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IC Insights, Inc.
Scottsdale, Arizona USA

Electronic Buyers' News, © 1998, CMP Media Inc.
April 6, 1998

Executive Comment:

IC Makers Await Changing Tide

By Bill McClean

The IC and electronic-systems industries operate in their respective environments, each of which exerts its own basic supply and demand market forces. Although inextricably tied to one another, the IC producer and the system manufacturer are each out to maximize profits and always will be.

While today's systems producers are enjoying low IC prices, they know that eventually the tide will turn. And when it does, IC suppliers will be back in the driver's seat, and the semiconductor and electronic-systems industries will have completed yet another cycle.

The electronics industry can be thought of as an inverted pyramid, with electronic systems at the top, followed by semiconductors, semiconductor equipment, and semiconductor materials. Using this analogy, the dollar-volume growth rate of the IC industry has very little direct impact on the electronic-systems marketplace.

In 1996, for example, semiconductor industry revenue declined by 9%, versus 6% growth in electronic-systems sales. In fact, if any direct relationship is to be construed, then it is the health of the systems market that bears more directly on the semiconductor industry.

While it is true that cheap ICs will continue to have a near-term negative effect on IC industry dollar volume, in general, electronic-systems makers don't care. Historically, IC producers and electronic-systems manufacturers have always tried to take advantage of each other.

In 1995, when DRAM suppliers were making 4-Mbit DRAMs for $4 and selling them for $12, did the DRAM producer take a smaller but still profitable gross margin to help its OEM customer? I don't think so. Does a PC manufacturer now offer to pay a struggling 16-Mbit DRAM supplier more than today's market value because it knows the DRAM producer cannot make money at the current pricing level? No way.

Whether a 16-Mbit DRAM sells for $3, $4, or $5 will have very little influence on how many PCs are sold this year. In general, lower pricing for processors and memory enabled the PC producer to lower the price of its product and helped spawn the birth of the $1,000 PC, which will most likely open up the PC market to a wider audience. Whether the increased unit volume of less-expensive PCs can make up for the lower price point is one of the forces electronic-systems manufacturers must deal with.

It should be remembered that the IC industry dictates chip pricing to the electronic-systems producer, not the other way around. In 1995, OEMs would like to have paid less than $12 for a 4-Mbit DRAM, but they were--and usually are--powerless to change IC market pricing.

Recently, there was some talk about overall demand for ICs shrinking. But the facts dispute this, given that in 1997, IC unit growth increased 22%, while DRAM bit-volume growth surged more than 90%. Both figures are higher than those in the boom years of 1993 to 1995.

Demand for ICs is not shrinking, the price is. Most likely, the recent surge in IC unit demand is at least partly due to the effects of the Elasticity of Demand theory, which dictates that lower prices cause increased usage.

Over the last 20 years, the worldwide electronic-systems industry has grown 5% to 15% annually. At the same time, the IC industry's annual growth rates have ranged between -20% and 50%.

In a perfect world, the electronic-systems industry would grow 10% annually, and the IC industry, 17%. Recognizing that IC industry growth has rarely fallen within a comfortable margin of 17% over the past 20 years, it is apparent that the semiconductor manufacturer/OEM relationship has been anything but perfect. Each continues their opportunism. A shaky marriage indeed.

It is obvious that IC and electronic-systems companies have been subject to their own set of supply/demand market forces for many years, and I would expect them to continue. Beginning in 1996 and continuing through this year, systems producers have won and will continue to win at the expense of the IC manufacturer. For 1999 through 2001, we'll see.


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