Fabless Semiconductor Companies: Winners in the CHIPS Act Era

Increased Manufacturing Capacity

The increase in manufacturing capacity is substantial. So far, Intel has received $8.5 billion from the Act for its semiconductor projects, including new factories in Ohio, Arizona, New Mexico, and Oregon. Similarly, TSMC and Samsung have received significant funding to expand their U.S. operations. The Semiconductor Industry Association estimates that the CHIPS Act has already garnered over $450 billion in private investments, further boosting global manufacturing capacity.

This legislative funding and similar global initiatives are set to reshape the semiconductor industry. While the primary goal is to secure supply chains and reduce dependency on foreign manufacturing, the benefits for chip designers are clear. Increased manufacturing capacity, driven by substantial investments, could create a more competitive environment, lowering production costs and improving access to advanced technologies. Fabless, aka Chip design companies, can leverage these advantages and focus on innovation and development, ultimately benefiting from global semiconductor production's increased flexibility and scalability.

Fundamental Benefit for Fabless Semiconductor Companies

Chip design companies typically do not own manufacturing facilities and rely on third-party manufacturers to produce their designs. This model, the fabless model, allows these businesses to focus on innovation and development without the heavy capital investment required for building and maintaining fabs. As global manufacturing capacity increases, several benefits emerge for chip designers:

• Lower Production Costs: With more fabs competing for business, production costs will likely decrease. This competition among manufacturers can lead to lower prices for chip production, benefiting designers who can negotiate better deals.
• Improved Access to Advanced Technology: Increased investments in manufacturing also mean more advanced technology will be available. Fabs will upgrade their processes to attract business, providing chip designers access to state-of-the-art manufacturing techniques that can improve the performance and efficiency of their designs.
• Greater Flexibility and Scalability: As more fabs come online, chip designers will have greater flexibility in choosing manufacturing partners. This flexibility allows them to scale production quickly in response to market demands, reducing the risk of supply chain disruptions.
• Focus on Core Competencies: By outsourcing production, chip designers can concentrate on their core competencies—innovative design and development. This focus can lead to more cutting-edge products and a stronger competitive position in the market.

Potential Supply-Demand Dynamic Shift

With substantial investments flowing into the construction and expansion of fabrication plants (fabs), the global production of semiconductors is set to rise. This increase in manufacturing capacity could create a supply-demand imbalance that benefits the chip designers.

Historically, the semiconductor industry has seen periods of boom and bust. During times of high demand, manufacturing capacity often struggles to keep up, leading to shortages and higher prices. Conversely, when supply exceeds demand, prices fall, and manufacturing becomes more competitive. The current wave of investments aims to build a more resilient and flexible supply chain, but it also means that more fabs will be capable of producing a higher volume of chips.

How to Invest In Semiconductor Companies

Funds like VanEck Semiconductor ETF (SMH) benefit from the CHIPS Act in two ways: investing in foundries that should see higher revenue from new manufacturing plants and allocating to fabless chip designers who benefit from more competitive pricing due to increased manufacturing. Investors can also access targeted exposure to fabless chip designers with the VanEck Fabless Semiconductor ETF (SMHX).

Cumulative Performance of Fabless Names Outpaces the Category and Broad Markets

Source: Morningstar, Data as of 07/31/2024. The BlueStar Top 10 U.S. Listed Fabless Semis does not represent the funds underlying indices. The performance data quoted represents past performance. Past performance is not a guarantee of future results. Investment return and principal value of an investment will fluctuate so that an investor's shares, when redeemed, may be worth more or less than their original cost. Performance may be lower or higher than performance data quoted. See important disclosures and index descriptions at end. This is not an offer to buy or sell, or recommendation to buy or sell any of the securities mentioned herein. Futures carry additional risks and are not suitable for all investors.

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