Nomura - Asia LED Lighting

8/3/2019 Nomura - Asia LED Lighting

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Still trapped in the dark

Stay bearish: backlighting isunprofitable and generallighting a tough market

We retain our Bearish view on the LED industry, and recommendcaution in any short-term rallies triggered by positive news flow.

Near term, we expect LED backlighting to remain unprofitable in2012F in the face of continued pricing pressure from panel makersand severe LED oversupply (55% oversupply).

Further out, we think general lighting will be another tough marketfor LED makers. The rules of the game in the LED industry havechanged, with the core value of the supply chain likely to shift fromLED components to LED lighting solutions.

We do not recommend buying any LED makers.

Key analysis in this anchor report includes:

LED backlighting market looks set to peak in 2012F. Supply-demand analysis for LED industry suggests continued severe

oversupply in 2012F.

The actual addressable market of LED lighting for LED makers issmaller than the market expected.

The LED industrys profitability during the peak LED lighting cycle willnot be as high as that during the peak LED TV cycle.

EQUITY RESEARCH

A

NCHOR

REPORT

See Appendix A-1 for analystcertification, importantdisclosures and the status ofnon-US analysts.

December 15, 2011

Research analystsAsia Technology

Anne Lee, CFA - NITB

[email protected]+886 2 2176 9966

Regional Head of Technology

James Kim - NFIK

[email protected]+852 2252 6203

Greg Kang - NFIK


Eason Hung - NITB

[email protected]

+886 2 2176 9965

Kyoichiro Yokoyama - NSC

[email protected]

+81 3 6703 1113

Asia LED lighting


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Rating: See report end for details of Nomuras rating system.

Asia LED lightingTECHNOLOGY

EQUITY RESEARCH

ANCHOR REPORT: Still trapped in the dark

Stay bearish: backlighting isunprofitable and generallighting a tough market

December 15, 2011

We are cautious of any rally, given our bearish view on fundamentals

We retain our bearish view on the LED industry for both the short and the

long terms. We believe that deteriorating profitability for LED backlighting

will continue in 2012F and onward, and that general lighting will be another

tough market for LED makers in the longer term. As such, we recommendthat investors be cautious of any bear-market rally which could be

triggered by a rebound in LED TV demand in 2Q12F or positive news flow

on LED lighting demand.

In the short term, we are bearish on backlighting applications

In the short term, we estimate that the LED market for backlighting will

remain unprofitable in 2012F. We estimate that the LED packaged price

for backlighting will drop at least 15-20% y-y in 2012F, as LED makers will

continue to face pricing pressure from downstream amid weak LED TV

demand. Meanwhile, we estimate that in 2012F the LED industry will be

oversupplied by 55%, resulting in low utilization at 45-50%. Lastly, we

estimate the overall LED market size for backlighting will peak at

USD4.2bn in 2012F.

In the longer term, general lighting looks to be another tough market

In the long term, we think that the general lighting market will be another

tough market for LED makers. 1) The actual addressable LED market size

for lighting is smaller than the market expected; we estimate that in 2015F

the market size will be only 1.2 times that of our 2012F peak market for

backlighting, and 2) we think that industry profitability during the peak

lighting cycle will not be as high as that during the peak LED TV cycle, and

that the LED lighting market will be commoditized as latecomers catch up

with the technology, thus weighing down the industrys profitability.

We do not recommend buying any LED names

We reaffirm Reduce on Everlight, as we think its intention to have own-

brand LED lighting will cause it to lose opportunities to cooperate with

lighting companies. Given our long-term bearish view on the industry, we

are Neutral on Seoul Semi, LG Innotek and Epistar although valuations are

close to 2008 financial-crisis lows. Our relative preference is SEMCO,

given its strong commitment to the lighting business and own-brand LED

lighting products. However, we maintain Neutral on SEMCO as it may spin

off its LED business in 2012F and earnings in other businesses are weak.

Fig. 1: Stocks for action

Source Upgrade. Source: Bloomberg, Nomura estimates

Anchor themes

We are bearish on the LEDindustry in both the short andlong terms, as we believe that

deteriorating profitability inbacklighting will continue in2012F, and because LEDlighting is another tough marketto address in the long term.

Nomura vs consensus

We are first to be bearish onLED lighting. Not all LEDlighting revenue is addressable,and the packaged LED value by2015F is only 1.2x of thebacklighting peak.

Research analysts

Asia Technology

Anne Lee, CFA - NITB


Regional Head of Technology

James Kim - NFIK

[email protected]+852 2252 6203

Greg Kang - NFIK


Eason Hung - NITB


Kyoichiro Yokoyama - NSC


Price Target NomuraCode Company 13-Dec Price Rating FY10 FY11 FY12F FY1 FY11 FY12F FY10 FY11 FY12F

009150 KS SEMCO 90,000 90,000 NEUTRAL 12.6 25.5 26.3 2.0 2.3 2.0 18.4 8.4 8.1

011070 KS LGI 73,100 74,000 NEUTRAL 7.5 nm 18.1 1.0 1.1 1.0 16.8 (4.7) 5.7046890 KS SSC 22,000 22,000 NEUTRAL 13.6 31.0 31.0 2.2 2.1 2.0 17.9 6.8 6.6

2448 TT Epistar 60.0 71.0 NEUTRAL 8.4 45.2 23.5 1.1 1.1 1.1 14.0 2.5 4.8

2393 TT Everlight 47.8 44.0 REDUCE 8.6 13.4 12.9 1.3 1.3 1.2 15.6 9.6 9.5

P/E P/B ROE

See Appendix A-1 for analystcertification, importantdisclosures and the status ofnon-US analysts.


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Nomura | Asia LED lighting December 15, 2011

2

Contents

3 Investment summary

7 Gloomy outlook for backlighting

11

LED lighting

another tough market

19 Supply-demand analysis Oversupply risk remainsin 2012F and onward

21 Payback period analysis

27 Industry consolidation is necessary, in our view

29 Earnings, valuation, and stock action

32 SEMCO

38 LG Innotek

44 Seoul Semiconductor

49 Epistar Corp

54 Everlight Electronics

59 Appendix A-1


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Investment summaryWe retain our bearish view on the LED industry. In the short term, while demand for LED

lighting seems to us to be unlikely to be ready to take off until 2013F due to high initial

costs and macro uncertainties, we estimate that the LED market for backlighting will

remain unprofitable in 2012F and onward due mainly to weak LED TV demand and

continued pricing pressure. Moreover, we estimate that the LED industry will be

oversupplied by 55% in 2012F. In the long term, we believe that the general lighting

market will prove to be another tough market for LED makers. 1) The actual addressable

market size of packaged LED for lighting is smaller than the market expected; we

estimate that in 2015F the size of the market will be only 1.2 times our estimated peak

size for packaged LED for backlighting in 2012F, and 2) we think that the industrys

profitability during the peak lighting cycle will not be as high as that during the peak LED

TV cycle, and that the LED lighting market will be commoditized as latecomers catch up

with technology, thus weighing on the industrys profitability. As a result, we retain our

negative view on LED companies and maintain our Neutral ratings on SEMCO, LGI, and

Epistar, and our Reduce rating on Everlight. However, we upgrade SSC to Neutral.

Deteriorating profitability for LED backlighting to continue in2012F and beyond

LED makers' profitability for backlighting will continue to deteriorate in 2012F, in our

view, due mainly to weak LED TV demand and continued pricing pressure on LEDs.

We estimate that LED penetration into LCD TVs will increase to 73% in 2012F from

45% in 2011F, indicating 79% y-y demand growth for LED TVs. However, we think that

the overall shipments for LEDs will grow by only 18% y-y in 2012F due to continued

improvements in technology, lowering the average number of LEDs equipped by 35%

y-y, and because of the increased penetration of low-end direct-type LED TVs.

Meanwhile, we think that LED prices for backlighting will drop at least 15-20% y-y in

2012F. We believe that, because of the slow demand trend and because most of the

panel makers are making operating losses, TV set and panel makers are unlikely to

increase set and panel prices. As such, in our view, component makers will likely face

continued pricing pressure from downstream.

Furthermore, we estimate that the LED industry will be significantly oversupplied by

55% in 2012F, resulting in low utilization, weak pricing power, and weak profitability.

In results, we estimate LED segment operating margins of -2.8% for SEMCO, -4.5% for

LGI, 5.3% for SSC, 13.2% for Epistar and 9.9% for Everlight in 2012F. Moreover, we

forecast that the market size for LED backlighting will peak out at USD4.2bn in 2012F,

and thus believe deteriorated profitability for LED backlighting will continue in 2012F and

onward.

General lighting is also a tough market for LED makers

We believe the demand for LED lighting is unlikely to take off in 2012F, as still-high initial

replacement costs will, in our view, remain a burden on individual users and investmentin LED lighting products will not take off amid macro weakness. LED lighting prices are

likely to need another year to reach tipping points, and we see industry standards

becoming more unified by 2013F with macro headwinds likely to ease by then.

However, we believe the general lighting market is also a tough market for LED makers.

