Gazing into the Magic 8-Ball

Alas, Electronic News, we hardly knew ye: RIP.Regardless of what forecast you want to put faith in, the sure money says that 2005 is going to be a relatively tough year for the semiconductor supply chain, at least in the first half.

“That (reported softening) is real, and we would certainly agree,” said Bob MacKnight, COO of thermal processing tool vendor Mattson Technology Inc. “There’s no question that the softness that other people have reported, we are seeing.” Other executives that Electronic News spoke with from throughout the supply chain repeated his sentiments.

The pain that began at the end of Q3 of this year, that of an industry overburdened with inventory, is likely to linger for at least a quarter or two, even as that inventory appears to have been largely burned off, at least in some markets. But then compared to what equipment and materials suppliers had to suffer through the last time the industry went through a cycle, this downturn might not seem too painful; at the least, endurable.

As Teradyne Inc.’s manager of business development Mark Kohalmy put it: “We’re not falling off a cliff, but I can’t say it feels great, either.” That seems to be the consensus among capital equipment and materials suppliers as the industry heads into 2004.

Things are continuing to soften, but the chip industry seems to have learned its lesson, at least for now. Rather than the mass order cancellations that marked Q4 2000 and the early quarters of 2001, chipmakers are frequently delaying orders by a quarter or two, or placing smaller orders for capacity that they need immediately, executives report.

And apparently it’s because chipmakers were smarter, or at least more cautious, about the capacity that they added in 2004, tying it closely with end demand.

“We’re getting business requirements dropped in our laps for short term delivery for production volumes,” Kohalmy said; five or six testers ordered for delivery in six weeks, is a typical example. This experience isn’t limited to any specific market, either, as one market may be hot one week, only too cool off a few weeks later, he said.

“My read on this is that we are in an environment that has no forecast for our customers,” Kohalmy said. “It’s a new phenomenon from our standpoint.”

The same phenomenon is being seen in the front end of the equipment realm as well, reported Jeff Benzing, VP and chief business officer at equipment vendor Novellus Systems Inc.

“We’ve seen a very marked difference in the behavior of our customers,” Benzing said. Like Teradyne, Novellus is seeing front-end capacity currently being added in what he described as small, finite increments, sliced up into phases; wafer starts are ramping as needed. “They’re taking smaller chunks of capacity and more closely coupling that with wafer starts and their customers’ end unit demand,” he said of Novellus’ customers.

While order lumpiness may make business tough to manage, it’s perhaps better than managing no orders at all.

But a quick and lumpy order environment has made it difficult to put a specific forecasting finger on 2005. “Part of the issue is that visibility has gotten very poor over the last quarter,” noted Mary Puma, president and CEO of Axcelis Technology Inc. “It’s difficult to know what the first half of the year and 2005 in general is going to look like,” she added.

Time to Look to Technology

So where are those lumpy, holiday-mashed-potatoes orders coming from? Regionally speaking, while the Asian foundries have cut way back after an orgy of capacity building and capital spending in 2004, Japan remains a hot spot. Having so long under invested, Japanese chipmakers seem to be making up for lost time, equipment and materials executives say.

In terms of markets, they report that DRAM spending seems to remain strong, perhaps in spite of recent price pressure. And logic generally seems to be holding its own, as are most large IDMs – it is the foundry market that is the weakest right now in terms of capital expenditures.

The final numbers have yet to be tabulated, but it looks as if chip foundries added capacity to the tune of 100 percent or more in 2004, so there’s no surprise that they are throttling back quickly. But equipment executives whose companies serve the foundry market say it looks like the inventory burn at the foundries is nearing its end.

But in the meantime, equipment suppliers can look forward to more technology buys than capacity-driven ones, at least in the first half of 2005. While chipmakers at the leading edge are already cranking out chips with 90nm design rules, the bulk of chipmakers are just now making decisions about the composition of their 90nm fab lines, and R&D for the 65nm node is in full swing.

“We’re expecting any growth (in 2005) to be driven solely by the leading edge,” observed Jim Northup, COO of photomask supplier DuPont Photomasks Inc. “In 2005, for all the talk of 65nm, it’s 90nm for us,” he said. “The ramp is beginning to hit full stride, and we expect that to drive any growth in the industry.”

