Pigs on ice

However, there are perhaps some glimmers of hope for the telecom board makers as a new administration comes into office in the United States. The Telecommunications Industry Association (TIA) has sent letters to the new president, asking for government subsidies to expand broadband coverage across America. The new administration has made noises about bringing classrooms in public schools up to 21st-century standards, and that suggests broadband connections and new equipment.

At the same time, though, consumers are reducing their telecom services and costs as they adjust their spending patterns to an uncertain economy. Businesses have also cut their capital expenditures and telecom costs as they react to conditions. Consumer spending in the United States is about 70 percent of Gross Domestic Product (GDP), while government spending is about 20 percent and business spending is only about 10 percent. So even with a major broadband expansion, wiring up all the classrooms in the United States with new telecom gear and services cannot possibly replace the lost telecom revenues from consumers and businesses. Hence, at the start of 2009, everything associated with telecom is a pig on ice, in spite of any potential government subsidizing.

Industrial output has been declining across the world economy for many months as new economic conditions unfold. Many factories abroad are closing, especially those making products for export to the United States. That suggests there will be fewer factory automation projects in the industrialized nations, especially in Europe. That could be bad news for industrial board vendors, who might find themselves struggling to stay on their feet. We have already seen severe declines in board product demand from semiconductor equipment makers such as Applied Materials, Keithley, Kulicke, and Soffa, who are traditionally large users of board-level products.

As the recession moves from the United States into the industrial economies of Europe and Asia, demand for board-level products for factory automation could decline even more. These boards are also used in public transportation projects such as trains, subways, and airports, especially in Europe. If those governments try to stimulate their economies, we might see some increase in demand for boards used in transportation. But again, those volumes cannot possibly replace the reduction in board demand for general industrial applications. Also, as governments try to maintain jobs and economic activity in their respective countries during these tough economic times, nationalism emerges. Orders for those board products might be earmarked for local companies, rather than for foreigners. That undermines sales prospects for large international board makers.

In the face of all this, any board vendor who launches a growth strategy right now is as foolish as a pig charging onto ice. World economic conditions simply will not support a growth strategy, certainly not for the next year and likely for longer. Such strategies are based on one premise: trading profit margin for market share by lowering prices. These growth strategies assume that the market is elastic and that the company can increase its volume by lowering their prices and gaining market share. However, in these economic times, growth strategies are anachronistic in the board business, particularly in telecom and industrial applications.

Figure 2: On Solid Ground ART (click graphic to zoom by 1.8x)

Business owners employing niche strategies are the horses on solid ground who are watching the pigs on the ice. The primary objective of a niche strategy is to trade market share for margin: disregarding market share with a concentration on profitability. Niche players break off segments of a larger market with innovative products that contain intellectual value added. In contrast, commodity players employ growth-oriented strategies in an attempt to leverage their manufacturing as value added. The complexity, required expertise, and lower volumes of niche products keep the larger growth-oriented companies out of these market segments. We have seen a number of companies succeed with niche strategies, mainly those that have developed I/O and processor boards using cores and FPGAs.

The premier niche market for boards is MIL/COTS, and the overwhelming majority of that market is in the United States. Every new military application and platform has significantly different requirements that do not lend themselves well to commodity-oriented board products and growth strategies. Every MIL/COTS product demands some specialized expertise (such as advanced cooling techniques, shock and vibration tolerance, or reliability) that commodity-oriented, growth-based companies simply do not provide. The volume of boards used in these programs is small. The MIL/COTS board markets are nonelastic: Reducing prices does not increase demand. Finally, it takes about four years of effort to get into the MIL/COTS market. Growth-based companies cannot stay on the ice that long without freezing to death.

Of course, there are concerns that the new administration, with different priorities and economic imperatives, might reduce MIL/COTS spending, effectively icing things up. This would turn MIL/COTS board vendors into pigs on ice, joining their brethren from the telecom and industrial segments. Though that is unlikely, some programs will be cut. The new administration has already stated that they do not like the missile defense program. The latest Government Electronics Industry Association (GEIA) report says that Unmanned Aerial Vehicle (UAV) purchases will decline 3 percent per year for the next 10 years. However, those reductions will be in the smaller unit-level battlefield UAVs.

The programs for Global Hawk, Predator, Broad Area Maritime Surveillance (BAMS) UAV, Unmanned Combat Air System-Navy (UCAS-N), Unmanned Combat Air Vehicle (UCAV), and the Tactical Unmanned Aerial Vehicle (TUAV) are going forward. Some of these systems are slated for operational capability by 2019. We will see reductions in deliveries of F-22 and F-35 fighters, and only a few DDG-1000 destroyers will be built. The KC-X program (replacements for the aging KC-135 aerial refueling tankers) will go forward, as will the program for 375 Kiowa Warrior helicopters as the Apache helicopter upgrades are completed. All of those platforms contain very specialized and sophisticated board-level products.

However, the new administration has also stated that its goal is to bring the U.S. military into the 21st century, with advanced tools and capabilities. Future military spending will likely shift from weapons systems to Signals Intelligence (SIGINT), intelligence gathering, and intelligence monitoring. As a result, military spending is forecast to be flat, but not declining like telecom and industrial spending. That bodes well for board vendors making VME, VPX, VXS, FMC, XMC, and other VITA standards-based products in the coming years. Companies investing in designs for these technologies will be the horses on solid ground, watching the pigs on ice.

Existing platforms coming back from Iraq will need electronic upgrades or refreshes. That also bodes well for companies making original VME boards. The chassis and backplane components in those platforms are already VME. There is no performance or capability advantage to designing and implementing a totally new architecture in those systems. So, demand for newer, faster, more capable VME processors, A/D, and I/O products will increase substantially under the new administration. I expect that a lot of these new products will be built with IP cores and FPGA technologies to maintain backward compatibility and mitigate obsolescence issues.

The most obvious pigs on ice in 2009 will be the semiconductor makers, as they cut and chop their product offerings to try to get back on a sound financial footing. That means a lot of semi devices used in MIL/COTS products will go End-Of-Life (EOL), forcing board vendors to put those functions into FPGAs with cores.

So, ladies and gentlemen, take my advice. Find sound footing, and watch the pigs on ice.

For more information, contact Ray at exec@vita.com.