Valuations in the industry are not cheap, but the outlook is extremely bright given huge demand for chips and support from the government for localised manufacturing.
The semiconductor industry grabbed the headlines in 2021 due to supply shortages. Though the pandemic induced disruptions forced every industry to slow down its production process temporarily, it disrupted the supply chain of the semiconductor industry to a greater extent. The acute supply demand imbalance may ease as we move through 2022 but the insatiable appetite for semiconductors will continue to surge.
So, how can equity investors make use of the opportunity created in this sector?
Relevance of chip
Semiconductors are used in a vast array of electronic devices such as smartphones, cloud servers, new-age cars, industrial automation, critical infrastructure, defence systems, etc. Artificial Intelligence (AI) capabilities, which basically replace the human brain, require high-performance chips. Semiconductor manufacturing is a complex, capital, and technology intensive process of fabricating semiconductor wafers. Globally, only a few countries have mastered its production and the rest are dependent on them to import. As of today, Taiwan’s TSMC (Taiwan Semiconductor Manufacturing Company) and South Korea’s Samsung manufacture as much as 70% of the world’s semiconductors.
As devices are getting smarter day by day, Applied Materials, the largest equipment supplier to the semiconductor industry, predicts that in the next five years the value of semiconductor content will jump 50%
per automobile to $690 and will double for an average data centre server to $5,600. The growing adoption of 5G telecommunications will boost the value of chip content of a high-end smartphone to $275. Overall, the industry should expand by 2.5 to three times the rate of GDP growth and become a $ 1-trillion market in 2030.
Government initiative and support
With no local manufacturing, India meets its semiconductor requirements through imports. Currently the import value is around $24 billion and is estimated to reach around $100 billion shortly. As the forex outflows are at a very alarming level, the government took a step towards encouraging semiconductor and display fab manufacturing in the country with a Rs 76,000-crore production-linked incentive plan.
The objective is to set up over 20 semiconductor design, components manufacturing and display fabrication units in India over the next six years. Incentives have been lined up for companies engaged in silicon semiconductor fabs, display fabs, semiconductor packaging and design. The government expects around 1.35 lakh jobs will be generated through this scheme over the next four years.
Though India is considered as a centre of semiconductor research and design, it is yet to produce the chips locally. TSMC and United Microelectronics Corporation may start their projects here soon. Reports in media indicate that Vedanta is ready to invest up to Rs 60,000 crore to set up a sophisticated chip and glass manufacturing ecosystem. The Tata Group is in talks with three states to invest up to $300 million to set up a semiconductor assembly plant.
Valuations
With this inexorable growth in this sector, valuations in the industry are not cheap, but they have come down in recent weeks along with those of the tech sector overall, hit by the recent run-up in interest rates.
To conclude, the high internet penetration and proliferation of smart devices are contributing to the semiconductor market growth. This can be a good opportunity for investors to invest in the sector keeping in mind the above factors.
The writer is a professor of finance & accounting, IIM Tiruchirappalli
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