“The Empty Shelves” – Supply Chain Shortage

Written By– Vibhav Bhat and Yash Bhave

PGDM Finance- TAPMI, Manipal

The Suez Canal incident raised heartbeats across the world. Approximately $54 billion was lost and over 300 containers were delayed when “Ever Given” was stuck for 6 days from 22nd March 2021. Also, recently we have seen in the news the supply chain shortages in sectors caused by Pandemic, Suez Canal incident and Trade Wars. But what really is it leading to? Why semiconductors are gaining importance? Let us take a deeper look at these problems and what caused it.

Factors

In simple words shortage is when supply does not match the demand for the product in the market. The primary reasons are concepts like the Just in Time and Kaizen technique that allows companies to produce with low inventory holding. Although these techniques have worked before the pandemic lockdown, pandemic’s hold on global trade due to varying restrictions has led to shortages following these.

Also, with increasing demand and purchasing power, customer preferences change which might lead to changes in preferences that the market cannot immediately respond to. Other factors include the cost of shipping, the distance between the supplier, manufacturer or dealer and regional conflicts.

All these factors had a magnified effect during the pandemic when economic activities were suddenly halted in March 2020 and the Suez Canal block strained existing issues. Manufacturers are now looking for more agile methods to maintain flexibility on highly varying demand without leading to massive costs.

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Sectors Affected

One of the Worst hit industries include the semiconductor industry. In response to declining demand the companies in this sector had reduced their production in 2018 and 2019. However, as the pandemic hit consumer demand spiked for purchase of gadgets such as mobiles and laptops for remote working.

This in turn led to higher demand for chips that are used in all the gadgets. Chipmakers who had initially cut down their production found themselves in the spotlight for higher demand. Initially the supply of chips was diverted from automakers to electronics by chipmakers. However, as automakers resumed production post lockdown chipmakers could not meet the total demand they received. To add to the burden Renesas factory in Japan, a major plant for automobile wafers caught fire early this year.

This inflated prices and in most cases inability on part of chipmakers to meet this demand. Which in turn affected all the other sectors that depend on the semiconductor industry including automobile, electronics, automation, IT and telecommunication. Other sectors such as pharmaceuticals and retail clothing are also affected by the pandemic disruptions in global trade.

Fig – Industry responses to losses related to supply chain issues induced by pandemic

Source- Jabil Survey

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Effects of shortage, Is India to benefit?

India could possibly benefit as the world shifts from China to build better and diverse supply chains. India is the best alternative for diversifying supply chain with stable economic conditions and location. It has established business landscapes along with cheap skilled labor for filling the gaps in global supply chains. With improving roadway and shipping infrastructure along with ease of business it provides a great opportunity to global businesses for shifting their hubs.

However, to realize all these gains, the manufacturing sector has to be provided further boost. Although the Atmanirbhar Bharat initiative of government had given an indication of improvement which was welcomed by the industry, actual benefits are yet to be realized.

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When will it be "back to normal"?

With the pandemic continuing to cause disruptions with wave after wave, uncertainty looms over the “back-to-normal” phrase. As a result, industries are looking for alternative ways to plug the gap that was created due to disruptions. However, chip production is a complex process with lead time extending over 12 weeks. With such timelines, the ability to respond to the heavy variations in demand is highly limited.

Also, the evolving virus situation along with changing restrictions across countries have made it difficult for shipping vessels to operate effectively leading to higher operation costs leading to higher prices. This has increased to such an extent that it is crippling the manufacturing of big giants. Volkswagen, Toyota, General Motors, Mercedes and Ford were forced to halt their production at certain units. Samsung and Redmi had to defer their launch of new units. Even Microsoft had to reduce their capacity. This shortage is expected to last for at least 6-12 more months.

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What can be done with these issues?

The most crucial step is to help each other in developing the agile supply chains. With the changing preferences of customers and economic activity wave after wave it is very important to be flexible.

The evolution of Industry 4.0 has focused on developing and strengthening the internal operations. This has left the external supply network woefully unprepared. Bajaj Auto realized this issue. It created a kaizen sharing platform for dealers and suppliers to post their kaizen records and by 2020 around 90% of their dealers were on board with this technique. This has helped in estimating realistic demand in the market.

Build end-to-end visibility for supply chains. This will help to optimize and plan adequate capacity levels beforehand. This can decrease the chances of supply chain shortages.

Analyze supply chain on both sides. Acquire and build adequate safety stock whenever possible. Manufacturers should list vital components and develop alternative supply chains from different locations. This will ensure diversity in the supply chain and reduced dependency on single links.

If we consider the chip industry which is a supplier to many other sectors. The production is aggregated with approximately 80% coming from only 4 companies. This high aggregation is one of the major factors why it faced such acute shortage. Many countries have reviewed this and have started to plan for domestic units for a better response in future.

Fig – Top 5 Largest semiconductor companies by sales 2020

Source- Wikipedia