As the industry pauses to digest its chip inventory and its capacity additions of 2004, it will be looking to improve its yields, too. Metrology equipment orders come early in the technology cycle, noted Rick Wallace, a VP at KLA-Tencor Corp. As the 90nm era gets under way, the narrowing process windows in the fab have people nervous.

“There is a lot of concern with yield performance on the new technologies,” Wallace said. He had just concluded customer visits around the globe just prior to the December holidays and talking with Electronic News.

“By and large, people are anxious … from a yield perspective. Part of that … is on 130nm people had initial success, and then when they ramped, there were a lot of problems. They found it was much more difficult,” Wallace said.

It may prove a good thing for materials suppliers, in the long run, however. Out of all members of the supply chain, it’s the materials vendors that fluctuate the most, being closely tied to activity in the fabs. The deep submicron era is calling more and more exotic materials and complex integration schemes into play in order to keep devices scaling.

“There’s an exclamation point on that statement,” agreed Dan Koharko, VP of marketing at Rohm and Haas Electronic Materials CMP Technologies.

It’s actually a dual-edged sword for suppliers like Rohm and Haas, though – ultimately it may translate to increased growth and demand, but in the meantime it means a lot of engineering headaches. “The material aspect of the problem is becoming more of a material play – since they are changing so many of these materials at once, it is difficult to get a stable regime,” Koharko said.

And the short cycle times now common in a consumer-driven industry don’t help. Rohm and Haas has seen customers settle on non optimized processes just to get chips out the door, as long as yields were more or less reasonable.

“And everybody is choosing different – it’s become a very company specific problem and solution that we have to bring,” Koharko said. “What we solve for one customer … will rarely work for another customer.

Once Bitten, Twice Shy

But perhaps a more important question than what 2005 holds in store for the industry might be: Has the industry learned its lesson?

In 2001 and 2002, there was a lot of talk within the industry about acknowledging that the industry was maturing in terms of growth rates, and that cycles were an inevitable part of life. Many companies set a goal of remaining profitable throughout the semiconductor cycle.

Now that they’ve talked the talk, 2005 may be the year these companies have to walk the walk.

Just the fact that there has been an inventory correction indicates that visibility and forecasting is an inexact science at best. But the fact that orders became lumpy so quickly, and that many orders are being delayed but not canceled, would seem to indicate that chipmakers are reacting more quickly to current market conditions, rather than pinning their hopes on future forecasts, say those in the equipment business.

Executives also cite the fact that their customers have been so cautious in adding capacity, relying on just-in-time ordering in many cases. As Teradyne’s Kohalmy and Novellus’ Benzing observed, the current cycle is, well, uncharacteristic – it’s not quite like any previous down cycle they’ve experienced before. Certainly the “build it out and the business will come” mentality of the late 1990s and 2000 didn’t return in 2003 and 2004.

And equipment vendors themselves seem to have been more prudent in this cycle. While there have been a number of layoffs this past autumn, it is nothing like the massive layoffs of 2001.

“I think we are like many companies in trying to keep the business lean, and find new models as to how we deal with up and down cycles,” said Mattson’s MacKnight. “I think the industry is better in general [and] ready to enter a period of softness.”

A number of equipment makers, like Axcelis, relied on a lot of temporary and contract labor to ramp production over the past 18 months. “Once we saw things were slowing down, we took action pretty quickly,” Axcelis’ Puma noted. “We said ‘We need to do this, even if it is short and shallow.'”

Of course, only time will tell if this seemingly supply-side driven down cycle will be a relatively mild one, and that growth will return in the latter half of 2005. It’s too early to say with any certainty if the industry has learned its lessons and will be marked by less volatility.

But as several executives observed, it’s the volatility and uncertainty within and without the industry that keep things interesting, and it will be entertaining for those on the sidelines to observe who is prepared to deal with adversity in the quarters to come.

Editor’s Note: As explained at length elsewhere on this site, this is a news story written by me that originally appeared on the now-defunct Electronic News’ website, which is long gone. It’s former sister pub Electronic Design News (EDN) currently holds the copyright to all Electronic News copy (to the best of my knowledge). You can still see a copy of this story at EDN.