The chip industry’s Chicken-and-egg issue

A global shortage of semiconductor chips is ravaging supply chains and hasn’t shown signs of abating. Don’t be surprised if it lasts another year.
Carmakers from Ford Motor Co to General Motors Co and Toyota Motor Corp have cut production because of it. Several continue to idle assembly lines across the world. US senators are now urging the White House to help auto production. Taiwanese companies, some of the largest makers of the sought-after parts, have pledged to boost production.
But the challenge runs deeper — and speaks to a constant imbalance in the industry.
A miscalculation of demand by multibillion dollar industries is just one side of the story. The other is supply. Estimates for when the sudden shortfall will bounce back range from the next few months to four quarters, depending on how long it takes to make the chips carmakers and other consumer electronic companies need.
That’s where the real bottleneck is: the machines that make the chips. While a chip can take as long as three months to manufacture, the chip-making equipment can take a lot longer.
A handful of machine manufacturers, with a grip on 80% of the market, have effectively run a global supply shortage for the better part of the last two decades. Demand, as seen by billings and as an indicator for trends in the global semiconductor industry, have risen and fallen with the industry’s cyclicality, growing as much as 60% on a monthly basis and then dropping as low as 20%.
But there’s another factor: delivery. Between 2005 and 2017, Japanese semiconductor equipment makers’ so-called book-to-bill ratio, which measures the value of orders received for every dollar of products billed, was on average, 1.04. That indicates that orders typically piled up faster than they were shipped out. By 2015, this trend was accelerating.
As the orders continued to outnumber sales, manufacturers across the world stopped disclosing them in 2017, according to the North American industry association and other available data.
That year, on an earnings call, Gary E Dickerson, the chief executive of Applied Materials Inc, which holds around 18% of the market, noted that orders exceeded an all-time high in the first quarter. The company’s book-to-bill ratio had been 1.6 or 1.7, Robert J Halliday, then chief financial officer said on the same call. “It was a big number, so that’s going to trend down over time,” he said, noting that it would “stay positive for a while.” By the end of 2017, it had come down to 1.11. Halliday said Applied Materials still had a “large and broad-based” backlog of orders.
However, in 2018, sales started slowing across the semiconductor equipment industry. End-user
demand patterns changed: Chipmakers were eyeing artificial intelligence, 5G and the Internet of Things.
The run-of-the-mill product-segments like servers and personal computers were weakening. Equipment manufacturers hadn’t planned for this. Their customers pulled back faster than expected.

—Bloomberg