Shortages of semiconductors have hit the headlines repeatedly in recent months. Carmakers in particular are severely affected with many having to reduce or delay production.
The issues bring to light the automotive sector’s increasing dependence on semiconductors as the industry transitions to electric vehicles and incorporates ADAS (Advanced Driver Assistance Systems) related features.
However, as the chart below shows, automotive is a relatively small end market for semiconductors. Indeed, in our view, structural trends such as Internet of Things (IoT), Artificial Intelligence and improvement in communications networks (4G to 5G to potentially 6G at the end of the decade) are likely much more significant long-term growth drivers for the semiconductor industry.
Nevertheless, the increase in semiconductor content in cars will boost long-term growth for those companies who have a disproportionately high exposure to the sector.
Internet of Things and AI to drive demand over next 10 years
A significant growth area for semiconductors over the coming decade is likely to be the Internet of Things (IoT), whereby devices are embedded with sensors and software and connect to each other over the internet.
The potential applications are enormous. Smart factories are a key example, enabling a shop floor to be monitored remotely. Everything from a machine’s energy usage to its downtime can be monitored, as can warehouses and inventories, helping to improve efficiency, free up capacity and reduce costs.
Another example is connected homes, allowing lighting and appliances to be controlled from a phone or tablet. IoT devices could also be used to improve security, enabling remote monitoring of any open windows, leaks or smoke.
According to Statista, the number of IoT connected devices is forecast to rise from 7.74 billion in 2019 to 25.44 billion in 2030 (source).
And of course, all of the data produced by these devices will have to be processed, analysed and stored. As such, we are likely to see continued increase in data centre capacity as well as the rise of Artificial Intelligence.
5G here at last
Mobile telecommunications networks improved markedly with the move to 4G and the upgrade to 5G is now well under way. 5G will bring higher speeds, better reliability, and lower latency.
The kinds of connected devices mentioned above, and the data they will need to transfer, will all be enabled by 5G.
The move to 5G is expected to cause increased demand for new smartphones. Market intelligence firm IDC expects 5G smartphone shipments to account for more than 40% of global volume in 2021 and grow to 69% in 2025 (source).
Both rising mobile phone volumes, and the increased complexity of a 5G phone, mean that there is extra demand from handset makers for semiconductors. Industry participants note that a 5G smartphone has 20-50% more semiconductor content compared to a 4G smartphone.
Automotive brings another structural shift
The semiconductor content of cars has been rising steadily. Even simple things like winding down a window are now done at the press of a button, requiring semiconductors. Safety features like airbags need pressure sensors to monitor, process and react to sharp changes in speed.
However, the rise of electric vehicles has resulted in a step change in the use of semiconductors. According to Infineon Technologies, the aggregate value of semiconductors used in an electric vehicle is more than twice that of an internal combustion engine.
Then there are the advanced driver assistance systems (ADAS) that are increasingly common in modern cars. ADAS includes systems that apply the brakes if they sense an imminent crash, to ones that help maintain a constant distance from the car ahead, to others that help keep the vehicle in the lane. Such systems require multiple radars, sensors and cameras that all need to interact with each other and alert the driver.
Fully automated cars are a step on from ADAS and will require higher semiconductor content again. A self-driving car is essentially an IoT device as it will need to communicate with other vehicles and devices around it. The data it produces will also be sent back to its manufacturer for processing, analysis and storage.
Why have carmakers been caught short of chips?
Given the significant increase in semiconductor content in cars, it may seem strange that the industry currently seems to be at the back of the queue when it comes to supply. This is a result of the disruption caused by Covid-19 and the difference between semiconductor and automotive supply chains.
The start of the pandemic last year saw an initial sharp drop in new car sales. Automakers therefore cut production and reduced orders for components, including semiconductors. However, demand for electronics (smartphones, laptops etc) soared as companies needed to equip their staff to work at home. The pandemic also resulted in an acceleration in enterprises embracing cloud that in turn resulted in continued strong demand for semiconductors from the datacentre industry. Semiconductor manufacturers therefore had no problem filling any spare capacity with orders for these end markets.
The automotive sector typically relies on “Just In Time” supply chains which see companies hold little inventory. This has developed over decades to become an extremely efficient system. But, having cut their orders for semiconductors, the automakers found that they couldn’t simply increase them again when car demand picked up sooner than expected. The capacity was already booked.
Several semiconductor manufacturers have announced substantial spending plans to increase capacity. Taiwan’s TSMC is investing $100 billion in new plants, Samsung is spending $116 billion and Intel $20 billion. The numbers are huge but the capacity will take time to come onstream and so the crunch will continue for now.
Where do Europe’s semiconductor stocks fit in?
It’s fair to say that none of the innovations in semiconductors over recent decades would have been possible without Dutch firm ASML. ASML is a critical supplier to the industry, offering chipmakers the tools to mass produce patterns on silicon, helping to make chips smaller, faster and greener.
ASML’s most recent innovation is an extreme ultraviolet lithography (EUV) machine which “burns” a blueprint of transistors onto a silicon wafer. Investment website ValueWalk described this technology as “the precision equivalent to shooting an arrow from Earth and hitting an apple placed on the moon.” Such advanced technology is crucial to the ongoing development of cutting edge semiconductors.
Other European firms in the sector include equipment companies, ASM International and BESI, that are enabling innovation in different parts of the manufacturing value chain. Then there are the manufacturers themselves such as Infineon Technologies or STMicroelectronics. For more, read: How Europe’s tech sector is hiding in plain sight
What seems clear is that the semiconductor sector is facing both cyclical and structural demand growth at present. The cyclical demand comes from the bounce-back in orders following the Covid crisis, and the need for new devices due to work from home trends.
However, even as this demand normalises, we expect Internet of Things, AI, advanced communications, and rising automotive demand to provide structural growth in the sector for many years to come.
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