Current Issue An Independent Journal Dedicated to the Advancement of Chip - Scale Electronics October 2001 Email the editor

Steve Berry and Sandra Winkler Contributing Editors

To say that the semiconductor industry is currently in a "down cycle" is an understatement.

This is the biggest dip the industry has been through in a very long time. However, the semiconductor industry has had its cycles since its inception. And dips have, thus far, always been followed by an upturn.

Industry Cycles

The existence of cycles or semiregular fluctuations in the growth of semiconductor markets is a fact. The explanation of why these cycles exist is quite another matter. For insight into semiconductor industry cycles, we have called on Clive Jones [cjones3@uswest.net], chief economist for Economic Data Resources (EDR).

Clive points out that most discussions of cycles in semiconductor markets consider shipments in dollar terms, whereas shipments by units yield better insight into the industry's cycles.

The chart shows the semiconductor industry's IC unit shipments split into a basic growth rate and a cyclical growth rate. The total growth rate is the sum of the two lines.

Over the last decade, the basic growth rate of IC shipments has been trending upward, driven by booms in the Internet and in wireless communications. Yet, the health of the industry is threatened by a cyclical component that appears to be amplifying in intensity. What is driving this cyclical component? Clive notes that:

• Electronics markets grow faster than most industries and sectors. Imbalances in supply and demand-or in forward-looking plans for investment-quickly translate into excess inventory or production capacity.

• When markets for semiconductors tighten, as with DRAMs in 1995 or many components in the first half of 2000, "double-booking" develops. Delivery times lengthen, and companies "double their bets," later canceling orders when end-market demand falls off its feverish pace. This practice leaves someone holding the bag.

• The electronics industry has developed a long and complex supply chain. Slight imbalances in supply and demand at each link in the chain are amplified by the tendency for all the imbalances to be in the same direction.

• Innovation is a possible explanation. Moore's Law implies the cost of data processing is cut in half every eighteen months. The added functionality for new IT products can stimulate demand, leading to periodic surges in sales. The pace of innovation over the last decade has been astonishing, which may explain the increasing intensity of the cyclical component.

• In the current downturn, what is undoubtedly a large downward swing in the cyclical component is being intensified by a cut in the basic growth rate due to a severe recession in the communications market.

The Chain of Causation

EDR research suggests that the chain of causation goes from investment to production in IT hardware and semiconductor markets. Business spending on IT hardware looks much like an amplification of a replacement cycle for capital goods.

This amplification of a fundamental motive for purchasing capital goods is linked with new product innovation, as well as general macroeconomic and trade conditions.

Without the problems in communications end-product demand, the current semiconductor downturn would have most likely bottomed out in the second quarter of this year. However, under current conditions, the bottom will probably not occur until the fourth quarter.

We do not expect the upturn to be nearly as robust as the last cycle. However, that can be a good thing if it means the intensity of the cycles is lessening.