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Full Speed Ahead For Chips By Barrons :Tiernan Ray



September 10, 2009 – Comments (4) | RELATED TICKERS: USD , SWKS

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.

4 Comments – Post Your Own

#1) On September 10, 2009 at 2:41 PM, IBDvalueinvestin (98.56) wrote:

Semiconductor "Super Cycle" Begins In Second Half Of 2010 Spurred On By Netbook Demand From China And India

67 WALL STREET, New York - August 27, 2009 - The Wall Street Transcript has just published its Semiconductors, Semiconductor Equipment, and Software Report offering a timely review of the sector to serious investors and industry executives. This 103 page feature contains expert industry commentary through in-depth interviews with public company CEOs, Equity Analysts and Money Managers. The full issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.

Topics covered: DRAM Industry Reorganization -- Semiconductor Supply Chain Status -- Netbook Growth -- LCD TV Growth -- NAND Pricing and Demand -- Micro-Electro-Mechanical Systems (MEMS) Demand Cycle -- Ultra Low Voltage Processors -- Semiconductor Inventory Aging and Type -- Processor Power Developments

Companies include: Intel (INTC); Micron Technology (MU); Microsemi (MSCC); STEC, Inc. (STEC); National Semiconductor (NSM); Texas Instruments (TXN); Taiwan Semiconductor Manufacturing (TSM); ON Semiconductor (ONNN); Intersil (ISIL); Linear Technology Corporation (LLTC); Monolithic Power Systems (MPWR);Advanced Photonix (API); Waytronx Inc. (WYNX); LTX-Credence (LTXC); Mattson Technology Inc. (MTSN); Oclaro, Inc. (OCLR); Silicon Laboratories (SLAB); Microchip Technology, Inc. (MCHP); Cohu, Inc. (COHU); FSI International, Inc. (FSII); Jaco Electronics (JACO); Cadence Design Systems (CDNS); Synopsys (SNPS); Mentor Graphics (MENT); Magma Design Automation (LAVA)

In the following brief excerpt from just one of the 22 interviews in the 103 page report, industry experts discuss the outlook for the sector and for investors.

Auguste Richard is a Principal and Senior Research Analyst at Piper Jaffray and Co., focusing on the analog and mixed signal semiconductor sector. Prior to joining Piper Jaffray in 2007, he worked in equity research at First Albany Capital, Hambrecht and Quist, Alex. Brown, and Robertson Stephenson and Company. He also spent several years on the buy side as a technology analyst/portfolio manager at EGM Capital. His semiconductor industry experience includes work experience in R and D, manufacturing and marketing at Intel and PMC Sierra. He holds a Bachelor's degree in Physics from the Rochester Institute of Technology and a Master's degree in Physics from Purdue University.

TWST: Gus, what's going on with the numbers we're seeing in the semiconductor space?

Mr. Richard: It's interesting. I think we are on a roller coaster. Why I say that is that if you go back and take a look at the most significant downturn in semiconductors when the dot-com bubble burst, in five quarters units went down 32%. That's pretty bad. In this downturn, units went down 36% in two quarters. And effectively, the only way that that is possible to happen is if you're just taking inventory out of the system, and clearly when we had the financial meltdown last fall, everybody in the supply chain purged inventory, and then what happened is everybody woke up in February and realized they had no components and started to expedite refilling that pipeline. There have been very strong Q2 reports and it looks like a V-shaped recovery. Intel (INTC) was up 12% sequential in Q2. The last time that happened was 1988. They shipped 850,000 microprocessors that quarter. They were one-tenth the size in revenue, they were taking share from mini and mainframe computers and they grew 66% year on year. Clearly, Intel is not that kind of growth company today. That was 21 years ago. It's far more mature, it doesn't move that fast. So again, I think we have one more quarter of this snap-back and we'll likely overshoot, simply because customers want more until they have too much and then they don't want any.

TWST: That's typical, isn't it?

Mr. Richard: It's very typical, but the velocity of the correction is the highest I've ever seen. This is happening very fast, and if you look at end-demand it is likely going to be down 5% to 10% this year. Semiconductor demand fell 36% in units, 35% in revenues in two quarters. So clearly there was an under-build. In the trajectory we are on, if we have the kind of Q3 that is shaping up, the industry is going to be down 10% year over year in units. It is likely that Q4 will be seasonally weaker than normal and actually could even be down. The numbers after this earnings cycle are likely, for Q4, to be wrong and too high. So that's the short term. If you look longer term, the foundries are full. At the leading edge, the memory guys, if they want to stay in the business, are going to have to reinvest in technology, and I think as you get into the second half of next year you are looking at what I would call a super cycle. I say that for two reasons. The first is that there has been underinvestment in semiconductor capital equipment. Effectively over the last 30 years in cap equipment, the average cap ex to revenue has been 25%, and one could argue that there has been wasteful investment and that ratio is too high, so 20% is probably the right number. It basically would match the depreciation cycle of the equipment. So if you go and you take a look, last year cap ex to revenue was 16%, which is a low number; this year it's an even lower number, about 11%. So we're going to have to have some catch-up spending. At the same time, nobody is putting in any new factories, no new 300mm plants. There is plenty of 200mm capacity but not 300mm, and for memory, 200mm is not cost effective and can't be used. In the foundries, customers are migrating from 130nm, which can be done on 200mm wafers to 90nm, 65nm, and 45nm, and there is not enough of that kind of capacity. The foundries will have to start to invest; there are no empty shells, so either you are going to have to convert an 8-inch plant, which could take a year and a half, two years, or build a new one, which would take a year and a half. The industry is going to have a structural shortage of capacity or ability to grow it rapidly. So that really constrains the supply side.

The Wall Street Transcript is a unique service for investors and industry researchers - providing fresh commentary and insight through verbatim interviews with CEOs and research analysts. This 103 page special issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online .

The Wall Street Transcript does not endorse the views of any interviewees nor does it make stock recommendations.

For Information on subscribing to The Wall Street Transcript, please call 800/246-7673

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#2) On September 10, 2009 at 2:44 PM, IBDvalueinvestin (98.56) wrote:

Two articles on both sides of the fence, who is right? Barron's or Wall Street transcript?

Anyway there is material here for the longside and shortside.

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#3) On September 10, 2009 at 2:53 PM, IBDvalueinvestin (98.56) wrote:

Dow Jones Semiconductor index about to break 1,000

Symbol (USD) tracks this index on a 2x basis. So if index goes up 1% then USD goes up 2%

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#4) On September 10, 2009 at 3:05 PM, IBDvalueinvestin (98.56) wrote:

For those that don't know, this index was over 3,000 in the year of 2,000 so its still over 66% below its historic high and has a long climb ahead.

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