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Technology Investing: Don’t bet on Intel

Posted December 26, 2007

“New flash drive companies have been popping up like weeds, with the cost of silicon acting as metaphorical Roundup. New producers are being routinely killed in their infancy, and lenders are hesitant to put more money into an industry with ever-shrinking profit margins.” — Stephanie Grimmett

by Stephanie Grimmett

Baltimore — (TFN): Don’t buy Intel just yet. Give the company a few more months to prove it can turn a profit in its flagging flash memory division before you put your money back into the semiconductor behemoth.

You know it’s no longer the best of times when Intel (INTC: NASDAQ) can’t make a division pay. And things are looking rather dour when it has to postpone its plans to dump that unprofitable department because of financing.

The world’s largest semiconductor producer intends to spin off its faltering flash memory chip division in combination with its major competitor STMicroelectronics (STM: NYSE).

The two companies plan to move their flash memory departments into a new third company, Numonyx (yes, the name is rather silly, but at least it’ll be easy to brand).

Flash memory chips are the mainstay of small digital devices. They’re used in digital cameras and cellphones, and don’t forget those portable memory drives that dangle from lanyards and serve as the techno-geek version of the gold chain.

You’d think business would be booming for Intel and STM, but the flash memory market has been flooded by producers. And while costs for raw silicon, the main component of a semiconductor, have risen sharply with global demand soaring, competition means that companies must charge less and less for their finished product.

We see this happen in every technology as it moves from a novelty to a mainstay of our existence. Technology gets cheaper as it gets older. But flash memory producers are being hit from both sides. Sales are skyrocketing, but they aren’t making up for the competition-driven price drops or the astronomical increases in costs for their producers.

And now Intel and STM, Europe’s largest semiconductor manufacturer, are hoping that combining their two divisions will make a mega-producer large enough to generate a profit from the industry. The new company will easily be the largest flash chip-maker in the world, and the two companies plan to use their combined strength to steal customers from rivals.

Intel and STM gave an end-of-2007 deadline for the merger of their two memory chip divisions. But they’re now postponing that deadline by three months. And an STM press release marks March 28 as the creation date for Numonyx.

You can blame the delay on a less-than-enthusiastic credit market, especially in the semiconductor industry. New flash drive companies have been popping up like weeds, with the cost of silicon acting as metaphorical Roundup. New producers are being routinely killed in their infancy, and lenders are hesitant to put more money into an industry with ever-shrinking profit margins.

Intel and STM are scaling back the worth of Numonyx. Intel currently said it will accept 45.1% of the new company and a $432 million pay out, while STM reduced its payment from $468 million to $364 million, along with its 48.6% share (buyout fund Francisco Partners will pay $150 million for the other 6.4% of the company. — percentages are rounded, by the way.).

The new deal substantially decreases the amount STM’s half of the company is worth. And the Geneva-based company can’t do much to dispell that perception since it took a $857 write down to record its flash memory chip division’s net worth in the second quarter of 2007.

If Intel and STM can make their new venture profitable, it would be a great time to jump back into the flash memory industry. But I don’t know if size will really be enough to make a difference when silicon is becoming more scarce and more expensive everyday. And in an already over-glutted industry I’m hesitant to say Numonyx will be anything new.

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Posted by Stephanie Grimmett · Filed Under US Stocks and Markets 

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