Chapter 16
Managerial Economics in
Action: The Case of the
Semiconductor Industry
Managerial Economics: Economic
Tools for Today’s Decision Makers, 4/e
By Paul Keat and Philip Young
Managerial Economics in Action
The Semiconductor Industry
•
Industry Background
•
Industry Analysis
•
Managerial Decision Making in Action
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Background
Market Structure
• Intel: Industry’s largest firm
• Top 10 firms: 50% market share
• Thousands of smaller firms: 50% market
share
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Background
Consumers
Region
Share
United States
Asia/Pacific
Japan
Europe
31.3%
25.1%
22.9%
20.7%
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Background
Growth Prospects
• 17% annual compound growth rate since
1960’s
• Highly cyclical with roughly four-year
cycles
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Background
Sources of Cyclicality
•
•
•
•
Macroeconomic conditions
Capital intensity
Long lead times in production
Lack of market power
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Managerial Economics, 4/e
Keat/Young
Industry Background
Recent Downturns
• Inventory overhang
• Sharp decline in related industries
• Telecommunications
• Internet
• Dot.coms
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Background
Elements of Production
• Research and development
• Design
• Manufacturing
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Background
Manufacturing
• Wafer and die manufacturing
• “Front end”
• Most capital intensive
• Packaging and distribution
• “Back end”
• Labor intensive
• Located in lower-wage countries
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Background
Technology
Technology plays a critical role in this
industry.
Moore’s Law: the number of transistors on
a chip will double every 18 months.
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Analysis
The analysis in the following section is
quoted from the Standard & Poor’s
2001 industry report.
References to the appropriate textbook
chapters are provided.
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“Unlike most industry downturns, which
have their roots in overbuilding of industry
plant capacity, this one was instigated mainly
by the weakening of the U.S. economy,
which caused demand for equipment and
products that use chips to slow quite
suddenly.”
Reference:
2003 Prentice Hall Business Publishing
Income elasticity, chapter 4
Demand, chapter 3
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“By September, PC sales began to sag, and
DRAM pricing went soft after a strong
summer. By November, inventory
congestion in electronic components
distribution channels became plainly
apparent, indicating wide-spread weakness in
the chip industry.”
Reference:
2003 Prentice Hall Business Publishing
Market surplus, chapter 3
Derived demand, chapter 4
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“…in February 2001, it became clear that all
chip segments would be hit hard. During
March, semiconductor companies of all
stripes reported rapidly weakening order
trends that compounded the challenges
presented by the inventory overhang.”
Reference:
2003 Prentice Hall Business Publishing
Price takers, chapter 10
Market structures, chapter 10
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“…the cause(s) of the current downturn
include rising U.S. interest rates in 2000, an
abundance of information technology
equipment in place after a five-year period of
unusually brisk capital investment by U.S.
businesses, and the inability of dot.com
companies to continue buying equipment with
plentiful venture capital.”
Reference: Determinants of supply and
demand, chapter 3
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“…despite improved software tools for
managing inventory, the industry has had
difficulty in accurately monitoring inventory
levels. More contract manufacturers and
sub-contractors have entered the electronics
sector, thereby creating more places on the
supply chain where inventory can collect.”
Reference: Supply chain management,
chapter 8
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“Before the extent of the inventory overhang
became widely known, the SIA forecast in
early November 2000 that worldwide chip
sales would rise 22% in 2001. By early
February 2001, the SIA acknowledged that
their 2001 forecast was unlikely to be met. By
April, private forecasters were predicting
double-digit declines for the chip industry in
2001.”
Reference:
2003 Prentice Hall Business Publishing
Forecasting, chapter 6
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“A reduction in capital spending on plant and
equipment by chipmakers is evident in the
semiconductor equipment book-to-bill ratio
maintained by SEMI. The January figure
dropped like a rock to 0.89, and the
downcycle was confirmed by the February
ratio of 0.73 and the March ratio of 0.64.”
Reference:
2003 Prentice Hall Business Publishing
Derived demand, chapter 4
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“Occasionally, however, the chipmaker has
had to contend with unusual forces that alter
sales patterns for semiconductors. The
present broad economic slowdown, which
started in the U.S. and is rapidly going
global, is one such instance.”
Reference:
2003 Prentice Hall Business Publishing
Forecasting, chapter 6
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“As companies face a ‘silent spring’ for
revenues, many seek to combine forces for a
variety of reasons: to realign their product
mix, gain size, improve efficiency, or simply
to add design engineers, who remain a
scarce resource.”
Reference: Mergers and acquisitions,
chapter 15
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Industry Analysis
“This is an industry where entrepreneurs
challenge the goliaths on a regular basis.”
Reference:
2003 Prentice Hall Business Publishing
Market structures, chapter 10
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Standard Microsystems Corporation
Market structure?
• Part oligopoly, dominated by very large
firms
• Part monopolistic competition, easier entry
and exit, smaller firms
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Supply and demand conditions?
• Very little market power
• Prices fluctuate mainly due to shifts in
supply but more recently due to shifts in
demand
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Technology?
• Fast moving
• Expensive to develop
• Critical in maintaining competitive
advantage
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Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Government regulations?
• Minimal
• Certain environmental regulations affect the
manufacturing process
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
International dimensions?
• Industry: Global, activities spread evenly
throughout, North America, Europe, AsiaPacific and Japan.
• Firm-level: Most customers are located in
Asia-Pacific Rim
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
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Managerial Decision Making
in Action
Price and output levels?
• Price takers
• Cannot improve profit margins by raising
price
• Can shift resource in segments with higher
than average price relative to costs of
production
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Cost leader?
• Strive to be among the low cost producers
• Outsource both “front end” and “back end”
manufacturing activities
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Managerial Economics, 4/e
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Managerial Decision Making
in Action
Product differentiation?
• Spend heavily in R&D
• Retain and attract the best design engineers
• Strive to be technology leader
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Focus on market niche?
• I/O devices for the PC market
• Embedded products
• New product segment: systems logic
chipsets
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Outsourcing, alliances, mergers,
acquisitions?
• Outsource manufacturing completely
• Close relationships with suppliers
• Close relationships with large OEM
customers
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Risks?
• The Semiconductor Industry
– Price erosion
– Competition
– Period of mismatched supply and demand
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Risks?
• The Personal Computer Industry
– Growth of PC market affects operating results
– Products used in the volatile consumer PC
market
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young
Managerial Decision Making
in Action
Risks?
• Product Development and Technological
Change
– Identification of market trends
– Identification of product opportunities
2003 Prentice Hall Business Publishing
Managerial Economics, 4/e
Keat/Young