“Reliance Jio puts off launch of its proposed low-cost JioPhone Next, in association with Google, from September to November”.
“Manufacturers of televisions, white goods, refrigerators and laptops have informed retailers that festival demand will not be met this year”.
“Tata Motors, M&M and Maruti are cutting production by 20-30% on an average in coming months, despite this being festival season”.
These 3 news items may appear disconnected but there is a common link between them. The link is the severe shortage of microchips, that is hitting scores of companies across various industries. The problem has been acute in the last few quarters globally, and now it has started to hit India hard.
What are microchips and why are they critical?
The microchip is the central processing unit in a number of devices ranging from computers, mobile phones, cars, washing machines, televisions, IOT equipment etc. In short, microchips are the heart of data centres, super computers, communication products and other digital devices. The modern microchips play an important role in almost every field including meteorology, aviation, nuclear physics and engineering. Over last 50 years, chips have become infinitely faster, capacious, smaller and lot cheaper.
The microchip industry is divided into 3 segments. There are the likes of Samsung that make microchips largely for captive use. Secondly, likes of Intel design and manufacture these complex microchips. Thirdly, there are the chip foundries which do not design chips but only produce them for others. Taiwan Semiconductor Manufacturing Corporation (TSMC) alone has 55% of the chip foundry market share. There are some Fabless players like AMD and NVIDIA that only design chips and give it to TSMC to manufacture based on specifications.
How does the global microchip demand look like?
The chart below captures the global user-industry mix of microchips, based on current demand.
It is clearly that millions of PCs, laptops, mobile phones, notepads and I-Pads account for 62% of global chip demand. Just to give a picture, the largest foundry chip manufacturer in the world, TSMC of Taiwan, gets 35% of its revenues only from Apple. But the interesting story is the growth of non-computing and wireless part.
Other industries are increasingly using microchips. Today, cars, washing machines, refrigerators, air conditioners, televisions and gaming consoles come equipped with microchips. When your washing automatically switches off after the process or when your television switches off if the signals are low, it is actually microchips at work. Also, when your car makes driving safer with guided parking and anti-braking systems, it is once again microchips at work.
What caused this shortage of microchips?
It is not just other countries, but the shortage of microchips has hit India too. Here is why.
a) Demand for microchips spurted during the pandemic as people opted for high-end laptops, smart phones, notepads and PCs. These spiked demand for microchips.
b) With demand spike came stocking demand. Manufacturers of laptops and smart phones stacked up on chips expecting a shortage; worsening the demand supply gap.
c) Supply of microchips takes time. Supply normally takes 2-3 years to come on stream and cannot happen at short notice. This will keep demand supply gap wide for some time.
d) Supply addition is heavy on cost. A typically “Clean Room” of a chip manufacturer has to be 1,000 times cleaner than an operation theatre. A single plant costs around $5 billion, so it is not for all companies and certainly not for the faint-hearted.
e) Some industries like Automobiles and Consumer Goods are worst hit as they did not anticipate the spurt in demand for chips and never maintained chip inventories. Today, in the midst of the shortage, they are finding it hard to get assured supplies.
f) One factor was the Trump sanctions on China-based SMI, which had 7% of the foundry chip market. Chinese chips were not able to enter the global market, worsening the gap.
Why is this microchip shortage a big risk for India Inc
In India, most of the auto companies have decided to cut production by 20-30% during the peak festive season due to a shortage of chips. The same is the case with consumer electronics and white goods. These are the products that are extremely intensive in the usage of chips and have the lowest access. Most countries are sinking billions of dollars into chip capacity, but it would still take 2-3 years to stabilize.
If you look at the latest IIP and GDP numbers, the Indian economy is finally getting back to pre-COVID levels after the disruptions caused by COVID-19 and COVID 2.0. Auto industry is a classic case in point. Auto contributes 6.5% to overall GDP and a whopping 35% to manufacturing GDP. MSMEs contribute 35% of the value addition of any automobile. The auto industry provides 8 million direct and 30 million indirect jobs. Nearly, 8% of India’s merchandise exports (or $27 billion) is accounted for by auto.
As the auto industry transforms to emerge as the third largest auto manufacturer from fifth place currently, the current microchips shortage could badly hit India’s cutting edge. That is really the one industry for India to truly worry about. Microchips are hitting India where it hurts.