In this edition of the ‘Emerging Trends in Emerging Markets’ series, let's take a dive into the sector which enables our digital presence and that is at the heart of the Information Technology revolution, i.e., Semiconductors.
The evolution of this industry has been so enormous that a transistor device weighing kgs in the 1950s was replaced by TV sets in 1960-70s, ultimately being dominated by a mobile device weighing a few 100 grams in 2010 with all the computing powers of a personal computer.
The semiconductor sector as we know it today has seen exponential growth ever since transistors were invented. Taking a glimpse at the evolution of the sector, it’s imperative to revisit Moore’s law.
Source: Max Roser, Hannah Ritchie, CC BY 4.0 via Wikimedia Commons
In 1965, Gordon E. Moore, the co-founder of Intel, made an observation that became known as Moore's Law. Moore's law is the observation that the number of transistors in dense integrated circuits doubles about every two years. Moore's law is an observation and projection of a historical trend.
Exponential growth in Data Generation
Beyond the technology revolution in semiconductor technology, the demand has grown in leaps and bounds too. During the 1960-70s, the demand for semiconductors chips or wafers was dominated by the TV and Radio industry. During the 1970-80s, the demand was outpaced due to the onslaught of PCs (personal computers). The demand for PCs (Laptops, Tablets, Desktops) has not been settled yet in the 2020s and the growth of mobile devices has already outpaced the PCs. The chips find usages beyond these obvious devices e.g., Data Centers, Automobiles, Airplanes, IoT sensors, Modern Factories, etc.
Source: Industry, Applied Materials
The chart reflects:
Till 2018: the digital world was dominated by software applications generating data, mostly controlled by humans.
Beyond 2018: volume of data generated by machines or software applications has overtaken humans.
Chips become essential
Reasons for this enormous growth in data generation and processing is the due to usage of chips in:
Industrial Automation and Robotics
Home Automation devices
Personal Computing devices
Entire data sets generated by the devices need storage (data centers), processing, and analytics (Artificial Intelligence and Machine Learning algorithms).
Source: Industry, Applied Materials
The usage of semiconductor chips in personal usage devices like Automobiles, smartphones is growing. By 2015, most of the available cars had an infotainment system (navigation) and engine control unit. By 2020, the cars have more than that to enhance the user experience like remote ignition, remote monitoring, and sensors to monitor the usage metrics and render analytics to the driver to alert or self-correct the minor issues.
As enterprises grow, the demand for semiconductors will continue to show a similar trend due to:
Growth in demand for cloud computing resources
Usage of technology to monitor the business
Demand for storage and processing of large sets of data
The data centers are the bread and butter of cloud computing. Enterprises look for solutions to automate the decision-making of the core business processes to improve efficiency and reduce costs.
Business aspects & Challenges
Moving onto the business aspects of the semiconductor industry. There are 2 streams here:
Designing the semiconductors chip: Research & Development, keeping pace with technology
Foundry: manufacturing the semiconductor chips, e.g., Contract manufacturing, fabrication.
Given the nature of the industry, these are 2 highly specialized streams and the companies engaged in these trades usually stick to their strengths with exceptions like Intel (Intel has kept pace with the industry by designing and manufacturing chips). Both the workstreams have their own capital investment and payoffs cycle, requirements for talent, skill, in order to keep focus keeping pace with the stream.
The manufacturing stream of this industry has its own set of challenges and requirements:
Heavy investments to take-off and ride onto the innovative business cycle
Existing investments to be recovered before the technology gets outdated
Sizeable land parcel
Stable and uninterrupted industrial power supply
Ultra-fresh water supply in large quantities
Technology is an ever-evolving field, competitive forces act from all direction
Leaders in Chip fabrication
Source: Industry, Company filings, Wiki, PPFAS
The snapshot of the pure-play foundry business as-is appearing in the pie-chart. Taiwan holds the lion’s share in the global semiconductor manufacturing business and this chart is purely based on foundry business. The foundry business is approx. $100 billion of value in terms of revenues. TSMC (Taiwan Semiconductor Manufacturing Company) can be termed as the market leader globally.
Demand fluctuation continues
The demand environment for the semiconductor industry has been through a typical sinewave pattern.