The LED market for lighting will not grow significantly larger than that for backlighting, in

our view. We forecast that the total LED lighting market will grow 56% y-y to USD20bn

in 2013F, but the packaged LED market for lighting will grow to only USD3.1bn in

2013F, vs. USD4.0bn for LED backlighting. LED lighting includes fixtures and

lamp/module assembly (light source), with light source accounting for 40-50% of total

value and package account, and packaged LED value around 35% of the light source

value, on our estimates. As such, we think LED lighting cannot offer sizeable growth

opportunity for the packaged LED market; we estimate that in 2015F the size of the


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packaged LED market for lighting will grow only 1.2 times our estimated peak size for

packaged LED for backlighting in 2012F.

Moreover, industry profitability during the peak cycle of lighting is not as high as that of

LED TVs, given the formers fragmented market, no rush to bring the products to

markets (compared to IT products), and continued price cuts to stimulate demand. In

our view, LED makers in the lighting market are likely to experience margin squeeze

eventually, when third-tier makers catch up with technology. While we expect first-tier

LED makers to enjoy a meaningful margin recovery if demand for LED lighting picks up,

we believe such will likely be short-lived.

As a result, we are bearish on the LED industry in the short and long terms. In our

opinion, LED lighting is causing structural changes in the LED industry. We believe

consolidation is necessary in this industry and see 2012F the best time to undergo

such a change. In this report, we identify four directions: 1) LED makers move towards

downstream lamps, fixtures, etc; 2) LED chip makers work towards horizontal

integration and build direct relationships with lighting companies; 3) global lighting

giants further enhance their technology and channel networks by M&As; and 4)

small/mid-size lighting companies/channels cooperate with LED makers.

Oversupply is still the major downside risk

The industry may continue to face the risk of oversupply, in our view. We estimate that

the lead-time for new capacity ramp-up is ~3-6months. We believe LED lighting supply

from the upstream is now much more flexible than during the golden period of LED TVs

during 3Q09-2Q10.

The industry is currently suffering from a severe oversupply of over 50%, on our

estimates, resulting in significant profit deterioration. We believe LED makers will

continue to suffer low utilizations in 2012F due to significant LED capacity, slow LED TV

demand and immature LED lighting demand. We believe capex discipline is necessary to

prevent the oversupply condition from getting worse.

Payback period analysis commercial demand to come firstfollowed by residential demand; street lighting to be subsidy-

driven

We believe payback periods are a reasonable measure than price differences to

evaluate competitiveness of LED lighting, given LED lightings lower power consumption

and longer life span compared to incandescents. We analyse that some commercial

LED lighting (eg. MR16 used in display window) will be competitive in 2012F, as the

payback period is already at around 0.6 years. For residential lighting, the payback

period of LED vs. incandescent will reach our estimated 1.3 years in 2012F. However,

we believe LED penetration will be slow due to competition from compact fluorescent

lamp (CFL) which offers a comparative price and high luminous efficiency (the payback

period of LED for CFL will be around 5.8 years by 2013F, on our estimates). We believe

CFL will continue to be the major challenge for LED lighting. Lastly, we believe

governments subsidy programmes are necessary to promote LED street lighting, due to

the long payback period and high replacement costs. We estimate that the payback

period of LED against conventional street lights will remain long at 11.9 years and 7.4

years in 2011F and 2012F respectively.

Stock action- Prefer vertically-integrated players

We are more positive on vertically-integrated LED makers with good technology in

developing LED lighting including lamps, fixtures and systems, and have a good

relationship with distribution channels and customers. We believe the game rule in the

LED industry has changed from backlighting to general lighting, as we expect the core

value of the supply chain in LED lighting market to gradually shift from LED components

to LED lighting solutions. We estimate:


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The market size of LED fixtures and systems will reach USD21.2bn in 2015F vs.

USD4.8bn for the market size of packaged LED for lighting

LED makers will eventually see a margin squeeze in the lighting market as third-tier

makers catch up with technology in a market with l imited growth opportunity.

Meanwhile, we believe it is difficult for LED chip and package makers to move to

downstream makers due to potential conflicts with existing customers.

Nevertheless, we believe that investors are looking to revisit LED players. The share

prices of LED makers are currently trading at or near historical low valuations, on our

estimates. As such, we expect a short-term bear-market rally on: 1) a potential reboundin LED TV demand in 2Q12F; and 2) positive news flow regarding LED lighting demand.

However, we remain bearish on the LED industry in the short and long terms and we

would recommend investors be cautious on any short-term rally. We believe some

investors continue to hold a positive view on the LED lighting market, expecting demand

to rise significantly. In this report, we highlight that not all LED lighting market segments

are addressable markets for LED makers and caution that LED makers will continue to

face price competition.

Of the stocks in our coverage, we are positive on SEMCO in view of its strong

commitment to the lighting business and own-brand LED lighting products. However, we

maintain our Neutral rating on SEMCO due to possibility of a spin-off of its LED business

in 2012F and weak earnings contributions from other businesses. We have Neutral

ratings on Seoul Semiconductor (SSC), LG Innotek (LGI) and Epistar, considering ourshort- and long-term bearish view on the industry. We maintain our Reduce rating on

Everlight, as we think its intention in having its own-brand LED lighting is likely to cause it

to lose cooperative opportunity with lighting companies. Moreover, we believe its own-

brand products lack competitiveness vs. those of leading lighting companies.

SEMCO (009150 KS, Neutral): In our view, SEMCOs business momentum has

deteriorated due to high revenue exposure to TV and PC-related components. We

believe its business momentum will reach a bottom in 1Q12F, as the PC industry will

likely face HDD supply issues in 1Q12F, negatively impacting other PC-related

components and TV demand, which we believe will bottom in 1Q12F. As for the LED

business, we think its business momentum will be better than peers given its intention

to build own-brand lighting products, but we see low profitability inevitable in 2012F.

LGI (011070 KS, Neutral): We maintain our Neutral rating on LGI, as we believevisibility of earnings momentum recovery is low in the short term due mainly to its

structural weakness. While IT demand polarization of smartphones will likely continue

in 2012F, we estimate its revenue exposure to TV- and PC-related components will be

~52% in 2012F, leading to continued weakness in the overall earnings trend. Moreover,

we estimate the proportion of LED revenue in lighting will only be 13% in 2012F and,

thus we believe its LED business profitability will continue to be under pressure.

SSC (046890 KS, Upgrade to Neutral) - We upgrade our rating on SSC to Neutral from

Reduce, as we believe it is trading at its fair value after a significant correction over the

last one year. However, we believe its earnings momentum will remain weak in the

short and long terms, in line with the industry trend.

Epistar (2448 TT, Neutral): As a pure chip maker, Epistar faces serious risk-reward

imbalance challenges in the lighting business, bearing heavy capex but only earningchip level revenues. It also faces oversupply risks, in our view. Although Epistar's

earnings may hit a short-term trough in 4Q11-1Q12F, we expect its 2012-13F earnings

to remain low, given continued oversupply and severe competition in LED lighting. We

may turn more positive if Epistar is able to secure more long-term orders from LED

lighting companies with easing industry over-supply.

Everlight (2393 TT, Reduce): We maintain our Reduce rating on Everlight, in view of its

weakening industry position in LED lighting and backlighting business. For LED

lighting, Everlight's own-brand business faces direct competition from leading lighting

companies, and its margins are much lower than the corporate average, dragged by

low economies of scale and low-priced strategy. For backlighting, Everlight's several

structural issues remain: shrinking addressable market, which is squeezed by panel

makers' increased in-house production, competition from Chinese makers, and weak

customer base in TV and tablet PC applications.


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Fig. 2: Peer valuation

Note: Upgrade. Source: Company data, Bloomberg, Nomura estimates

Price Nomura

Code Company 13-Dec Rating FY10 FY11F FY12F FY10 FY11F FY12F FY10 FY11F FY12F FY10 FY11F FY12F

Equipment maker

AIXA GR Aixtron 8.78 Not rated 4.8 8.0 15.0 1.5 1.4 1.3 35.9 18.6 8.9 351.7 (40.1) (47.1)

VECO US Veeco 22.22 Not rated 3.9 6.2 11.4 1.2 1.1 1.0 43.7 24.5 8.3 nm (37.2) (45.6)

Equipment average 4.3 7.1 13.2 1.4 1.2 1.2 39.8 21.5 8.6 351.7 (38.6) (46.4)

LED chip/package maker

2448 TT Epistar 60.00 NEUTRAL 8.4 45.2 23.5 1.1 1.1 1.1 14.0 2.5 4.8 176.2 (81.5) 92.53061 TT Forepi 15.95 Not rated 5.2 60.6 124.6 0.8 0.7 na 18.4 (0.9) 0.2 395.3 (91.4) (51.3)

2393 TT Everlight 47.80 REDUCE 8.6 13.4 12.9 1.3 1.3 1.2 15.6 9.6 9.5 12.1 (35.7) 4.2

CREE US Cree 22.39 Not rated 15.7 16.7 31.3 1.2 1.1 1.0 9.6 7.2 6.1 352.7 (6.0) (46.6)

