Analysis: Taiwan foundries face short-term pain
BY MICHAEL KRAMER
TAIPEI (Reuters) - Taiwan's semiconductor foundries once seemed capable of making handsome profits no matter what type of microchip came in or out of fashion, but now appear to be running out of luck -- at least in the near term.
Foundries, which build chips to client specifications, kept their ever-expanding production lines running at full throttle this year, despite a slowdown in global personal computer sales, by courting communications and consumer product clients.
But communications demand turned out to be less than expected due to weaker mobile phone sales, and last week the world's biggest foundry, Taiwan Semiconductor Manufacturing Co (TSMC), said they might not be quite as busy next year.
``As overheated demand may return to a more normal growth pattern, our capacity utilisation rate may be lower than 100 percent in the first quarter of next year,'' said J.H. Tzeng, public relations manager for TSMC.
Tzeng was referring to the amount of capacity put to work in actual production.
His was hardly a dire warning, but investors had grown used to TSMC announcing utilisation rates as high as 114 percent of rated capacity, even though the company increased capacity by about 80 percent year-on-year.
MERRILL CUTS RATINGS ON MEDIUM VIEW
On Friday, Merrill Lynch cut intermediate-term ratings for TSMC and its archrival United Microelectronics to ``accumulate'' from ``buy,'' citing expectations of lower utilisation rates at both companies as one of the reasons for the downgrade.
Merrill also downgraded Singapore's Chartered Semiconductor Manufacturing to accumulate from buy, saying the company was expected to face an oversupply early next year.
Chartered, the world's third largest chip foundry, is down more than 60 percent from its highs set earlier this year.
UMC, the world's second-largest foundry, does not routinely release capacity utilisation figures, but said it expects production lines to run at close to full speed next year.
``There is a slowdown in demand in general, but we expect to be basically using all our capacity into first quarter,'' said Alex Hinnawi, director of corporate communications for UMC.
``There was a drop-off in PC-related products but there are still IC (integrated circuit) products in a strong shortage situation,'' he said.
A glance down the supply chain shows UMC holds a slight edge over its top-ranked rival TSMC.
U.S. communications chip-maker Altera, a major TSMC client, said this month that sales failed to meet expectations in October, giving rise to concern that it might be losing market share to competitor Xilinx.
Xilinx, in turn, is one of UMC's big customers.
Concerns about communications chip sales have also been stoked by disappointing third quarter revenues from the world's second biggest mobile phone maker Motorola Inc.
BULLISH LONG-TERM OUTLOOK
But some analysts are convinced there is a bright long-term future for the foundries.
ING Barings analyst Chris Hsieh says the foundry sector should pick up once customers digested a short-term inventory pile-up.
``It's not that demand has suddenly disappeared,'' Hsieh said. ``It's mainly an over-inventory problem and this problem will be solved sooner or later.''
Hsieh also said that average standard prices (ASP) charged to clients showed no signs of loosening. Even if ASP held steady at fourth quarter 2000 levels next year, it would still remain 15-18 percent higher that the beginning of this year.
``I think the downside is fairly limited, but it may not be over,'' Hsieh said.
Despite the intermediate-term downgrades, Dan Heyler, technology analyst at Merrill Lynch, has kept ``buy'' ratings for TSMC and UMC over the long term, and said higher prices would help foundries meet earnings targets.
VALUATIONS BELOW 1998 TROUGH
TSMC is down 49 percent from its 2000 intraday high of T$173.44 ($5.35), while UMC has fallen 53 percent from its high of T$106.67, partly due to domestic political jitters.
TSMC ended Monday at T$88, down T$6, while UMC finished the day down T$3.5 at T$50.50.
By comparison, Taiwan's electronics subindex is down 56 percent while the benchmark TAIEX index is off 53 percent this year.
Both companies are trading at valuations below 1998 levels, the trough of the last semiconductor cycle, and could well attract interest from long-term investors, said Neal Stovicek, head of research at National Securities.
``Pension funds and insurance companies could accumulate for the long term at impressive valuations, because they pay less attention to political factors,'' he said.
Stovicek believes the foundry business will pick up by the second half of next year, and TSMC will be well-positioned to take advantage of the rebound because it has been quick to adopt 12-inch silicon wafers.
Twelve-inch wafers allow manufacturers to etch more microchips per wafer than the current eight-inch standard.
``We are optimistic about the 12-inch fab coming on line,'' Stovicek said, referring to TSMC's 12th wafer fabrication plant, which is due to begin production in late 2001.
``In the short term, it will be a trader's market,'' he said, forecasting volatile range-trade till the foundry sector shows clear signs of an upturn.
MSCI CHANGES COULD HELP UMC
Industry fundamentals aside, UMC could get a boost if Morgan Stanley Capital International (MSCI) reweights its closely watched indices to reflect ``free float,'' or the proportion of a company's shares that are in public hands.
While TSMC is Taiwan's biggest capitalised stock, only 55 percent of its shares float freely, while UMC's free float is 80 percent, said Stovicek.
According to National's calculations, that would bring UMC's weighting in the MSCI Taiwan index to 15 percent from 12 percent, but lower TSMC's weighting from 21.3 percent to 20 percent.
MSCI indices are a key ingredient for fund manager's weighting formulas, and MSCI is due to decide on the free-float issue by the end of the year. |
