The Reasons Behind the Global Chip Crisis and Its Impact on Business

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One of the most highly sought-after commodities in recent times apart from COVID-19 vaccines is the semiconductor. And although vaccine supply is catching up with global demand, semiconductors – or computer chips – are becoming increasingly harder to obtain.

Millions of products that are built using these chips are in short supply as there just are not enough of them to meet industry demand. Even companies that would not necessarily be associated with computer chips are experiencing the effects. There is not one company, big or small, that has not felt the pinch of the global chip shortage.

Needless to say, prices for the electronic gadgets are soaring. And logistical headaches and shipping delays are compounding the situation and causing short supply of a wide variety of consumer products.

Rising Demand for Semiconductors

Many devices and consumer products contain more than one chip; chips perform various functions in modern products. Lately, there has been a rise in demand for lower cost 200mm chips, which are embedded in a wide variety of consumer products. This situation has been in the works for years, not just months. In February 2020, industry news site, Semiconductor Engineering highlighted the risk of a chip shortage, partly due to a lack of 200mm manufacturing equipment.

Then, as the pandemic unfolded, early signs of fluctuating demand led to tech firms' advance ordering and stockpiling of chips. Lockdown exacerbated it further when people working from home needed computer devices to do their jobs and chip factories shut down.

Among the pressures facing the chip industry before the pandemic were the rise of 5G rollouts, which dramatically increased consumer demand for laptops, tablets, webcams, and gaming platforms.

Other manufacturing complexities have also disrupted the supply of specific components. One was the closure of computer-chip facilities in Texas, and another was the fire caused by an electrical fault at a plant in Japan.  

Impact of the Chip Shortage on the Automotive Industry

Carmakers have been hit particularly hard by the chip shortage as they have faced delays in acquiring automotive semiconductor chips. While the automotive industry is slowly recovering, it suffered mightily from two significant problems, 1) the global pandemic, and 2) the rising electronification and digitization of cars. The electrification of the powertrain has increased the need for even more semiconductors. This means those seeking to buy a new car could continue to experience delays for months to come.

Structure of the Semiconductor Industry

A clear understanding of the global semiconductor industry is fundamental to unlocking the finer nuances of this market phenomenon.

Microchips are the critical elements that power common appliances we use every day, such as air conditioners, washing machines and your car’s engine management system. Today, 75% of all global semiconductor manufacturing capacity is concentrated in China and East Asia, with Taiwan commanding a whopping 92% of all the advanced chips powering everything from NVIDIA graphics cards to AMD processors found in all iOS and Android devices.

The manufacturing process for microprocessors that power smartphones and laptops is far more complex. Advanced semiconductor fabrication foundries are concentrated in Taiwan and South Korea.

Manufacturing a batch of chips usually takes months, which gives chipmakers time to take orders several months in advance and plan and schedule production slots for an entire year. Semiconductor fabrication foundries cost billions of dollars to set up and run, so they are built and run according to the projected market forecasts, which are typically consistent. Simply put, everyone from auto companies and appliance manufacturers to smartphone and laptop brands has to coordinate at least a year in advance with chip companies to book manufacturing slots to meet the specific numbers they need.

When global demand for consumer durables is fairly predictable, this kind of planning and projecting works out fine. But when confronted with a catastrophic change – such as the pandemic – things are more complicated.

What To Do about Lean Supply Chains and Limited Stock

Over the past few decades, many leading industry analysts have pointed out that firms have worked to optimize production using just-in-time and lean systems that reduce working capital and lower inventory. This kind of extreme efficiency forces them to relentlessly reduce costs but also makes them hypersensitive to extreme events.

Industry analysts expect the worldwide semiconductor shortage to last until the second quarter of 2022. Although the pandemic served as the initial catalyst that led to the global chip shortage, there is more to the supply issue – a high and rising demand.

How lean manufacturing further evolves in this context is anyone’s guess, but we can draw some parallels from historical financial crises and the importance of risk management. Creating end-to-end visibility from customers’ customers to suppliers’ suppliers will greatly improve supply chain planning for semiconductors.

The shortage is acutely felt in industries like automotive because they are still largely using legacy technologies and lean supply chains that makes them vulnerable. Even if they could get chips, these companies could take months to produce the end product.

Aside from the reliance on legacy technologies, automotive companies also struggle with business continuity planning, which has left them shaken by the pandemic. Companies that adapt to changing environments by using technology to their advantage can anticipate their supply needs and better prepare for the future.

What the Chip Shortage Means for the Future

Experts have been alerting us of the global semiconductor chip crisis for some time, but the uncertainty of the pandemic and global economics mean that the chip shortage crisis will not likely end any time soon.

This requires enterprises to focus on various long-term and structural measures, such as revising their sourcing strategies in collaboration with vendors and reshoring all or some of their manufacturing processes. Some leading businesses are even re-evaluating their supply chains and diversifying their supplier bases. For example, Intel recently announced it will be producing chips for Qualcomm, as part of its new foundry service business and to catch up with competitors.

Innovative companies such as Tesla are exploring alternative solutions, including rewriting software and firmware to support alternative chips and keep up with the production level. While this may be applicable in a vertically integrated company such as Tesla, which can design more hardware and software itself, other manufacturers will need to re-assess  their “build vs. buy” strategies for the critical components.

In addition to addressing long-term and structural measures, companies must answer one critical question: how to design an enterprise system that uses technology such as digital twin, IoT, data analytics and blockchain to enhance the resilience of logistics processes in real time based on dynamic events data?

We recommend enterprises consider the following strategies to leverage the power of digital to address this challenge: 

  • Use digital twin and digital thread technologies to create end-to-end transparency across the value chain, down to Tier-X level, say for suppliers’ suppliers and customers’ customers.
  • Combine data from multiple sources to enable what-if modelling that will ease adoption of plans based on real-time scenarios and dynamic routing.
  • Re-assess “build vs. buy” strategies for critical software, hardware and other technology components and make necessary adaptations in suppliers’ contracts accordingly to reduce the overall risk across the supply chain.

ISG’s Smart Manufacturing and Digital Engineering services help enterprises address some of the challenges associated with the chip shortage and other market disruptions by designing effective digital twin, digital thread and data analytics programs to improve operations and supply chain resiliency. This creates a new software and data-enabled core, which calls for a change in the operating model, including foundational components around people, data and systems. ISG helps companies translate the requirements of the new core into their make-versus-buy-versus-partner conversations and design flexible and modular contracts for a more well-coordinated ecosystem.

Contact us to find out how we can help your organization.

About the author

Christian Decker

Christian Decker is Partner at ISG, leading the Smart Manufacturing vertical in EMEA. He has sound technical and business skills to offer, bringing to ISG client projects a wealth of professional. He has gained his experience over a period of more than 17 years as an IT Product Manager, Service Manager, Team Manager and Management Consultant. His expertise encompasses Portfolio-Management, IT Sourcing Strategy, IT Infrastructure Outsourcing, Service Design and Product-Management, Transition Management as well as IT Service and Cost controlling, P&L responsibility and Benchmarking.

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