Most of us have experienced that sense of alarm or disbelief when we see the reporting on the severity of the California drought. How could such a vibrant market find itself in such a predicament and why have the headlines become so grim, so quickly? Unfortunately, California is not alone in addressing the challenges of water supply. Drought is affecting Brazil and Taiwan too, while the tragic flooding of 2011 in both Japan and Thailand are recent examples of the devastation of too much water.
Climate patterns are changing and extreme weather events occurring in more rapid succession. With rising sea levels, shifting precipitation patterns, and devastating droughts the risks are quickly growing that we will see increases in the number or frequency of disruptions caused by natural events that will curtail production and distribution along the global semiconductor supply chain. While the implications of a market like California's diminishing watering supply are far reaching, plans there are being put in place to address the risks. It's this act of planning that gives us something to think about.
Nature's wrath is getting riskier
Certainly the topic of natural disasters and risk management or risk mitigation is not new, what is new is the extent to which our industry is being affected by the changing weather patterns. This year we are dealing with the mounting issue of drought on both sides of the Pacific: Taiwan, the US (especially California) and Brazil are each facing severe conditions and cut-backs in the availability of water for agriculture, manufacturing and personal use. This situation presents a real threat to the semiconductor industry, and has been mounting for a number of years now. There is a growing recognition that the early calls that water would be the world's next most precious commodity may be coming closer to a reality.
Semiconductor manufacturing is very water intensive. As a result, almost a decade ago, in the face of the previous severe drought in Taiwan, both of the global chip manufacturers, Taiwan Semiconductor Manufacturing Co. (TSMC) and United Microelectronics Corp. (UMC), instituted state-of-the-art water reclamation and recycling capabilities and alternate water supply strategies. The water recycling capabilities implemented almost a decade ago mean that these facilities in Taiwan recycle up to 90% of their water. This is a critical business and environmental capability. These two leading companies, both with major foundries located in Taiwan, supply a majority of chips to global leaders such as Apple and Qualcomm, as well as to the wider semiconductor industry. Currently, the Taiwanese government is looking at the likelihood of having to shut off water to industrial facilities two days per week, a plan that is not too distant from what Governor Jerry Brown is considering for reducing California's water use by 25%.
In the case of TSMC and UMC, their risk management and disruption strategies are likely to be tested again and should the water be shut off at their foundries in Taiwan two days per week, roughly a 20% reduction in water, they will transport additional water in by truck, a costly alternative. Water management is now part and parcel of TSMC and UMC's business (and risk management) strategies, recognizing the risk from both floods and droughts, which actually go hand-in-hand. The question begs, are other companies around the world as ready as TSMC and UMC to meet the mounting environmental challenges posed by intensifying and short-cycled, extreme weather patterns?
Natural disasters and the semiconductor supply chain
From the 2011 tsunami and flooding in Japan and Thailand, respectively, we saw the negative impact that the clustering of semiconductor and electronics manufacturing and assembly into technical parks had when these parks were completely devastated. There are real efficiencies to technical parks, but obvious risks as well. Similarly, in Taiwan, TSMC and UMC and their satellite technical parks have both positive and negative sides. There is certainly an advantage to being located in close proximity, and there are disadvantages to the wider supply chain when disasters, like severe water constraints, threaten multiple suppliers.
It took many months for the HDD, PC, and opto-electronics markets to recover from the 2011 flooding in Thailand. But even after the recovery was judged complete, it's hard to say what may have been lost in terms of slowed growth and innovation.
What does all that mean for the global semiconductor supply chain? It's actually really fundamental to our supply chain health. Natural disruptions pose real risks to all supply chains, but for our industry, where there are actually only a few major chip manufacturers, a relatively modest number of major secondary manufacturers, as well as assembly and production facilities. Given the smaller number, and the increases in consolidations at the fab and foundry levels due to the immense cost of these facilities, production delays or disruptions due to natural disasters or conservation of water pose significant threats to the overall global semiconductor supply chain. The likelihood of supply shortages is particularly high presently, given these global, environmental risks from drought as well as potential flooding coupled with the very lean inventory levels.
Distributor's vantage point - risk mitigation
There are no safe-havens, no perfect solutions to manage risk when the greatest threats are unexpected disruptions. Over the past three decades that Smith & Associates has been part of the semiconductor and electronics supply chain, we've seen a fair amount of disruption. But as a distributor, we have the vantage point of seeing both sides of the supply chain, from upstream production down through assembly and onto end-product distribution and warranty and repair services.
In the case of the 2011 Thailand flooding, for example, we were able to work with our customers as the warning signs started and on through the height of the disaster and the aftermath of significant shortages and disruption. One critical issue in the wake of natural disasters such as in Thailand is that allocation issues remain for many months afterwards. The market takes time to re-stabilize in terms of flow, pricing, and lead times. In our most recent, annual global supply chain survey, we asked respondents about their level of concern that a climate-induced natural disruption will affect the global supply chain and their business. All manufactures indicated that the likelihood of climate-induced disruptions were extremely or somewhat likely to occur (a full report of the survey is available as a free download on Smithweb.com).
One of the major challenges during disaster disruptions, whether slowly building or sudden, is product availability quickly becomes limited, pushing prices to significant highs for the components and commodities affected. Addressing this often requires identifying and qualifying new vendors. Having in place, in advance of disruption events, secondary vendors and distribution support, such as from leading partners like Smith, with the ability to mobilize global networks of business partners becomes an essential key to maintaining production. Screening vendors, and having contingency plans for sourcing and inventory management issues in advance of a devastating event to the global semiconductor supply chain means that your strategic goals are on your partners' radar and those contingency plans for allocation can quickly ramp up to secure your needs and avert the worst-case scenarios of indefinite production halts.
One additional concern that rises when shortages strike, particularly due to disasters, is the rise in counterfeit activity. Opportunism is the key motivator for counterfeiters, and so increased vigilance and testing must occur. So it's also important to have a partner who can back up its product with the capability to conduct in-house testing for fraudulent, substandard or counterfeit parts. Those sourcing partners with certified and accredited, in-house anti-counterfeit laboratories, quality personnel, and business solutions are among those who can ensure that products moving through the supply chain during disruptions are quality products.
Sourcing past disruption
So, how do you put into place successful risk management strategies to mitigate disruption given that our supply chains are what they are right now? The solutions are actually relatively simple and focus around secured diversification:
- Ensure that you have alternate, already vetted and qualified suppliers on your approved vendors lists (AVLs);
- Establish a sourcing relationship with these alternate suppliers to ensure that procurement requirements, processes and procedures are in place prior to a disruption situation;
- Ensure that your secondary supply chain sources are not located in the same geographic areas or countries (if the country is small) as your tiered supply chain;
These strategies help to ensure that during disruptions, when shortages arise quickly and persist, you have a direct line to a qualified supplier, a partner with the ability to quickly bridge the gaps in your supply and keep your production on track.
(Editor's note: This is the first in a series of articles contributed by Smith & Associates focusing on sustainability efforts within the supply chain.)