Electronic Design

Three Companies Make 2007 A Real Leap Year

Since this was the second year we conducted our survey of the Top 50 Employers, we based a lot of our data on changes between 2006 and 2007. Who showed the most growth? Who turned red ink into black? Who charged ahead of their competitors? While many companies showed relative stability, three supercharged companies surged ahead in the ranks: KLA-Tencor, Intel, and Juniper. What do these companies have in common, propelling their ascension? Simple. Strong technology and shrewd asset management.

KLA-Tencor, a supplier of process control and yield management solutions for the semiconductor and related microelectronics industries, including wafer manufacturing and data storage, was number 87 on our 2006 list. But in 2007, it ranked tenth, vaulting 77 places in a single year. Improvements in sales growth, operating profit growth, and operating margin drove the company, while its stock price and design influence spending played key roles as well.

Almost every major wafer and semiconductor manufacturer uses KLA’s products, giving the company more than 50% market share in process diagnostic and control (PDC) equipment. Its quality-assurance tools include process control testing equipment and software used in the semiconductor manufacturing process. The software helps increase yield, while the testing equipment helps minimize defects. KLA engineers provide in-house service and expertise at most fabs. And, the company has the largest PDC R&D budget and one of the highest R&D to sales ratios in the industry.

Semiconductor fabs are very expensive to build, and chip design is becoming smaller and more complex. The shift to design at 65 nm and below, the fact that devices keep getting smaller, and the ever increasing demand for consumer electronics are all industry drivers. China’s economic and manufacturing growth has created huge demand as well and can serve as a huge driver for the industry in the future. Alternative power sources such as solar may also provide future growth opportunities, as wafering systems are used in producing silicon photovoltaic cells for solar panels. 

KLA’s major competition includes Applied Materials, the largest overall semiconductor equipment company, and Hitachi Electronics Engineering. While Applied has about 3.5 times KLA’s overall revenues and around three times the overall total market share in semiconductor equipment, KLA has about five times Applied’s market share, specifically in PDC. 

As chips become smaller and more complex, inspection will continue to become more critical. By minimizing defects, companies save both time and money, so they will continue to invest in PDC. In fact, PDC equipment spending keeps going up as a percentage of total semiconductor equipment spending, and KLA devotes all or most of its efforts to PDC.

Revenue increase was very healthy for KLA in 2007 after a basically flat year in 2006.  As you might expect, 66% of those revenues come from Asia, with 42% coming from Japan and Taiwan. KLA’s backlog was up 6.2%, which bodes well for continued success in 2008. Most of the operating profit growth flowed down from the sales growth, though its gross margin was up just a bit. Sales, general and administration (SGA) expenses were down two points as a percentage of sales, so cost control did help operating margin growth a bit. KLA’s profit margins are on the higher end of its competition.

Semiconductor spending, though, is very cyclical. It relies heavily on the demand for products like iPods, cell phones, computer systems, videogame consoles, and other electronics and their life cycles. The health of the overall economy also has an impact.  Still, KLA was profitable during the major semiconductor downturn of 2001-2003. Even though profit levels went down each year, its profitability is a good sign, and profit levels again increased in 2004 when the industry cycle started turning positive.

Sometimes, the big keep getting bigger. Intel, the world’s largest semiconductor manufacturer, is no exception. With product lines in microprocessors, chip sets, flash memory, and connectivity, this company left its place at 89th on our 2006 and rose to 21st in 2007, jumping 68 slots. Like KLA-Tencor, improvements in sales growth, operating profit growth, and operating margin drove this leap. Furthermore, increases in the stock price helped offset declines in R&D spending growth. Design influence spending was a positive contributor as well.

While Advanced Micro Devices has been making some inroads over the last decade, Intel still holds the majority market share. It re-established its technological lead over AMD and over VIA, a competitor in the mobile processor segment, in late 2006 and early 2007 as it advanced from 65-nm process technology to 45 nm.

With this thinner insulation, designers can increase the density of the circuits on processors, which can be made smaller and more powerful. Intel’s quad-core processors also have raised the bar for its rivals. Meanwhile, AMD had to cut prices and lose market share in 2007, but it hopes to catch up in 2008.

After a revenue decline in 2006, Intel rebounded with an increase in 2007. About 50% of its revenues come from the Asia-Pacific region, and overall seasonality leans toward the second half of the year. Its backlog isn’t meaningful, as most orders are made via typical purchase order and are cancelable.

Dell makes up about 18% of Intel’s net revenues, while Hewlett-Packard accounts for about 17%. Intel’s customers mainly are either original equipment manufacturers (OEMs) or original design manufacturers (ODMs). It sells to individual customers as well.

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Intel focuses on advanced multicore microprocessors, though there is a big shift to mobile microprocessors. Its Mobility Group makes up 38% of sales, while the Digital Enterprise Group is responsible for 53%. Yet Intel expects the Mobility Group’s share to eclipse the Digital Enterprise Group as soon as 2009.

The Mobility Group includes processors for laptops and all other mobile devices, while Digital Enterprise produces processors for desktops and servers. Performance improvements in desktops and servers demanded by rich and premium media content continue to drive the Digital Enterprise Group.

Mobility Group revenues were up 16%, about double the total company revenue increase. Its margins also helped, as Intel gets higher prices with the Mobility Group than it does in the desktop arena.

