I was pretty bearish on the LCD market last year, but as the overcapacity problem started to subside I have been fairly silent of late. Given the positive article about Corning (GLW - Annual Report) in this week’s Barron’s, I thought it a timely opportunity to look back at the recent LCD supply chain conference calls to see if there are any significant trends. I’ll start with the subject of the Barron’s article.

Starting with display, sales were $610 million in the second quarter, a 16% increase compared to the first quarter sales of $524 million. Glass demand was stronger than we anticipated. Glass volume increased 20% sequentially in the second quarter versus our guidance of 8% to 12%.

(Excerpt from full GLW conference call transcript)

That sounds pretty supportive of bullishness. However, the company was quick to throw a little cold water on the situation.

We believe this was mostly supply chain driven and not resulting from a change in end market demand, although we don’t have final end market statistics yet, and we have seen some reports of stronger IT demand.

We believe the supply chain’s approach to meeting the impact of television seasonality on the overall LCD industry is continuing to evolve. Clearly the panel makers’ decisions to run at lower utilizations in the first quarter and maintain smaller amounts of panel inventory was a refreshing change from last year. Our customer checks in May and June indicate the aggregate panel inventory is currently within acceptable levels. Further evidence of this can be found in the panel makers’ decisions to maintain, or actually slightly raise, panel prices in the second quarter.

We have a hypothesis that the supply chain has built some inventory at the set assembly level. As we have stated in the past, the set assembly level is the more opaque portion of the supply chain to us.

(Excerpt from full GLW conference call transcript)

In other words, consumers aren’t buying more TV sets than expected – but TV makers are buying more components just in case. As we saw last year, if they are wrong the excess inventory will hurt pricing and at any rate Corning’s long-term sales can only be in line with the end market. If they sold extra this quarter they will sell less in some future quarter.

LG Philips (LPL) saw a similar trend, but doesn’t seem concerned.

Ron H. Wirahadiraksa

We feel that the inventory levels throughout the channel are still quite healthy. There’s been some increase but please bear in mind that previously, the previous quarter and also the beginning of this quarter, inventory levels were quite low. We think that by and large, TV inventories is around two months, which is very normal for this time in the season.

(Excerpt from full LPL conference call transcript)

Neither does AU Optronics (AUO).

Dr. Hui Hsiung

This is Hui Hsiung. I think, in general, other than notebook panels, I think both TV and monitor panels, the OEM in the channels are higher inventory compared to Q1, of course. However, in general, those are not very high numbers, at most two weeks is about normal, mostly around one to two weeks is about normal. So it’s a very manageable inventory level.

Earlier, maybe a month ago, there appeared to be higher inventory in the TV 40 plus inch range, but recently, the sale through is improving, so that is getting better as well. So, by and large, I think that building up inventory is what is intentioned during the Q2 period. For a simple reason, I think Q3 we still have a high single digit percentage in terms of shortage between supply and demand. So that bit of inventory will easily be digested during Q3.

(Excerpt from full AUO conference call transcript)

At this point, the capital investments have subsided enough that quarterly inventory fluctuations shouldn’t be too much of a concern. Obviously if the market disruptions continue and, more importantly, begin to affect consumer spending then obviously demand could fall off temporarily. But most down cycles aren’t caused by demand but by supply. And on that basis, I’m inclined to agree with the managment teams that right now the channel inventory build shouldn’t be a big concern.

iSuppli raises 2007 LCD TV panel shipment forecast | Reuters.com

Research firm iSuppli Corp. said on Wednesday it had raised its shipment forecast on panels for LCD televisions by 3 percent to 75.2 million units globally this year, as falling prices boosted fresh demand. The unit shipment would be up 42.7 percent from 52.7 million liquid crystal display (LCD) panels shipped last year, iSuppli said in a statement. That was also higher than 72.9 million units it forecast in the fourth quarter of 2006.The price of a 32-inch LCD-TV panel is expected to fall 17 percent in the first half of 2007 from the fourth quarter of 2006, iSuppli said.

The sales forecast is probably as good as any, but the key question for investors is whether the supply growth will be in line with demand growth. Too much supply means lower pricing even with strong demand. The fact that prices are expected to fall 17% in the first half (typically tech prices decline about 20% per year) suggests the supply/demand balance remains out of whack.

