Semi Plays for the Internet of Things - Industry Outlook

The Semiconductor Industry serves as a driver, enabler and indicator of technological progress. Developments in the industry determine the way we work, transport ourselves, communicate, entertain ourselves and respond to our environment. The PCs we work on, the cars we drive, the phones we communicate with, the electronic gadgets on which we watch movies, listen to music and play games, and the planes and weapons used to transport or protect us use semiconductor devices.

As environmental issues have become more of a concern today, semiconductor devices are being made to reduce power consumption, reduce heat dissipation, capture solar energy, create more efficient lighting solutions and so forth.

The past decade has seen big changes in the industry, with most players streamlining operations and transferring more routine production to low-cost locations. This led to the development of the Asian market, where most memory production and backend operations have shifted.

However, since innovation remains largely within the country, the sector is one of the biggest employers of labor, with a corresponding significant impact on the overall economy.

Semiconductors and the Internet of Things

As one of the leading enablers of technological progress, semiconductors are expected to play a key role in the growing interconnectedness of things. Two factors have driven this change. The first is the advent of the cloud that has made it feasible to store very large amounts of data to be transmitted to and received on wired or wireless devices. The second is the continued reduction in the cost of manufacturing semiconductors that makes it feasible to install them on a range of everyday devices that were previously unconnected.

In its Internet of Things (IoT) 2013 to 2020 Market Analysis report, IDC estimates that spending on IoT technology and services will touch $8.9 trillion by 2020, or a 7.9% CAGR. IDC's estimates continue to rise, given the growing enthusiasm for IoT and its growing prospects. This should generate demand for billions of semiconductors.

Intel Corp INTC has promised to become a leading supplier of components and services for IoT and leading European producers, such as ARM Holdings ARMH, Infineon and STMicroelectronics STM have asked the European Commission to set up research centers dedicated to IoT. Many other players will undoubtedly join the party.

Traditional Markets

The consumer and computing markets remain the most important traditional markets, but because of the gradual convergence of functionalities, it is growing increasingly difficult to identify which devices are computing and with which consumer. Semiconductors are spurring this change, facilitating the convergence.

PC market growth will be moderate in the next few years, more than made up by growth in mobile devices. A lot of the growth in the next few years will come from price-sensitive emerging markets, which is an added negative. Innovation in the mobile segment will be focused on improving functionality and experience by getting semiconductors to operate at higher speeds and by consuming less power.

ARM is a significant beneficiary of the trend favoring mobile computing, since its simpler processor architecture consumes less power. As a result, companies like Qualcomm QCOM, Texas Instruments TXN and others have based their products on ARM cores. Intel appears to have fallen behind in the race, but 2014 could see a reversal in its fortunes.  

At the same time, dumber terminals mean increasing demand for cloud services, which is pushing demand for servers and data centers and thereby helping Intel, which is the dominant player in the segment. While ARM is likely to enter this turf just like Intel is entering mobile, Intel remains very strongly positioned here.

Other than tablets, the consumer electronics market also includes gadgets like LCD TVs, Blu-ray players and smartphones.

The Consumer Electronics Association ("CEA") expects U.S. consumer electronics sales to be up 2.4% this year, following a sharp drop-off in 2013. The CEA expects global spending on technology to decline 1% this year to $1.06 trillion.

However, spending on tablets and smartphones is expected to remain strong at roughly 43% of all tech spending. Smartphone prices will take a tumble however. The new category of smartwatches will do around 1.5 million units. HD TVs, while remaining a very small percentage of total TV units, will grow from 60K units to 485K units.

The wireless infrastructure segment of the communications market has been stronger than the wireline segment in the last few years. This segment is expected to remain consistent with 2013 levels, as transition to 3G and 4G infrastructure continues. Increasing data volumes across the world and infrastructure build-outs to support these volumes and deal with connectivity issues (network congestion, power reliability, privacy and security) will continue to drive semiconductor sales.

In addition, enterprise and data center networks are undergoing a huge change because of greater demand for data storage, security and privacy (cloud computing, IoT). This should generate significant demand for semiconductors over the next few years.