7282 JP Toyoda Gos 1,279.00 NEUTRAL 9.7 13.0 9.2 0.8 0.8 0.7 7.9 5.8 7.9 20.0 (25.8) 41.0

046890 KS Seoul Semi 22,000 NEUTRAL 13.6 31.0 31.0 2.2 2.1 2.0 17.9 6.8 6.6 229.7 (56.1) 0.0

009150 KS SEMCO 90,000 NEUTRAL 12.6 25.5 26.3 2.0 2.3 2.0 18.4 8.4 8.1 95.4 (50.6) (3.2)

011070 KS LG Innotek 73,100 NEUTRAL 7.5 nm 18.1 1.0 1.1 1.0 16.8 (4.7) 5.7 191.0 nm nm

Chip/package average 10.2 29.4 34.6 1.3 1.3 1.3 14.8 4.3 6.1 184.0 (49.6) 5.2

Total average 9.0 24.4 30.3 1.3 1.3 1.3 19.8 7.8 6.6 202.7 (47.1) (6.2)

P/E P/B ROE EPS growth (%)


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Gloomy outlook for backlightingWe expect LED profitability for backlighting to remain weak in 2012F. For backlighting

demand, LCD TVs are the major application for LED demand as they account for 39-

40% of the total backlighting market value, according to our estimates. However, we note

that:

Despite the increased penetration from 45% in 2011F to 73% in 2012F, the overall

shipment for LEDs will grow only by our estimated 18% y-y in 2012F due to continued

improvement in technology, and increased penetration of low-end direct-type LED TVs. Meanwhile, LCD TV set and panel makers are suffering significant losses due to very

weak LCD (and LED) TV demand, leading to continued price cuts. However, we believe

TV set and panel makers are unlikely to increase prices until demand recovers. As

such, we believe LED makers will continue to face pricing pressure from the

downstream.

We believe IT demand polarization will continue in 2012F and, thus we expect the

demand for smartphones to remain strong while the demand for LCD TVs and PCs to

remain weak. For 2012F, we estimate demand growth for smartphones and tablet PCs

will be at 36% and 80% y-y, respectively, while that for LCD TV and PCs will be at 10%

and 6% y-y, respectively.

Lastly, we estimate that the LED industry will be oversupplied by 55% in 2012F on

significantly overgrown capacity, and this will result in low util izations of 45-50% in2012F, on our numbers.

Meanwhile, we forecast the tablet LED market value will grow 161% y-y to reach

USD669mn in 2012F, buoyed by tablet PC demand growth and increased LED dollar

content per device. However, we expect this to benefit mostly Japanese LED makers.

Furthermore, we estimate the overall LED market size for backlighting will peak out at

USD4.2bn in 2012F. As such, we believe deteriorating LED profitability for backlighting

will continue in 2012F and onward. The LED backlighting market saw a golden period in

2010 with growth at 118% y-y. We expect the growth rate in the LED market size to slow

to 11% y-y in 2011F and 9% y-y in 2012F.

We believe the demand for LED lighting is unlikely to take off in 2012F, as still-high initial

replacement costs will, in our view, remain a burden on individual users and investmentin LED lighting products will not take off amid macro weakness. LED lighting prices are

likely to need another year to reach tipping points (see our analysis regarding payback

periods), and we see industry standards becoming more matured by 2013F with macro

headwinds likely to ease by then. Overall, we believe 2012F will be another tough year

for the LED industry.


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Fig. 3: LED supply-demand and utilization (for backlighting and lighting)

Source: DisplaySearch; IDC; Nomura estimates

Fig. 4: LED market value by backlight applications I

Source: IDC; Nomura estimates

Fig. 5: LED market value for backlight applications II

Source: IDC; Nomura estimates

0%

20%

40%

60%

80%

100%

120%

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000

80,000

1Q08 3Q08 1Q09 3Q09 1Q10 3Q10 1Q11 3Q11 1Q12 3Q12F 1Q13F 3Q13F

Demand for backlight and lighting Supply MOCVD utilization(mn units, 500x500)

2012 S-D sho uld graduallyimpro ve from low bases.

2013?Depending on capex

12.8%

117.5%

10.9% 9.0%

-4.1%

-20%

0%

20%

40%

60%

80%

100%

120%

140%

0

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500

2008 2009 2010 2011F 2012F 2013F

TV

Tablet PC

Monitor

Notebook

Handset

y-y

(USDmn) LED market for

backlightings to peakout in 2012F

TVaccounts for39% of the LED

LED market value (USDmn) 2008 2009 2010 2011F 2012F 2013F

Handset 1,350 990 1,176 1,089 984 975

Notebook 54 352 468 457 406 374

Monitor - 38 160 365 470 442

Tablet PC - - 98 256 669 624

TV - 203 1,544 1,653 1,638 1,580

LED lighting 450 650 857 1,376 1,874 3,132

Total 1,854 2,233 4,302 5,198 6,040 7,127

y-y 2008 2009 2010 2011F 2012F 2013F

Handset -27% 19% -7% -10% -1%

Notebook 551% 33% -2% -11% -8%

Monitor 318% 129% 29% -6%

Tablet PC 163% 161% -7%

TV 661% 7% -1% -4%

Total 12.8% 117.5% 10.9% 9.0% -4.1%


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Fig. 6: IT product shipment forecasts

Source: Displaysearch, IDC, Nomura estimates

Fig. 7: IT product shipment y-y growth


Low cost direct-type LED TVs to stimulate LED penetration;but not helpful to LED market values and profitability

TV vendors have been launching new-feature products such as LED TVs, 3D TVs,

connected TVs, smart TVs, etc. over the past two years, trying to boost revenues by

introducing premium products into the matured industry. However, given current slowing

macro conditions, we believe consumers are less likely to pay extra money to buy

premium products and prefer to purchase new devices including smartphones and tablet

PCs. When it comes to buying TVs, we believe affordability plays a more important role

than new features, such as Internet and 3D functions, in consumers buying process. As

such, LED penetration in LCD TVs has continued to disappoint, as mainstream edge-

type LED TVs still have a 20-30% price premium over traditional CCFL TVs. We forecast

the penetration rate of LED TV will reach only 45% in 2011F vs market expectations of~50-60% at the beginning of 2011F.

To meet consumer needs for lower-cost products amid current macro uncertainties, we

believe TV vendors will continue to lower LED TV retail prices and start to launch lower-

spec LED TVs in 2012F. Low-cost direct-type LED TVs, which adopt the current CCFL

mechanical structure, are an alternative, as they use fewer LEDs (30-50 LEDs in 32"

TVs, vs edge-type 80-100) and diffuser plates, eliminating expensive light guide plates

and BEF film to save costs. We think this is slightly positive for LED makers, as the LED

dollar content per TV is similar to that for edge-type LED TVs, given higher spec and

larger-size LEDs used (ASP per LED is 3-4x higher, although # of LEDs is only about

one-third, according to our channel checks).

2008 2009 2010 2011F 2012F

LCD TV Shipment (mn) 106 146 192 202 223

y-y 34% 37% 32% 5% 10%

PC (Desktop + NB) Shipment (mn) 293 305 347 358 379

y-y 11% 4% 14% 3% 6%

Feature phone Shipment (mn) 1083 1032 1300 1356 1378

y-y 5% -5% 26% 4% 2%

Smartphone Shipment (mn) 139 172 297 478 649

y-y 14% 24% 72% 61% 36%

Tablet PC Shipment (mn) 18 55 100

y-y 201% 80%

-50%

0%

50%

100%

150%

200%

250%

2008 2009 2010 2011F 2012F

LCD TVPC (Desktop + NB)Feature phoneSmartphoneTablet PC

Strong d emandgro wth for newdevice

Weak demand growthto be continued


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However, as we estimate the LED industry will be severely oversupplied at 55% in

2012F and competition will intensify further, we do not expect the low-cost direct-type

LED TVs to improve LED makers' profitability.

Fig. 8: Backlight comparison

Source: Displaysearch

Fig. 9: Fewer LEDs used in the low-cost direct-type LED TV

Source: LEDinside

Tablet is a growing segment in 2012F, but mostly benefitingJapanese makers

In our observation, tablet is a key growth application in 2012F. We estimate the tablet

LED market value will grow 161% y-y to reach USD669mn in 2012F, driven by increasedLED dollar content per device and strong tablet PC growth. For high-end tablet PCs, to

achieve better display quality, we believe the makers will likely double the number of

LEDs per device in 2012F. However, given the requirements for high quality and IP-free

tablet, tablet-use LEDs are mostly provided by Japan LED makers, such as Toyoda

Gosei and Nichia. Consequently, we believe the trend will benefit mostly Japanese

makers.

