In the past 10 years, the fundamental shift in the semiconductor industry from corporate IT to consumer demand is very important to consider. It has created a different playing field. There are more products that use semi components (MP3s, cell phones, autos, "smart" houses). Seasonal demand is now an issue, such as Christmas and the Chinese New Year. Finally, the potential exists for more commoditized products and ASP (average selling price) erosion.

Firms that will out-perform in a slightly negative GDP environment include:

• Firms with the strongest balance sheets, such as Intel Corp. (INTC)
• Companies that make specialized semiconductors (i.e. chips used in dentist X rays)
• Firms that sell products that are technology-driven rather than capacity-driven
• Companies that are gaining market share because of superior technology, like Varian Semi (VSEA)
• Firms that sell products associated with regulation (e.g. power conservation), such as Power Integrations (POWI)

OPPORTUNITIES

Older technologies deliver power inefficiently, often consuming two or three times the amount of power needed by the end product and wasting substantial amounts of energy. Firms that provide solutions to so-called "energy vampires" will out perform. Our favorite name in this arena is Power Integrations, Inc. (POWI).

Intel's "Netbooks" are expected to attract first-time buyers in developing economies, while in developed economies, their pricing and portability are expected to help second- and third-unit sales per household. Although they are unlikely to be as efficient as some of the latest chips for desktops and servers, there is a longer-term potential for adoption in consumer electronic devices, embedded applications and thin clients.

Since the chip is specially designed for the portable market, the design excludes some features that lower the manufacturing cost. This is expected to help maintain margins even as volumes ramp up. Management stated that the Atom processor would generate margins in the 58% range. Given the enormous prospects, revenues are being broken out separately.

SITUATIONS TO AVOID

Trimble Navigation (TRMB) is an OEM of GPS-based products and control systems. December quarter results were short of consensus and management expectations, although they were in-line with management's preannouncement. Forward guidance is for a 6-18% sequential increase in Q1.

International markets will be the key to growth in 2009, as the negative impact of the recession on E&C is likely to be even more pronounced. We expect further declines in the share price as investors react to management conservatism, and the weakening market overall.

The E&C unit shrunk to 49% of revenue in the last quarter. The revenue share has been declining gradually, as the TFS and TMS segments experienced stronger growth. The problems in this business continued in the last quarter, with revenue declining double-digits, both sequentially and year over year.

The Middle East is undergoing temporary softness due to the fall-off in oil revenues. The traditionally strong U.S. and European construction markets experienced unprecedented weakness. A couple of factors indicate that the weakness could continue.

The first is the slower economy, which resulted in weaker demand for new construction products. The second is related to the uncertainty in the credit market. As construction companies are less certain about the availability of funds, they have cut back investment in new contruction equipment. While a lot of the order pullback may return as revenue, delayed decision-making is likely to continue for the next few quarters. Customers depleted inventories in the last quarter in favor of using cash for new equipment.