Semiconductor 101: The Boom-Bust Cycle
By Frank Dickson
Senior Analyst, Semiconductor Industry
electronicnews.com
In the midst of every downturn in our beloved semiconductor industry, we at Cahners In-Stat Group are asked by many newcomers to the industry, "What is the cause of this dreaded boom/bust cycle?" Quite often, there is a tone of bewilderment in their voices. Surely, they contend, the industry that created the information age should be able to solve this apparently simple problem.
To answer the questions regarding the cause of the boom/bust paradox, we need to raise our heads out of the complexity of lithography, SOI and copper interconnects. We need stop worrying about the dominant DRAM architecture. The answer to our question resides in the works of Adam Smith, John Maynard Keynes and Milton Friedman: the answer resides in basic economics.
In essence, semiconductors are commodities. They do not make us feel better about who we are. They do not enhance our social standing. As a result, the most rigid laws on the planet govern semiconductors, the laws of supply and demand.
The laws are fairly straightforward. As the price of an item rises, there are more suppliers willing to produce a product. As the price of an item falls, there are more buyers willing to consume a product. In the end, the forces of supply and demand will balance out and equilibrium will result.
The commodity status of semiconductors does not in itself cause the roller coaster ride that we have come to expect. After all, there are many commodities that do not suffer the same fate of semiconductors. It is the imperfections in the marketplace that take this dubious distinction.
The first major imperfection that causes the industry's boom/bust malaise is the difference in lead-times between demand and supply. In more sedate markets, imbalances in the marketplace are adjusted to. As demand for a product rises, current manufacturers increase their production or new suppliers enter the market. Marketshare is based on efficiencies. As demand declines, suppliers reduce production or suppliers exit the market. A level equilibrium is maintained.
A word of caution needs to be added here. Equilibrium is a word that solicits pictures of calm. However, equilibrium in a market may only exist for a brief second. Markets are dynamic; thus, they are constantly moving. The drive for equilibrium is a constant, on-going and often VERY PAINFUL process.
The semiconductor industry has a different demand/supply model. Demand tends to be very fickle, subject to the whims of the economy, consumer sentiment and the latest killer applications. Acceptable visibility is possible for about 6 to 12 months in the future. Supply on the other hand requires significant planning, capital financing and facility construction and facilitization. Although this process can be condensed significantly, the lead-time to significant capacity is three years. The two-year difference inhibits the ability of the industry to accurately match supply and demand levels so as to make the industry imbalances palatable.
The boom is created when the quantity demanded races upward and quantity supplied tries to chase it. Due to the huge capital investments, manufacturers cannot afford to have idle capacity mothballed, waiting on up-ticks in demand. The result is high prices and huge profits.
The bust occurs when the quantity supplied overruns the quantity demanded and suppliers are unable to exit the capital-intensive market. As long as the prices exceed the incremental (variable) cost of each device, the fabs are forced to run. The result is low prices, ugly losses . . . and layoffs. Thus, the boom/bust cycles perseveres.
Imperfections in the international political economy have aggravated the boom/bust phenomenon. Motivated by the benefits that come from having intellectually intensive industries, countries have made concerted efforts to enter the semiconductor industry, many times at all costs.
The role model for this tactic is Japan. Japan orchestrated the entrance of many Japanese companies to the semiconductor industry. Focusing on memories, the today's epitome of commodity semiconductors, Japanese companies were willing to accept short-term losses in the pursuit of market share. Unwilling or unable to compete with this tactic, many companies, mainly U.S., exited the memory market as a result. U.S. firms dominated the list of top 10 semiconductor companies in 1980. By 1986, Japanese companies dominated this same list. South Korea and Taiwan are more modern day examples of countries utilizing this tactic.
The marketshare imperative tactic is not totally successful; it has a dark ugly side. First, it forces successful companies out of particular markets because they cannot compete with the borrowing power of an entire country. Additionally, stockholders will generally not accept negative returns on their investments. For example, Intel, the pioneer of the SRAM and DRAM, is no longer in those markets.
A second problem with the tactic is that the strategy becomes unbearable. When companies are small, the losses can be buried in government budgets and labeled as long-term investments. When the companies reach a critical mass and revenues are in the billions-of-dollar range, the losses will flow, taking companies on a Dramamine-proof ride that ends in painful restructuring.
Of course, the answer to ending our commodity-induced rides is to switch to making other products once a strategic competency has been created in the manufacturing of semiconductors. The problem with this is that the companies already drove their competitors to focus on this strategy in past years. Now, those companies have a several-year headstart and an intellectual property barrier to entry. Remember Intel-its exit from the memory market has intensified its position in the high-end, high profit portion of the market. Its headstart and its "only the paranoid survive" attitude have given it advantageous position in the market.
In the end, the boom/bust cycles will persevere. It is a reality of the marketplace. There are many actions that can mitigate the swings to a more palatable level, . . . but that is a topic for another article. |
