Linear's gold mine is unique analog chips
By Dean Takahashi
SJ Mercury News
Posted on Fri, Apr. 08, 2005
Linear Technology, a Milpitas chip maker, was the most profitable company in the Silicon Valley 150 this year.
The secret to Linear's success? The gold mine in the chip industry isn't found in $200 microprocessors.
Rather, it's the $1.40 analog chips like those that regulate voltage in cell phones. These tiny chips, often no bigger than a sliver, must be painstakingly designed by highly skilled analog-chip designers. Linear's specialized chips command higher prices than competitors' products and can be produced cheaply, thus they carry healthy profit margins.
For 23 years, Linear has been a leader in analog chips. Those chips translate sound waves or radio waves into a form that a computer can understand and manipulate. By focusing on this hot market, Linear has made itself one of the most profitable companies in the technology industry.
Just how profitable? Linear's profit as a percentage of sales was 41 percent. Even more stunning, the company's gross profit margin -- net sales minus costs -- was 78.5 percent. By comparison, Intel's gross profit margin was 56 percent while other analog-chip makers came in between 50 percent and 60 percent. When it comes to profitability, Linear beats out rivals such as National Semiconductor, Maxim Integrated Products, Texas Instruments and Analog Devices.
``Consistency is one of the strengths of Linear,'' says Lothar Maier, who took over as CEO from founder Bob Swanson in January. ``We haven't changed our business model at all.''
One of Silicon Valley's early chip pioneers, Swanson ran the analog business at National Semiconductor in the 1970s. But he wanted to build a business that focused exclusively on analog chips, while National Semiconductor was involved in many different markets. He quit to found Linear in 1981.
``My frustration overcame my 14 years of loyalty to National,'' says Swanson, 66, who now serves as Linear's chairman.
It was a good move. The personal-computer revolution was just starting at the time, and some expected the digital age to make analog chips obsolete altogether. But far from disappearing, analog chips grew up to be a $34 billion business that is expected to hit $42.7 billion by 2007, according to the Semiconductor Industry Association.
That represents a faster growth rate than the overall chip business because every new digital device requires analog chips to interact with the real world.
Digital portable music players, for instance, use oodles of analog parts to conserve battery power and brighten screens.
``Analog gets swept along with the digital explosion,'' says Maier. ``It bonds the real world to the digital world.''
Linear's business doesn't seem like rocket science, but it is complex. The company ships more than 7,500 different products to more than 15,000 customers, from car manufacturers to cell phone makers. Linear can manage that diverse catalog of chips because of its engineers' efficiency, according to Maier.
An experienced engineer will visit a customer such as General Motors and anticipate that in a year the company will need, say, a faster version of a chip that the customer is already ordering. The engineer will propose, design and shepherd the project if the customer signs up for it. Apple Computer, for example, will pay a higher price for a chip that makes the sound better in its iPod. That is why Linear has such high profit margins, says Doug Freedman, an analyst at American Technology Research.
Once a company chooses Linear, it generally keeps using its chips for about five years because the cost of designing a new chip into a product is prohibitive. Only when the chip becomes a commodity does Linear stop making it and move on to design something else unique that the customer needs.
Linear President Dave Bell notes that an experienced analog engineer is probably worth 10 inexperienced ones. That's why Maier says the company has no plans to offshore its engineering. Half of its designers work in Silicon Valley and the rest work elsewhere in the United States.
Linear's salaries are on the low side. But the company gives generous stock options and profit-sharing checks to every employee. During the past six months, for instance, profit-sharing payments amounted to 29 percent of pay on average. In some six-month periods, profit-sharing checks hit 60 percent of pay, Maier says. The company also grants lengthy sabbaticals for every five years of work.
During tough times when profits drop, Linear's profit-sharing payments to its employees drop. That lets the company cut costs without resorting to layoffs. The only time Linear has laid off employees was when the chip industry hit its worst-ever downturn in 2001.
While Linear is generous with its employees, its corporate headquarters in Milpitas are spartan. There are almost no paintings on the bland white walls and few decorations of any kind. Maier said the company's workers don't mind that because they know that what Linear doesn't spend on opulent offices, big parties or other amenities goes back into their pockets in the form of profit-sharing.
This largess for employees might seem to run counter to the current trend toward cost cutting. But UBS analyst Tom Thornhill says that cutting back on employee compensation would be like killing the goose that laid the golden egg.
``It's part of the formula for success in that business,'' he said.
Linear also doesn't outsource manufacturing overseas. That's because the company doesn't require the most advanced manufacturing technology to make its analog chips.
``A lot of chip makers spend $1 billion to get $1.5 billion in revenues,'' says Doug Freedman, an analyst at American Technology Research. ``Linear spends $100 million a year on its factories and it generates revenue of $1 billion.''
Moreover, Linear's business isn't as volatile as other chip makers that have to deal with big swings in supply and demand. Since Linear focuses on chips that no one else is making, its customers are captive to some degree. It doesn't have to continuously cut its prices on chips just to retain a customer's business, as makers of commodity chips do.
The company keeps its factories humming at a steady pace, focusing on delivering its chips within four to six weeks, in good times or bad. Because customers know that Linear is reliable in deliveries, those customers aren't as prone to placing panicked orders for huge stockpiles of chips because of volatile pricing or anticipated shortages.
Linear could still be hit by drops in overall demand, but it isn't as likely to get stuck with excess inventory because it has worked with its customers to avoid such problems in the first place.
So even though the chip industry went into a downturn in the second half of 2004, Linear hasn't had to take any inventory write-off charges, and its business has slowed less than its rivals.
Says Swanson: ``Basically, we want to convert silicon into cash.'' |
