Chip shortage rolls on as carmakers cut production

For want of a shoe a horse was lost. The old mnemonic that warns one to prepare down to the smallest details for every eventuality apparently didn’t lodge in the minds of car company senior executives, as the lack of semiconductor chips is turning making cars in 2021 into something of a nightmare.

The crisis in chip supply, which had been expected to ease as we entered the second quarter of this year, is merrily carrying on into a fifth month. As chips are now an integral part of cars – each modern car contains hundreds of high-tech chips, instead of the maybe tens of chips they once held – the bottleneck in supply is now causing serious hurt.

That hurt is to an extent self-inflicted. Carmakers cancelled orders for components, en masse, last year as the havoc of Covid lockdown bit, but the demand for new cars rebounded higher and faster than expected in the latter part of 2020. The problem was that chip production didn’t – couldn’t – keep pace. Chip production has long been a volatile business (remember the dotcom boom and busts of the early 2000s) but even so, the industry wasn’t set up for such a rapid turnaround in demand.

The sheer volume of chips being used by the automotive sector meant that carmakers had been starting to think of themselves as big players in the semiconductor market. The cash value percentage of a fully-built car that's accounted for by chips has risen from 18 per cent in 2000, to about 45 per cent today, according to analysis by Deloitte.

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However, there’s an imbalance – while chips are more and more important to carmakers, carmakers are not especially important to chip companies.

For example, one of the largest and most important chipmakers, TSMC in Taiwan, makes more than 70 per cent of high-end car-related chips and processors, yet only 3 per cent of TSMC's income comes from carmaker contracts.

The ever-expanding tech companies – especially those that make phones, laptops, servers, even smartwatches – placed themselves firmly at the front of the chip queue, leaving carmakers out in the cold. It’s not just a matter of chips becoming more expensive (although they have), it’s that production has hit a ceiling, for now at least.

Just-in-time production

Mike Long, chairman of Arrow, one of the key players in global chip and semiconductor supply, and which has a significant operation in Ireland, told The Irish Times on a conference call: "Last February the carmakers were the ones calling everyone and saying they didn't want supply. Now they want to start back up, but there's no buffer inventory for them to start back up. When you get into just-in-time production you're getting stuck because the lead times for making chips are extending.

“We’re seeing more companies coming to us, to Arrow, and trying to work through that. For us it’s going to be a long-term benefit because some companies are trying to build a little more flexibility into their structures.” Long cautioned that there is no easy way out of the crisis, though: “The capacity additions at chip fabricators are currently limited, so there’s no supply surge coming. I don’t see any dramatic improvements in supply before the end of the year.”

Poll the chip industry for when the crisis might come to an end and the news is worrying for carmakers. While the market for chips has been traditionally volatile now it seems to be gathering an unstoppable head of steam as we head into the age of the Internet of Things, where almost every item we own contains a chip.

That seems to add a certain banality to chips, makes them seem like simple workaday things, but nothing could be further from the truth. It takes years and years of work by very many skilled engineers to design a semiconductor, and then the manufacturing process is very, very complex.

They look like cheap slivers of plastic with electric contacts but if you slice the top off, and look at one under a microscope, there are thousands and thousands of layers of circuitry that have been burned into the plastic. Gearing up to build semiconductors isn’t the work of a moment, it takes significant monetary and physical resources.

Ironically, Toyota has been one of the least-affected companies, and we'll get to the irony in a moment. Toyota has experienced supply-chain issues in the past, triggered by tsunami crisis and so it has learned to make sure it has something of a stockpile of key components on hand. That has meant that, of all car makers, Toyota has been among the least affected, even though it is talking about stalling some European production.

Irony comes from the fact that it was Toyota which pioneered the lean-production, just-in-time model of car making in the 1980s and 1990s, subsequently copied by pretty much every other carmaker. Not having money tied up in stored parts and inventory opened up newfound profits for most car companies, but that lack of inventory is now turning around to bite the hand that it once fed.

This month, Jaguar Land Rover announced that two factories in the UK will be idled thanks to the chip shortage. Peugeot has said that its new 308 hatchback will be introduced this year without a modern digital instrument panel, but with traditional, mechanical, analogue dials instead, so that the car can be brought to market with minimal delay.

Crisis mode

Volkswagen has said that it's in "crisis mode" when it comes to dealing with the chip shortage, and is losing production because of it. "We will do everything to offset a significant amount of the lost cars in the second half of the year," Volkswagen boss Herbert Diess told journalists on an earnings call. "But the incidents in the US and in Japan will hurt us, definitely."

Those incidents include the cold snap in Texas earlier this year, which caused power outages and shut down some significant semiconductor manufacturers, while a major fire at gigantic Japanese chipmaker Renesas Electronics stalled production, and the company says that capacity might not be restored until later this month. That fire, which took hold of the factory in March, burned an area of 600 square metres and destroyed 23 machines. Worse still, the fire filled the sensitive clean room – vital to the manufacture of chips – with smoke and soot.

And end to this chip crisis is a long way from being in sight, even though national governments – including the Biden administration – are now becoming directly involved. Gearing up to make a new chip fabrication plant can take as long as two years, and absorb literal billions in investment cash.

Some are thinking that the crisis will have a fundamental effect on the way carmakers operate. Speaking at a press conference for Renault, the French company's chief executive Luca De Meo said: "Everyone says that in the second half of this year things will be a little less painful. The problems are structural. It shows how far the logistic chain goes and how complex it became during the era of globalisation. It's pretty threatening for a lot of businesses. Maybe there will be place to revisit some of the supply-chain setups that were introduced maybe 20 years ago."

By the midpoint of 2022, at least some of the bottleneck should have subsided, but what you can expect to see beyond that is that carmakers might start to get into the production of chips themselves. Just as with the changeover to electric power, carmakers have learned not to let themselves get frozen out of battery production, they won’t want to be left hanging for the sake of a bag of chips again.