Mr. Gerra: Basically, the catalyst for technology and semiconductor stocks this year so far has been the prospect of faster than average revenue and profit growth. Particularly in an environment where potentially the economy is slowing, people tend to retrench into companies where profits can outpace GDP growth. Another catalyst has been the fact that a lot of semiconductor companies are very international in nature, relying more than average on international demand. Clearly China, India and a lot of other developing economies have acted as a driver for consumer electronics items and that has benefited US-based semiconductor companies. The weakness in the US dollar is also helping, to the extent that those companies basically get more competitive in foreign markets. We've also seen a return to normal valuations. There has been a pretty consistent contraction in multiples for semiconductor stocks over the past few years, and we think that the risk/reward in terms of growth relative to valuation is now much more attractive.
TWST: How have earnings shaped up so far this year relative to your
expectations?
Mr. Gerra: Basically we've seen a number of companies providing Q4 guidance that
is more muted than expected. Guidances were often in line with normal
seasonality, meaning the five- or seven-year average Q4 versus Q3 growth. But I
think that expectations were higher because we are in an up-cycle year. We've
emerged from an inventory correction that took place the second half of last
year and, similar to 2005 and 2003, 2007 has been an up-cycle year where
inventory levels have normalized and orders started picking up and ramping back
in line or slightly higher than end demand. Typically, those up-cycle years tend
to end on a very strong note and that is what I believe led to higher than
normal seasonal expectations for Q4, which has caused some stocks to disappoint.
The fact that Q4 guidances have been somewhat muted is also the result of a
strong push in terms of keeping inventory levels as low as possible in the
entire food chain. The feedback we have gotten from the distributors and the
ODMs we talk to across the entire food chain is that they are cautious about the
US economy, they don't have much visibility about Christmas, and even though an
inventory decline is a normal occurrence in the second half of the year, we are
seeing inventory levels coming down even more aggressively for that reason
because nobody wants to hold excess inventory entering 2008.
We think this could actually create a healthier situation into 2008 versus
previous cycles because even if demand is somewhat more muted than previously
expected, we think that the risk of inventory accumulation is clearly much more
remote than what we saw in 2006 or in 2004, and that's again because unlike 2005
and 2003, people are not overwhelmingly optimistic and double ordering nearly as
strongly as we have seen in previous cycles. There are some exceptions; we have
seen some tightness in PC components and, to some extent, in mobile phones. But
across the board, we are not seeing much extension in lead times and so we're
seeing a much more rational environment. This, combined with valuations that
have come down significantly, could actually create a pretty healthy base for
semiconductor stocks entering 2008.
Tickers included in this excerpt: ALTR, ONNN, SIGM, SNDK
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