More is Also More: Welcome to the new, smart ecosystem and the new semi boon

image of globeConvergence is an historical industry trend and should not be confused with cannibalization. Device convergence is driving up BOMs resulting in positive component and device value-based ('less is more') and volume-based ('more is also more') trending.

The device convergence we are presently experiencing is rooted in the rapid and wide-scale adoption of smartphones and tablets, especially.  Since the explosive demand of these smart wireless devices (SWDs), questions have been raised as to whether or not this latest set of device hits may have a negative impact on our industry due to "device cannibalization."  As explored throughout this issue of Smith's MarketWatch Quarterly, rather than having negative effects, the strong demand for various types of SWDs is promoting more sophisticated component demands with higher ASPs, driving sales, and higher revenues along the semi supply chain, most notably in mature economies. 

As discussed in the companion article in this MarketWatch Quarterly issue, "PC Sector Device Convergence: Why 'less is more' for semi forecasts," tablets are not the only new SWD that has raised questions of growth versus cannibalization in the industry lately; smartphones' multi-device capabilities have also been questioned as cannibalistic.  However, smartphones are important drivers of value-based growth for the global semiconductor industry. 

The higher revenue forecasts for 2011 are rooted in the continued demand for these value-based devices (better margins for higher priced, more sophisticated components) rather than volume-based increases alone (higher unit numbers with often decreasing (watershed) prices).  It should be noted that there is bit of geographic myopia here, both in the question of device cannibalism and sales drivers, favoring mature economies.  With significant demand coming from the booming, emerging global middle class, volume levels are significant and demand consideration as well to appropriately balance the picture and lay to rest 'cannibalization' concerns. 

Scale is no longer a central driver
The shift favoring value was well summarized as, "why scale is no longer enough," by this Wall Street Journal Market Watch article.  Scale, or Moore's Law, has long been the main supply-based driver within the semiconductor industry.  However, the disruptive class of new devices, SWDs, are driving value for the semiconductor industry from the new ecosystem demanded by consumers (general and enterprise levels alike), rather than from traditional scale innovations for components (see also this Smith MarketWatch Quarterly article about disruptive changes in our industry). 

Could this change in innovation drivers also be a source of the 'device cannibalism' concern?  Perhaps.  Certainly the transition away from long-standing, scale-based drivers is a significant change that seems to shift the importance of innovation away from our traditional hardware-centric domain. Where did the driver shift to?  SWDs as a group have shifted the focus of feature demands to the device ecosystem rather than just a component-to-component feature comparison when choosing devices. 

The SWD ecosystem as value driver
What is the SWD 'ecosystem'?  This new 'ecosystem' is the combination of (1) the smart wireless device as hardware, coupled with (2) the operating system and customized with user-specified applications, plus (3) the wireless service quality and availability.  While at first glance this new ecosystem may seem to have little to do with the device; as a result, this shift in driver may seem to reduce the importance and value placed on the evolution of the components in the device.  Such a component-light understanding is false though.  Demand for more than component evolution is what is meant by 'scale no longer being enough.'  In other words, as summarized by Jim Suva, director at Citi Investment Research and Analysis, "Our industry thesis is that form factor alone is no longer a key differentiator; OEMs will need to compete on services, software, and the mobile experience to be successful." (cf. Citigroup Global Markets Handsets & Telecom Equipment: Handsets: Making the Call February 22, 2011, p. 4)

The growing importance of the new ecosystem is based in the user's demand for highly customized experiences on the SWD.  These user experiences are achieved through applications and operating systems, a software demand.  However, the ability of these software applications and systems to meet the users' demands is squarely rooted in the capabilities of the components upon which the software and the device run.  Rather than narrowing the strategic playing field for semiconductors, SWDs are driving the demand for more sophisticated components; components that carry higher ASPs and higher margins.  A drill-down into these higher value components is provided in the companion article, "Rising to the Challenge: Convergence and integration changing semi's supply chain," in this edition of Smith's MarketWatch Quarterly.

The impact of  value-based demand
Firstly, as many analysts have been noting, "users have shifted to SWDs at a substantially faster pace than […] anticipated." (cf. Credit Suisse Equity Research: SWD update 11January 2011, p.1)  Credit Suisse has raised their estimates to "470mn for end-2010, 690mn for end-2011, and 1.76bn for end-2015." (ibid., p.1)  The stronger pace of adoption has driven not only device demand, but also device software (applications) demand to maximize the capabilities of the SWDs, particularly since adoption and penetration are happening faster than a hardware cycle could keep pace with. 

