– Semi Situation Stems from long term systemic neglect
– Will require much more than money & time than thought
– Fundamental change is needed to offset the financial bias
– Auto industry is just the hint of a much larger problem
Like recognizing global warming when the water is up to your neck
The problem with the semiconductor industry has finally been recognized but only after it stopped the production of the beloved F150 Pick Up truck and Elon’s Tesla. Many analysts and news organizations wrongly blame the Covid pandemic and its many consequences and assume this is just another example of the Covid fallout. Wrong! This has been a problem decades in the making. Its not new. The fundamental reasons have been in the works for years. The only thing the pandemic did was to bring the issue to the surface more quickly.
The issue could have been brought to the surface just as easily and with worse consequences by a conflict between China and Taiwan. Or perhaps another trade spat between Japan and Korea.
The semiconductor industry is perhaps not as robust as would otherwise be thought given that it hasn’t seen a significant problem before.
The reality is that the “internationalization” of both the industry and its supply chain have opened it up to all manner of disruption coming at any point along that long chain.
The consolidation has further concentrated the points of failure into a small handful of players and perhaps one, TSMC, that is 50+% of the non memory chip market.
Tamagotchi Toys were the Canary in a Coal Mine
Most people may not remember those digital pets called Tamagotchi that were a smash hit in the late 90’s. Many in the semiconductor industry in Taiwan do remember them. In the summer of 1997 they sucked up a huge amount of semiconductor capacity in Taiwan and whacked out the entire chip industry for the entire summer causing delays and shortages of all types of chips.
Tamagotchi Tidal Wave Hits Taiwan
In essence, a craze over a kids toy created shortages of critical semiconductor chips. Semiconductor capacity is much greater now than it was 20 years ago but the industry remain vulnerable to demand spikes and slowdowns.
The memory industry is an example of the problem
Perhaps the best example of the chip industry’s vulnerability is the memory semiconductor market. The market lives on the razors edge of supply and demand and the balance maintained between the two.
Too much demand and not enough supply and prices skyrocket….too little demand and excess supply and prices collapse.
The memory industry is clearly the most cyclical and volatile in the semiconductor universe. One fab going off line for even a short while due to a power outage or similar causes the stop market for memory chips to jump.
Kim Jong-Un should buy memory chips futures
All it would take is one “accidentally” fired artillery round from North Korea that hit a Samsung fab in South Korea and took it out of commission. Memory prices would go through the roof for a very long time as the rest of the industry could never hope to make up for the shortage caused in any reasonable amount of time
Other industries, such as oil, do not have the same problem
When you look at other industries in which a product is a commodity like memory is you do not have the same production problem. The oil industry which is also a razor’s balance between supply and demand does not have the same issue as there is a huge amount of excess capacity ready to come on line at a moments notice.
The cost of oil pumps and derricks sitting around idle waiting to be turned on is very very low as compared to the commodity they pump. This means the oil industry can flex up and down as needed by demand and easily make up for the shortage if someone goes off line (like Iran).
Imagine if the oil industry kept pumping, at full output, never slowing, for each new oil field drilled.
In the semiconductor industry the capital cost is essentially the whole cost so fabs never ever go offline as the incremental cost to produce more chips is quite low. This means there is no excess capacity in the chip industry of any consequence and they run 24X7. Capacity is booked out months in advance and capacity planning is a science (perfected by TSMC).
The semiconductor industry has all the maneuverability of a super tanker that takes many miles to slow down or speed up….you just can’t change capacity that easily.
There is no real fix to the capacity issue due to financials
To build capacity that could be brought on line in a crisis or time of high demand would require an “un-natural” act. That is spending billions to build a fab, only to have it sit there unused waiting for the capacity to be needed. This scenario is not going to happen….even the government isn’t dumb enough to spend billions on a “standby” factory that needs a constant spend to keep up Moore’s law.
Its just not going to happen
Moving fabs “on shore” just reduces supply risk not demand risk
Rebuilding fabs in the US would be a good thing as it would mean fabs that are no longer an artillery shell away from a crazy northern neighbor or an hour boat ride away from a much bigger threat that still claims to own you.
That will certainly help reduce the supply side risk assuming we don’t build the new fabs on fault lines or flood zones. The demand side variability will still exist but could be managed better.
Restarting “Buggy Whip” manufacturing
The other key thing that most people do not realize is that most semiconductors used in cars, toys and even defense applications are made in very old fabs. All those older fabs that used to make 386 and 486 chips and 1 megabit memory parts have long ago been sold for scrap by the pound and shipped off to Asia (China) and are now making automotive and toaster oven chips.
Old fabs never die…they just keep making progressively lower value parts. As I have previously mentioned in a prior note, you don’t make a 25 cent microcontroller for a car in a $7B , 5NM fab….the math simply doesn’t work.
This ability to keep squeezing value out of older fabs has worked as demand for trailing edge has not exceeded capacity.
For a typical chip company, the leading edge fab makes the highest value CPU, the next generation older fab maybe makes a GPU, the next older fab maybe some I/O chips or comms chips, the older fab makes consumer chips and the oldest fabs make chips for TV remotes.
In bleeding edge fabs the equipment costs are the vast majority with labor being a rounding error. In older fabs , with fully depreciated equipment, labor starts to become a factor so many older fabs are better suited to be packed up and shipped off to a low labor cost country.
The biggest problem is that demand for older chip technology seems to have exceeded the amount of older capacity in the world as chips are now in everything and IOT doesn’t need bleeding edge.
Equipment makers for the most part don’t make 6 inch (150MM) tools anymore, some still make their old 8 inch (200MM) some don’t. As we have previously mentioned, demand for 200MM now exceeds what it was in their peak.
Old Tools are being Hoarded
Fixing not only the shortage issue but the risk issue will take not only a lot of time but a lot of money. The problem is systemic and has been dictated by financial math that has incentivized what we currently have in place.
In order to change the behavior of anyone who runs a chip company and can add we need to put in place financial incentives, legal decrees, legislative incentives and use a multiple of levers to change the current dynamics of the industry.
Even with all the written motivation in place it will still take years for the physical implementation of the incentivized changes.
TSMC has been under enormous pressure for years about a fab in the US. Now they are planning one in Arizona that is still years away, will be old technology when it comes on line and will barely be a rounding error….. all that from a multi billion dollar effort….. but its a start.
A real effort is likely to be well north of $100B and 10 to 20 years in the making before we could get back to where the US was in the semiconductor industry 20 years ago.
As the saying goes, buying semiconductor equipment company stocks is like buying a basket of the semiconductor industry. They can also be view as the “arms merchants” in an escalating war.
It doesn’t matter who wins or loses in the chip industry but building more chip factories is obviously good for the equipment makers, in general.
In the near term, foreign makers such as Tokyo Electron, ASM International, Nova Measuring and others may make for an interesting play.
There is plenty of time as we are sure that no matter what happens we will see zero impact from government sponsored activities in 2021 and it will likely take a very long time to trickle down so we would beware of “knee jerk” reactions that may drive the stocks near term.