Nascent signs of recovery
There are nascent signs of a cyclical recovery in Taiwan's tech sector for the 2H23-2024 period. These include the rebound in export orders for electronic components, the reduction of excess inventories, and the stabilization in chip prices.
Demand: External demand for the Taiwan-made electronic components has begun to improve. Although exports of these components decreased by -7.9% YoY in July, the pace of decline was notably slower than the average -13.3% drop observed in 2Q. Moreover, export orders for electronic components fell only -0.4% in July, a substantial improvement compared to the -20.2% decline in 2Q.
China, including Hong Kong SAR, stands as Taiwan's primary export market for electronic components, accounting for a 54% share in the first seven months of the current year. This is followed by the ASEAN at 22%, Japan at 10%, and South Korea at 7%. Among these key markets, Japan and South Korea have seen deeper contractions through July. In contrast, the decline in Chinese demand has moderated, narrowing from -19.1% YoY in 2Q to -10.2% in July. Similarly, ASEAN demand has experienced an upturn, shifting from the -9.3% contraction in 2Q to the 3.0% rise in July.
Supply: On the supply side, inventory destocking is gathering pace. Taiwan’s production of electronic components dropped by -22.9% YoY in July, mirroring the -26.1% decline in 2Q. This has accelerated destocking, as reflected in the easing of the inventory-to-shipment ratio from its peak of 2.0 in February to 1.4 in June. While this figure remains relatively high compared to the historical norm of 1.0, the ongoing destocking efforts are expected to lead to inventory digestion by 4Q23.
Prices: Global chip prices have begun to stabilize, thanks to the improved supply-demand dynamics. The spot prices of DRAM and NAND Flash have halted their downward trend since the beginning of August, marking a pause in the decline that persisted for 1.5 years.
According to TrendForce, DRAM's average selling prices (ASP) will converge towards a 0-5% decline in 3Q, in contrast to the 13-18% decline in 2Q. Similarly, the ASP of NAND Flash is set to decrease by 3-8% in 3Q, compared to the 10-15% drop in 2Q. A more significant price recovery is anticipated for 2024.
Capex: New capital spending (capex) remains constrained as capacity utilization, though improving, remains below the optimal levels. Total capital goods imports in Taiwan declined by -20.8% YoY in July, slightly outpacing the -17.9% drop in 2Q. The leading foundry TSMC adopted a more cautious stance during its earnings briefing in July, stating that capex for 2023 will lean towards the lower end of the estimated range of USD 32-36 bn.
Domestically, TSMC has deferred plans to construct new chip foundries in Kaohsiung, Hsinchu, and Central and Southern Taiwan Science Parks. In the international markets, TSMC postponed the commencement of 4nm production at the Arizona foundry in the US from 2024 to 2025, citing the scarcity of skilled labor. Nonetheless, TSMC remains committed to launching the 22/28 and 12/16nm production at the Kumamoto foundry in Japan by 2024. Additionally, the company is evaluating the feasibility of establishing a specialized chip foundry in Germany to cater to automotive chip supply.
Revenue: Revenue outlook remains cautious in the near term. In August, the ITRI Industrial Economics and Knowledge Center projected a -12.7% YoY decline in Taiwan's IC industry revenue, amounting to TWD 4.2 tn for the current year. This estimate slightly undershoots the previous estimate of -12.1%. Projected decline spans the main segments, including IC design (-11.6% YoY), manufacturing (-12.3%), packing (-18.5%), and testing (-13.0%).
Several sector-specific catalysts are emerging, encompassing the PC, smartphone, and AI segments. Globally, progress has been made in addressing the prolonged PC inventory challenges, supported by a gradual pickup in business PC demand. Gartner projects that the worldwide PC inventory will normalize by end-2023, spurring growth in 2024.
The smartphone segment is experiencing a quicker improvement in inventory levels. IDC foresees the clearance of excess inventory by 3Q23, leading to positive growth in the smartphone market by end-2023. Concurrently, Counterpoint holds the view that global smartphone inventory has already reached a healthy level, enabling OEMs some flexibility to launch new models in 2H23, attracting consumers to upgrade, and accelerating the replacement cycle.
Moreover, the adoption of ChatGPT is spurring investments in generative AI, driving heightened demand for high-performance GPUs and optimized semiconductor devices.
According to Garner’s latest forecast, semiconductors designed to execute AI workloads will present a revenue opportunity of USD 53.4 bn for the semiconductor sector in 2023, marking a 20.9% increase from 2022. Subsequently, AI semiconductor revenue is projected to sustain double-digit growth, expanding by 25.6% to reach USD 67.1 bn in 2024. Furthermore, it envisions AI chip revenue more than doubling the 2023 benchmark, reaching USD 119.4 bn by 2027.
Taiwan is poised to be an immediate major beneficiary of AI investments. Taiwanese foundries dominate roughly 90% of the global production of advanced logic chips under 10 nm. TSMC has already secured a substantial share of the AI GPU orders from NVIDIA and AMD, underpinned by its advanced technology nodes. Meanwhile, industry giants including Microsoft, Google, Amazon, and Meta are reportedly pursuing their custom AI chip development, which will also leverage TSMC's advanced nodes for fabrication.
Several potential risks persist, encompassing macroeconomic and geopolitical developments. Within the macroeconomic landscape, risks could materialize in the form of a potential US and European recession triggered by tightening monetary policies, as well as a growth slowdown in China driven by property and shadow banking challenges. Weaker-than-expected macroeconomic conditions could exert pressures on global demand for end-devices, particularly the replacement demand for smartphones and PCs.
Within the geopolitical landscape, tensions between China and the US could continue to escalate. In October 2022, the Biden administration tightened export controls on China, aimed to restrict the supply of technology, software, and equipment used for advanced chip production. As a result, both China's semiconductor imports and Taiwan's electronic component exports to China have experienced sharp declines since 4Q22. China's share in Taiwan's electronic component exports has dropped from 60% in Sep22 to 51% in Feb23, before rebounding to 55% in recent months.
US officials have reportedly contemplated tighter controls to limit China’s access to AI chips. US chip companies like NVIDIA have released the "tailor-made" AI chips for the Chinese market, complying with the US export control regulations. Meanwhile, Chinese firms have devised strategies to circumvent the impact of US export controls, such as developing AI chips using the combinations of the available lower-performance chips. This situation leaves room for the US to potentially tighten controls further, aiming to close the existing loopholes. If implemented, more restrictive measures could generate additional negative impacts on global semiconductor trade, potentially disrupting the expected recovery for the 2H23-2024 period.
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