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Morning Comments from AG Edwards
By: AG Edwards
8/24/00
Analyst Christopher Chaney made the following comments in conjunction with his revised growth estimates for the semiconductor sector,
from 32% to 40%, along with mentioning his favorite stocks in the sector.
"Four quarters into the recovery, fundamentals within the semiconductor sector remain quite strong. The world economy, especially the
Asia/Pacific, is considerably more healthy than it has been over the past several years. As a result, the sector is experiencing record unit
demand. Global economic growth is forecasted at 3.7% and 3.6% in 2000 and 2001, respectively. The important Asia/Pacific region should
grow greater than 4.0% this year and 3.2% in 2001. We could even see the dismal Japanese economy picking up steam. The latest
forecasts calls for GDP growth of 1.7% in 2000 and 2.0% in 2001. Although we believe global growth will slow slightly in 2001 (especially in
the United States), history shows that unit demand for productivity enhancing components such as semiconductors are generally unaffected
by gradual declines, reacting only to global crises.
2000 FORECAST "We could see 373.3 billion units sold in 2000, 24.5% above 1999s level. Demand should
be strong across all major sectors. Our unit forecast calls for growth of 23.6%, 24.5% and 27.4% in
discretes, optoelectronics and integrated circuits (IC's), respectively. Driving this growth is considerable
demand from the communications sector as well as the booming consumer and portable markets. Average
selling prices (ASPs) should see a moderate increase of roughly 5% in the integrated circuit and discrete
industries, while we expect optoelectronics ASP's rise 16%. Thanks to these price increases, due to supply
constrained markets, sales growth in the semiconductor sector could reach 40% this year.
"Although we believe demand is sufficient to support 40% growth, additional capacity will be needed to reach
this target. According to the Semiconductor Industry Association, capacity utilization reached 95% during the
second quarter of 2000, only slightly above the 94.6% reported during the March quarter. However,
wafer-starts increased 3.3%, sequentially, during the period. Similar increases in wafer starts during the third
and fourth quarters of 2000 should give us the unit count we need to reach our estimate. We believe this is a
reasonable assumption given the sales growth we have witnessed in the semiconductor capital equipment
industry over the past year.
2001 FORECAST "Our model calls for 25% semiconductor sales growth in 2001. Although we have not
forecasted units to grow at 2000's rate, we still expect 20.5% growth, well above sector norms. However,
pricing power should gradually decline throughout the year as additional capacity comes on stream. We
expect to see price increases moderate (especially in the second-half) in all industries except for
optoelectronics. Specifically, the sector should see unit increases of 20.5% and prices rise by approximately
4% during the year. In addition to a richer product mix, it is likely that a continuing broadband build-out will
keep the optoelectronics market supply constrained. ASPs in this market should increase roughly 19%.
"We believe those semiconductor markets that have experienced the greatest sales growth in 2000 will
continue to see above average growth in 2001. More specifically, we would single out those vendors selling
communications related IC's, particularly Programmable Logic, Flash Memory, and Digital Signal Processors and specialty communications
and consumer IC's. Positive rated stocks within our universe that have significant exposure to these markets are Analog Devices (ADI),
Atmel (ATML), Intel (INTC), Microsemi (MSCC), Texas Instruments (TXN) and Xilinx (XLNX).
"Although valuations within the sector are unsustainably high in the long-run (which is typical at this early stage in an expansionary cycle),
we believe multiples will expand in the second-half of 2000 due to our expected seasonal strength. Specifically, we believe consensus growth
estimates for 2000 will rise above 35% in the coming months. In addition, we still expect continued modest upward revisions of analyst
earnings estimates going forward. As we approach late fall, it is likely the market will begin to take note of the slower growth likely in 2001.
As noted above, our growth estimate for the year is 15 percentage points lower (25%) than our estimate for 2000 (nearly 40%).
Semiconductor sector growth of 25% is nothing to sneeze at compared to the 17%-18% long-term average. However, we doubt that today's
high current valuation levels will be sustained through 2001. Profitability will have to rise substantially above our current estimates to justify
higher security prices. This may be a tough task in a slowing market. Capacity additions (pricing) is key."
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