Semiconductor stocks are at record highs, and a global economic downturn is unlikely to change that picture. But an increasingly tense geopolitical environment and lingering supply chain frictions separate the biggest makers from other semiconductor makers, which could affect how well they survive.

The tech cold war between the U.S. and China, which has intensified under the Donald Trump administration and worsened by the pandemic, has upended expectations about how many products to keep on the shelves. Global shortages of some chips peaked in 2021 after customers, including engine makers, cut orders only to find they desperately need them months later. At the same time, the popularity of video streaming services such as Netflix, which have been forced to increase the capacity of their servers, and the wider use of gadgets from companies such as Sony, have created competition for limited production capacity.

Days of inventory, which shows how long it takes to sell and replace inventory, were at an all-time high at specialty foundries TSMC, United Microelectronics and Semiconductor Manufacturing International. These three companies occupy the first, third and fifth place in terms of the share of the global market for custom products – they account for 67% of the total volume. Data from Samsung Electronics, the second-largest foundry, is not analyzed here because the company does not provide data for its contract chip business. Data for fourth-place GlobalFoundries only dates back two years.

Digging deeper, we see that manufacturers outside of TSMC and possibly Samsung are still holding higher inventories as sales slow. At the end of June, inventories at TSMC, which accounts for about 55% of the foundry market, were equal to 40% of this quarter’s revenue. Its competitors combined had 57%.

While demand for semiconductors has not fallen, it is weakening as consumers tighten their belts and companies, including Apple, freeze hiring or cut staff. Those chipmakers that focus mainly on older technologies for mass use — such as components used in smartphones, computers and televisions — are seeing a steeper slowdown. Industry leaders TSMC and Samsung enjoy a more robust outlook for their foundry services because they can offer customers superior manufacturing processes for high-end applications such as artificial intelligence and 5G mobile communications. This competitive advantage provides a greater financial buffer by reducing the risk of holding more inventory.

Not convinced

Mitigating the risk to other players are long-term supply deals, including those announced in recent years by both UMC and GlobalFoundries. The latter last week announced a new deal with Qualcomm that guarantees a total of $7 billion in revenue from the California maker of chips used in smartphones through 2028, slightly more than all of GlobalFoundries’ sales last year. While TSMC does not disclose such agreements, assurances that its capacity will find buyers are to some extent contained in the company’s business model and its aggressive spending plans, with management repeatedly saying that the $100 billion that it invests in three years based on consulting with clients in anticipating their needs.

A number of new policies, including a $52 billion spending package from the US Congress, aim to make it easier and cheaper to expand capacity in America and Europe. TSMC, Samsung, GlobalFoundries and foundry upstart Intel are poised to benefit.

Still, investors aren’t convinced that all that spending will support earnings. Inventories at most foundries have declined over the past year, even with continued double-digit revenue growth, in large part as high spending on new facilities heightens fears that capacity will outstrip demand in the event of a global recession. This is a reasonable concern as semiconductor sales tend to closely track macroeconomic indicators such as GDP growth. But the new normal — a steady rise in inventories — is also likely to exacerbate the gap between the biggest companies with the best technology and other chipmakers that depend heavily on demand for bulk products. Such a changing landscape is likely to mean that the strong get stronger while the weaker struggle to hold on. — (c) 2022 Bloomberg LP

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