Low-cost

direct-type LED Direct CCFL Edge LED

Thickness Thick Thick Thin

LED number (32" TV) 30-50 No 70-90

Brightness (nits) 300 350 250-350LED chip reflective coating Yes No No

Backlight cost CCFL +15-20% CCFL CCFL +50-70%

Light guide plate No No Yes

LED packaging Small (#3528, #3228) No Big (#5630, #6030)

Diffuser plate High efficiency Normal No

Model Brightness Type 32" 42"

400-450 nits Edge >120 >160

350-400 nits Edge 80-100 120-140

300-350 nits Edge 60-70 100-110

300-350 nits Direct 30-50 40-60

LED


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LED lighting - another tough marketWe are bearish on the LED lighting market in the short and long terms. We believe LED

lighting demand will remain weak in 2012F due to still-high replacement costs and macro

weakness. For the long term, we believe: 1) the LED market size for lighting will not grow

significantly larger than the LED backlighting market; we estimate that in 2015F the

market size will be only 1.2 times that of our 2012F peak market for backlighting; and 2)

we think that industry profitability during the peak lighting cycle will not be as high as that

during the peak LED TV cycle, given the formers fragmented market, no rush time-to-

market (compared to IT products), and continued price cuts to stimulate demand. Wealso expect LED makers to eventually witness a margin squeeze in the lighting market

as third-tier makers catch up with technology.

LED lighting demand to take off from 2013F

We forecast that the LED lighting market will grow from USD7.5bn in 2011F to

USD35.4bn in 2015F. General lighting is a big market with a market size of USD75bn in

2011F, with LED lighting accounting for 10% of the market in 2011F, on our numbers.

We believe LED penetration in general lighting will grow to 36% in 2015F, in view of its:

1) lesser power consumption 2) longer life span and 3) less hazardous to environment

compared to fluorescent lamps.

Japan and China are currently the fastest-growing markets for LED lighting, according to

our estimates. LED bulb (residential and commercial) demand in Japan has grown

dramatically after the Tohoku earthquake. We also estimate that China is the biggest

market for LED streetlights in 2011F, thanks to the government policy to save energy.

Nevertheless, LED lighting is still facing a number of issues that need to be addressed

before we see real penetration, in our view.

Price: We believe payback periods are a more reasonable measure than price

differences to evaluate competitiveness of LED lighting and we estimate the payback

period will be shortened to less than two years in the residential and commercial areas

from the current two years in incandescent replacement in residential areas. However,

high replacement costs are a large burden on individual users. We expect LED lighting

prices to fall by 30% y-y in each of 2012F and 2013F to stimulate demand Industry standards: Over the years, consumers have difficulties distinguishing the

quality of LED light bulbs due to lack of a unified industry standard, which has caused a

great variety of specifications and reduced consumers' willingness to purchase LED

lighting.

Government subsidies: Due to high fixture costs, we believe government programmes

are necessary to promote LED lighting in industrial areas. However, we think subsidies

given will not be significant in 2012F due to global macro headwinds.

In our view, we believe LED lighting demand will be ready to take-off from 2013F, as: 1)

we expect the payback period to fall significantly to shorter than one year in the

residential (except for CFL) and commercial areas by then, 2) we expect macro

conditions to stabilize by 2013F; and 3) the industry standards for LED light engines and

luminaries get more matured.


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12

Fig. 10: General lighting market overview (USD)

Source: Mckinsey; Nomura estimates

Fig. 11: LED lighting market growing fast (USD)

Source: Nomura estimates; Mckinsey

Fig. 12: Market share of LED bulbs in 2011F

Source: DisplaySearch, Nomura estimates

Fig. 13: Market share of LED streetlight in 2011F

Source: Nomura estimates

Fig. 14: Overview of payback period analysis

Source: Nomura research

0

20,000

40,000

60,000

80,000

100,000

120,000

2010 2011F 2012F 2013F 2014F 2015F

($mn) Incandescent Halogen HID LFL CFL LED

6% 10%14%

22% 29%36%

The numberrepresentsshare of LED

LED lighting demand isready to pick up from2013F

69%

53%

76%

35%

28%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

2010 2011F 2012F 2013F 2014F 2015F

LED ligh ting market value y-y($mn)

Japan, 65%

China, 6%

EU, 10%

N.A,, 10%

ROW, 10% Japan, 15%

China, 55%

EU, 10%

N.A,, 16%

ROW, 4%

Industrial

Incandescent CFL LFL Halogen Streetlight

Payback (current) 2.0 yrs >20 yrs 4.1 yrs 0.4 yrs 11.9 yrs

Payback (2H12) 1.3 yrs 18.7 yrs 2.1 yrs 0.3 yrs 7.4 yrs

Payback (3H12) 0.5 yrs 6.6 yrs 0.5 yrs 0.2 yrs 4.9 yrs

Residential Commercial


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13

Fig. 15: Bottlenecks of LED lighting- standard, price, and return

Source: Aixtron

Addressable LED lighting market is not as big as expected

However, the packaged LED market value for lighting is only 15-18% of the total LED

lighting market, on our estimates. LED lighting include fixtures and lamp/module

assembly (light sources), with the light sources accounting for 40-50% of the total value

and package account, and the packaged LED value accounting for around 35% of the

light source value. Therefore, we estimate that the actual addressable LED market for

lighting will grow to only USD4.8bn in 2015F, 1.2 times that of our 2012F peak market for

backlighting. We do not expect LED lighting to provide significant growth opportunities

for LED makers.

Meanwhile, LED lighting fixture and system controls are territories of traditional lighting

vendors, which have channels, design experience, and various light sources to provide

total solutions to end users. We think it is difficult for LED makers to address the fixture

and system control market, given lack of economies of scale, experience and

technology, and conflicts with existing lighting makers.

Moreover, LED lighting fixtures and system controls will become more valuable

alongside increased penetration in general lighting, in our view. We estimate the

proportion of fixtures and system controls in total LED lighting sales will rise from 52% in

2011F to 60% in 2015F, shrinking the value for LED chips, packages and lamp/module.Overall, we estimate the revenue growth of LED light sources (41% CAGR over 2011-

2015F) will be slower than that of the LED lighting fixture and system control system

(53% CAGR over 2011-2015F), and the real value of LED lighting will gradually shift

toward fixtures and system designs.

Government

LEDlighting

Capacity

incentives

(bottom

up)

Produc

tivity

Product

quality

Energy

savings

Tax

sanctions

Incan

descentbans

Product

availability

Technology

subsidies

(topdown)

Ecological

awareness

Definition

of

standards

Enforce

mentof

standards

Product

price

Cost/

benefit

conflict

Best

pratice

migation

Product

quality

(lm/w)

Product

price

(lm/$)

Returnon

Invest

ment

Capital

invest

ment


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14

Fig. 16: A breakdown of LED lighting market (USD)

Source: Nomura estimates; Mckinsey

Fig. 17: How big is the LED lighting market (vs peak market value for backlighting in2012F) in 2015F? (USD)


Fig. 18: LED lighting market breakdown (%) (2011F)


Fig. 19: LED lighting market breakdown (%) (2015F)


We estimate the LED market size for lighting will exceed that of total backlight

applications by 2014F, and to be 1.2 times in 2015F. In 2010, backlighting saw an

impressive growth rate of 118% y-y, thanks to LED TV demand. However, we expect the

growth rate for LED backlighting to drop significantly in 2011F and eventually drop to

negative territory from 2013F, suggesting that the LED market for backlighting will peak

out in 2012F. Meanwhile, we expect relatively stable growth for the LED lighting market.

We estimate the packaged LED market for lighting will grow 67% y-y in 2013F on

Breaking

down

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

2010

2011F

2012F

2013F

2014F

2015F

LED lighting f ixture, syst em control

LED module/lamp value-add

LED packaging value-add

Lighting LED chip

($mn)

Chip

Module/lamps

Package

LED lighting

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

2010 2011F 2012F 2013F 2014F 2015F

($mn)Market value o f LED lamp/module

Market value o f LED lighting fixture

Market value growth forLED fixtures is fasterthan market value growthfor LED mod ules

53%

41%CAGR

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

2012F 2015F

($mn)

LED marketvalue for backlighting

Total LED l ightingmarket value

$35.4bn

$4.2bn

LED lighting fixture,co ntrol syetem..

LED mod ule/lamp value-adds

Packaged LED

LED lig htingsource1.2x

3.4x

8.4x

LightingLED ch ip

8%LED

packagingvalue-add

10%

LED

module/lampvalue-add

30%

LEDlightingfixture,system

control52%

LightingLED chip

6%

LEDpackagingvalue-add

8%

LEDmodule/lam

value-add26%

LED

lightingfixture,systemcontrol

60%

p


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15

increased demand for LED lighting. We estimate the LED industry for lighting and

backlighting will witness a 13% CAGR over 2011F-2015F.

Fig. 20: Total value of packaged LED for both backlighting and lighting

Source: Nomura estimates; Mckinsey; IDC

Fig. 21: Market size comparison of packaged LEDs: lightingvs backlighting


Fig. 22: Market size comparison of LED chips: lighting vsbacklighting


"Golden period" to come in 2013F, as macro conditions,prices, and industry standards will be more ready by then

We think LED lighting will be ready to take off in 2013F, with LED lighting market

revenue expanding 76% y-y to USD20.4bn in 2013F, reflecting our view of a stabilising

macro economy and LED lighting prices hitting tipping points by late-2012F. For

example, we expect prices of a 60W-replacement LED light bulb to drop to USD10-15 by

late-2012/early-2013 (only 3-4 times the price of a CFL light bulb), from current levels of

USD25-35. At USD10-15, we believe the prices are low enough to trigger demand.

