Specialty chips find their niche

With revenue growth for PC chips slowing, communication chips have become the hottest growth area in the semiconductor market, analysts say.

A study by International Business Strategies shows the communications chip market will grow from $28.3 billion in revenue in 1998 to $90.4 billion in 2005.

"The driving force is the increased demand for bandwidth in every aspect of communications, whether it's home users accessing the Internet, providing bandwidth inside a corporation, or the emerging demand in the third world. The demand is literally everywhere," said Dataquest analyst Jeremy Donovan.

A mix of established semiconductor companies, like Lucent Technologies, Motorola, and Texas Instruments, as well as startups like Broadcom and Vitesse Semiconductor, have quickly latched onto the fast-growing market.

They provide the processors and memory for network equipment manufacturers, such as 3Com and Cisco Systems, to build everything from modems and cell phones to switches and routers that help create the network infrastracture for more Internet bandwidth.

Intel--fearing lower profits as PC chip prices continue to fall--has even jumped into the market with its recent $2.2 billion purchase of Level One Communications, maker of communications components for telecom and corporate networking equipment.

Intel has also partnered with Analog Devices, a company that today released the "Internet Gateway Processor," a dense modem chip used by Internet service providers to allow consumers to dial into the Internet.

While computers still make up the majority of semiconductor revenue with 48 percent of the market, communications falls in second place with 20 percent of the market, but is growing, said Jim Feldham, president of Semico Research.

In the overall semiconductor market in 1998, the number of units sold grew only 1 percent, while semiconductor sales in the communications market grew about 8 percent, he said.

"If we look out 10 years from now, communications is the fastest growing market," Feldham said. "And we see a continuation for the rapid growth of the Internet as adoption of broadband access, from DSL and cable modems, accelerates."

Lucent a chip leader
Most telling is a recent Dataquest study that shows Lucent, which only makes communication chips, as the fastest growing chipmaker in the industry.

Lucent's revenue grew 15.9 percent in 1998, while practically every other semiconductor firm saw its sales growth stagnate or fall. Intel, for example, added 4.8 percent in revenue, while Motorola dropped 12.2 percent and Texas Instruments fell 20.8 percent.

Because the communications chip market is so competitive, Dataquest's Donovan sees more consolidation ahead.

"Essentially, what happened in the PC world will be mirrored in the communications world. You'll see consolidation into a few major vendors with startups acquired by larger companies," Donovan said.

"It's applying the Cisco business model to the world of semiconductors. You form a large company with excellent distribution, develop some products internally and aggressively acquire hot new technologies from the outside," he added.

The industry consolidation is already happening. Aside from the Intel-Level One deal, Lucent just spent $250 million for Israel's Libit Signal Processing, a maker of chips that enable cable Internet access.

Firms are also striking deals with each other. In February, chip maker MIPS Technologies struck a deal with Texas Instruments to combine its MIPs processors with TI's digital signal processor technology for home networking products and digital consumer devices, such as handheld computers. A number of companies have licensed MIPS' technology, including Broadcom, LSI Logic, and Toshiba.

Donovan said some movers and shakers in the industry include Broadcom, which specializes in high-speed Local Area Network (LAN) products and cable modems, PMC-Sierra, and Vitesse, both of which focus on SONET technology, networking equipment that offers high-speed data transmission over fiber optic lines.

These companies compete with the top players which offer broader product lines, including Lucent, Texas Instruments, National Semiconductor, Motorola, LSI Logic, and Conexant, which spun off from Rockwell Semiconductor Systems.

To capture more of the market, companies that historically created custom-made chips for specific purposes are now creating more standardized chips that can be used in multiple devices--and vice versa, Donovan said.

"Broadcom is starting to sell some custom chips and LSI Logic is starting to sell standardized products. The distinction is going away," he said. "They're doing it because it's better you, than someone else. If a very large customer wants a specific optimized design, it's worthwhile to build them that way, even if you're a standard company."