Taking Stock: Semiconductor Slowdown Lingers - InformationWeek
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9/24/2004
04:55 PM
William Schaff
William Schaff
Commentary
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Taking Stock: Semiconductor Slowdown Lingers

We're at an interesting crossroad in this semiconductor cycle.

This hasn't been a good year for semiconductor stocks. The Philadelphia Semiconductor Index is off by almost 28% since peaking in mid-January. The semiconductor industry tends to move in cycles, and the trick is to ascertain where we are in the cycle.

Two weeks ago, Intel kicked off this quarter's round of news, which tends to come before formal earnings announcements, when it finally acknowledged that its growing inventory is a problem. Analysts had already keyed in on that when Intel last reported earnings. During its midquarter update on Sept. 2, Intel lowered its revenue forecast because of slack demand, primarily from consumers. Intel's stock fell 7.3% the next day and has been range-bound between $20 and $21.

Next in line was Texas Instruments, which blamed its sales shortfall on weak demand for mobile phones. TI reduced its expectations for revenue from a range of $3.2 billion to $3.44 billion to a range of $3.1 billion to $3.24 billion. Its customers faced rising inventories and decided to work them off before ordering additional chips. As if to reiterate TI's message, RF Micro Devices revealed two weeks later that it, too, faced excess inventory, specifically from Asian handset manufacturers. Another victim is LSI Logic. It reported seeing a "broad-based build of inventory" that started in the second quarter and apparently continued into the third. LSI Logic sells chips used in consumer electronics such as DVD recorders, but also for data storage, which would point to a slowdown in business spending.

The weakness doesn't appear to be isolated to one segment of the market. PMC-Sierra has underscored that point. The company had been expecting revenue of approximately $89 million but was forced to reduce its estimate to around $72 million. PMC-Sierra blamed changes in demand for DSL lines in Asia, indicating that demand for communications equipment also may be softening.

The numerous warnings about lower-than-expected sales from semiconductor companies also will affect semiconductor capital-equipment firms, which design and manufacture the machines that produce semiconductors. Teradyne already has reduced its revenue forecast, and my guess is that more weak numbers will follow.

Is it time to buy into this downtrodden sector? While the recent spate of bad news means that semiconductor companies will report minimal quarter-over-quarter revenue growth, most still will report year-over-year growth. We're at an interesting crossroad: On one hand, we could see semiconductor sales pick up if the global economy truly gains traction. On the other hand, it wouldn't be unusual for the semiconductor industry to see growth roll over and eventually experience a period of contraction before resuming. Whichever direction the cycle takes, valuations remain too expensive, in my view. But it's worthwhile to keep an eye on these stocks, for there will be a time when their direction becomes clearer.

William Schaff is chief investment officer at Bay Isle Financial LLC, which manages the InformationWeek 100 Stock Index. Reach him at bschaff@bayisle.com. This article is provided for information purposes only and should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any security. Bay Isle has no affiliation with, nor does it receive compensation from, any of the companies mentioned above. Bay Isle's current client portfolios may own publicly traded securities in one or more of these companies at any given time.


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