Will the Chip Shortage Ever End? Strategies for How to Manage It

The hard truth is, for companies impacted by the global chip shortage, the supply situation is unlikely to normalize before 2023, according to growing consensus in the semiconductor industry and among analyst firms.

Any easing in the supply of semiconductors hinges on efficiency and capacity improvements at fabrication plants.

In the meantime, to manage this ongoing chip capacity crunch, they would require rethinking their supplier strategies. But first, we should look at what is really fueling the chip crisis.

There are two sides to this supply shortage: One is changing demand patterns for products that require microchips and the other is operational inefficiencies within the semiconductor industry at large.

The growing competition to acquire chips

The pandemic has distorted the demand for semiconductors since last year.

This is the first time in 20 years that the personal computer market grew by 32% year-over-year in Q1 of 2021, according to Gartner. The demand for data centers also jumped with the pickup in video conferencing, streaming and gaming. And all of this happened when the supply of chips was flat.

Another not-so-talked-about factor fueling the semiconductor crisis is cryptocurrency mining, which has led to a lot of chip buying.

Cryptocurrency miners, who were nowhere on the semiconductor buyers’ map a few years ago, are now willing to spend as much money as needed on chips given the bullish crypto market.

Continued disruptions to chip production

The semiconductor industry itself is facing many new challenges and disruptions.

Like the fire at a Renesas Electronics’ chip-making factory in Japan in May, with two-thirds of the chips made in that facility meant for automobiles.

Also, Taiwan, the global chip-making hub, is facing its worst drought in 50 years. This drought has affected chip production since water is an important input.

Then there was the massive power outage in Texas, affecting many fabricators and in turn, the U.S. auto industry.

Supplies are likely to be affected further due to rising COVID-19 cases and lockdowns in Malaysia, a major center for chip testing and packaging.

These disruptions, happening one after the other, have widened the chip demand-supply gap.

One way to address the shortage has been to invest in more chip capacity. But that is easier said than done since investments in the semiconductor industry to expand output have always been cyclical.

While chip sales have been rising since 1991, investment in factory equipment as a percentage of sales kept falling (after peaking in 2000) and started increasing only from 2013, according to data from Future Horizons.

Also, many of the semiconductor companies have gone public. This has made them conservative on fresh investments since they are closely watched on how they are allocating the finances.

Capacity expansion in the semiconductor industry also takes time. Very few suppliers make equipment for the factories.

However, given the new demand, industry association SEMI has projected that sales of manufacturing equipment may cross $100 billion by 2022 from $71.1 billion in 2020.

In this situation, what can semiconductor buyers do to navigate the shortage?

In the short term, it is a supplier’s market. Buyers must exercise their decisions quickly since the chip buying windows are small. They would need:

1.  Real-time market intelligence and primary research to find arbitrage:

They should leverage primary research with the help of a technology partner for daily market scanning to identify supply sources and fleeting “buying windows”.

According to GEP’s sourcing data, prices of semiconductor parts such as diodes, ICs, and passive components prices have increased by more than 50% since the beginning of 2021.

Also, buyers are competing with the likes of cryptocurrency miners for the limited supply of chips. Companies will need to be active in the market to identify these arbitrage opportunities before the chip supply dries up. Advanced market intelligence on capacity is crucial to identify new suppliers, bring them onboard and maintain supply.

2.  Speed up the process to add new suppliers:

By working closely with their technology partner, companies can significantly enhance their speed to market for onboarding new chip suppliers. The goal should be to drastically reduce cycle time for adding suppliers, with the realization that if it cannot be done within a day, companies may end up losing precious supply.

3.  Collaborate with finance teams for faster payments:

Procurement teams in enterprises should also rope in their finance departments to allow for faster payments to supplier since these are itemized buys and buying off purchasing cards (P-Cards) may not be compliant. They should collaborate with finance teams to create a fast lane that allows for supplier payment setup within a day.

4.  Find the optimal chip order quantity:

Companies looking to ensure stable chip supply should pre-align internally on economically feasible order quantities. Chip shortage is driving smaller order quantities (lower volume leverage) and rising shipping costs are adding to the woes (a 68% jump in the global container index between June and September 2021). In fact, ocean freight rates are expected to soar further in Q4 due to lack of containers, port congestion and rising demand, according to GEP research.

This is an opportune time for enterprises to drive improvements in their procurement process to make it future proof. Lessons learnt in the short term should be used for created a more agile and resilient chip procurement processes.