A Whole New World of Chips

Throughout the downturn, semiconductor makers kept the R&D fires burning. The payoff -- to the industry and consumers -- is already evident, and it promises to keep growing

The bust-boom pattern that defines the world of most chipmakers has turned in their favor again, rendering the tech downturn a distant memory and promising a return to the glory days, in a year or two, of 2000, when industry revenues hit an all-time high of $200 billion. The obvious explanation for this revival -- a projected 25% increase in worldwide chip sales this year on top of 2003's double-digit gain -- is the increasing digitization of consumer-electronic devices, whose hunger for chips has helped offset weaker demand from the huge but lumbering PC business.

At the heart of the recovery, though, lies a more fundamental development: a continuing surge in product development for one of the most innovation-minded tech industries. Even as demand for their products stagnated, chipmakers never stopped experimenting with new materials and manufacturing methods that let them pack more circuits into smaller packages.

Moreover, improvements in chip-design software plus the practice of loading chips with predesigned modules have cut design times by up to 50% over the past few years, estimates Sumit Sadana, director of strategy for IBM Microelectronics (IBM ). Walden "Wally" Rhines, CEO and chairman of chip-design software maker Mentor Graphics (MENT ), thus expects chip companies to create 20% to 50% more new versions during the current upturn than in past recoveries.


  Taken together, such advances have enabled electronics companies to design more versatile and powerful TVs, music players, and cell phones with less lead time than ever. In just 10 years, the dollar value of chips in a typical cell phone has risen from a fraction of that in PCs to nearly even in some cases, according to chip consultancy Pathfinder Research in San Jose, Calif.

And some chipmakers are dreaming up the kinds of goofy uses for their products that characterize an industry with a surplus of ideas. Germany's Infineon (IFX ) is trying to commercialize clothes that have MP3 player chips woven into the fiber so people can avoid messing with music-player wires. It's also developing what it calls intelligent carpet -- rugs containing 10 chips per square meter that can be programmed to sound an alarm should someone step on them at a time of day when no one should be in the room.

To cash in on their new markets, chipmakers are spending on research and development as never before. After jumping 45%, to $14.2 billion, from 1998 to 2001, according to the National Science Foundation, spending on chip R&D continues to rise. Microprocessor king Intel (INTC ) has announced that it will spend $4.8 billion this year on R&D, up 10% from 2003 and the largest one-year amount in its 35-year history. Texas Instruments (TXN ) plans to increase its R&D budget as well -- after boosting its investments 10% last year, to $1.75 billion.

Overall, R&D spending by chipmakers should increase by the low- to mid-single digits in 2004, to about $20 billion, according to Merrill Lynch.


  The payoff could be big for both chip companies and their consumer-electronics customers. To help them lower prices and spur sales, companies such as Sony (SNE ) are counting on the traditional price reductions of about 25% a year for most chips -- and bargaining hard with suppliers when they don't get more. The electronics companies "see consumers replacing their devices more often if they're cheaper," says Martin Reynolds, an analyst at technology consultancy Gartner Research in San Jose, Calif.

Low prices are also a key to selling more electronics products in developing markets such as China and India, where consumers have less to spend, says Aart de Geus, chairman and CEO of Synopsys (SNPS ), the world's largest chip-design software maker. If chipmakers can grab that opportunity, they stand a chance of prolonging their recovery and evening out the industry's traditional cycles, says Mentor's Rhines.

The chipmakers' capacity situation seems to support this scenario. The industry entered the current recovery with 40 state-of-the-art plants worldwide -- more than ever before, says Rhines. This means it's ready to pump out plenty of up-to-date products. It also means foundries, which make chips for semiconductor companies that can't afford to build their own factories, won't increase their prices as much as in prior upturns.


  The current round of innovation is focused on four main areas: integrating more functions onto fewer and smaller pieces of silicon, improving packaging so chips can be used in a wider variety of products, developing entirely new kinds of semiconductors, and improving chip materials and manufacturing processes. The latter is necessary because transistors and circuit lines continue to shrink, demanding ever more-advanced chipmaking technologies.

