remain consistent with 2013 levels, as transition to 3G and 4G infrastructure continues. Increasing data volumes across the world and infrastructure build-outs to support these volumes and deal with connectivity issues (network congestion, power reliability, privacy and security) will continue to drive semiconductor sales.
In addition, enterprise and data center networks are undergoing a huge change because of greater demand for data storage, security and privacy (cloud computing, Internet of Things). This should generate significant demand for semiconductors over the next few years.
New concepts like software defined networking (SDN) are based on more intelligent network control and are therefore new markets for semiconductors. Spending on smart grids and intelligent metering applications is expected to see particularly strong growth (19% CAGR through 2016 according to IC Insights).
The automotive end market has been growing in importance, as the consumption of electronic components for safety, infotainment, navigation and fuel efficiency continues to increase. As a result, semiconductors serving this market should grow stronger than the industry over the next few years.
Industrial consumption of semiconductors is linked to GDP growth, which according to the UN economic growth forecast for 2014 is not too exciting. The GDPs of the U.S., Western Europe and Japan are expected to grow 2.5%, 1.5% and 1.5%, respectively.
Emerging economies like Brazil, Russia, India, China and Africa are expected to grow 3%, 2.9%, 5%, 7.5% and 4.7%, respectively. Medical Devices (normally included in this segment), lighting solutions and residential construction markets are likely to be stronger. As a result, semiconductor devices that have enabled increased automation and efficiencies are likely to see modest demand.
The aerospace and defense markets are considerably dependent on government spending and policy making. The commercial aerospace market (which lags an economic downturn or recovery) is looking up. Production increases should be slightly positive for the semiconductor industry this year.
Defense spending remains uncertain, although electronic weaponry, intelligence systems and basic weaponry remain important. So semiconductor manufacturers serving this market continue to see mixed results, depending on the customers served.
Component Details
The most significant trends for 2014 include the stabilization in the PC market, continued strong adoption of tablets and smartphones and the emergence of the new category of wearable devices. The strength in these markets and continued innovation within them should lead to strengthening demand for semiconductors through the year. Additionally, channel inventories remain lean overall, which means that strengthening demand will drive sales.
IC Insights estimates that a modest recovery in the PC market will help drive a 3% increase in microprocessor sales for PC/server embedded markets in 2014 after two years of decline. On the other hand, cell phone application processors will grow 19% this year with total microprocessor sales growing 9%.
DRAM supply is likely to be short of demand this year because of its application in mobile devices like tablets and smartphones on the one hand and the lack of investment in manufacturing facilities on the other. This is expected to strengthen prices significantly.
NAND demand is expected to remain very strong again this year, but considering the fire at Hynix that diverted some capacity to DRAM, supply constraints could remain in the first half of the year. But NAND manufacturers are gearing up for the second half when there should be some additional capacity as well. So prices may be expected to remain strong this year. SSD demand will also spike, as will its supply.
iSuppli expects the standard logic market to start growing this year and considering the slight recovery in the PC market (which uses the most standard logic), this may be correct. Stronger automotive and industrial sales, which while being much smaller than the PC market, will also continue to push consumption of standard logic components.
Forecast for 2013
According to World Semiconductor Trade Statistics (WSTS) data, there should be positive worldwide semiconductor sales growth of 4.1% in 2014, followed by 3.4% growth in 2015. All products and categories are expected to grow in both years, although wireless and automotive are expected to grow the strongest and consumer and computing relatively stable.
Major Players
The major players in the industry may be categorized into chipmakers (OEMs -- whether fabless or otherwise), equipment and material suppliers and foundries. The market positions described below refer to latest available data.
Chip-makers
According to estimates from IHS iSuppli, Intel and Samsung remained the top two semiconductor suppliers in 2012. Texas Instruments slipped to number four, as Qualcomm jumped from the sixth position in 2011 to the third in 2012.
Toshiba, Renesas, Hynix, STMicroelectronics (STM), Broadcom (BRCM) and Micron Technologies (MU) made up the next few positions with only Hynix and Broadcom advancing slightly. Applied Micro Devices (AMD) dropped to number 12, behind Sony, which advanced two positions.
Foundries
The pureplay Foundry segment has undergone significant changes over the past few years although the top five positions have not changed much, according to research from IC Insights. Taiwan Semiconductor Manufacturing Company (TSM) remains the leader by far, followed by GlobalFoundries and then Taiwan-based United Microelectronics Corp (UMC).
Chinese foundry Semiconductor Manufacturing International Corp (SMI) remains at number four, with specialty foundry TowerJazz (TSEM) in the fifth position. Additionally, Intel and Samsung are strong players with leading edge capabilities. IC Insights says that the pure-play foundries grew 16% in 2013 and will grow another 14% this year to touch $41.2 billion.
Equipment Makers
Increased investment in capital equipment bodes well for equipment suppliers this year. SEMI data shows strong positive growth across most geographies, leading to a 23.2% increase in sales.
Gartner estimates that Applied Materials (AMAT) regained the number one position in 2012 driven by stronger demand for its deposition and process control products. ASML Holdings (ASML), which had taken the lead in 2011 as a result of increased demand for EUV tools moved back into the second position. KLA-Tencor (KLAC) occupied the fifth position.
The semiconductor industry is made up of 11 sub-sectors within the Technology sector, which is one of the 16 broad Zacks sectors. The following table seeks to explain the position of companies in the semiconductor market in the context of the Zacks Industry Rank.
We rank the 264 industries across the 16 Zacks sectors based on the earnings outlook and fundamental strength of the constituent companies in each industry.
The outlook for industries positioned #88 or lower is 'Positive,' between #89 and #176 is 'Neutral' and #177 and higher is 'Negative.'
As indicated in the table above, the first 6 semiconductor segments are positive, the next 4 are neutral, while the last one is negative.
So it is not surprising that the average rank of stocks is below 3.00 for most of the segments [Note: Zacks Rank #1 for individual stocks denotes Strong Buy, #2 is Buy, #3 means Hold, #4 Sell and #5 Strong Sell].
Earnings Trends
The broader Technology sector, of which Semiconductors constitute a part, appears to be stable. Both the revenue beat ratio of 84.2% and earnings beat ratio of 84.2% are solid (so far). The sector performed significantly better than the S&P 500 on both counts.
Total earnings for the sector were up 17.2% year over year, compared to an increase of 5.9% in the third quarter of 2013. Total revenues were up 2.6% from last year compared to a 3.2% increase in the third quarter.
The Technology sector is expected to be up 9.7% in 2014 and 10.8% in 2015.
OPPORTUNITIES
As evident from the above discussion, companies like International Rectifier (IRF), Power Integrations (POWI), Spansion (CODE), Skyworks Solutions (SWKS) and Micron (MU) represent good investments.
WEAKNESSES
There are hardly any weaknesses in the industry at present, but investors may want to avoid companies like ARM Holdings (ARMH) or Triquint (TQNT) that may not be too lucrative in the near term.