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Zacks Industry Outlook Highlights: Intel, ARM, IBM, Cisco and AT&T

For Immediate Release

Chicago, IL – May 09, 2016 – Today, Zacks Equity Research discusses the Semiconductors, including Intel (INTC), ARM (ARMH), IBM (IBM ), Cisco (CSCO) and AT&T (T).

Industry: Semiconductors

Link: http://www.zacks.com//commentary/80882/semiconductor-industr...

This isn’t a great time for semiconductor stocks, what with the PC market being what it is and the bulk of semiconductor devices continuing to go into PCs.

Yes, it’s true that the Semiconductor Industry serves as a driver, enabler and indicator of technological progress. Developments in the industry do determine the way we work, transport ourselves, communicate, entertain ourselves and respond to our environment.

But the PC market slump can’t be ignored. So in searching for bright spots at the moment it would perhaps be better to look for other applications, such as in the cars we drive, the phones we communicate with, the electronic gadgets on which we watch movies, listen to music and play games on, the devices we use to monitor our health and connect our homes and the planes and weapons used to transport or protect us, all of which use semiconductors. Also don’t forget the increased automation on the factory and shop floors, which are facilitated by these tiny integrated circuits called semiconductors.

Other opportunities could be in technologies that help solve environmental issues or promote thrift, helping to improve corporate balance sheets in an environment remaining somewhat impacted by China market concerns, oil prices, currency issues and the rate hike. These opportunities would lie in chips reducing power consumption, reducing heat dissipation, capturing solar energy, creating more efficient lighting solutions and so forth.

So first, the bad news…

The PC market is essentially two markets, one is the enterprise side and the other, consumer. Believe it or not, neither side is doing too good right now, and won’t do much better for another one-to-two quarters.

On the enterprise side, corporate spending decisions take time and are predicated on a perception of added value, whether it’s related to security or efficiency. The cloud is adding a new dimension to this, as companies partially or wholly adopt this new technology. That’s why Microsoft’s Windows 10 is expected to have a big, if somewhat-delayed impact here, as it takes one final step to retain legacy workloads. This update will perhaps be the last time that Windows will be a key driver, as the company doesn’t plan on a totally new OS again, but will henceforth focus on periodic updates. Increased BYOD device sales and Intel’s Skylake family will be other drivers.

On the consumer side, Microsoft’s offer of a free upgrade to Windows 10 is limiting PC sales in a market where consumers are hesitant to spend on upgrades anyway. That’s because consumers already have many more devices than they need and because Internet and many other conveniences of computers are now easily available on smartphones and tablets.

Recently-released reports from IDC and Gartner indicate a secular decline. Both say that the PC market, which saw significant declines in the Dec 2015 quarter declined even more in the Mar 2016 quarter. Since their definition of the market varies slightly, their estimated decline differs somewhat: in IDC’s estimation, it’s an 11.1% decline while according to Gartner, it’s 9.6%. Whatever the case, both agree that the top vendors are Lenovo, HP and Dell. Gartner estimates that both Apple and Asus grew with Apple in the fourth place and Asus fifth while IDC says they both saw sales decline with Asus in fourth place and Apple fifth.

Chipmakers try to get into as many devices as possible, which is easier said than done. Apple for one makes its own PCs, software and also a lot of its own chips, relying largely on high-end chips from Intel and memory chips from Samsung for the bulk of its other semiconductor requirements. Microsoft makes software and limited quantities of hardware, relying largely on third-party device makers for chips, PCs and mobile devices. It’s also a major player in the cloud, which makes it an important ally for device makers.

Now for the good news…

Cloud computing is increasing demand for dumber terminals that rely on cloud-based services and software. The demand for denser, energy efficient and secure data centers and networks, and more intelligent network control in this segment are positives for semiconductor device sales. This is pushing demand for servers and data centers and thereby helping Intel, which is the dominant player in the segment. While Intel may have failed to enter mobile where ARM reigns, it is likely to make inroads into this segment that has until now been dominated by Intel.

At any rate, disruption in this market is afoot because of the work done by the Open Compute Project (OCP) that Facebook founded and continues to feed. The social networking company generates a huge volume of data and wants to store, manage and process it as quickly and cost-efficiently as possible. Others with similar interest like Apple, Microsoft, Google and differing interest like Intel, HP, Cisco and Juniper also joined in.

Facebook designs the chip that is then optimized by the OCP so it becomes something members can standardize on. So far so good. But if the OCP is able to design chips that perform better or comparably with Intel chips, the chip maker’s cloud business can be hurt. This doesn’t look like an immediate concern however.

It would also be fruitful to see how the cloud infrastructure market is shaping up. The market is dominated by Amazon, followed by Microsoft, IBM and Google. So these companies are hungry for chips and have a long-term demand for the devices. They would also be interested in performance per watt as all of this contributes to cost.

