A Semiconductor Revolution

Electronic News, May 8, 2000 by Jonathan Cassell

Wireless telephones and terminals. Digital set-top boxes. Broadband modems. Low-cost PCs that come ready to access the Web.

What do they have in common? They represent some of the largestaand fastest growingaapplications for semiconductors in the industry today. However, they all are also under considerable price pressure as OEMs strive to bring these technologies to the widest possible swath of consumers. These items have something else in common: Their usefulness is tied to a subscription services model.Wireless phones, digital set-top boxes, broadband modems, and PCs all need service to work. It's no secret that there's big money in these services. The razor-and-razorblade business model is widely understood and appreciated in the world of high technology.

A year ago in an editorial on this page (A Letter to Cyrix's Next Owner, May 10, 1999), I outlined a strategy for success for low-end PC microprocessor vendors: partner with box makers and service providers to spread the subscription-generated wealth throughout the value chain. This would allow the microprocessor vendors to develop and produce highly integrated devices that they could sell extremely cheaply or give away for free, while still generating enough revenue from subscription fee-sharing agreements to maintain profitability and to develop new products. However, with the rise of subscription service-dependent applications, this model now applies to a much wider array of applications than just low-cost PCs.

The development of this semiconductor model was a featured topic in a panel discussion at the In-Stat Forum in Arizona last week. Prominent executives in the semiconductor industry already see this model becoming important, but they also see some of the challenges it presents.

At the panel discussion, Scott McGregoravice president and general manager of the emerging business unit of Philipsapondered what the impact of such a "pay me later" approach would be on semiconductor firms' revenue streams. Noting that Philips already sells some products using this approach, McGregor said, "That's a scary model for some people, but it actually works out well for your company." Indeed there are some aspects of this approach that could bring fear to the chip industry. With remuneration tied to service revenue garnered by an outside company, enforcement of contracts and auditing of results will become essential. Partners will have to be chosen very carefully with an eye toward their honesty as much as their competence or track record.

Also, the amount of revenue a semiconductor company receives may be tied to the level of success that a customer achieves in selling service contacts, making such arrangements highly speculative. This model diverges significantly from the traditional approach in the semiconductor industry, where price, volume, and delivery are negotiated up front. Despite the challenges of the new semiconductor business model, it is coming and these issues will have to be addressed. As razorblade experts Burma Shave might have said, "It's coming soonait won't be longa you'll sell your siliconafor a song."