Overall gross margins were basically flat for the company, and the big improvement in operating profit and margins appears to mainly derive from cost control and efficiency, in addition to the sales increase. Intel began a restructuring plan in September 2006 to reduce headcount, improve efficiency, and introduce expense controls, and these actions seem to continue to produce results. Intel also sought to use equipment better and divest lower-margin businesses. Additionally, R&D should be back up to around $5.9 million in 2008, as some of this expense was funneled into manufacturing this year with respect to the new 45-nm process technology.

Like KLA-Tencor, though, Intel has to take precautions. Again, the semiconductor industry is extremely cyclical and depends both on consumer demand for computers and other electronic devices as well as the overall health of the economy. When demand is strong, it is very hard to keep up. And when demand slackens, it is very difficult to react proactively and downsize the operation. 

The good news is that even with the cyclicality, the industry has grown by around 13% over the last 20 years, thanks to China and the apparent insatiable consumer desire for smaller devices with more features. And as larger bandwidth and faster networks become available, the demand for transferring rich media and higher content will mean larger files, which will require more powerful computers. Although Intel will need to maintain its advantage over AMD, it appears in good position with its focus on mobility and multicore processors and with its continued commitment to efficiency and expense control.

Juniper Networks
The telecommunications segment of the electronics industry is hot right now, and no company is hotter than Juniper Networks, a telecom equipment provider specializing in information routing and data security. Ranked at number 62 on our 2006 list, it surged into the number 3 slot for 2007 with a focus on high-performance networking and a goal of being the “best in class” in Internet Protocol (IP) routing. 

This boost came from improvements in most of our criteria: sales growth, operating profit, operating margin, debt to equity ratio, design influence spending, employee growth, and stock price. That shouldn’t be a surprise, as top 40 service providers, 93 of the Fortune 100 companies, and large government agencies and institutions all are among Juniper’s customers. 

About 60% of the company’s revenue comes from infrastructure products—core routers, edge routers, business networks, and Ethernet products. Service layer technology (SLT), which focuses better control and security for networks, provides another 20% or so. The last 20% comes from services, helping customers optimize the use of their networks. Like most companies, about half of Juniper’s revenues comes from the Americas, though it doesn’t rely as much on the Asia-Pacific region as other companies, drawing 20% of its revenues there. Leveraging more growth in this region could be a huge opportunity.

Consumer demand for faster and more powerful technologies such as the triple-pay bundle of video, voice, and data has been key to Juniper’s success. So has the shift from copper-based networks to IP/passive optical networks (PONs). The growth of 3G wireless has been key, too. Looking ahead at these technologies, Juniper increased its R&D spending by more than 30%, which as a percentage of sales, is now around twice the company’s competitors’ R&D budgets.

Now that music and video have invaded the Internet thanks to YouTube, iTunes, and similar Web sites, carriers are significantly upgrading their next-generation networks and bandwidth capabilities—and that’s with just 1% of the total video market. Kids that have grown up in an all-digital world will only demand more bandwidth, faster speed, and newer technologies, all to Juniper’s benefit.

The company also found growth by expanding into the service router arena (J-Series) for enterprise business networks, as customers look for alternatives to the giant Cisco. SLT products also are very relevant to the business market. Now that Juniper has Ethernet-compatible routers, Ethernet could be another growth area, though Cisco and Alcatel-Lucent have a head start in this segment.

Juniper saw better than 20% growth in all three of its product segments. Its gross margin was basically flat, though it is significantly higher than a lot of the company’s competition and a couple of points higher than Cisco. The improvements in expenses mainly came from not having the 2006 non-recurring charges for having to write down the value of goodwill and other intangible assets. The decline in Juniper’s market capitalization basically left the company with no choice. Operationally, then, the growth in operating profit and margins came from the sales increase.

The company seems well positioned in its market segments with good potential for growth. Generally, the industry has seen consolidation, such as the mergers of Alcatel-Lucent, Nokia-Siemens, and Ericsson-Redback, with Cisco still a lone giant. Juniper could pursue an acquisition strategy or be acquired itself, as all of these competitors (with the exception of Cisco) are strategic resellers of Juniper’s products.

Since Cisco dominates the router market, with a 60% share compared to Juniper’s 30%, it is the biggest threat. Alcatel-Lucent also has made some strides against Juniper in the edge router market, most likely as a result of Juniper’s recent (but now gone) lack of Ethernet compatibility.

Yet Juniper is in a very nice position in the IP/PON equipment area compared to some of its competitors, who have greater stakes in asynchronous transfer mode (ATM) copper-based networks. As the triple-play concept grows, so should Juniper’s profitability, as it will only increase the demand for IP architecture equipment.

Companies will set themselves apart in the future by their “feature” sets—and by their strategic mistakes, such as leaving a feature that is in high demand out, punishing growth and the bottom line. Juniper is positioned well, but it will need to avoid mistakes like its routers’ previous lack of Ethernet compatibility. Between the second quarter of 2005 and the second quarter of 2006, it lost 11 points of market share in the edge router segment, all to Alcatel-Lucent, which is a pretty huge shift. Meanwhile, it gained 1.5 points in the core router segment during that same period. Attention to features, then, will be key.

TAGS: Intel
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