The high demand for smartphones has pushed this device category to the fore in the industry, much to the benefit of the industry.  Smartphones are a high value-based device, meaning that the component mix is more sophisticated and carries a higher ASP.  Since smartphones are also currently the handsets with the strongest demand, they are also setting the bar for the next generation high-end device consumers and manufacturers alike.  The software application developers are working to meet the user experience demands of these consumers and simultaneously demanding greater sophistication of device components, spurring new innovation in components.  It is a cooperative cycle that is helping to move the semi industry in directions beyond 'smaller is better' while promoting innovative solutions that improve diversified demand for chips (e.g., demand for similar chips beyond SWDs by less price-sensitive sectors such as automotive, healthcare IT, green industry (smart meters, PV, inverters, etc.), and industrial applications) (cf. Credit Suisse Equity Research: Semiconductors 2011 Outlook […] 11 January 2011, pp.18-23). 

This new ecosystem driver has created a strong value-based growth situation; one that is forecasted to continue as smartphone penetration increases (cf. Credit Suisse data in the SWD update (ibid., pp. 8, ff.)).  In other words, while smartphones, like tablets, may be seen by some as a possible cannibalistic device reducing the market demand for other SWDs, smartphones are another case of 'less is more.' (see this companion article, "PC Sector Device Convergence: Why 'less is more' for semi forecasts," in this MarketWatch Quarterly issue)  Namely, these devices are increasing in component sophistication and BOM pricing is increasing while penetration rates are also increasing, even if smartphones are replacing other CE devices (e.g., pocket digital cameras, personal gaming systems, among other devices).

Components positively affected by this new SWD ecosystem are not only the core of the handset device (e.g., MPU (advancing to quadcore), MLCC, displays (touchscreen retina displays), UMTS multiband (requiring additional components), RF-related components, batteries, MEMS sensors, antennae, etc.), but also those components and devices that support the rest of the ecosystem, the wireless network systems (service) and application providers (cloud, machine-to-machine (M2M) stations, and software) (for example, base station improvements, data storage centers, Near Field Communication (NFC) technologies to name a few). (cf. Credit Suisse, ibid. p.10; this Computerworld report ; and this Manufacturing Business Technology report)  These increasingly complex and sophisticated components comprising smartphone BOMs support the value-based drivers that lead to the 'less is more' situation in the semiconductor industry.  Each smartphone will actually have a higher value BOM, improving overall revenue in the industry, despite possible convergence or cannibalization of other handheld devices.

Another positive growth aspect of smartphone demand increases is the common watershed moment in the industry; smart is now becoming average in mature economies (cf. Citigroup Global Markets Handsets & Telecom Equipment: Handsets: Making the Call February 22, 2011, p. 5; and EETimes here).  According to the Citigroup report by Jim Suva, "Smartphones will likely buck industry decelerating trend with 4x overall industry growth as they are leveraged to: developed market replacement cycle; increasing consumer adoption; further enterprise penetration." (cf. Citigroup ibid, p. 4)  As smartphones become average, 'more is also more':

total cost of ownership (TCO) declines […] owing to falling device costs and continued ARPU pressure.  This, in our view, will drive total addressable population for smartphones from 900mn currently to nearly 2bn by 2015.  As a result , we believe smartphone unit shipments will see volume growth at a CAGR of 32% (between 2009-2015). (ibid, slide 2)

Demand drivers
While questions of device cannibalization have been raised for both tablets and smartphones, due to the rapid popularity, adoption rates, and device convergence scenarios they entail, these devices are more of a boon to the semiconductor value chain, global revenue, and volume growth rates than they are a threat.  Of course this view is based on healthy demand forecasts, which can entail a bit of soothsaying.  Or, as Credit Suisse research analysts offer, "debating demand is like debating the existence of God.  Both sides seem to have compelling and passionate arguments.  Unfortunately, by the time you know for certain, you are dead." (cf. Credit Suisse Equity Research: Semiconductors 2011 Outlook […] 11 January 2011, p. 14) 

Semiconductor content has been on the rise and additional growth drivers support strong forecasts with increased growth to continue through 2015, minimally.  This growth is supported by the continued adoption and penetration of tablets and smartphones, which are both driving value-based semiconductor content.  While these two devices may be having a negative effect on some competitive devices, the result is a 'less is more' situation; although some device cannibalization may occur as less favored devices obsolesce, the semiconductor BOM for tablets and smartphones is increasing in value.

While penetration rates continue at a slower pace for more traditional devices (such as notebooks and feature handsets), these devices are seeing steady, positive demand trending particularly from the new global middle class.  For these devices, 'more is also more' for semiconductor forecasts, as volume forecasts are strong to meet the demands, and lower price points, of emerging economies.

With demand cycles positive for both high-end markets and emerging middle class markets, the forecasts for semiconductor growth (revenue and unit volume) across devices is strong for 2011 through 2015, according to a wide survey of analysts.  Convergence is a real semiconductor and electronics industry trend, from both the device and component perspective.  Convergence should not be confused with cannibalization, and neither situation should be assumed to have negative impact on the semiconductor supply chain, unless data warrant this assumption.  For the present time, device convergence is proving to have positive impact for both component and device value-based ('less is more') and volume-based ('more is also more') trending.

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