R&D and firm performance in the semiconductor industry

While the semiconductor industry is still dominated by large vertically integrated firms, fabless firms, which outsource their manufacturing, are gaining market share. Fabless firms are considered to have an advantage in product innovation, as they can focus their innovation efforts on chip design and can benefit from investments in process innovation made by their manufacturing partners, However, there is little empirical evidence of the performance of fabless firms compared to vertically integrated firms. This research empirically examines the relationship between R&D and the financial performance of fabless and vertically integrated firms from 2000 to 2010. Our results show that fabless firms maintain higher gross and net margins, earn a higher return on assets (ROA) and have greater intangible value (Tobin's q) than vertically integrated firms when controlling for size, capital intensity and R&D ratio (R&D/sales). This supports the argument that fabless firms achieve greater performance by focusing on one part of the innovation process. The relationship of R&D ratio to net margin is negative for the whole sample, suggesting that the industry may be overinvesting in R&D. Notably, the negative relationship is greater for fabless firms, which spend a higher amount of their sales on R&D. The relationship of R&D ratio to ROA and Tobin's q is negative, and there is no significant difference between fabless and integrated firms. We conclude that fabless firms outperform integrated firms overall, but are somewhat worse in terms of increasing profits and creating value from their R&D investments.