Some time back, Amazon started dabbling with low-end ARM-chips. The company looks interested in making its own devices, but it’s still too early to comment on its progress.

Google is reportedly the only top chip buyer that doesn’t sell servers but instead builds them for internal use. And the company is now also seeking growth in the IaaS segment. Therefore, Google’s decisions are extremely significant in the chip consumption context. Google has done two things in the recent past that could be viewed as second sourcing or maybe creating leverage against Intel to lower prices. The company has declared that everything it now does also supports IBM’s Power systems and it is also hobnobbing with Qualcomm ostensibly to use some of its fledgling ARM-based server chips.

Microsoft is fair and square allied with Intel although we don’t know how that story will play out since it’s also a member of the OCP.

Other than tablets, the consumer technology market also includes gadgets like LCD TVs, Blu-ray players and smartphones.

The Consumer Technology Association (CTA), formerly called Consumer Electronics Association ("CEA") expects U.S. consumer technology retail sales to be driven by Internet of Things (IoT) this year to touch $287 billion.

The CTA sees IoT in three groups. The first is named Audio and Video, where smart TVs will grow 13%, streaming media players 5%, connected speakers and headphones 40%, and wireless headphones 30%. The next category is the Smart Home, encompassing products like thermostats, smart smoke and CO2 detectors, IP/Wi-Fi cameras, smart locks, smart home systems, and smart switches, dimmers and outlets, which will grow 21%. The third category is wearables, led by fitness trackers, which will grow 12% and smart watches, which will grow 22%.

The CTA says that emerging fast-growing areas include drones (up 149%), VR (up 440%) and 3D printing (up 64%).

Smartphones, tablets and TVs are mature categories with shipments expected to grow a respective 5%, -9%, -1%. Laptops also play a role here with traditional devices expected to grow 2% and the hybrids, convertibles and detachables category growing 48%.

The strength in smartphones is largely coming from emerging markets where Google has refreshed its Android One program in several markets and Microsoft has announced several cheaper devices. Companies with greater geographical diversity have stronger chances of tapping this opportunity.

Wireless infrastructure builds (3G, 4G LTE) have been necessitated by increasing data volumes and connectivity issues (network congestion, power reliability, privacy and security) in wireless networks. These builds will require increased investment in semiconductors thus driving sales.

Security Gaining Importance in the IoT Market

The increased interconnectedness of things is a positive for semiconductor players because it creates a new market for chip consumption. For instance, Freescale has joined the Embedded Microprocessor Benchmarking Consortium (EEMBC) to identify embedded security gaps and set guidelines for IoT manufacturers to make more secure devices.

The two companies offering chip architectures are Intel (INTC) and ARM (ARMH) and both have increased focus on security. Intel acquired McAfee several years ago and has only recently decided to break out security revenue separately, possibly indicating its growing importance. In ARM’s case, the company acquired Israeli startup Sansa, which offers both hardware security technology and software for advanced SoCs used in the IoT market. The company will likely build some security features into its designs.

Connected medical devices, wearables, cars and corporate Intranets are particularly susceptible to attack. Additionally, persistent hacker attacks on retailers is leading to increased demand for chip-based credit and debit cards and new payments systems.

The IoT opportunity is split between the IoT devices connecting to the Internet and the cloud facilitating their existence. According to the World Economic Forum, the number of connected devices will grow at a 21.6% CAGR from 22.9 billion in 2016 to 50.1 billion by 2020. In order to tap the growth potential in IoT devices, industry players have to enable much greater chip integration (a typical IoT device requires microcontrollers, sensors, connectivity and storage chips, but in an extremely small package). Adoption will increase only with very low-cost chips that will not require high compute power in many cases. So the challenge here is cost, which can be overcome only with very high volumes.

Prime enablers of IoT growth in the next few years are likely to be companies like Intel, ARM, etc. although many others will play a role. Apple’s Watch has positive implications for companies like Samsung.

The opportunity in the cloud is far broader because the demand for more powerful chips (with more processing power) is now being supplemented with a growing demand for lower-cost chips that can handle simple operations in high volume. The data captured by sensors in IoT and other devices is useful only when it is stored, sorted and analyzed in a protected environment, which is when it becomes valuable for industry players like retailers, healthcare professionals and marketers.

Semiconductors enable this process at every stage, but the limited standardization in the systems created by tech companies are bottlenecks in the smooth flow of data. That’s why big companies like Intel, IBM (IBM), Cisco (CSCO) and AT&T ( T) formed the Industrial Internet Consortium to develop common standards. The process could take time but once available, the standards could generate higher-margin revenue for semiconductor players. There will, however, be increased scrutiny on privacy considerations.


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