MAY 9, 2003
TECH KNOWLEDGE
By Richard Tortoriello
Chip-Gear Makers: Ready to Rise Again | Cautiously upbeat forecasts and more reasonable valuations have prompted S&P to upgrade a number of outfits
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Back in December, in S&P's 2003 Tech Outlook, we said that in order for us to change our underweight recommendation on semiconductor-equipment stocks, we would have to see signs of a sustainable increase in equipment orders supported by clear signals of growth in electronics end-markets. Or valuations for the stocks would need to fall closer to those seen at the weakest point of an industry cycle.
In the last few weeks, Standard & Poor's has seen modest improvement in semiconductor-industry fundamentals, and we believe better times are coming. Plus, we think valuations have become more reasonable.
Considering the improved conditions, we've upgraded several names in the group. In particular, we like MKS Instruments (MKSI ), Advanced Energy Industries (AEIS ), Photronics (PLAB ), ASM Lithography (ASMI ), Applied Materials (AMAT ), Novellus Systems (NVLS ), and ATMI Inc (ATMI ).
BROAD MIX. On the fundamental side, a number of chipmakers have issued improved forecasts. While the improvement isn't across the board, it is more broad-based than we've seen in a long time, and we believe it's being driven by demand rather than by changes in inventory. Among companies issuing better forecasts, Altera (ALTR ), a maker of programmable logic chips, said sales rose 8% in the March quarter from the December quarter, and it expects another 1% to 4% increase in the June quarter.
Almost half of Altera's sales come from the communications market, and the rest come from a broad variety of other markets. Texas Instruments (TXN ), which also gets a large portion of its sales from communications chips, expects sales to rise 7% sequentially in the June quarter, following a 2% rise in the March quarter.
Cypress Semiconductor (CY ), which supplies memory and nonmemory chips to a broad mix of markets, sees sales rising 10% in the June quarter from the previous quarter, following a 4% increase in the March quarter. International Rectifier (IRF ), a provider of power semiconductors, expects a 4% to 8% sequential rise in June-quarter sales, following a 2% rise in the March quarter.
WIRELESS CHARGE. Taiwan Semiconductor (TSM ), the world's largest contract chipmaker, expects sequential sales growth of 20% in the June quarter, following a 2.8% decrease in the March quarter. In addition, Intel (INTC ), Samsung, and Taiwan Semiconductor -- the three largest chipmakers based on this year's budgeted capital spending -- have reaffirmed their 2003 budgets.
We at S&P expect semiconductor sales to rise between 10% and 15% this year, led by growth in wireless-communications chips. In 2004, we expect stronger growth, based on our expectation of modest economic improvement, thanks to increased consumer confidence, and a recovery in information-technology spending. A large number of PCs purchased by corporations in 1998 and 1999 are nearing obsolescence. Although corporations are stretching the use of older computers to four years and even five years, we believe a replacement cycle will begin in 2004.
We forecast that semiconductor-equipment sales will rise by 5% to 10% in 2003, with increases coming largely from memory-chip makers, which are aggressively moving to next-generation 300-millimeter (mm) wafer sizes and 110-nanometer (nm, or 1 billionth of a meter) device sizes, and from chipmakers in Japan that have restructured operations and are beginning to buy new chipmaking gear after two years of severe underinvestment.
TROUGH MEASURE. Wafer-fab capacity utilization should gradually increase to the mid- to high-80% range by yearend, from 82% in the fourth quarter of 2002. Utilization of leading-edge (150nm and lower) production lines has been running at 90% for the past year. We expect chip makers to add modestly to capacity in 2004, and buy more equipment to make both 200mm and 300mm wafers. We forecast capital equipment spending to rise by 20% from current depressed levels.
On the valuation side, we at S&P like to compare current price-to-sales ratios to those typically found at the troughs of previous industry cycles. Over the past few cycles, the average low price-to-sales valuations have been between 1 to 2 times (larger-cap companies typically have higher valuations).
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Copyright 2003, by The McGraw-Hill Companies Inc. All rights reserved.
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