An example is lithography, or using light to "print" circuits on silicon. The wavelength of light now used in lithography -- think of it as the point of a pen -- is too thick for making tomorrow's chips. So within two to three years, IBM plans to begin using light filtered through water -- which cuts the light's wavelength in half, says Ghavam Shahidi, director of silicon technology at IBM Research in Yorktown Heights, N.Y. The next step, three to five years from now, will be to bring so-called soft X-ray lithography into widespread production, Shahidi says. Since X-rays have much shorter wavelengths, they can be used to create chips having even finer circuits.

Innovations in materials can also help shrink chips and improve their performance: At the moment, IBM is investigating 20 new materials, Shahidi says.


  Another way to economize on space is to integrate the features of several chips into one. In 2003, TI introduced a cell-phone chip that combines the functions of half a dozen older chips. More such integration will show up soon in cell phones, broadband modems, and other devices, says Rich Templeton, TI's chief operating officer who'll become CEO and president on May 1. Perhaps in 10 years, cell-phone chips could even track some of the vital signs of callers, says Synopsys' de Geus.

A lot of the focus in future chips will be on providing convenience for customers. Intel is working on a technology code-named LeGrande that should improve PC security. With LeGrande, a PC's processor will contain custom transistors that, together with special software, will create a virtual vault around a computer. A hacker might get onto a corporate network but not to vital information, says Brian Fravel, director of desktop platforms marketing at Intel.

Chipmakers are also working on features that will be more obvious to consumers. Intel's main rival in microprocessors, Advanced Micro Devices (AMD ), is developing a single chip that will contain several processors and thus enable both better multitasking and faster performance, says Fred Weber, chief technology officer for AMD's computation products group. With such a processor, it might be possible to watch a TV program on a PC screen, do graphics design, and listen to an MP3 file, all without overloading the computer.

Such chips may even let computer makers reestablish the distinction between personal computers and the powerful multiprocessor workstations preferred, in theory, by architects, engineers, and graphic artists, Weber says.


  Indeed, better chips will let computers and electronics morph into new shapes. Later this year, many chipmakers will release products based on a technical standard called PCI (peripheral component interconnect) Express. This will enable faster communication between a computer's memory chips and its processor -- and improve the speed at which data can be retrieved by up to 25%. At the same time, changes in how chips within a PC are arranged will allow for desktop computers as thin as DVD players.

Innovative packaging can even spur offbeat demand for chips. Applied Digital Solutions (ADSX ) in Palm Beach, Fla., coats its RFID (radio frequency identification) chips for humans with a so-called bio-bond material that creates scar tissue when the chip is injected into a person's upper arm. Thus, the chip remains embedded in muscle and doesn't migrate through the body, says Scott Silverman, ADS's chairman and CEO.

Applied Digital's chip, which so far has been embedded in 30 people, will be marketed as a somewhat invasive but counterfeit-proof ID when it enters the mass market in a year or so. While that might sound strange, Applied Digital already has inserted 30 million RFID chips into pets so the animals can be identified if lost.


  Chipmakers are experimenting with plenty of other ideas. Infineon is already selling chips that can help diagnose diseases or be used to verify DNA in crime investigations. It uses a special process to create 1 million pores, each one-tenth the diameter of a human hair, on a piece of silicon that's one centimeter square. Once blood is applied to the chip, genes that the test is intended to spot bind to DNA strands attached to the pores' walls, says Infineon's Weber.

Other ideas for innovative uses literally are the stuff of science fiction. Michael Sailor, a professor of chemistry at the University of California in San Diego, is experimenting with ways to use silicon dust that looks like glitter. Within the next year, Sailor hopes to use his dust, which can absorb other substances, in sensors that identify airborne pollutants.

Sailor also theorizes that extremely fine versions of such dust, infused with medicine, could be injected into patients and seek out cancer cells. Sailor says this idea was inspired by Isaac Asimov's Fantastic Voyage, a novel in which a submarine and its crew are miniaturized to the size of a germ and embark on a voyage through a human body.

Farfetched? You bet. But the most adventuresome chip innovators have already learned that "there are no boundaries to imagination," says Chuck Byers, director of worldwide brand management at Taiwan Semiconductor Manufacturing (TSM ). It's an attitude that could lead to record revenues for chipmakers, higher sales for electronics makers, and, for consumers, a better quality of life.

By Olga Kharif in Portland, Ore.

Before it's here, it's on the Bloomberg Terminal.