Paul Kedrosky’s Infectious Greed reports: LCD Panel Prices Continue Freefall

Slow seasonal sales and oversupply in the first quarter of 2007 will push prices to less than the $300 level for 32-inch LCD TV panels in March, which is below the manufacturing cost level, iSuppli believes. Many suppliers are continuing to cut their utilization rates at fabs that are producing these types of panels in order to stave off any further rapid price declines. Prices for 37-inch television panels are experiencing a stronger rate of reduction than the 40/42-inch television panels. Suppliers are cutting 37-inch pricing in a bid to boost demand. This may bring the 37-inch price closer to that of the 32-inch panels in the coming months….While iSuppli expects mainstream monitor and notebook panel prices to fall in the first quarter of 2007, pricing should stabilize by the end of the second quarter. This is because panel suppliers appear to be more cautious about capacity expansions and cutting utilization rates to control inventories. Most buyers have very low inventories, so any rise in demand may lead to increased panel purchases.

Where have we heard that before? Perhaps we are thinking of June 28, 2006 when DigiTimes reported:

Nevertheless, the ASP for 37-inch TV panels will stabilize once it reaches US$520-550 at the end of July or beginning of the August, said the sources.

Or possibly it was June 15:

Novatek indicated that present inventory levels are at 40-50 days, which is a reasonable level for the company. Although admitting the inventory value is higher than the first quarter’s NT$3 billion, Novatek anticipates that once panel demand resumes, inventory concerns will ease immediately. Source: DigiTimes.

As for iSupply’s estimates, on June 1 and June 9 they said:

Swelling inventories and disappointing demand from all applications caused prices for large-size panels to plunge in the first half of 2006, with no relief expected until the second half, according to iSuppli.

Of course, the second half came and went, with no relief found and still none on the horizon. Nonetheless, when we dared predict the industry was facing a supply crisis we got comments like:

LCD demand will have its ups and downs. The general trend though is up. There was this glass oversupply “Glut” last year and it did not stop the panel makers from expansion. Also China has not be tapped yet. Near term demand might be flat to slightly higher but as long as they keep finding ways to cut cost, lower ASP wont impact them as much.

For (and on) the record, we were negative going back to April 6, 2006. And unlike iSuppli, we are not expecting prices to stabilize by the end of the second quarter 2007.

Samsung posts strong Q4, drops 2007 capex – 1/12/2007 – Electronic News

Samsung has dropped its capex for the coming year. The company said that it has earmarked $8.6 billion (8.1 trillion Korean won) in capital expenditure for 2007, down from the $10.67 billion it laid out for 2006. Samsung was quick to note that though there is a decline, the capex is actually relatively similar to 2006 levels considering advanced spending at the end of 2006, foreign exchange effects, and the spending of $1.7 billion (1.6 trillion Korean won) at Samsung Austin Semiconductor and S-LCD, its joint venture with Sony, in 2007.Samsung further offered a cautious Q1 outlook. “Samsung Electronics anticipates challenges in key product areas in the quarter, a seasonally weak period,” Chu said.

“Key product areas” for Samsung include cel phones, LCD panels and semiconductors – all of which we have warned are in danger of facing inventory gluts. By cutting back the money they will spend on equipment, Samsung is doing the right thing to ease those gluts.

We already heard from Best Buy (BBY) and Circuit City (CC) that price competition on flat-panel television sets was hurting profit margins.

Holidaysales Blog – WSJ.com : ‘The Year of the LCD TV’

Consumers spent $8.75 billion on TVs, gadgets and other technology items from the week of Black Friday through the week ending Dec. 23, according to the NPD research group. “This was the year of the LCD TV,” NPD declared in a press release, reporting that $924 million of that total was spent on such TVs and that unit growth doubled from last year. The top-selling size of flat screen was 32-inch LCD and the average price of such models dropped to $796 from $1,354 during the 2005 season. The No. 2 spot went to 42-inch plasma.

