Drop in Demand May Help Flash Chip Market

A cut in production might help the market return to normal supply and demand conditions.
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The flash memory business may be losing the only lifeline that's been keeping it afloat. And that may not be such a bad thing for the profitability of the flash memory companies.

With a glut of NAND flash chips already flooding the market and compressing prices to dangerously low levels, one research firm is predicting that demand for the chips is set to stall.

The expected fall-off in demand is so significant that iSuppli cut its projections for 2008 NAND flash revenue by two-thirds on Monday. Instead of increasing 27% to $17.9 billion in 2008, global NAND flash memory revenue will increase only 9% to $15.2 billion, iSuppli said.

"The major factor behind the diminished outlook is weakening consumer spending," said iSuppli analyst Nam Hyung Kim in a statement. "NAND flash is used heavily in consumer-electronics applications -- including MP3 players, USB flash drives and digital still cameras -- which are driven by retail sales to consumers."

Kim said that spending on these items will slow in 2008 as a result of the U.S. subprime mortgage crisis and its impact on the global economy.

The dire forecast paints a particularly bleak picture for flash memory chips, but its general sentiment is not exactly shocking on Wall Street. For months, chipmakers of all stripes have seen their shares plummet as investors bet that a slowing economy would mean less consumer spending on electronic goods.

The Philadelphia Stock Exchange Semiconductor Sector Index is off 32% from its 52-week high of 549.39. The index, which tracks 18 chip stocks, was up 1.5% at 374.50 on Monday.

Investors will be looking for updates on spending patterns and business conditions next week, when chipmakers such as

Intel

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and

Altera

(ALTR) - Get Report

kick off the parade of second-quarter earnings reports.

Last month Intel reduced its estimated gross profit margin in the first quarter as prices for its flash memory chips fell 53% sequentially. While the vast majority of Intel's business involves PC microprocessors, the company also produces NAND flash memory chips in a joint venture with

Micron

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, and sells the chips to

Apple

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.

According to iSuppli, Apple has cut back its orders for NAND flash in 2008, and has yet not placed large-scale orders for flash chips this year, in contrast to its huge purchases in 2007.

iSuppli projected that Apple -- the world's third largest buyer of NAND flash -- will spend $1.4 billion on the memory chips in 2008, instead of the $1.6 billion that iSuppli originally forecast.

The firm projected that

SanDisk

(SNDK)

and

Sony

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-- two other big flash chip purchasers -- would also buy significantly less flash memory than it previously expected.

Shares of SanDisk were up 33 cents at $26.17 in midday trading Tuesday. Intel shares were up 17 cents at $22.04.

A drop in demand could deepen the pain in the ailing memory sector. But it could also help bring about an eventual recovery in the business, easing the pressure on the bottom lines of many of flash makers.

The problem until now has been that the demand for flash memory chips has been so robust that it has compelled chipmakers to churn out far too much flash memory, contributing to the falling prices for the chips and lower profit margins.

Should demand slacken, chipmakers may begin to cut back on production, helping to bring supply and demand back in balance.

Last week, Korea's

Hynix

said it was reducing its output of flash memory chips.

And after several quarters of sharp price drops, iSuppli said there were signs that pricing may at last begin to stabilize. The firm projected that prices for NAND flash will fall 36% in the first quarter, but only 13% in the second quarter.