BOSTON (CNN/Money) -
Samsung's announcement last week that it expects to see prices of its dynamic RAM chips fall by 30 percent in 2005 wasn't terribly surprising.
The memory-chip market hews to a brutal, cyclical story line: A new product announcement followed by massive capacity expansion, then an inevitable price cliff-drop.
But it's tough news for Samsung's investors, since the company's chip segment recorded an operating profit margin of 47 percent for the second quarter of 2004.
Chip makers face stormy times
The news could get worse in the years to come for Samsung and other makers of memory chips.
"There's a lot of chipmaking capacity coming online," says Mark Miller, an analyst with Hoefer & Arnett, who notes that 31 major chip fabrication plants are going into production during the next two years. Research firm IDC predicts that the total DRAM market grew 60 percent to $26.5 billion this year.
Analyst Shane Rau says the growth rate should slow to about 6 percent in 2005. This will be followed by a 10 to 15 percent decline in 2006, when "the real weakness hits," he says.
DRAM chips and their cousins, flash memory chips, exist in a wide array of products these days; just about anything with a current uses them. That's great news for every manufacturer.
"When a market is this tightly fought, any price drop in a component results in an immediate drop in hardware price," says Rob Enderle, president of the Enderle Group.
What does the price drop mean to the market?
Let's examine what this price drop will mean to these markets, companies, and their investors.
In desktops and laptops, the effect of the drop comes down to one question: WWDD? (What will Dell do?) Dell, with its massive, direct-sales model, is best positioned to quickly drop its prices as a result of the reduced chip cost.
As long as Dell holds off on lowering its prices, competitors such as Hewlett-Packard and Gateway may be able to eke out a few extra points of margin in the short term.
"But if Dell exploits the cost reduction," says Charlie Wolf, an analyst with Needham & Co., "it could force competitors to act in the same way." Dell representatives didn't return calls for comment.
Though the Samsung announcement didn't mention it, prices of flash RAM chips are expected to drop next year, which could have an interesting effect on the portable-music-player market.
Right now the market is divided between the low-end, flash-based players and the higher-end, hard-drive-based players such as Apple's iPod. A flash price drop could widen the price disparity between the two markets and spur more sales on the low end.
Perhaps for this reason, Apple is rumored to be planning to release a flash RAM-based version of its iPod in early 2005. Apple investors concerned that such a move would cannibalize iPod sales needn't be.
"Apple makes about 20 percentage points of margin on its existing iPod," Wolf says. "We see no reason why it wouldn't make that much with a flash player."
By launching a flash player, Apple could gain entrance into the music-player market in southeast Asia, where the most popular models are flash-based.
Ironically, one industry that could benefit from the DRAM drop isn't directly involved in hardware manufacturing: cellular service providers. These companies regularly subsidize hardware (cell phones) and could see a reduction in their subsidization costs going forward.
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