New concepts like software defined networking (SDN) are based on more intelligent network control and are therefore new markets for semiconductors. Spending on smart grids and intelligent metering applications is expected to see particularly strong growth (19% CAGR through 2016 according to IC Insights).

The automotive end-market has been growing in importance, as the consumption of electronic components for safety, infotainment, navigation and fuel efficiency continues to increase. As a result, semiconductors serving this market should grow stronger than the industry over the next few years.

Industrial consumption of semiconductors is linked to GDP growth, which according to the UN economic growth forecast for 2014 is not too exciting. The GDPs of the U.S., Western Europe and Japan are expected to grow 2.5%, 1.5% and 1.5%, respectively.

Emerging economies like Brazil, Russia, India, China and Africa are expected to grow 3%, 2.9%, 5%, 7.5% and 4.7%, respectively. Medical Devices (normally included in this segment), lighting solutions and residential construction markets are likely to be stronger. As a result, semiconductor devices that have enabled increased automation and efficiencies are likely to see modest demand.

The aerospace and defense markets are considerably dependent on government spending and policy making. The commercial aerospace market (which lags an economic downturn or recovery) is looking up. Production increases should be slightly positive for the semiconductor industry this year.

Defense spending remains uncertain, although electronic weaponry, intelligence systems and basic weaponry remain important. So semiconductor manufacturers serving this market likely continue to see mixed results, depending on the customers served.

Component Details

The most significant trends for 2014 include the stabilization in the PC market, continued strong adoption of tablets and smartphones and the emergence of the new category of wearable devices. The strength in these markets and continued innovation within them should lead to strengthening demand for semiconductors through the year. Additionally, channel inventories remain lean overall, which means that strengthening demand will drive sales.

IC Insights estimates that a modest recovery in the PC market will help drive a 3% increase in microprocessor sales for PC/server embedded markets in 2014 after two years of decline. On the other hand, cell phone application processors will grow 19% this year with total microprocessor sales growing 9%.

DRAM supply is likely to be short of demand this year because of its application in mobile devices like tablets and smartphones on the one hand and the limited investment in manufacturing facilities on the other. This is expected to strengthen prices significantly.

NAND demand is expected to remain very strong again this year, but considering the fire at Hynix that diverted some capacity to DRAM, there could be some supply constraints. But NAND manufacturers are gearing up for the second half of the year when there should be some additional capacity as well. So prices may be expected to remain strong this year. SSD demand will also spike, as will its supply.

iSuppli expects the standard logic market to start growing this year and considering the slight recovery in the PC market (which uses the most standard logic), this may be correct. Stronger automotive and industrial sales, which while being much smaller than the PC market, will also continue to push consumption of standard logic components.

Forecast for 2014

According to World Semiconductor Trade Statistics (WSTS) data, there should be positive worldwide semiconductor sales growth of 4.1% in 2014, followed by 3.4% growth in 2015. All products and categories are expected to grow in both years, although wireless and automotive are expected to grow the strongest with consumer and computing staying relatively stable.

Major Players

The major players in the industry may be categorized into chipmakers (OEMs -- whether fabless or otherwise), equipment and material suppliers, and foundries. The market positions described below refer to latest available data.

Chip-makers

According to estimates from IHS iSuppli, Intel and Samsung remained the top two semiconductor suppliers in 2013. Qualcomm retained the third position, followed by Micron, Hynix and Toshiba. Texas Instruments didn't have a very good year, slipping from number four to number seven, and was followed by Broadcom BRCM, STMicroelectronics and Renesas.

At the same time, the industry is capacity constrained, which makes for stronger pricing. Both companies have also increased focus on new technologies like SSDs, which along with integrated security will also enable them to target the enterprise segment.

WEAKNESSES

There are some major weaknesses at the moment, but a company worth highlighting is Cree Inc. CREE. The company is a developer of LED technology, which is a pretty hot market right now. But with LED backlighting becoming more mainstream, competition from several Asian companies like Samsung increased.

Cree was unable to sustain prices and margins, backing off totally into lighting. But here it is up against even more competition from established players like Phillips. So it has to resort to aggressive pricing and heavy discounts, which are impacting its profitability even as revenue increases. Analysts have been lowering estimates for Cree, leading to increased caution about the shares.