OUTLOOK 2005

Foundries like working with IDMs not just for the additional revenue it brings, but also because the IDMs will help the foundries perfect their most advanced manufacturing technologies. Take silicon-on-insulator process technology. Chip companies making fast microprocessors need it sooner rather than later. That's one reason Singapore-based foundry Chartered Semiconductor Manufacturing Ltd. signed a deal to build SOI-based devices for Advanced Micro Devices Inc.

Catering to the IDMs has led to some disproportionate sales-per-customer ratios at the foundries. Most of Chartered Semiconductor's customers are pure fabless chip companies, and they bring in about a third of the company's sales. The other two-thirds is divided about evenly between the IDMs and the fab-lite customers, said Kevin Myer, Chartered's vice president of marketing.

Although no foundry executive will say so out loud, the implication here is that individual fabless companies are becoming less valuable than they once were. There are notable exceptions, of course. Companies like Nvidia, Broadcom, Xilinx, Altera and Qualcomm buy lots of wafers and have developed deep manufacturing expertise over the years, which they share with their fab partners. But if you are not part of the elite, good luck getting your orders fulfilled on time when manufacturing capacity gets tight.

There are some ways to gain influence, even if you're a small player. One is to promise the foundry that you don't intend to shop around for additional manufacturing partners. Taiwan Semiconductor Manufacturing Co. Ltd. (TSMC), for one, has said it rewards these single-source customers by ensuring they are allotted capacity when capacity is hard to come by, whether the customer is big or small. Other foundries have said the same in not-so-explicit terms.

Reputation counts too, and more foundries are placing bets on possible winners. TSMC and United Microelectronics Corp. (UMC), most notably, have begun investing in startups they see as having good management teams and as going after the most promising markets. These days, anything that has to do with consumer electronics is viewed favorably. Devices that can change form to serve different applications, such as structured ASICs, are another winner.

WIS Technologies, a Silicon Valley startup designing chips for multimedia compression, is one such company that has tightly bonded with its foundry. When local venture capitalists were pooh-poohing the consumer market in 2003, CEO Jim Mannos found a more receptive audience at UMC, which decided to put seed money into the company. When it comes time for WIS to make the chips, UMC will have first crack at manufacturing them.

Whether it's better to have one or multiple manufacturers is debated by fabless companies, even by those that make the same kinds of chips. FPGA maker Xilinx Inc. swears by multiple foundries but rival Altera says it's happily wedded to TSMC.

Younger companies appear more comfortable having a single source. UMC's Mannos acknowledges the merits of multiple foundry sources as an insurance policy against such things as an earthquake shutting down a manufacturing line. But these days startups have a strong incentive to pick one foundry and stick with it, because they are more likely to get their orders when there are fewer wafers going around. "If you have some hot lots and if your volume is high, you can get better service from the fabs," Mannos said.

The design quandary
The hard part is designing a chip that stays within budget. The total cost of designing a sophisticated system-on-chip — including engineers, tools, software, fabrication and overhead — has ballooned in recent years. By some estimates, the entrance fee is no less than $10 million.

Help is on the way. Chip companies big and small are flocking to third-party intellectual-property suppliers to take care of the most mundane parts of their chip designs, like USB controllers, PCI bridges and embedded memory. IP has become so vital to the business that some fabless companies have appointed chief IP officers, who act as a liaison between the IP providers and the design teams. The Fabless Semiconductor Association plans to make IP reuse a big issue in '05. Among its goals: guidelines for using "hard" IP blocks.

PERSON TO WATCH
When Cadence Design Systems' stock plunged in 1999, then-CEO Jack Harding found himself out of a job. What his overlords didn't realize at the time, however, was just how much he knew about the changing economics of chip design.

A few years ago, the industry began to worry about the limitations of back-end design. A design-for-manufacturing mantra, quickly adopted by the EDA companies, has been little comfort to designers, who have watched the price of physical-design tools rise exponentially.

Harding saw it coming too, so he founded eSilicon, a kind of fabless ASIC vendor that bought those high-priced tools, hired some hotshot design engineers and looked for companies that needed help with the back end. To make this work, eSilicon had to spend substantially to create an elaborate supply chain management system that lets all parties keep tabs on the process, including fabrication and packaging.

"You can't manage a global supply chain for more than two or three customers using Excel spreadsheets," Harding notes.

So far, some 20 companies have handed Harding's team the keys to their designs, and more will come, he says. Recently, eSilicon announced that it had opened an office in Japan. Next, Harding says, he'll try to persuade larger chip companies that there's a better way for them to manage the chip supply chain.

COMPANY TO WATCH
While the fabless phenomenon quickly took root in Silicon Valley, relatively few chip companies in Europe have exploited Taiwan's chip-manufacturing prowess.

That could be changing. In England, three-year-old startup Frontier Silicon Ltd. has been shipping must-have digital audio broadcast chips, manufactured by Taiwan Semiconductor Manufacturing Co. Ltd., for digital radios being sold across Europe. In just two years, Frontier has sold about 1.3 million of these modules and expects to bring in $30 million in revenue this year.

At first ignored by the Japanese consumer electronics giants, Frontier's products found a receptive audience among Europe's electronics manufacturers and their customers.

The large consumer electronics manufacturers soon caught on, and now Frontier counts as customers such companies as Sony, Samsung, JVC, Sharp, Hitachi and Philips, among others.

AT A GLANCE
Population (2004 estimate): 22.7 million
GDP (2002): $281.9 billion
GDP growth (1998-2002): 3.4 percent
Major exports: (2002): computer products and electrical equipment, metals, textiles, plastics and rubber products, chemicals
Share of world semiconductor market (2002): $8 billion
Top companies: Taiwan Semiconductor Manufacturing, United Microelectronics, Winbond Electronics, Mosel Vitelic
Leading technology: TSMC's, UMC's 90-nm CMOS processes
Favorite pastime: mahjong
Best local dish: Hsinchu meatballs
Sources: The Economist Intelligence Unit, CIA World Factbook, Taiwan External Trade Development Council