Balancing act: The Excess Inventory Challenge in Automotive Semiconductors

By Dr. Karl Breidenbach , Christian Schuh and Harald Jordan

The automotive semiconductor industry, after experiencing more than two years of robust growth, is now facing a significant challenge: excess inventory. This issue, already prevalent in sectors like consumer technology, has now permeated the automotive sector. The key topic for automakers, tier 1 suppliers and chipmakers alike is how to effectively manage this surplus without reverting to the short-sighted, transactional behaviors that were common prior to the semiconductor crisis.

It's crucial to recognize that the semiconductor industry is inherently cyclical. Automotive companies find themselves in a precarious position, balancing the need for long-term resilience to support future electric vehicle (EV) growth – where semiconductor usage is expected to increase 4 to 10 times by 2030 – against the immediate impact on cost competitiveness due to long-term supply agreements with Integrated Device Manufacturers (IDMs) and foundry partners.

Amidst the pandemic-induced production shortages, automotive companies, wary of repeating past mistakes, have been reluctant to reduce chip orders. Instead, they have been accumulating inventories. In 2022, semiconductor sales to the auto industry rose by 16%, in stark contrast to the 8% decline in sales to the PC and consumer electronics segments.

Major chip suppliers in the automotive sector are also navigating similar challenges. Major IDMs are in the midst of adjusting their strategies to balance the need for maintaining supply chain fluidity with the risk of inventory surplus. The collective approach of these chipmakers is shaping the industry's response to the current market dynamics.

Looking into 2024 and despite signs of an upswing in semiconductor demand across other sectors and stabilizing inventories, automotive companies must proactively adjust their semiconductor inventory strategies. This adjustment is essential to stay ahead of the curve for future market tightness, in combination with making a contribution to the mounting profitability pressures faced by many players in an increasingly cost cost-driven market.

Five key semiconductor inventory strategies and tactics that should be implemented

1. Institutionalize Inventory Management Processes

• Implement corporate-wide clear-cut inventory rejection and postponement processes to avoid over-deliveries with IDMs, distributors and brokers.
• Leverage analytics to identify the root causes of oversupply and gain transparency into contractual flexibilities.
• Develop a data model to forecast the direct cash flow impact of inventory curbs, to enable a stringent focus on high impact items.

2. Define a device-specific semiconductor inventory-level strategy to save costs for critical and non-critical parts:

• Analyze opportunity costs of unsatisfied customer demand vs. holding costs across different semiconductor segments, depending on part specificity, demand predictability, and customer relevance.
• Ensure a professionalized obsolescence management, ideally linked to PLM-systems, keeping an eye on life-cycle stage and the attach rate of other semiconductors on availability other semiconductors realize car functions.

3. Work collaboratively with chipmakers to readjust long-term agreements:

• Institutionalize alternative commercial models and update previous contracts made during the semiconductor crisis (e.g., penalty fees, postponement).
• Transform long-term agreements into more practical models, e.g. symmetrical obligation concepts.

4. Leverage Trading and Exchange Mechanisms:

• Engage with Tier 1s, Electronic Manufacturing Services (EMS), and market partners for trading or exchanging parts.
• Solicit suitable clearing-house partners for efficient trade and exchange of necessary devices.
• Identify and create a business-case driven assessment of opportunities to leverage market sell-offs (above vs below purchase price), collaborating with professional brokers shortlisted for major parts categories with differentiated geographical focus.

5. Establish Anti-Cyclic Chip Stock Management:

• Establish a forward looking demand- and inventory strategy and process with automated trigger points which minimize unnecessary inventory for critical expensive semiconductors.
• Implement auto-adjusted update of safety stock to ensure supply during allocation based on a mix of long-term focused leading indicators (forecast changes, electronics-indices) and lagging indicators (buffers in die bank, distributors etc.) to spot fundamental changes.
• Monitor disruptions, for manual anti-cyclical safety stock build up according to pre-defined management alignment process.

Looking into 2024: Balancing short-term efficiency & resilience

As we move towards 2024, the automotive sector must navigate these challenges with a strategic inventory management approach. As many automotive companies have been professionalizing their semiconductor management processes, the mid-term focus should be on balancing immediate cost pressures with long-term growth prospects, particularly on the path to the EV market.

What it also entails is the continuous push for standardization and complexity reduction in the semiconductor Bill-of-Material of Electrical Control Units. An often times overlooked lever which can be supported through a stringent linkage between engineering, purchasing and risk management. Close alignment between Tier 1s/OEMs and chipmakers is paramount to finding the best cost optimized solutions.

By adopting these semiconductor inventory strategies, automotive companies can position themselves to not only weather the current storm but also emerge stronger and more resilient in cooperation with partners in the semiconductor value chain. In the end it's about striking the right balance between short-term efficiency and long-term strategic resilience.

Sources:

https://www.wsj.com/business/autos/auto-chip-makers-try-to-avoid-a-pileup-c8ec7afa

https://www.wsts.org/