We think the industry standards for LED lighting will become more matured and stringent

in 2013F, in the way of a more comprehensive interface endorsement label (eg. Energy

Star) and standardization consortium (eg. Zhaga Consortium). Over the past few years,

the lack of a unified industry standard has made it difficult for consumers to distinguish

the quality of LED light bulbs which has many varieties of specifications, reducing their

willingness to purchase LED light bulbs. With no unified industry standard, LED lighting

20.5%

92.6%

20.8% 16.2% 18.0%11.9%

7.9%

-20%

0%

20%

40%

60%

80%

100%

120%

140%

0

1,000

2,000

3,000

4,000

5,000

6,000

7,000

8,000

9,000

10,000

2008 2009 2010 2011F 2012F 2013F 2014F 2015F

LED lig hting

LED backlig hting

y-y (Overall)

y-y (backlighting)y-y (li ghting)

($mn)

Explo sive g rowththanks to LED TV

demand

The overall market to showgradual growth at 13%CAGR over 2011-2015F

25%

36%45%

78%

106%

132%

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

0

1,000

2,000

3,000

4,000

5,000

6,000

2010 2011F 2012F 2013F 2014F 2015F

Packaged LED for lighting

Packaged LED for backlighting

Lighitng/backlighting %

($mn)

Crossoverin2014F

25%

36%45%

78%

95%

118%

0

0.2

0.4

0.6

0.8

1

1.2

1.4

0

1,000

2,000

3,000

4,000

5,000

6,000

2010 2011F 2012F 2013F 2014F 2015F

Lighting LED chips

Backlighting LED chips

Lighting/backlighting %

($mn


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16

vendors also face production challenges such as low economies of scale, inventory

control, and short product cycles. However, we see the industry standards for LED light

engines and luminaires getting more matured, which will help to stimulate LED lighting

penetration by fostering competition, preventing fragmentation, and reducing the

development costs of lighting applications. For example, nine lighting giants such as

Philips, Osram, Panasonic, and Toshiba established a "Zhaga" consortium in Feb 2010,

aiming to create standardized interfaces for LED light engines to secure a stable design

platform for luminaire makers and designers. As of today, the total number of members

has reached 162. Also, governments are pushing the standardized endorsement label

very hard for LED lighting products. For example, the US Department of Energy (DoE)

and Environmental Protection Agency (EPA) established an Energy Star standard for

integral LED lamps in Aug 2010, and it will set up a new Energy Star luminaires standard

with effect from Apr 2012. Although the Energy Star is not a compulsory international

standard now, some states in the US have started to ban unqualified LED lighting

products from product launches.

Most LED makers have slowed down capacity expansion since 2H11, and we believe

limited capex will be spent in 1Q-3Q12F due to low utilization rates and the gloomy

macro environment. Therefore, we expect only a gradual recovery in utilization rates and

profitability in late-2012F/early-2013, which we estimate will likely last into 2013F, when

the LED lighting demand is expected to take off. Consequently, we think LED makers will

enjoy improved profitability in 2013F (we call it the "golden period").

Fig. 23: The timetable for Energy Star and Zhaga Consortium

Source: Nomura, Zhaga website

Profitability in LED lighting cycle may not be as high as thatin the LED TV cycle

However, we believe that profitability of LED makers during the peak LED lighting cycle

will not be as high as that in the peak LED TV cycle.

Gradual demand growth: We expect the demand for LED lighting to grow gradually

compared to significant growth seen for LED backlighting. Compared to IT products,

the general lighting market is currently fragmented by region and country as form-

factors, specifications and lighting type are not determined by end users only but by

LED vendors and local regulations. As such, LED makers need to meet many

specifications, increased overhead costs, and have to build relationships with channel

distributors. In addition, there is no rush to put LED lighting products to the markets, as

there are many alternative light sources and users are unlikely to put a priority on

transitioning light source.

Nine lighting giant companies announced to establish "Zhaga"Consortium for the standardization of LED light engine

Number of Zhaga members hits 25

Number of Zhaga members hits 162

Final Energy Star Standard forintegral LED lamps effecitve

New Energy Star LuminairesV1.1 for the standardization of

luminaires effective

2010.2 2010.3 2010.8 2011.11 2012.4


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17

Already overgrown capacity: LED supply in the upstream has increased during the

golden period in the LED TV cycle and the industry is currently suffering an oversupply

condition of over 50%. Alongside the gradual transitioning to LED lighting from

conventional lighting, we believe the LED industry will not experience supply shortages.

Therefore, for LED makers (chip, packaging levels), without significant strong growth,

we think the high margins experienced by LED TVs during the golden period is unlikely

to be repeated in the lighting cycle.

Increased competition again: Furthermore, we believe LED makers will eventually see

a margin squeeze in the l ighting market as third-tier makers catch up with technology.

Price cuts: We estimate prices for LED lighting will be cut by another 30% in 2012F to

stimulate demand. We also estimate prices for packaged LED (chip and package) will

drop 30-35% y-y in 2012F.

To some extent, we believe LED makers will enjoy improved margins from LED lighting

demand growth, but a golden period in the LED lighting cycle is likely to be short-lived,

about 4-5 quarters. We also expect LED makers to face price competition again.

The golden period of LED TVs for LED makers was from 3Q09 to 2Q10. During that

period, LED demand grew 193% and the penetration rate increased from 2% to 18%,

causing severe shortages in the upstream supply. In particular, MOCVD equipment and

sapphire wafers were key bottlenecks in the supply chain. However, both bottlenecks

were resolved within one year. Since then, the supply of MOCVD equipment and

sapphire wafer has increased tremendously. For example, Veeco rapidly increased itsMOCVD equipment capacity from 25-30 tools per quarter in 3Q09 to more than 100 tools

(almost 4x) in 3Q10.

In our opinion, shortages happen only when the time to bring products to markets is

important and when supply fails to catch up with demand in the short run. In our view,

shortages are more likely to happen in IT products, for which consumers are willing to

spend before the supply picks up. In contrast, we think a severe shortage is less likely to

happen in a lighting market, as there are many alternative light sources/solutions. If LED

supply, performance, or standards/regulations are not ready on time, demand can be

pushed out a few quarters later until everything is ready.

Fig. 24: Packaged LED demand growth for backlighting


0

5,000

10,000

15,000

20,000

25,000

30,000

1Q08 3Q08 1Q09 3Q09 1Q10 3Q10 1Q11 3Q11F1Q12F3Q12F1Q13F3Q13F

(mn)Backlighting Lighting

LED demand forbacklightingpick ed upsignificantly

LED demand forlighting picked upsignificantly


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18

Fig. 25: Sales growth of LED makers

Source: Company data, Bloomberg

Fig. 26: OP margin of LED makers


Fig. 27: MOCVD shipment

Source: Company data

Fig. 28: Sapphire wafer price trend and forecast

Source: Yole Development, Nomura estimates

0

100

200

300

400

500

600

1Q08

3Q08

1Q09

3Q09

1Q10

3Q10

1Q11

3Q11

1Q12

3Q12

1Q13

Cree

Epistar

Everlight

LGI

SSC

S-LED

(USDmn)Golden period of LED TV cycle

(30)

(20)

(10)0

10

20

30

40

1Q08

3Q08

1Q09

3Q09

1Q10

3Q10

1Q11

3Q11

1Q12

3Q12

1Q13

Cree

Epistar

Everlight

S-LED

LGI

SSC

(%)Golden period of LED TV cycle

0

50

100

150

200

250

1Q06 4Q06 3Q07 2Q08 1Q09 4Q09 3Q10 2Q11

Aixtron Veeco

(Unit)

Supply capability of MOCVDhas increased significantlyin LED TV cycle

MOCVD demandshranksharply

in 2011

0

5

10

15

20

25

30

35

2004 2006 2008 2H09 2Q10 4Q10 2Q11 4Q11E

($)

Price for

sapphire waferincreasedsig nificantly onsho rt supply

Price stablizingas shortage in

supplyresolved


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19

Supply-demand analysis Oversupplyrisk remains in 2012F and onwardWe estimate that the LED industry will be oversupplied by 55% in 2011F, resulting in

significant profit deterioration. We believe LED makers will continue to suffer from low

utilizations until 2012F due to overgrown LED capacity and weak LED demand. More

importantly, we caution that a recovery in utilization rates and rising LED lighting demand

will likely trigger another capex cycle in the LED industry in 2013F. Considering 3-6

month lead time for MOCVD tools and 3-6 month ramp-up time, overcapacity risk maysurface again if LED makers are not capex disciplined, in our view.

Although it is still too early to conclude, our worry is not without cause, as we have seen

how DRAM and TFT industries evolved amid Windows Vista and TV replacement

expectations. Further, the LED industry is much more fragmented than DRAM and

TFTs, which means the LED industry is more likely to be over-invested, if every player

overestimates its opportunities.

2012F supply: capex slows down, but has not totally halted

On the supply side, we note that most LED makers have slowed down on their capex

investments, and decided to put on hold their capex decisions until at least 2Q-3Q12F.

