Overbuilding to keep memory chips cheap

Several memory chip makers are scrambling to increase spending on new factories even as chip prices remain in the doldrums. Users stand to benefit most because as the new factories ramp up production, the fresh output should keep chip prices down.

An uptick in NAND flash memory prices and the belief that DRAM (dynamic RAM) chip prices are on the mend have combined with good old fashioned competition to send memory chip makers on a production line buying spree. What's strange is that the new spending is counterintuitive to signals the market has sent out so far this year. Price fluctuations point to a maturing NAND flash memory market, and DRAM makers have yet to see the strong demand for Microsoft Corp.'s Windows Vista that they expected would push the need for more DRAM in PCs.

"Prices will probably tick up a bit in the third quarter, but the fourth quarter and the first quarter next year are more dangerous. The first quarter could be bloody," said Rick Hsu, chip analyst at Nomura Securities in Taipei. DRAM prices are rising now because PC makers are filling PCs with 2G bytes of DRAM per system, he said.

Chip facility clean room
Chip makers are going on a production spree.

Vista requires more DRAM than older Windows products, such as XP. A buying spree of PCs equipped with Vista would go a long way to fix the current DRAM glut. But so far, the OS hasn't been as popular as hoped, and DRAM price increases in the third quarter will be met by output from several new memory chip factories in the fourth quarter.

The new output should cap price gains, said Hsu. By the time the first quarter rolls around, DRAM prices will likely tank as the post-holiday lull in PC sales combines with a steady increase in DRAM supply to flood the market.

As usual, what's bad for memory chip makers is great for users. Falling DRAM prices will mean users can expect bargains on the chips, and incentives such as PCs with extra memory. A weak DRAM market can also hurt NAND prices because some of the biggest DRAM makers, including global market leader Samsung Electronics Co. Ltd. and Hynix Semiconductor Inc., can shift production back and forth between the two products. Shifting production to NAND increases the supply, and tames prices.

Memory chip prices have fallen substantially since the beginning of the year. Contract prices of the most widely used DRAM chips, 512Mbit, DDR2 (double data rate, second generation) chips that run at 667 MHz have fallen 65% so far this year to $2.06 each as of Wednesday, according to DRAMeXchange Technology Inc., which runs an online trading site for the chips. The price is below the cost of production for most manufacturers.

NAND flash prices have fared much better than DRAM recently. Contract prices of 8GB chips are down just 11.7% so far this year, and 4G byte chips are off by 16.5%, according to DRAMeXchange. But prices of the chips have risen from year-lows in March and relatively weak pricing in April and part of May.

The low prices have been painful for memory chip makers. Qimonda AG, Europe's largest DRAM maker, posted a net loss of €218 million (US$301.3 million) in the three months ended June 30, and the company blamed a 60% decline in contract DRAM prices for its performance. Micron Technology Inc. in Boise, Idaho, reported a US$225 million net loss in its most recent quarter, the result of a 35% decline in DRAM prices and 30% drop in NAND prices compared with its previous financial quarter.

Despite the weak global pricing, a handful of Taiwanese memory chip makers have announced new plans to increase factory spending. Last week, Inotera Memories Inc. raised its spending target to NT$51.4 billion (US$1.57 billion) from NT$40 billion previously, while ProMOS Technologies Inc. revised its plan to US$1.8 billion from US$1.6 billion. Powerchip Semiconductor Corp., Taiwan's biggest DRAM maker, increased its planned capital spending to NT$71 billion from NT$57 billion.

It's not that the market problems haven't affected the Taiwanese. Powerchip posted its first loss in four years during the second quarter due to lower chip prices, but executives said they have to spend more on their production lines to upgrade to new manufacturing technology and keep up with rivals.

"The transition from 90-nanometer production technology to 70-nanometer costs a lot, around US$1 billion," said Frank Huang, chairman of Powerchip, during an investors' conference on Monday.

Powerchip hopes NAND can help cushion it from weak DRAM prices. The chip maker used to produce only DRAM, but has turned to NAND as a way to diversify into a hot product that's easy to make with only minor production line tweaks. Making both kinds of chips gives it the flexibility to switch back and forth between them to catch the best prices.

In fact, NAND flash memory chip prices are on the rise currently thanks to the launch of the iPhone and copycat products that use the chips to store songs, pictures and other data. Demand for the iPhone is so strong that DRAMeXchange is worried that if Apple puts out attractive new iPods that use more Flash memory, the company could account for 25% of quarterly NAND flash memory output, which would send prices of the chips rocketing even higher over the next few months.

"Shortages are prevalent in the market, with smaller flash card and USB flash drive companies and distributors feeling the tightening environment first, and the tight supply is extending to even the leading customers," said market researcher Gartner Inc., in a report on Sunday.

Still, strong NAND demand will prompt chip makers to shift production over from DRAM, helping to keep prices under control, analysts say. In addition, several companies, including ProMOS, Nanya Technology Corp. and Rexchip Electronics Corp., will ramp new factories up to mass production levels over the next three or four months, increasing the chip supply and curbing price increases. Powerchip plans to start construction on a new NAND flash memory factory in the fourth quarter.

The bottom line for analysts these days is that too many new memory chip factories are being built. The next few months may see higher prices as stores line their shelves for back-to-school sales and the holiday season, but later in the fourth quarter, demand for such gadgets dries up. Once the hot Christmas season passes, sales slow down. The first three months of the year are nearly always slow because shoppers have spent all their money during the holidays.

Once this happens, the glut of chips on the market will return with a vengeance. That's when it will be good to be a user looking for bargains, and bad to be a company seeking profits.

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Copyright © 2007 IDG Communications, Inc.

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