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.
Semiconductors and the Internet of Things
As one of the leading enablers of technological progress, semiconductors are expected to play a key role in the growing interconnectedness of things. Two factors have driven this change. The first is the advent of the cloud that has made it feasible to store very large amounts of data to be transmitted to and received on wired or wireless devices. The second is the continued reduction in the cost of manufacturing semiconductors that makes it feasible to install them on a range of everyday devices that were previously unconnected.
In its Internet of Things (IoT) 2013 to 2020 Market Analysis report, IDC estimates that spending on IoT technology and services will touch $8.9 trillion by 2020, or a 7.9% CAGR. IDC's estimates continue to rise, given the growing enthusiasm for IoT and its growing prospects. This should generate demand for billions of semiconductors.
Intel Corp ( INTC ) has promised to become a leading supplier of components and services for IoT and leading European producers, such as ARM Holdings ( ARMH ), Infineon and STMicroelectronics ( STM ) have asked the European Commission to set up research centers dedicated to IoT. Many other players will undoubtedly join the party.
The consumer and computing markets remain the biggest traditional markets, 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 at best 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 will continue to pressure margins of component suppliers. Innovation in the mobile segment will be focused on improving functionality and experience by getting semiconductors to operate at higher speeds and by consuming less power.
ARM 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 has fallen behind in the race, but the company is putting up a very determined fight, which could see a reversal in its fortunes.
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 getting ready to enter this turf just like Intel is entering mobile, wresting share from Intel in its stronghold is not likely to be easy.
The Consumer Electronics Association ("CEA") expects U.S. consumer electronics sales to be up 2.0% this year (previous forecast of 2.4% was adjusted due to better-than-expected 2013 growth) and 1.2% in 2015. Unsurprisingly, emerging product categories like 3D printers, health and fitness devices, smart watches, Ultra HD television displays and smart thermostats will see the strongest growth (242%), albeit off a small base. Smartphone revenue (the single largest driver of CE sales) will grow 7% while tablets will see a 3% decline.
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, IoT). 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 is growing increasingly important for semiconductor companies because the consumption of electronic components for safety, infotainment, navigation and fuel efficiency continues to increase. Product cycles in the market tend to be longer, fetching better returns on R&D investments of semiconductor companies. With demand returning in the U.S. and China and even Europe seeing a gradual recovery, companies with automotive exposure like Freescale Semiconductor ( FSL ), Linear Technology ( LLTC ), Maxim Integrated Products ( MXIM ) and Intersil Corp ( ISIL ) are likely to benefit.
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 relatively strong. 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 likely continue to see mixed results, depending on the customers served.
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 limited 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, there could be some supply constraints despite the fact that NAND manufacturers are adding 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 2014
According to World Semiconductor Trade Statistics (WSTS) data, there should be positive worldwide semiconductor sales growth of 6.5% in 2014 (previous 4.1%), followed by 3.3% growth in 2015 (previous 3.4%). Asia, Europe and the Americas will grow 9.3%, 7.9% and 2.1%, respectively. Japan is will be down 1.3%. The SIA didn't provide an end-market wise update. It previously expected growth across markets in both years, although wireless and automotive were expected to grow the strongest with consumer and computing staying relatively stable.
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.
According to estimates from IHS iSuppli, Intel and Samsung remained the top two semiconductor suppliers in 2013. Qualcomm retained the third position, followed by Micron, Hynix and Toshiba. Texas Instruments didn't have a very good year, slipping from number four to number seven, and was followed by Broadcom ( BRCM ), STMicroelectronics and Renesas.
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 Powerchip moving to 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.
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 says that Intel, Taiwan Semiconductor and Samsung will remain the top spenders in the next few years, accounting for half the total spending in 2014. Memory will be the strongest driver through 2018 driven by SSD adoption at the data center and favorable DRAM pricing (this year). Logic (driven by smartphone and ultramobile demand, and FinFET transition over the next few years) will be the second largest driver this year.
Gartner estimates that Applied Materials ( AMAT ) remained the largest equipment maker in 2013 driven by stronger demand for its deposition and process control products. ASML Holdings ( ASML ) retained the second position and was followed by Lam Research ( LRCX ), Tokyo Electron and KLA-Tencor ( KLAC ).
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. To learn more visit: About Zacks Industry Rank .
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 4 semiconductor segments are positive, the next 4 are neutral, while the rest are negative.
The average rank of stocks in each sub-sector is indicated in the last column [Note: Zacks Rank #1 for individual stocks denotes Strong Buy, #2 is Buy, #3 means Hold, #4 Sell and #5 Strong Sell].
The broader Technology sector, of which Semiconductors constitute a part, did quite well in the second quarter. Both the revenue beat ratio of 58.5% and earnings beat ratio of 58.5% were solid. While the revenue beat ratio was similar to the average for the S&P 500, the earnings beat ratio was lower. This is likely because of the increasing competition and corresponding price pressures across the sector as well as the fact that many technology companies are in investment mode.
Total earnings for the sector were up 12.3% year over year, compared to an increase of 4.7% in the first quarter of 2014. Total revenues were up 6.1% from last year compared to a 3.1% increase in the first quarter.
Technology sector earnings are expected to be up 10.8% in 2014 and 12.0% in 2015. Revenues are expected to grow 4.4% and 6.0%, respectively.
Micron will benefit from the growth of mobile devices, both smartphones and tablets. These devices are big consumers of memory (both DRAM and NAND), which increase demand for memory makers. At the same time, the industry is capacity constrained, which makes for stronger pricing. It has also increased focus on new technologies like SSDs, which along with integrated security will enable it to target the enterprise segment.
NVIDIA's prospects are being driven by strong uptake of its Tegra K1 processor. Some of the more significant wins include Hewlett-Packard ( HPQ ) and the largest Chinese mobile device maker Xiaomi. Tegra K1 was also selected to power Google's Project Tango tablet development kit. The company also packs its graphics processing power (along with software) into a product called Tesla that is very popular as an accelerator in high performance computing (HPC) environments. Its arrangement with ARM is potentially a threat to Intel's progress in this segment.
There are some major weaknesses at the moment, but a company worth highlighting is Cree Inc. ( CREE ) The company is a developer of LED technology, which is a pretty hot market right now. But with LED backlighting becoming more mainstream, competition from several Asian companies like Samsung increased.
Cree was unable to sustain prices and margins, backing off totally into lighting. But here it is up against even more competition from established players like Phillips. So it has to resort to aggressive pricing and heavy discounts, which are impacting its profitability even as revenue increases. Analysts have been lowering estimates for Cree leading to increased cautious about the shares.
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