However, we estimate that LED supply will still grow by 18% y-y in 2012F, as

(1) many LED makers are focusing on upgrading their processes toward more 4" and6" to increase outputs,

(2) several Taiwan and Korean LED makers have installed/ordered new MOCVD tools

in 2H11F, but have yet to fully ramp up the tools,

(3) Japan LED makers still see some capex expansion due to their long-term

commitments to LED lighting and strong tablet growth opportunity in 2012F, and

(4) we expect some capacity in China to come onstream.

2013F - capex discipline is needed to prevent oversupply deterioration

In 2013F, we will likely see recovered utilization rates and profitability in LED makers,

with more positive signs of LED lighting demand taking off. This may trigger another

round of capex investments. Although it is still too early to judge the supply-demand

situation for 2013F, we think capex discipline is needed in the LED industry to prevent

the oversupply condition from deteriorating.

Fig. 29: LED supply-demand and utilization (for backlighting and lighting)

Source: DisplaySearch; Nomura estimates

0%

20%

40%

60%

80%

100%

120%

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000

80,000

1Q08 3Q08 1Q09 3Q09 1Q10 3Q10 1Q11 3Q11 1Q12 3Q12F 1Q13F 3Q13F

Demand for backlight and lighting Supply MOCVD utilization(mn units, 500x500)

2012 S-D shouldgradually improve from

2013?Depending oncapex


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20

Idle LED capacity in China could eventually be a threat forglobal players in China market

China is one of the largest markets for general lighting including LED lamps, due to its

large population and fast-growing economy. Meanwhile, we estimate China will have

700-plus MOCVD installations by 2011F (similar scale with Taiwan and Koreas) vs. 261

in 2010. We expect this to be driven by government subsidy programmes. However, due

to lack of technology and engineers, many of the machines are not running yet.

Nevertheless, we believe this idle capacity will gradually come onstream and may

eventually become a threat to global players in the Chinese market, as 1) the Chinese

government may have higher incentives to subside products produced locally, and 2)

Chinese LED makers are located closer to the local supply chain.

Fig. 30: MOCVD installation by country

Source: Displaysearch, Company data, Nomura estimates

0

100

200

300

400

500

600

700

800

900

1,000

China Japan Korea Taiwan Other

2010 2011F 2012F


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21

Payback period analysisWhile prices are much higher, LED lighting has a lower cost of ownership thanks to lower

power consumption and longer life span compared to incandescents. Therefore, we find

it reasonable to use payback periods, which calculate how long it will take the savings

from a lower cost of ownership to cover initial cost differences, rather than price

differences to gauge the price competitiveness of LED lighting. The general lighting

market comprises largely of three segments: residential, commercial (eg, offices, shops)

and industrial (eg, factories, street lighting). For our payback period analyses, we use the

mainstream light sources for each segment: incandescent and CFL for residential, LFLand halogen for commercial, and HID for industrial.

According to our calculations, some commercial LED lighting (eg, MR16 used in display

windows) will be competitive in 2012F, given the payback period is already at around 0.6

years. For residential lighting, we expect the payback period for LED vs incadescent to

reach 1.3 years in 2012F. However, LED penetration will likely be slow due to

competition from CFL, which offers a comparative price and high luminous efficiency (we

estimate the payback period of LED for CFL will be around 5.8 years by 2013F). We

believe CFL will continue to be the major challenge for LED lighting. Lastly, we believe a

government subsidy programme is necessary to promote LED street lighting, given the

long payback period and high replacement cost. We estimate the payback period of LED

vs conventional street lighting will still be very long at 11.9 years for 2011F and 7.4 years

for 2012F.

(Note: in our payback period analysis, our electricity price assumption is based on the

electricity price in the US.)

Fig. 31: General lighting market by segment

Source: Mckinsey

Fig. 32: M/S of light source by unit

Source: Mckinsey

Residential: consumers more sensitive to initial cost than

payback period

Residential lighting accounts for 40-41% of the general lighting market and the most

widely used lighting sources are incandescent bulbs (especially in Europe and the US),

and CFLs (especially in Asia). Incandescent bulbs offer high CRI (colour rendering index,

measuring how well a light source makes the colour of an object appear to human eyes),

which is the main reason for high usage, despite being very inefficient. However, many

regions plan to ban incandescent bulbs and we believe this will enhance demand for

LED lighting, which not only has a lower cost of ownership but also offers light quality

with high CRI ratings.

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

2010 2011F 2012F 2013F

($mn) Residential Commercial

42% 41%

41%

40%

32%

20%21%

20%21%

35%

34%34%

Halogen7%

HID2%

LFL14%

CFL17%

LED1%

Incandescent59%


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22

We believe individual consumers are more sensitive to price and are less tolerant of a

large initial investment. According to a Mckinsey survey, the purchase price is the most

important criteria in deciding on the type of light source for residential use, followed by

light quality and life cycle costs. Therefore, a high LED replacement cost will remain a

burden on individual consumers, and potentially impede a demand pick-up in the

residential lighting market.

Incandescent bulbs (60W): payback period to fall to inflection point by end-2012F

With our assumption of a 30% y-y price drop and a 15% y-y luminous efficiency

improvement for LED bulbs, we expect LED bulbs to reach a price level that iscompetitive with incandescent bulbs in 2013F. Our 30% y-y price drop assumption is

derived from the SSL manufacturing roadmap from the US Department of Energy.

According to Mckinsey's Global Lighting Professionals & Consumer Survey, consumers

will choose LED over traditional lighting when the payback period falls below two years

on average. Based on our payback period model, we estimate the payback period for

60W incandescent bulbs will drop to 1.3 years and 0.5 years in 2012F and 2013F

respectively, which seems to be attractive to consumers, in our view. However, a 60W-

equivalent LED bulb price will still be 14 times higher than an incandescent bulb in

2012F, and it should be a large burden on individual consumers to replace cheap

conventional bulbs, delaying demand pick in the residential lighting market. We estimate

a 60W-equivalent LED bulb price will fall to 10 times higher than an incandescent bulb in

2013F, within the tipping point in the range of 9-12x suggested by Aixtron.

Fig. 33: Solid-state Lighting Manufacturing Roadmap 2011

Source: US Department of Energy, Mckinsey

CFL: a major challenge for LED bulbs in the residential area

Meanwhile, we believe that CFL is the major challenge for LED bulbs in the residential

segment, offering comparative prices at 10-15% of LED lamps and luminous efficiency of

~60lm/, as high as LED lamps. Therefore, we believe it will take years to see LED bulbs

replace CFLs in terms of payback period. However, LED may be more preferable in

developed markets given CFLs have a low CRI rating and contain hazardous mercury.

50

1610

5

0

20

40

60

2010 2012 2015 2020

OEM lamp pri ce

-28% p.a.

-13% p.a.

18

8

2 1

0

5

10

15

20

2010 2012 2015 2020

Package price-Warmcolor

-28% p.a.

-15% p.a.

13

6

2 1

0

5

10

15

2010 2012 2015 2020

Package price-Coolcolor

-28% p.a.

-13% p.a.


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23

Fig. 34: Assumption for residential lighting


Fig. 35: Payback analysis for incandescent (60W) inresidential applications

Note: Based on prices in 2011


Fig. 36: Payback analysis for CFL in residential applications



Fig. 37: The tipping point of LED lighting

Source: Aixtron

Residential

Incandescent Florescent LED

Electricity cost ($/kWh) 0.1203 0.1203 0.1203

Watt 60 15 12

Lumens 900 950 800

Life span (hr) 1,000 8,000 50,000

Luminaire cost 1 4 28

Lm/W 15 63 65

Cost ($)

Electricity cost 15.8 4.0 3.2

Lamp replacement cost 3.1 1.0 1.2

Total annual cost 18.9 4.9 4.5

Payback 2 yrs >20 yrs

Assumption

Electricity cost growth rate 2%

Discount rate 4%

0

50

100

150

200

250

Yr0 Yr1 Yr2 Yr3 Yr4 Yr5 Yr6 Yr7 Yr8 Yr9 Yr10

($) Incandescent LED_2011

2.0 yrs

0

20

40

60

80

100

120

Yr0

Yr1

Yr2

Yr3

Yr4

Yr5

Yr6

Yr7

Yr8

Yr9

Yr10

Yr11

Yr12

Yr13

Yr14

Yr15

Yr16

Yr17

Yr18

Yr19

Yr20

($)CFL LED

Stores Incandescent CFL LED LED vs Incandescent LED vs CFL

Average US 1.2 3.5 39 32.9x 11.2x

Average Japan 1.6 11 20 12.5x 1.8x

Average EU1.7 7.1 58 33.9x 8.1x

Average Korea 0.9 4.5 17 18.0x 3.7x

Average Taiwan 1.7 4.3 24 13.9x 5.6x

Tipping point 1.2 3.5 $15-20 9-12x 3-4x


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Fig. 38: Government regulations to ban incandescent lights

Source: LED inside, Nomura research

Commercial lighting: better upside for LED replacementThe commercial lighting market accounts for around 34-35% of the general lighting

market and LFLs (long fluorescent lamps) are the mostly widely used with a 60% market

share in the commercial segment. Given the competitive total cost of ownership resulting

from long daily usage, we expect LED penetration here will grow faster than in the

residential market. In particular, we think meaningful replacement will be seen in display

windows using downlights (eg, MR16), given the payback period for halogen is already

less than a year at 0.6 years. In our view, compared to LFLs, LED lighting will also

become attractive as we estimate the payback period will drop to 2.1 years in 2012F and

0.5 years in 2013F, from 4.1 years in 2011F, given our assumption of a 30% y-y price

drop and 15% y-y luminous efficiency improvement.

