During our recent 3Q09 results update, we note that two (Chartered Semiconductor and Micro-Mechanics) out of the three semiconductor companies under coverage had delivered better-than-expected performance. Only Avi-Tech Electronics missed our expectations slightly due to its dependence on capital equipment segment. We deduce from the results that while the semiconductor industry has been steadily picking up in tandem with general economy, the strong performance to a certain extent was limited to chip and related segment - business within capital equipment segment has by far been mired in weakness. This chip-equipment growth disparity, in our view, is due to excess capacity still held by chip manufacturers even though the market has improved substantially, hence causing them to under-spend on capital equipment.

Positive signs emerging

On a brighter note, we think this phenomenon is due to a delay rather than loss of orders. As the economy improves, we expect a ramp-up in orders within the capital equipment segment. In fact, according to SEMI's October report, North America-based manufacturers of semiconductor equipment had posted a book-to-bill ratio of 1.17 and US$732.8m in orders in September, the first time since May 2007 where bookings have risen YoY. Report by Semiconductor International Capacity Statistics yesterday also lent support to our view that the equipment business is likely to return to healthy levels in near term, due to the growing utilization rate exhibited by worldwide fab capacity (86.5% in 3Q09, up from 77% in 2Q09). As such, we expect this positive news to turn into incremental revenue for companies like Avi-Tech, as soon as the upcoming quarter.

It's our view that the semiconductor industry is unlikely to return to pre-crisis level anytime soon. Based on projections by Semiconductor Industry Association and Gartner, global chip revenue is set to contract for the second consecutive year in 2009 by about 11%. Even as the sales rebounds by 10-13% in 2010, as expected by the industry watchers, it is likely to return only to the 2008 level.

Our forecasts on the semiconductor companies under coverage are currently based on a conservative view that capital equipment segment is only likely to improve gradually, while chip revenue to return close to normal business patterns. Among our continuing concerns are slower-than-seasonal 4Q09, climbing US unemployment rate (10.2% for October) which may hamper consumer spending, and volatility in forex rates. We maintain our NEUTRAL stance on the semiconductor industry.

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