The ongoing consolidation of DSL chip suppliers should create a positive structural effect on pricing and improve the overall health of the remaining players. Dave Burstein of DSL Prime fame points out that Broadcom (BRCM), Infineon (IFX), Conexant (NASDAQ:CNXT-RETIRED), and Ikanos (NASDAQ:IKAN) now account for 95% of DSL chipset market share. This is extremely positive.
From DSL Prime, September 12th:
Broadcom has 37% of the ADSL port shipments market in Q1, TI + Infineon 34%, and Conexant 24%, Steve Rago of iSuppli calculates. No one else has more than 3%. In VDSL, Rago puts Ikanos at 59%, Infineon at 27% and Conexant at 12%.
As broadband growth in developing countries picks up, DSL has the potential of entering the component goldilocks scenario of increasing volume combined with increasing margins with R&D costs largely sunk. This is the sweet spot of the telecom revenue cycle, as marginal players are eliminated and the remaining companies turn the existing business into an annuity.
Marginal participants such as Centillium (CTLM) that lack market share tend to pollute pricing in the marketplace. Component companies with little or no market share typically engage in irrational pricing in an attempt to cover fixed costs, as opposed to operate a profitable business. This drives the market price lower, impacting the profitability of companies with much larger market share. Customers benefit from having too many suppliers chasing too little business.
As the number of market participants is reduced, either through elimination of marginal players or consolidation of larger players, pricing competition attenuates and gross margins expand.
The merger of Infineon and TI’s (NYSE:TXN) DSL business is a huge positive force. While Infineon clearly benefits from the scale such an acquisition brings, Conexant, Broadcom, and Ikanos now face one less competitor at the bidding table. Huawei and Alcatel have fewer vendors to play against each other. All market participants benefit.
The Japanese transition away from DSL (see “The Proving Ground of NTT“) decimated Centillium’s DSL business and in our opinion the company has no reason to remain an independent operating entity. We expected (and so far have been wrong - see “Centillium - Next on Someone’s Shopping List“) that an incumbent player such as Ikanos or Conexant or even PMC-Sierra (NASDAQ:PMCS) would buy the company simply to remove another market participant.
Other markets following the trajectory of DSL components (but lagging in time) are the optical components industry and the WAN oriented semiconductor business.
Disclosure: Author holds positions in Ikanos.
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