Country Description Population (mn)

China The government will forbid selling and importing regular incandescent lights with luminous efficacies of

100W and higher, 60W and higher, 15W and higher starting from the end of 2012, the end of 2014, and

2016, respectively. Also, the government has forbidden manufacturing, selling and importing halogen

lamps with luminous efficacies lower than the benchmark.

1348

India The government plans to replace 400 million incandescent light bulbs with energy-saving lights by the

end of 2012.

1207

European It started forbidding the use of 100W incandescent lights (type C) since 2009; it started forbidding theuse of 65W incandescent light bulbs since 2010 and had forbidden selling 60W incandescent light

bulbs since September, 2011; it will forbid selling 40W and 25W incandescent light bulbs since

September, 2012 and only light bulbs with luminous efficacies higher than that of type D light bulb are

allowed to be sold. European Union plans to fully replace incandescent light bulbs by 2015 and only

light bulbs with luminous efficacies higher than that of type B light bulb are allowed to be sold by 2016.

329.94

U.S. The government will completely replace incandescent lights from 2012 to 2014. 312.891

Brazil The government has forbidden the use of incandescent lights since January, 2010. 194.933

Japan The government wi l l forbid the use of incandescent lights starting from 2012. 127.92

Philippines The government forbade the use of incandescent 95.834

U.K. The government has forbidden the use of incandescent lights since 2011 62.644

South Korea The government will forbid the use of incandescent lights starting from 2013. 49.006

Canada The government will forbid selling incandescent lights starting from 2012. 34.384

Malaysia The government will forbid manufacturing, importing and selling incandescent lights starting from

January, 2014.

29.219

Australia It has forbidden importing and selling incandescent lights from 2008 to 2009. 22.504

Portugal The government has increased the tax of imported incandescent lights by EUR 0.5. 10.658

Ireland The government has forbidden selling incandescent lights with low luminous efficacies since 2009. 4.581


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25

Fig. 39: Assumption for commercial lighting


Fig. 40: Payback analysis for LFL in commercial area



Fig. 41: Payback analysis for halogen in commercial area



Fig. 42: Commercial LED lighting market size

Source: Mckinsey

Commercial (LFL)

LFL LED (tube) Halogen LED (MR16)

Electricity cost ($/kWh) 0.1197 0.1197 0.1197 0.1197

Watt 50 25 50 4

Lumens 3,100 1,650 750 160

Life span (hr) 20,000 50,000 3,000 50,000

Luminaire cost 4 57 4 25

Lm/W 62 65 15 40

Ballast cost 12

Ballast lifespan 25,000

Installation cost 5

Cost ($)

Electricity cost 32.8 16.6 32.8 2.6

Lamp replacement cost 1.9 2.5 2.9 1.1

Total annual cost 34.7 19.1 35.7 3.7

Payback 4.1 yrs 0.6 yrs

050

100 150 200 250 300 350

Yr0

Yr1

Yr2

Yr3

Yr4

Yr5

Yr6

Yr7

Yr8

Yr9

($)

LFL LED

4.1 yrs

0

50

100

150

200

250

300

350

Yr-0

Yr-1

Yr-2

Yr-3

Yr-4

Yr-5

Yr-6

Yr-7

Yr-8

Yr-9

($)

Halogen LED

0.6 yrs

0

5,000

10,000

15,000

20,000

25,000

30,000

2010 2011F 2012F

($mn) Incandescent Halogen HID LFL CFL LED


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26

Streetlight

The industrial lighting market accounts for around 20% of the general lighting market and

HIDs (High Intensity Discharge lamp) are mostly widely used. There are various types of

HID lamps, depending on areas of use. Here, we conduct a payback period analysis for

street lighting, as it can be easily and commonly replaced.

We believe government programmes to promote LED lamps for industrial usage are

necessary due to LED lightings high payback period and high replacement costs. We

estimate the payback period of LED against conventional streetlight will be very long at

11.9 years and 7.4 years in 2011F and 2012F, respectively.

Fig. 43: Assumption for street lighting


Fig. 44: Payback analysis for street lighting



Street light

Streetlight Street light LED

Electricity cost ($/kWh) 0.0672 0.0672

Watt 250 150

Lumens 11,250 8,400

Life span (hr) 8,000 50,000

Luminaire cost 70 38

Lm/W 45 56

Fixture (incl. Luminaire) 1,034Ballast + Igniter cost 12

Ballast lifespan 40,000

Installation cost 50 50

Cost ($)

Electricity cost 74 44

Lamp replacement cost 26 8

Maintenance cost 55 40

Total annual cost 155 92

Payback 11.9 yrs

Assumption

Electricity cost growth rate 2%

Discount rate 4%

Inflation 3%

0500

1,0001,5002,0002,5003,000

Yr0

Yr1

Yr2

Yr3

Yr4

Yr5

Yr6

Yr7

Yr8

Yr9

Yr10

Yr11

Yr12

Yr13

Yr14

Yr15

($)HID LED

11.9 yrs


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27

Industry consolidation is necessary, inour viewFour directions of integration

We expect increased industry activities on consolidation and/or business integration to

happen in the next few years. We identify four potential directions:

(1) For LED makers, we see strong incentives for them to move downstream to light

lamps/ engines/ modules: 1) to amplify revenue and profit, and 2) to build relationships

with lighting companies and local channels. Some LED makers, such as Samsung and

Everlight, are trying to build own branding for LED lighting products in order to control

end customers/channels.

(2) However, we think the trend is not positive for large-size LED chip makers, such as

Epistar, as it will be difficult for them to work towards vertical integration into

downstream, given the conflict of interest with packaging customers. An alternative way

to secure downstream opportunities for chip makers, in our view, is to adopt horizontal

consolidation, build direct communications with lighting companies, and then outsource

LED packaging and module assembly to packaging partners. However, in our view,

supply chain management will be less efficient than vertically-integrated LED makers,

and chip makers cannot enjoy inflated ASP and profits in packages and/or lamp levels,

which means heavy capex and low returns.

(3) Global lighting giants, such as Philips and Osram, are vertically integrated from chips

to fixture/systems. Given their strong patents and technologies in LEDs, their M&A

activities in recent years have focused on lighting designs, system controls, and

local/specialized channels for different lighting fields, eg commercial, medical, and street

lighting.

(4) We see rising awareness of regional/local small/mid-size lighting companies in LED

lighting recently. As these smaller lighting companies are not familiar with LED lighting

designs, many of them seek cooperation with LED packaging makers for light

bulb/module assembly in this initial stage. However, we think once they are more familiar

with LED features, they may want to move upward to lamp assembly and packaging

businesses in order to save costs.

We think 2012F is the best period for consolidation. As most LED makers will likelycontinue to suffer poor profitability and low utilization rates in 2012F, M&As or strategic

investments will be easier to go through during a downturn, in our view. Lighting

companies, in the early stage of LED lighting, will need help from LED makers.

Fig. 45: Directions of industry consolidation/ integration


Lighting LEDchip, 9%

LED module/lampvalue-add, 0.2976

LED lightingfixture, systemcontrol, 0.52

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

Lighting companies moving in to upstreamIntegration in LED chips

LED lighting market value breakdown

Acqui ring system control designtechn ology, or local channels

LEDpackaging/chip makers movinginto d ownstream

LED packagingvalue-add, 0.10032


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28

Fig. 46: LED lighting supply chain

Source: Mckinsey, LEDinside, and Nomura research

Description

* MOCVD

equipment

making is anoligopoly

market,

dominated by

Aixtron and

Veeco

* Encapsulate and

make contacts andprimary optics

* Coat with

phosphor (for white

LED)

China

USA/EU

* Grow epi layer

on sapphire wafer* Structure and dope

the substrate

* Cut the chip into dies

* Mount LED packages

on a PCB

* Optimize into application* Integrate light modules

with optics and thermal/

power management

components

* Combine module and

ballast, with a fixture,

that plays a key role inthe optics, and a heat

sink

* Attach external

control unit for fixtures

* Branding includes

various know-how suchas marketing,

advertising, channel,

and promotion

Taiwan

Korea

Japan

MOCVD

EquipmentPackage

Module/

lightengine

Lightingfixture/

Luminaire

Branding/

localchannelsEpi/Chip

Epistar, Forepi,Genesis

LiteonEdison,Delta,BrightLED,UnityOpto

Everlight

TSMC, UMC,HonHai

AUO/Lextar

SeoulSemiconductor

Epivally

Lumens,Luxpia, Itswell

LGInnotek,Samsung LED(Samsung)

Nichia

Citizen

Toyoda Gosei

Sharp

Toshiba, Panasonic

Sanan,Silan, Epilight,

AquaLite,ElecTech,

Tsinghua Tongfang

Nationstar,Honglitronic, Refond,

Ledman,MLS

Tospo,Opple,NVC,Yankon, Foshan, Yamming

Aixtron,Veeco

SemiLeds

Cree

Osram, GE

Philips/Lumileds

Philips,Osram,GE...


