Where's the profit? - Opinion - Editorial

Electronic News, Nov 11, 2002 by Lubab Sheet

WHEN ALL ELSE FAILS, consolidate. That's a persistent theme in the materials community these days, and it's the accepted method for restoring profitability. But consolidation isn't going to solve the problem.

What is really needed in the materials industry is a return to sound business practices. That means running a business--regardless of its size--with a profit goal and exiting businesses that are a continuous drain on profitability. The problem is that if the materials community followed this basic rule, there would be few suppliers left. Semiconductor manufacturers would have to shut down fabs. Consequently, the electronics industry would come to a screeching halt.

Maybe this drastic scenario is required for the materials community to gain the visibility and respect it needs to begin to capture adequate value for its products.

Materials are the key to enabling further scaling of semiconductor devices in the next decade. And this can be leveraged to shift the power base in the industry.

Based on a recent profitability analysis of the semiconductor food chain, it is difficult to understand why any company would want to supply electronic materials. Even during the boom of 2000, the average net margin for materials suppliers was 12 percent, which is less than half that of the semiconductor manufacturers. Further, essentially all materials suppliers lost money the following year. While year-on-year conditions have improved based on first-hall 2002 financials, materials suppliers still are not making a profit.

Materials suppliers run lean operations, so further operational cost reductions are not a viable option to improve profitability.

Working closely with chip companies and equipment suppliers in next-generation materials development offers numerous benefits because materials not only have to be invented but demonstrated to work in specific manufacturing processes. This requires extensive applications support. However, suppliers must ensure that these are mutually beneficial relationships. Costs should be shared, IF maintained, resources not completely monopolized by the single customer, and guarantees of materials adoptions made. Suppliers should be able to work with other customers early enough in the development cycle to ensure that there won't just be a single customer for the product. Finally, prices should be set high enough to cover costs and to maintain a reasonable margin during all phases of the product life cycle.

Many material suppliers have engaged in bad business practices. For a host of reasons, prices start to fall, hopes of market-share gain come into play, overcapacity ensues and then the market collapses, to the detriment of all suppliers in the sector. The key to capturing appropriate value for materials begins with the materials suppliers valuing their respective products. The next step is to take a candid look at operations and truly understand the costs associated with supplying the material to the market--the total costs--and then price products accordingly.

Although they have been treated as such, electronic materials are not commodities. The driving force for commoditization is little or no product differentiation. Materials from various suppliers behave differently in processes, and therefore qualified materials are in most cases fixed for a designated production process.

Perhaps the new mantra for the materials community in this so-called "Decade of Materials" should be currency-driven, not commodity-driven. This would allow materials suppliers to invest adequately in future technologies, retain quality employees, and run a sustainable business that is desirable to Wall Street.

1H2002 Profitability Comparison

               Semi    Equip    Materials
               Cos.    Cos.     Cos.

WW Market $B   $54.00  $9.00    $9.00
Net Margin $B  $4.75   $(0.07)  $-
Net Margin %   9%      -1%      0%

SOURCE: SEMI

Note: Table made from line graph

Lubab Sheet is a senior market analyst with Semiconductor Equipment and Materials International (SEMI).