A Market View Of The Semiconductor Industry

The U.S. semiconductor industry is doing well. It holds upwards of a 40% share of the world market, Japan has a comparable amount, and Europe and the other Asia-Pacific countries have the rest. Despite growing competition from Asia the U.S. companies are generally robust.

Components & Equipment Market Segments
The semiconductor industry divides into two, broad market segments. Components (COMP) are typically sold to OEMs for integration into larger systems, and equipment (EQUIP) is sold to COMP companies for the manufacture of semiconductor components. Intel, which makes microprocessors, is the classic example of a COMP; its devices end up in the computers assembled by most PC makers. In ’96 it did $21 billion in revenue, netted $5.2 billion in income, and delivered $3.82 in earnings per share. As of early October ’97 its stock was selling at $93 per share.

Novellus Systems, Inc. is an example of an EQUIP. It designs chemical vapor deposition systems for use in the manufacture of the semiconductor wafer. Its customer base consists of chip makers such as Motorola, Advanced Micro Devices, and LSI Logic. In ’96 it did $462 million in revenue and produced $94 million in net income. As of early October ’97 its stock was selling at $124 per share. In September ’97 it submitted an application for a secondary offering of 720,000 shares.

A NASDAQ Success
Semiconductors are one of the more successful industries found on the NASDAQ. Over the last 15 years a great deal of company formation has taken place, and now a fair percentage of them appear to have stabilized and matured. In a sampling of 78 semiconductor companies there were 48 COMP and 30 EQUIP. Among the COMP, 8 were on the NYSE, 1 on the AMEX, and the remaining 39 on the NASDAQ. Likewise, among the 30 EQUIP, 1 was on the NYSE and the rest were on the NASDAQ.

Equipment Segment Holding Its Own
Of the companies sampled, total revenues amounted to $48 billion for COMP and $15.5 billion for EQUIP. Total income was $6 billion for COMP and $1.3 billion for EQUIP. That is, the COMP market is 3 times the EQUIP market with nearly 5 times the income. These figures, however, are severely skewed by the dominance of Intel in the component segment, which for the sample holds a 43% share of the revenue and a remarkable 87% share of the income. If we eliminate Intel, then the COMP market is 1.7 times the EQUIP market with only 0.6 times the income. This highlights the importance and strength of the equipment segment for the U.S.

Both segments are characterized by solid revenue, reasonable income, and healthy stock prices. Of the 78 companies, 6 COMP and 2 EQUIP generated over $1 billion each in revenue for ’96.

Twenty four of the COMP companies had revenue over $112 million, income over $4.4 million, and stock prices over $21.

EQUIP companies typically are smaller, more profitable, and supporting higher stock prices. Fifteen of the 30 companies had revenue over $94 million, income over $4.4 million (the same as COMP), and stock prices over $35.

Many Companies Actually Make Money
Figures 1 and 2 show the relationship between revenue and income for each of the segments
(companies doing over $1 billion are excluded). They present a generally positive picture of companies in either segment able to turn a profit.

Figures 3 and 4 show the relationship between income and stock price for companies under $1 billion. They reveal the correlation one would expect, that the market responds to those which make a profit.

Market Response To Income & Low Dilution
It’s worth noting that on average, EQUIP companies have share prices 30% higher than those of COMP. This wide variation between the two segments can be
accounted for by the higher net profit margins of the EQUIP companies together with generally less diluted stock positions in the market. EQUIP companies on average show 77% more income than COMP while generating 20% less in revenue. Furthermore, EQUIP companies average a modest 14.6 million tradable shares in the market against 25.7 million for COMP. This represents 76% more stock in play for COMP, which is far in excess of the amount one would expect if the number of shares outstanding were directly proportional to the revenue. For EQUIP in the sample, more income and fewer
tradable shares deliver on average $0.41 in earnings per share compared to $0.12 in earnings for COMP. The better fundamentals of EQUIP then get reflected in higher stock prices.

Is It Sustainable?
The flurry of new chips and the new products using those chips will continue to keep the component segment of the market strong. One industry driver is the globalization and maturation of computer networks and all its associated products. The Internet has given a significant boost to this area. Another driver is the high growth in Asia and Latin America in consumer electronics and computers.

In the equipment segment there will be further erosion of both the U.S. and Japanese market shares as the Asia-Pacific and European countries become more competitive at the low end. However, the equipment market is energized by relatively short lifecycles, which should continue to keep the matured companies busy.

Supplementary Data
The following tables provide numerical averages for 70 companies under $1 billion in revenue and median values for the entire sample of 78 companies.