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29

Earnings, valuation, and stock actionWe remain cautious on the LED industry and profitability of LED makers in the short and

long terms.

Earnings should bottom in 1H12F, but long-term margins willhave structural problems, in our view

Considering the expected severe LED oversupply and macro weakness, we think many

LED makers' earnings will approach new lows in 4Q11-2Q12F. Although we expect

earnings to recover gradually from 3Q12F with demand recovery and slowed capacity

expansion, we think LED makers' margins may not return to peak levels in the LED TV

cycle, and in the long run, we see LED maker's margins facing several structural

problems.

We believe the profitability of LED makers during the golden period in the LED lighting

cycle will not be as high as that in the LED TV cycle.

As highlighted in earlier sections, we think the peak LED lighting cycle will be short-

lived, as shortages are less likely to happen, given the lighting markets very

fragmented nature and no rush needed to bring products to markets. Moreover, we

believe LED makers will eventually see price competition in the lighting market, as late

comers catch up with technology. As packaged LEDs account for the largest proportion in LED lighting costs (30-60% of

LED luminaire costs, according to DOE) and aggressive cost reduction is to trigger a

take-off in LED lighting demand, we think the pricing pressure for LEDs will continue to

be high in 2012-13F, not only from industry competition, but also from lighting

customers' cost requirements.

For LED makers that penetrate into the LED light source and fixture business, despite

higher sales growth potential, we believe their margins will be at risk as well. Margins

for OEM/ODM for global leading lighting companies will be low, in our view, given

strong bargaining power of customers. Margins for own-brand or smaller customers

should ideally be higher, but are also subject to economies of scale and inventory

controls.

We forecast the LED operating margins of Epistar, Everlight, SSC, LG Innotek, and S-LED will bottom out in 2Q12F and recover gradually in 2H12F. However, we estimate

their operating margins in 2H12F will be only half of the peak levels in 2Q-3Q10.

Fig. 47: Sales of LED makers


Fig. 48: OP margin of LED makers


0

100

200

300

400

500

600

1Q08

2Q08

3Q08

4Q08

1Q09

2Q09

3Q09

4Q09

1Q10

2Q10

3Q10

4Q10

1Q11

2Q11

3Q11

4Q11

1Q12

2Q12

3Q12

4Q12

1Q13

2Q13

Cree Epistar Everlight

LGI SSC S-LED

(USDmn)

(30)

(20)

(10)

0

10

20

30

40

1Q08

2Q08

3Q08

4Q08

1Q09

2Q09

3Q09

4Q09

1Q10

2Q10

3Q10

4Q10

1Q11

2Q11

3Q11

4Q11

1Q12

2Q12

3Q12

4Q12

1Q13

2Q13

Cree Epistar Everlight

S-LED LGI SSC

(%)


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30

Valuation is not demanding, but be cautious on recovery

We believe investors are looking to revisit LED players. The share prices of LED players

have declined over 40% YTD, due mainly to deteriorated profitability and weak LED TV

demand. The shares are now trading at FY12F P/BV of 1.0x~2.0x, at or near their

historical lows. Meanwhile investors believe an increased demand for LED lighting will

enhance profitability of LED makers, providing a positive potential share-price catalyst.

However, we remain cautious on the LED industry. In our view, profitability of LED

makers will remain under pressure in the short and long terms. The golden cycle for the

LED industry ignited by LED lighting demand will only be short-lived, in our view.

We think the game has changed for LED makers in the LED lighting cycle. We believe

the core value of the supply chain in the LED lighting market will gradually shift from LED

components to LED lighting product designs. Therefore, we are more positive on

vertically integrated LED makers, which have good technology in developing LED

lighting products, eg. lamps, or even fixtures and systems, and good access to end

channels/customers.

Of the stocks in our coverage, we are positive on SEMCO in view of its strong

commitment to the lighting business and own-brand LED lighting products. However, we

maintain our Neutral rating on SEMCO due to possibility of a spin-off of its LED business

in 2012F and weak earnings contributions from other businesses. We have Neutral

ratings on SSC, LGI and Epistar, considering our short- and long-term bearish view onthe industry. We maintain our Reduce rating on Everlight, as we think its intention in

having its own-brand LED lighting is likely to cause it to lose cooperative opportunity with

lighting companies. Moreover, we believe its own-brand products lack competitiveness

vs. those of leading lighting companies.

SEMCO (009150 KS, Neutral): In our view, its business momentum has deteriorated

due mainly to high revenue exposure to TV and PC-related components. We believe

SEMCOs business momentum will reach a bottom in 1Q12F as the PC industry will

likely face HDD supply issues in 1Q12F, negatively impacting other PC-related

components and TV demand, which we expect to bottom out in 1Q12F. As for the LED

business, we think its business momentum will be better than peers given its intention

to develop own-brand lighting products, although we see low profitability inevitable in

2012F. LGI (011070 KS, Neutral): We maintain our Neutral rating on LGI, as we believe

visibility of earnings momentum recovery is low in the short term due to its structural

weakness. While IT demand polarization of smartphones will likely continue in 2012F,

we estimate its revenue exposure to TV- and PC-related components will be at ~52% in

2012F, leading to continued weakness in the overall earnings trend. Moreover, we

estimate the proportion of its LED revenue in lighting will only be 13% in 2012F and,

thus, we believe its profitability for the LED business will continue to be significantly

under pressure.

SSC (046890 KS, Upgrade to Neutral) - We upgrade our rating on SSC to Neutral from

Reduce, as we believe it is trading at its fair value after a significant correction over the

last one year. However, we believe its earnings momentum will remain weak in the

short and long terms, in line with the industry trend. Epistar (2448 TT, Neutral): As a pure chip maker, Epistar faces serious risk-reward

imbalance challenges in the lighting business, bearing heavy capex but only earning

chip level revenues. It also faces oversupply risks, in our view. Although Epistar's

earnings may hit a short-term trough in 4Q11-1Q12F, we expect its 2012-13F earnings

to remain low, given continued oversupply and severe competition in LED lighting. We

may turn more positive if Epistar is able to secure more long-term orders from LED

lighting companies with easing industry over-supply.

Everlight (2393 TT, Reduce): We maintain our Reduce rating on Everlight, in view of its

weakening industry position in LED lighting and backlighting business. For LED

lighting, Everlight's own-brand business faces direct competition from leading lighting

companies, and its margins are much lower than the corporate average, dragged by

low economies of scale and low-priced strategy. For backlighting, Everlight's several


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31

structural issues remain: shrinking addressable market, which is squeezed by panel

makers' increased in-house production, competition from Chinese makers, and weak

customer base in TV and tablet PC applications.

Fig. 49: Share price performance (2009-present)

Source: Bloomberg

Fig. 50: Share price performance (2004-present)

Source: Bloomberg

Fig. 51: P/E trend

Source: Bloomberg, Company data

Fig. 52: P/B trend

Source: Bloomberg, Company data

100

200

300

400

500

600

700

Jan-09

Apr-09

Jul-09

Oct-09

Jan-10

Apr-10

Jul-10

Oct-10

Jan-11

Apr-11

Jul-11

Oct-11

Epistar Forepi

Everlight Cree

SEMCO Seoul Semi

Jan 09=100

0

100

200

300

400

500

600

700800

900

1,000

Jan-04

Jul-04

Jan-05

Jul-05

Jan-06

Jul-06

Jan-07

Jul-07

Jan-08

Jul-08

Jan-09

Jul-09

Jan-10

Jul-10

Jan-11

Jul-11

Epistar Forepi

Everlight Cree

SEMCO Seoul Semi

Jan 04=100

0

10

20

30

40

50

60

70

80

Jan-09

May-09

Sep-09

Jan-10

May-10

Sep-10

Jan-11

May-11

Sep-11

Epistar Everlight Cree

SEMCO Seoul Semi

P/E (x)

0

1

2

3

4

5

6

Jan-04

Jan-05

Jan-06

Jan-07

Jan-08

Jan-09

Jan-10

Jan-11

Epistar Forepi

Everlight Cree

SEMCO Seoul Semi

P/B (x)


33/66

Key company data: See page 2 for company data and detailed price/index chart.

SEMCO 009150.KS 009150 KSTECHNOLOGY

EQUITY RESEARCH

Bottom in 1Q12F

Weakening PC and TV demandto continue impacting SEMCOsearnings in 1H12F

December 15, 2011

RatingRemains

Neutral

arget price

RemainsKRW 90,000

Closing price

December 13, 2011KRW 90,000

Potential downside 0%

Action: Maintain Neutral

We maintain our Neutral rating on SEMCO to reflect a weak industry cycle

and lacklustre company-specific profitability trend. While SEMCO has high

revenue exposure to PC and TV, we expect IT demand polarisation to

smartphones to continue in 2012F, impacting TV- and PC-relatedcomponents. We cut our 2012F operating-profit forecast by 41%, mainly

because of SEMCOs sluggish earnings in its

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