Full Speed Ahead For Chips By Barrons :Tiernan Ray
Sept. 10, 2009
Chip makers are scrambling to meet demand, raising the likelihood for further gains in the sector.
UP UNTIL THIS WEEK, there was little to cheer in the world of computer chips, outside of Intel (INTC). However, a flurry of upgrades from Wall Street analysts and positive preannouncements has provided stronger evidence for a broader recovery in the chip business.
Granted, it may not be a sharp recovery, but this is probably a good time to get into chip company stocks.
Chip makers panicked in the first half of this year. They responded to the recession by building drastically fewer parts than needed for the already low level of electronics demand.
Now, they're scrambling to meet electronics makers' needs and that should lead to a ratcheting up of revenue and profit estimates.
Some of that recovery is already factored into the stocks, with the SPDR Semiconductor exchange traded fund (XSD) rising 76% this year compared to the 14% rise in the S&P 500 and even the SPDR Technology ETF's (XLK) 33% rise.
But that doesn't mean chips don't have more upside. Today's apparently high multiples of 16 to 23 on some semi stocks reflect depressed-profit estimates that will likely be rising fast.
As Barron's columnist Eric Savitz wrote in this past weekend's magazine, the fourth quarter of this year will probably be the first quarter that chip companies can start talking about growth, given that revenue first fell apart in the fourth quarter of last year.
Word of recovery started on Aug. 28 with Intel's increase in its third-quarter revenue and profit outlook. That announcement followed a day after Dell (DELL) beat estimates for its quarterly report and Michael Dell spoke optimistically about PC sales.
Then on Sept. 3, Novellus (NVLS), the second-largest chip equipment maker, raised its third- and fourth-quarter revenue and profit outlook, and said that several metrics were turning less bad, if you will, in electronics markets. The overall semiconductor market's revenue will fall just 16% this year, versus a prior expectation of it being down 18% to 21%, and PC unit shipments may fall just two percent this year versus a prior forecast for a six percent drop.
This week brought raised forecasts from Altera (ALTR) and Microchip (MCHP), and yesterday, Texas Instruments (TXN), one of the largest chip makers after Intel and one that sells across a greater panoply of electronics markets, raised its outlook for the current quarter.
And finally, today brought positive preannouncements from wireless-chip makers RF Micro Devices (RFMD) and Voleterra (VLTR) as well as chip-equipment maker, ASML Holding N.V., which raised its outlook for this quarter by 11% from the view it gave back on July 15.
The industry acted earlier this year as if no one would buy electronics again, and it's now responding quickly in the opposite direction.
The percentage of manufacturing capacity in the chip industry that's actually being used is expected to rise to 88% this quarter from a low of 57% in the first quarter, predicts Bill McClean, head of research firm IC Insights.
"They panicked," in the first and second quarters, says McClean. "It was the sharpest drop ever for the chip industry." Executives at companies such as Taiwan Semiconductor Manufacturing (TSM) were telling people to expect a 30% drop in chip shipments this year, just like back in 2001.
In reality, shipments will probably fall 17%, predicts McClean. They'll rise 15% next year and could climb as much as 20% in 2011. Prices could rise, too, as chips will be in short supply for some time.
Ironically, despite the talk of factory usage, the best stocks to buy are those of companies that can respond the fastest precisely because they don't own factories, but rather outsource production to Taiwan Semi and others. They include Qualcomm (QCOM) and Broadcom (BRCM).
Smaller makers of chips that have limited factory resources, such as cell phone chip maker Skyworks Solutions (SWKS), will probably show upside faster than Texas Instruments or even Intel.
There are some caveats.
Broadpoint/Amtech analyst Doug Freedman writes in a note today that in his talks with chip company executives, "The overall tone ... remains relatively muted and cautious," with executives concerned about the "sustainability" of recent business trends.
That just says that chip makers are still the last to know what happens in their markets. What really matters is that the things the companies can control, namely the rate at which they run their factories, is picking up in order to meet existing demand. And that should drive their profits and stock prices even higher.