Usually, once each quarter, I will opine on the state of inventory within the technology and telecommunications supply chain. As subscribers to
The Telecom Connection know, I track, analyze and report on more than 450 companies throughout earnings season. At the end, I post a note on
RealMoney. Since last summer, we've seen a considerable improvement in inventory throughout the supply chain, and that's been a long time coming.
Inventory started to become an issue in the first half of 2006 as semiconductor companies believed they were building to demand after hearing about shortages and extended lead-times in late 2005. However, it was not until days-of-inventory from the entire supply chain hit 125 days at the end of the second quarter of 2006 that companies publically acknowledged the problem. From my perspective, having inventory in a range of 113 to 116 days is optimal at a macro level.
Unfortunately, the effort to work down inventory was not what I would call aggressive, as you can see in the chart below. After a drop to 121 days in the third quarter of 2006, the drain appeared to clog up for the next two quarters. The number actually spiked up again to 124 days in the second quarter of 2007.
Fortunately, that dropped precipitously to 115 days in the third quarter, then to 111 days at the end of the fourth quarter of 2007. That's a level you would have to consider to be quite lean.
When I look at the two main components of that universe -- semiconductor companies and their customers -- they are in the good-to-great category. Recent history suggests that right around 70 days appears to be optimal for semiconductor companies. What I call the "customers" (all those repositories for inventory on the way to the end-user, from OEMs to contract manufactures to retailers) have typically been in the 44-46 days range when the supply chain is operating well.
As you can see below, the semiconductor companies exited the fourth quarter at 64 days of inventory, and that is extraordinarily lean for this group, given the uncertainty generally entering the holiday production season. That's down three days from the September quarter and eight days from the fourth quarter of 2006.
Over on the customer side, inventory is at 47 days, down three days from the year-ago level and one day from September. This may be slightly above my optimal level, but with the semi side so low, they more than balance out. Furthermore, with the inventory from a handful of Taiwanese players yet to be heard from, it's still likely to drop another day or so.
From a different perspective, the chart below displays the sequential change, third quarter to fourth quarter, of actual inventory dollars (not days of inventory) for the groups in 2007 vs. the median over the prior five years. One reason I look at this information is the seasonality of demand.
Obviously, the monitored universe is right on target with the recent historical norm. However, while the customers are running slightly above the recent average (+3.8% vs. +3.4%), the semiconductor companies are dramatically below the norm (-2.6% vs. +0.6%).
At this point, everything hinges on demand. We have seen some weakening in the wireless handset space along with negative comments from some contract manufacturers and distributors. However, no one is suggesting that business has fallen off a cliff. If we do slide into a recession, it is readily apparent that the semiconductor industry, as a group, is probably in the best position possible from an inventory perspective.
On the flip side, if demand simply softens then picks up in the latter stages of 2008, there are certain to be shortages of parts, given the current lean levels of inventory. Right now, it simply depends upon which way demand falls.
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