Very strong results, dwindling inventory, and confidence in the outlook from nearly every U.S. technology management team suggests to S&P Global Ratings that there will be favorable conditions into 2022. Even as the tech industry adds capacity, demand will stay relatively high for the foreseeable future.

Semiconductor Supply To Remain Very Tight Into 2022

Chip scarcity has sent ripples throughout industrial manufacturing, with many end markets feeling the impact. For example, we estimate the chip shortage could result in a net loss of up to 3 million car/trucks produced in 2021, roughly 3%-5% of global production. Also, the new iPhone was delayed by a few weeks in the fall of 2020. And the shortage continues to constrain the availability of PCs and peripherals.

Chip suppliers are racing to catch up. Semiconductor manufacturing facilities (fabs) are running at very high utilization and need several months of lead time to increase capacity. Recent disruptions, including the Texas freeze and the Renesas factory fire in Japan, exacerbated the situation and will cap sales in the second quarter.

Still, the situation is good for chip makers. Many are slowing or stopping normal price declines and some are raising prices, and the unmet demand will extend into future quarters, increasing revenue visibility. And to grow capacity, Taiwan Semiconductor Manufacturing Co. Ltd. (TSMC) will invest $100 billion over the next three years, and Samsung and Intel are planning on spending tens of billions to build new fabs in the U.S.

For more details on our view, see "Global Chip Shortage Engulfs A Growing List Of Tech Players", published April 19, 2021.

5G Phones Selling Well, Infrastructure Investments To Ramp Up Through The Year

5G smartphones have enjoyed fast adoption. Qualcomm Inc. estimated 225 million 5G handset units were shipped in 2020, largely toward the end of the year, and it forecasts 450 million to 550 million in 2021. That compares to an estimated global smartphone installed base in the low-4 billion area, according to Gartner, so there remains room after 2021 for further penetration. While Apple has enjoyed success, we expect 5G models from Asia to gain traction in the coming quarters, which will be meaningful given their much larger share of units.

While wireless carrier spending was weak in the first quarter, 5G smartphone sales are seeding demand for wireless service. The C-Band auction in the U.S. concluded in the first quarter and we expect the infrastructure investment that will build out this spectrum to ramp up through the year, which should benefit Ericsson, Nokia, CommScope Inc., and Casa Systems. Demand for 5G access will be greater than for prior standards because of new use cases in enterprise, industrial, and automotive end markets. Also, building out higher frequencies requires more infrastructure. We believe these two factors will drive an investment cycle that should last for several years.

U.S. China Tensions Remain Status Quo; Biden Wants More Domestic Production

President Biden's administration continues the confrontational posture toward China established by his predecessor. While his approach may include more allies and may be more predictable, the supply ban on Chinese entities, tariffs, and high scrutiny of acquisitions remain. The bipartisan consensus now holds that the U.S. should challenge China more directly, pushing back against the Made in China 2025 initiative, which aims to build out China's indigenous semiconductor capabilities, and China Standard 2035, which seeks to set global standards for 5G, internet of things, artificial intelligence, clean energy, and autonomous vehicles, some of which the U.S. believes are areas of national security interest.

The concentration of semiconductor production in Asia, which accounts for 75% of global chip production (the U.S. makes up a paltry 12%), poses severe supply chain risks. Taiwan is a major production center, and is home to TSMC, which has dominance in the outsourced manufacturing of the most advanced chips. However, Taiwan is vulnerable to military action from China, a risk that is now front and center because of China's assertion of territorial claims. Taiwan is also in the midst of its worst drought in half a century, which threatens all of its industries.

Geographic concentration is also a problem in the U.S., as the recent Texas freeze demonstrated. To mitigate these risks, Biden has included incentives for U.S. production in the American Jobs Plan and semiconductor players are planning new investments. Intel said it would spend $20 billion to build two new fabs in Arizona; Samsung is reportedly considering investing $17 billion in an advanced chip fab in the U.S.; and TSMC announced plans to build a $12 billion facility in Arizona.

For more details on our view, see "Semiconductor Supply Shortage And U.S. Policy Response Mark A Renaissance For Domestic Manufacturing And Equipment Investments," published April 26, 2021.

Cloud Spending Accelerating, Green Shoots In Enterprise

Cloud providers (known in the industry as hyperscalers) resumed hefty spending in the first quarter after a two quarter pause. We believe demand signals are good and that the current investment cycle will last through 2021. Over the longer term, we expect pauses in hyperscale spending to be short-lived--they can only break for so long until demand requires them to expand capacity, and periods of investment will last longer than cloud acclimatization (or "digestion") phases despite their ongoing efforts to optimize their infrastructure.

Microsoft Azure continued to gain share at scale, growing revenues 50% year-over-year compared to Amazon Web Services growing a spry 32% at a larger revenue base. We believe Microsoft is leveraging its installed base of enterprise customers, its broad product portfolio, and its support for hybrid cloud and multi-cloud deployments to gain traction. Google may be taking a more aggressive approach by leveraging benefits across its platform as it did to win Univision by packaging benefits across YouTube, search, and ads. Through the pandemic, we believe enterprises reinforced their preference for outsourcing more of their IT infrastructure, so the demand environment should remain strong for all players for several years.

We believe signs of loosening enterprise IT budgets are emerging as managers become more confident in the recovery. A new hybrid model with workers splitting more time between the office and home should drive network and security spending, and digital transformation, cloud migration, and data analytics remain priorities. PC demand also remains strong; we recently raised our forecast for 2021 PC unit shipments to 8% after we raised it to flat from negative 7% in January.

Memory Is Inflecting

Demand for memory chips is as strong as ever, supported by 5G smartphones, resumption of investment by hyperscalers, expectations for stronger enterprise investment through the year, and PC demand that remains strong. DRAM pricing is already increasing, which we expect to continue through 2021. NAND pricing is bottoming and we expect increases starting next quarter, one quarter sooner than we had expected. While supply discipline is stronger in DRAM, capacity additions for NAND are reasonable and do not threaten the improving pricing conditions we expect.

Rating Actions Are Likely To Have A Positive Bias In 2021

We expect a positive bias to U.S. tech rating actions in 2021, due in part to reversing negative actions stemming from pandemic-related demand weakness, as well as a very strong demand environment throughout 2021. Negative actions peaked in March and April of last year, but we have seen positive actions exceeding negative ones in almost every month since July. Reversal of the negative actions from the early months of 2020 account for part of the activity, but we believe that has mostly run its course. Now U.S. tech companies are faced with the best demand environment we have seen in many years, which will drive improvement in credit metrics and could cause us to take more favorable views of business fundamentals for certain companies, potentially leading to more positive actions.