The major demand driver for chips manufacturing is:
Mobile and Personal computing devices
Industrial machinery and automation
Hardware Vs Software: Scalability
The manufacturing industry varies from the technology sector to one key aspect and that is on-demand scalability. The software or Technology sector has the inherent capability to respond to the demand environment by adjusting the operational bandwidth, the response can vary from ordering additional cloud computing resources to hiring contractual staff to meet the surge in demand. The manufacturing industry empowered with all the capabilities of demand management solutions will face limitations beyond a threshold. Such thresholds were tested to extreme tolerances during the onset of the Covid-19 pandemic. The pandemic started with a collapse in demand owing to sudden lockdowns, followed by a surge in demand due to hoarding of goods owing to fear of forthcoming lockdowns. The inventory levels of many warehouses, retail outlets, and manufacturing companies were not prepared to handle such fluctuations in demand with such short notices. One such industry which is crucial to the transportation sector and occupies the largest share in manufacturing industries is the ‘Automobile industry.’ In March’2019, demand for automobiles collapsed suddenly as customers held back the orders. As a result, many OEMs were forced to pass on the impact of the demand reduction to component suppliers esp. Semiconductor manufacturing.
The second-order effect of Covid-19 was a surge in demand for IT equipment, mobile devices, gaming devices as work-from-home became new the normal. Meanwhile, as the pandemic impact was receding, mobility started picking up despite the closure of public transport due to crowd control measures by state authorities. Automobile companies quickly realized that the demand environment is not as weak as anticipated, and customers prefer to travel using personal mode instead of public transport. However, the semiconductor industry had limited bandwidth to cater to this demand surge and this caused a bottleneck situation.
Demand environment resilient
During the onslaught of pandemic around March’2020, the automobile industry experienced the sudden collapse of demand as customers held back the orders. Industry and automobile consultants/experts extrapolated the trend for the entire, anticipating shrinking of balance sheets for the world economies. As a fall on impact, the order backlog for chips and semiconductors came down drastically as the industry was not ready to maintain inventory and block cash for the demand which is yet to come back. Responding to this situation, the semiconductor industry shifted the available capacity to surge in demand from personal computing (Laptops, PCs, Mobile devices) as work-from-home was the new normal.
However, during the re-open phase around Q3 2020, the industry quickly realized that with limited public transport availability, the demand for personal mobility hasn’t collapsed as expected. The automobile industry had regained the lost demand to the great extent, but was unable to meet the orders as the input component materials won’t replenish at such short notice.
Indian IT Scenario
Source: India Brand Equity Foundation (IBEF)
The IT industry in India has been a big beneficiary of the global demand for talented and skilled IT professionals. The industry has been able to establish a leading provider of software solutions for all the leading companies throughout the world. The demand for semiconductor chips and software solutions go hand in hand.
State of the Chip design in India
Source: India Brand Equity Foundation (IBEF)
The chip design has an impressive footprint already in the country. Establishment of the semiconductor manufacturing is a natural extension of this global demand cycle and enables the industry to provide end-to-end solution from design to fabrication of chips.
Earlier, we discussed the challenges in setting up a greenfield semiconductor manufacturing site.
Source: Ministry of Electronics and Information Technology (MeitY)
MeitY has come out with policy incentives already to address these challenges to a certain extent. The policy addresses the concerns like Capex incentives, tax soaps, dedicated special economic zones for semiconductor manufacturing (SEZs).
“The government has slashed the corporate income tax rate from 30 percent to 22 percent for all companies. Inclusive of cess and surcharges the effective corporate tax rate in India now comes down to corporate tax to 25.17 percent. Newer companies, which are set up after October 1, 2019, will be subjected to an even lower effective tax rate of 17 percent.”
Furthermore, the corporate tax rates are watched by the OEMs and investor community before making commitments to any additional capacity. Corporate taxes are major drivers for attracting and retaining investments by major economies. The announcements made in FY20 made it lucrative for new manufacturing firms to set up shop.
Overall, the demand environment for semiconductors has been on an upward trajectory for decades. The semiconductor chips are finding increasing usage in devices across the board, be it industrial usage or for personal consumption. The chip design industry already has a strong presence in India. Fabrication units are poised to make a presence in the country given the incentives and tax sops offered to set up shops. Chip fabrication is a natural extension to the IT and Chip design industry given the strong ecosystem of the talent pool and resource availability.
Industry experts and consultants operating in Discrete and High-tech manufacturing may well take note of the industry that is poised to gain a presence. Software and Logistics solution providers will be beneficiaries too from this trend as the second-order effects of the setup of manufacturing units emerge.