And if anybody needed any more confirmation that 2001 was turning out to be a particularly nasty year for the semiconductor market, they had only to remember back to the SIA midyear-forecast luncheon of 2000. While the luncheon last summer was a gala affair, held in the exact same ballroom at the same hotel, this year the room was only half-full, divided in two by paneling and with more than a few empty seats in the back of the room. With chip companies continuing to report slow sales, they are reining in spending at all levels.

If the SIA is correct, that 14 percent drop will make this year the second-worst on record-just a shade behind the 16.5 percent decline reported in 1985. But that forecast depends on very strong sales in the third and fourth quarters. Even if those sales pan out-and that's far from certain-the first half of the year was so bad that a stellar second half will not bring the industry back into the black. The best a strong second half can manage would be to let the industry avoid breaking the record for the worst year ever.

"I think the SIA figures are way too optimistic," said Bill McClean, president of market research firm IC Insights (Scottsdale, Ariz.). He pointed to the first quarter of this year, when semiconductor sales dropped off the map, sliding a record 21 percent from the prior three-month period.

There are several drivers for all this woe. The first is the overall economic slowdown, which began last year-seemingly undetected by most businesses. That led to a sudden buildup of semiconductor inventory, which in turn led to the dramatic drop in sales in the first quarter once OEMs realized their own sales had dried up.

Best-case scenario
Things weren't much better in the second quarter: Chip sales fell a further 14 percent. McClean now believes the accumulated inventory is finally being used up, and he's forecasting a 6 percent gain this quarter, followed by an 11 percent uptick in the critical holiday quarter, although those gains will not be enough to offset the first half. He's forecasting an overall drop for the year of a whopping 21 percent.

In McClean's best-case scenario, if the overall economic picture improves significantly and chip sales grow 11 percent this quarter and 17 percent in the fourth quarter, the year-end figure may show a 15 percent decline compared with last year. But if the United States slips into a full-blown recession and chip sales barely inch upward in the second half, the semiconductor market may fall as much as 28 percent this year, McClean said.

We already know that the first half of the year was a stinker. The big question now is whether consumers will head to the stores for the back-to-school and holiday shopping seasons. OEMs can't wait around to see how things turn out; they have to begin planning now.

One big clue came in early June, when semiconductor giant Intel Corp. released an earnings update that said the PC market was stabilizing and that the company expected the market to turn upward in the second half. While the networking sector remains firmly hitched to the dotcom sector's dimming star, computers are finally starting to sell, said Intel chief financial officer Andy Bryant.

Memory expectations
The memory sector is beginning to reap the benefits. "We do expect some kind of uptick in the second half," said Fred Waddel, director of sales for Micron Technology Inc.'s computing and consumer group (Boise, Idaho). The forecasts that Micron has been watching call for the DRAM inventory buildup in the PC channel to burn off in July and August, although Waddel said he is taking those reports with a grain of salt.

The PC segment should get an additional boost from the upcoming release of Microsoft's new XP operating system. The OS not only will increase the amount of memory required in each box-a boon for DRAM vendors-but will also give consumers a reason to think about upgrading their systems.

That is further emphasized by the imminent availability of chip sets that link Intel's Pentium 4 processor to either double-data-rate DRAM (DDR DRAM) or standard SDRAM. To date, the Pentium 4 ramp has been hindered by its dependence on the powerful but expensive Rambus memory technology. Linking the chip to SDRAM will bring prices down-and, the PC vendors hope, sales up.

Fred Leung, assistant vice president for sales and marketing at Taiwanese chip set vendor Acer Laboratories Inc., said he expects the inventory buildup to clear up toward the end of the year. With a customer base that includes both Taiwan-based motherboard suppliers and major U.S. computer vendors, Acer is in a good position to predict a rebound in demand for personal computers.

But Leung said that many consumers have put off their purchasing decisions until they see what the Pentium 4-SDRAM combination looks like, both in terms of performance and price. "The Pentium 4 with RDRAM has not been popular at all," he said. "Our internal projections are showing some recovery in the PC market in the fourth quarter. The third quarter is harder to predict. It could be bad, but it depends on whether people start to buy the Pentium 4-based systems."

Analyst McClean agrees that much is riding on whether or not consumers opt to open their wallets. There are two components to this slump. The first is the standard cycle of capacity increases, which leads to booming production and falling prices as supply overtakes demand. But this year the problem has been compounded by slowing demand from the end users.

That is caused, in part, by external factors, notably higher prices for energy. Not only is gasoline more expensive; so is electricity, and both of those mean less money in the monthly budget to be allocated to electronic gadgets.

And, McClean warned, four of the last five global recessions have been linked to spiking prices for oil. While he doesn't expect a widescale recession this year, neither does he rule it out.

On the plus side, chip price erosion has made all those boxes out there much more affordable, although the lower system prices mean revenue growth will be hard-pressed to keep pace with any growth in unit volumes.

Jim Feldhan, president of Semico Research Corp. (Phoenix), points to another factor that could prompt spending in the second half; the tax cut, which will be implemented starting this month. Payroll withholding will be lower, giving the average paycheck a slight bump upward. Furthermore, those cuts are retroactive, and the payroll deductions collected in the first half will be refunded this quarter in the form of a refund check-a bonus that at least some workers will earmark for a shopping trip to the electronics boutique.

"Consumer spending should go up in the third quarter," Feldhan said.

The Semico forecast for the year is not as pessimistic as McClean's although it still is a dark scene. Feldhan predicts that inventory levels will drop this quarter and that the fourth quarter will show some strength. Semico expects to see chip sales decline 13 percent overall in 2001, but "you can easily build a scenario that leads to a 20-percent decline," Feldhan said.

The hallmark of this year has been a lack of visibility. Most vendors just didn't see the downturn coming, and once it hit, they complained that they couldn't accurately predict when it might end.

Now, at midyear, the fog has lifted a bit. Vendors still say they can't make accurate predictions, but most appear optimistic that the second half will bring some measure of recovery.

"If the economy picks up, we could get something rolling in the last third of the year," said McClean. In fact, he expects 2002 to be up some 16 percent over this year.

"Everybody says 2002 will have a much better worldwide economic picture than this year," McClean said. "But people want a shortcut through the pain of this year-and there just isn't one."

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