No need for alarm over chip inventory spike: iSuppli

Chip inventories in the global supply chain soared US$794 million in value during the first quarter, to just $50 million below what iSuppli considers the optimal level. But it was a far greater surge than forecast by the market researcher, which had expected inventory to fall $400 million short of the optimal level.

"Chip supply and demand appear to be nearly in balance," iSuppli said.

The size of the leap in inventories during the first quarter raised the specter of a chip glut like the one that hit the industry in mid-2004 and caused a number of stock market analysts and other industry watchers to voice concerns. In 2004, the over-stuffed supply chain caused revenues in the industry to dive, and the trouble extended into early 2005.

Hoping to avoid a repeat of the glut, the industry scaled back on production and inventories last year, so much so that by the middle of 2005, a scarcity of some chips was holding back sales of certain IT goods. One example was a shortage of Intel Corp. computer chipsets that some analysts believe helped boost the company's main rival, Advanced Micro Devices Inc.

One stock market watcher, Credit Suisse Group chip analyst Michael Masdea believes there's no correction in the offing, and says that the chip industry will continue to chug along at a slow, steady pace.

"We think recent worries in the semiconductor industry of inventory build, demand fall-off, and/or a repeat of the correction (in the second half of 2004) are overblown," he wrote in a report Monday.

Credit Suisse has forecast 10 percent year-on-year revenue growth for the chip industry in 2006, followed by 15 percent growth in 2007.

However, iSuppli also pointed out that lean inventories in the supply chain have forced chip suppliers themselves to hold greater inventories than normal. Equipment makers and chip distributors have been reluctant to hold inventory due to fears of being caught in a glut again. The result will likely be that suppliers won't be able to increase prices and will find it difficult to predict demand until the end of the year, the market researcher said.

The trouble with chip suppliers holding inventory is that they normally only hold semi-finished products in their store rooms. That means a spike in demand could surprise the markets and cause bottlenecks for certain kinds of chips. Suppliers would still have to send their stored goods in for final assembly, and that can take weeks or longer, since there is currently a shortage of chip assembly services available globally.

ISuppli believes the current chip inventory situation is manageable since growth in global electronic equipment revenue is expected to decline this year to just 5.9 percent, compared to 7.8 percent growth last year.

One group that views the current chip inventory with some trepidation is the Semiconductor Industry Association (SIA), a global industry group, which said Monday that global trends such as high gasoline prices could hurt consumer spending and cause IT market growth to stumble.

"We estimate that gasoline prices at current levels will take approximately $138 billion from American households' discretionary income this year," said George Scalise, president of SIA, in a Monday statement.

So far, there's been no sign high oil prices are affecting chip sales. Global chip sales rose to $59.1 billion during the first quarter of 2006, up 7.3 percent from the same time last year, when sales totaled $55.1 billion, according to SIA. The industry group credited strong PC and mobile phone sales for the increase.

But SIA warned that, "If pump prices continue to increase significantly, there will be further erosion of discretionary income and that could affect consumer confidence and consumer spending."