Silicon Valley Venture Investors Lose Taste for Chips

Silicon Valley has lost its appetite for silicon.

While venture capitalists are pouring money into social networking, e-commerce and online-game companies, investments in chipmakers are close to a 12-year low. And yet semiconductors -- made from silicon wafers -- provide the brains for everything from computers and mobile phones to nuclear missiles.

At issue is the expense to get a startup off the ground. Chipmakers spend millions developing and testing their designs before they even know if an idea is viable. Those costs have pushed the industry abroad to countries that offer tax incentives and subsidies unmatched in the U.S. Meanwhile, the expense of starting software and Internet companies has actually gone down, thanks to cheap Web-based programs and services.

“There are no lack of ideas, but it’s becoming harder and harder to find investors,” said Ken Lawler, a general partner at Battery Ventures in Menlo Park, California, who has invested in chip companies such as MaxLinear Inc. and Calxeda Inc. “It takes too much money and too much time.”

That contrasts with China, whose role as a manufacturing hub for semiconductors is helping it play a bigger role in design and innovation. The country’s worldwide share of chip- related patents is expected to rise to 33 percent this year from 22 percent last year, according to a November report from PricewaterhouseCoopers LLC.

Photographer: Ryan Anson/Bloomberg

The new Intel Atom E600 series chip, fitted to an Advantech Co. Ltd. processor board, is displayed at the technology showcase during the Intel Developer Forum 2010 in San Francisco, California. Close

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Photographer: Ryan Anson/Bloomberg

The new Intel Atom E600 series chip, fitted to an Advantech Co. Ltd. processor board, is displayed at the technology showcase during the Intel Developer Forum 2010 in San Francisco, California.

Time for Concern?

“The U.S. has got a lot to be concerned about from a global competitiveness perspective,” said Matt Cowan, co- founder of venture capital firm Bridgescale in Menlo Park, who formerly worked in corporate development at Intel Corp.

Venture financing of U.S. semiconductor companies dropped 36 percent through the first three quarters of this year to $894.9 million, down from $1.39 billion in the same period in 2008, according to data from the National Venture Capital Association. Last year, venture capitalists invested a total of $863.8 million in chip companies, the lowest level since 1998.

First-time venture investments in chip companies accounted for 1.1 percent of total initial funding this year, the smallest category among 16 industry groups tracked by the NVCA.

Software companies received the highest amount, with 17 percent. In the past two years, venture capitalists and other investors have piled hundreds of millions of dollars into social-networking companies such as Facebook Inc. and Twitter Inc., online-game maker Zynga Game Network Inc. and Web-coupon provider Groupon Inc. Each is valued in the billions.

Less Sexy

Additionally, a new class of so-called super-angel investors has emerged that’s focused primarily on funding early- stage Internet startups.

“Semiconductors aren’t as sexy, you don’t get the valuations, and you don’t get the multiples,” said Manuel Henriquez, chief executive officer of Hercules Technology Growth Capital Inc., a Palo Alto, California-based firm that provides debt financing to startups. “There’s no semiconductor activity out there.”

The term Silicon Valley was coined in the 1970s and refers to the 50-mile stretch between San Francisco and San Jose, where companies such as National Semiconductor Corp., Intel and Advanced Micro Devices Inc. were using silicon to create computer components.

Nowadays, a state-of-the-art chip plant costs more than $4 billion and has a useful life of about five years.

‘Not Viable’

“That is just not a viable plan,” said Kishore Seendripu, CEO of MaxLinear, one of just five U.S. chip companies to go public over the past two years.

Most companies don’t even consider manufacturing their own products, choosing to outsource to Taiwanese businesses instead. Taiwan surpassed the U.S. in terms of production in 2005 and has been adding to its lead ever since, according to the trade group Semiconductor Equipment and Materials International.

Seendripu used his own money to fund MaxLinear, which makes chips for set-top boxes, digital televisions, computers and mobile phones. The former Broadcom Corp. engineer and his colleagues parlayed consulting work in 2003 into free use of the million-dollar software for designing chips. They paid for initial production runs by handing over their data to a Taiwanese manufacturing company.

At first, MaxLinear couldn’t find venture backers and was later told by its bankers, Deutsche Bank AG and Morgan Stanley, to shelve a proposed initial public offering, according to Seendripu. While the company pressed ahead with the IPO, the stock has dropped 25 percent since its debut.

Volatile Market

Dramatic swings in demand for electronics also have made investors increasingly hesitant about chipmakers. The volatile nature of the industry means a company looking to raise money needs to be profitable and have high-profile customers, Seendripu said.

At Tallwood Venture Capital, Dado Banatao says he wants to be the “last man standing” investing in semiconductors. A 37- year industry veteran and former head of engineering at National Semiconductor, he has spent more than a decade finding early- stage companies that he helps build.

In the past five years, Banatao has encouraged his companies to expand abroad, particularly in China, to take advantage of government support and lower production costs.

Looking Outside

“It used to be that we started companies here and we didn’t think about going offshore until we were substantially big,” Banatao, 64, said in an interview at his office in Palo Alto. “At the outset now, as we fund the company, we think about going outside right away.”

Since the beginning of 2009, more semiconductor companies have gone public in China than in the U.S. In the past year, Chinese financial markets have provided more than 80 percent of all chip IPO funding, according to PricewaterhouseCoopers.

Growth in Asia is boosting chip revenue, estimated to increase almost 33 percent globally this year to more than $300 billion, according to the Semiconductor Industry Association.

“There are real challenges with respect to doing business in the United States as an industry,” said Brian Toohey, president of the Washington-based group. “It’s a fairly mature industry and the capital costs are huge. Competition in this industry is pretty fierce.”

To contact the reporters on this story: Ari Levy in San Francisco at alevy5@bloomberg.net; Ian King in San Francisco at ianking@bloomberg.net

To contact the editor responsible for this story: Tom Giles at tgiles5@bloomberg.net

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