So twice as many units at $796 equals total revenue of $1,592 compared with $1,354 last year. 18% growth doesn’t sound too shabby. The problem is, with gross margins of 23% over the last year it doesn’t take much of a drop in margins to wipe out 18% revenue growth. In fact, all it would take is for margins to drop just below 20% (three percentage points) for the profitability to show no growth at all.

Readers surprised by our general bearish stance on LCD panel makers generally point out how much demand for the monitors (both as computer monitors and flat panel TV sets) is rising. Indeed, Large-size LCD panel shipments dropped 4% in November, says WitsView

Worldwide large-size LCD panel shipments dropped to 26.3 million units in November, a 4% on-month decrease but 29% on-year increase, said research firm WitsView.

Ignoring the bearishness of the headline, 29% year/year unit growth is rather respectable. But with prices dropping 35% it means sales are lower this year than they were last.

Simple math.

We were the first to point out that the price-fixing investigation aimed at LCD panel makers seemed a bit silly. And at least one firm is using our point as a defense, even at the expense of looking a bit inept. Plummeting prices all but prove the industry has not gotten together to reap excess profit. If anything, the industry needs to cut back production to get supply back in balance with demand. However, Goldman Sachs points out that the investigation may hinder them from doing so.
Investment firm doubts in feasibility of production cut plans for panel makers, report says

Panel makers may hesitate over their production cut plans in the first half of next year, as they will face a long-term investigation from justice departments in various countries, according to investment firm Goldman Sachs, as quoted by the Chinese-language Commercial Times. The hesitations may negatively impact the possibility for panel prices to rebound, the investment firm added, according to the paper.

An excellent point.

We recently noted that the price-fixing investigation of LCD makers seemed a little tough to prove, given that the industry pricing model still looks awfully broken. Now it seems that the defendants are picking up on our alibi suggestion. According to the Times of Oman:

“Honestly, we are surprised at the investigation, as we have been doing our business openly and squarely,” said Sharp spokeswoman Miyuki Nakayama.“It’s unthinkable to us that cartel activity took place given the fact that prices of LCDs are dropping sharply in the market,” she added.

You tell ‘em!

Apparently we weren’t the only ones who noticed that LCD makers were teaming up as a way to ease the competitive intensity. LG.Philips says investigated by S.Korea, Japan, U.S.: Financial News – Yahoo! Finance

South Korean flat screen maker LG.Philips LCD Co. Ltd. (LPL) on Monday said it was being investigated by fair trade watchdogs from Korea and Japan and had received a subpoena from the U.S. Department of Justice. The company, a joint venture between LG Electronics Inc. and Philips Electronics, said it would cooperate fully with authorities.”Last Friday, as part of an investigation of possible anticompetitive conduct in the LCD industry, officials from the Korean Fair Trade Commission (KFTC) visited the offices of LG.Philips LCD in Seoul, Korea,” LG.Philips said in statement.

The real joke here, of course, is that the cartel laws are typically designed to protect consumers from companies controlling the market to raise prices. As we have noted many times, exactly the opposite is happening in the LCD space. The article notes this as well:

The company is struggling with weak prices and high costs for its mainstay TV panels. Analysts point to its lack of a diversified client base as one of the reasons behind its weak pricing power.

So all we can say is, if the LCD manufacturers are colluding, they are really bad at it.

Disclosure: Author is long IShares MSCI Japan Index (EWJ) at time of publication.

Although we have been generally bearish toward LCD display-related companies, we recognize that demand has been very strong. Our concerns have more to do with the capacity being added in the industry, which we think has been more than what was needed to feed the demand. Unfortunately, the signs that demand is cooling continue to build.
Conservative LCD TV market outlook slows driver IC packaging and testing expansion in 2007

Samsung Electronics recently has lowered its worldwide LCD TV shipment forecast for 2007 to 66 million units from an original 80 million units.DisplaySearch has also indicated in its recent report that growth for LCD TVs in 2007 will slow down, with the first quarter seeing oversupply.

Taiwan’s panel makers AU Optronics (AUO) and Chi Mei Optoelectronics (CMO) have also been said to be cutting output for December due to seasonal effects.

Granted, the demand growth is slowing from torrid to hot. Still, on top of the supply issues it could make for a potent cocktail.