Vehicles rely on chips for everything from door locks and infotainment to brake sensors, power steering and advanced driver assist systems. A modern car system can have anywhere between 2,000 and 3,000 chips.
A global shortage in semiconductor chips slowed down the pace of vehicle production by 10 million units in 2021, with an additional 1 million at risk this year, according to AutoForecast Solutions. The chip shortage continues to cripple the car industry and has sent car prices soaring. Low supply and high demand will keep the prices high for both new and used vehicles in 2022.
According to EuroFinance, the impact of the chip scarcity is visible on the working capital of automobile manufacturers including Ford, General Motors (GM), BMW, Volkswagen, Daimler and Tesla, as they held inventory of $129.5 billion at the end of the second quarter of 2021, $13 billion higher than the start of the year, increasing the demand for working capital as cash got trapped in unfinished vehicles.
Why did this happen?
In March 2020, as the COVID-19 pandemic stretched its disruption worldwide, automakers expected a decline in economic activity and shut down plants and reduced or cancelled orders for semiconductor chips. As they pulled back, the consumer electronics industry comprising manufacturers of televisions, computers, video game consoles, home appliances and smartphones ramped up production in response to the increasing work-from-home demand. Chipmakers rerouted their supply that would otherwise have gone into vehicles to the electronics industry that demonstrated a willingness to pay more for the silicon wafers.
By the summer of 2020, when the auto factories restarted, the stronger-than-expected demand for new private cars or private mobility outpaced production. However, automakers found that the chips they needed weren’t available because they had cancelled contracts for chips, while chip suppliers were raking in more money from lucrative contracts with the electronics industry. This impacted the auto industry in their ability to manufacture cars to meet their demand forecast.
Modifying supply chain
The semiconductor chip crisis threw light on what appears to be a systemic flaw in the supply chain. Auto manufacturers are looking to plug this hole for the future by modifying supply chain practices. Instead of relying on just-in-time deliveries to keep the production process flowing, they are leveraging technology to extensively scan for stumbling blocks within the supply chain and are stockpiling key parts or materials. This will help them optimize working capital and alleviate supply chain stress in the coming years.
Given that the raw materials for the semiconductor business often come from Japan and Mexico, with the chips being made in China, South Korea, Taiwan and some in the U.S., the auto industry is working with chip makers to develop new manufacturing capacity. Some of this will involve locations closer to home to shorten the supply chain and cushion against rising costs such as the surge in transportation costs. For instance, BMW signed an agreement with Munich-based microchip maker INOVA Semiconductors and U.S.-based foundry GlobalFoundries to supply the carmaker with several million semiconductors each year. Ford and GM have also aligned with U.S.-based semiconductor manufacturers to develop and manufacture chips. From a long-term perspective, this will facilitate the shift to insourcing and vertical integration.
Treasurers at certain automotive manufacturers are also deploying autonomous, technology-led strategies and data-driven insights to react quickly to demand changes, reduce inventory costs and decrease discounting. For instance, Ford pivoted to a build-to-order (BTO) sales model to address inventory paucity amid the semiconductor chip crisis. BTO options will help its dealership have fewer vehicles on the lot and also reduce their floorplan costs.
Automakers are also curbing production and focusing on models with the highest demand and those that will net the best profits. They are prioritizing putting the chips they have in their most profitable vehicles, such as full-size trucks and SUVs, as well as luxury vehicles.
For car buyers, this will mean fewer price breaks and manufacturers incentives, less choice, longer lead times for new cars and higher prices for used vehicles. According to CarGurus Canada’s December 2021 data, new car prices climbed 28 percent from the previous year, while used car prices jumped 41 percent.
Tesla managed to avoid being too affected by the chip shortage through pivoting to microcontrollers and developing new firmware to work with new chips from different suppliers.
Steps are being taken by automakers to avert similar problems in the future involving not only semiconductors, but also other key components needed for electric vehicles.
While chip shortages are projected to last into 2023, the hope is that they will be more manageable as auto manufacturers exert greater control over their logistics and supply chains. Companies are rethinking the geography of their supply chains, moving production closer to home or in some cases in-house, redesigning cars by using generic chips, and finding ways to make cars and trucks with fewer chips. For example, Volkswagen is looking at whether cars can be developed with more modules and fewer chips. Prompt overhaul of supply chains is their way out of the global chip crisis, heralding a major shift in automotive manufacturing, sourcing and procurement.
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