A factory builds new cars

Microchip shortage continues to limit auto production

Automakers cut 76,000 vehicles from global production plans last week, according to analysts from AutoForecast Solutions. The company says it will produce about 3.23 million less this year than planned.

Analysts have long predicted that the global shortage of microchips hitting the auto industry will abate towards the end of 2022. New production cuts seem to pierce that hope.

How did we get here and how long will it last?

The size of the problem

In 2019, before the first sign of COVID-19, Americans bought more than 17 million cars. This was the fifth year in a row that we did this.

By the time 2022 ends, the Kelley Blue Book Cox Automotive parent company has been bought by Americans for at least 13.3 million.

The drop comes despite heavy demand for new cars, with prices hitting record levels this summer. The average new car sold in August was $48,301 — 10.8% higher than last year.

the problem? Global shortage of microchips.

How did we get here

A generation ago, only the most expensive cars had microchips. Today, even affordable, low-tech cars like the Mitsubishi Mirage—starting at just $14,645—have dozens of microprocessors. They control everything from the traction control systems to the cabin temperature.

A high-end luxury car, such as the Mercedes-Benz EQS, with its programmable fragrance and hands-free highway driving system, can hold hundreds.

A perfect storm of events left the auto industry with a limited supply of those crucial chips.

In the early days of the COVID-19 pandemic, when governments around the world imposed travel restrictions to curb the spread of the virus, demand for new cars plummeted. Automakers set their demands for microchips, predicting months of slowing vehicle production.

But chip factories haven’t slowed as well as car factories. Consumers have demanded new electronic devices to make it easier to work and go to school from home.

When vaccines allowed people to travel again, pent-up demand for new cars rose. Automakers have tried to stockpile their orders for new chips. But the chip mills were already operating at full capacity. They still haven’t caught up.

To complicate matters, Americans’ thirst for new electronic features in their cars is growing. In August, 17.5% of new cars sold were luxury cars – a near-record figure.

restore chip production

Global chip production is starting to recover.

Susquehanna Financial Group reports that in August, chipmakers were filling orders one day faster than they did in July.

Other industries that use chips are accelerating. Susquehanna analyst Chris Rowland reports that demand for new mobile phones has slowed, easing pressure on chip supply.

Tom Sweet, chief financial officer of Dell Technologies, told Bloomberg this week that the supply chain for personal computers is “operating more like historical standard” this month.

Investors seem to think the chip market is going down. At the time of this article’s publication, the Philadelphia Stock Market’s semiconductor index is down more than 36% since the beginning of the year.

But it’s the wrong kind of potato chips

If chip production is recovering, why are automakers still cutting their production numbers?

Because the high-end chips used in computers and mobile phones are not the chips that automakers need.

The auto industry’s modular design approach—the power window switches on an automaker’s most expensive car are often the same as those in the least expensive—means that today’s cars are filled with older, lower-power chipsets that do simple jobs.

Automakers go through a rigorous qualification process to certify the use of chips. They cannot easily replace a more complex chip with an older chip that has already undergone safety tests.

“We’re going to get a lot more capacity from semiconductors in the second half of 2022 — we’re nearing the end of the supply crisis,” said Sandeep Deshpande, head of European technology research at JPMorgan. However, the capacity still needs to be eligible for use in the automotive industry. … If there is no such problem, I will think that things can be normal by the end of the year.”

Buffering for chip production is a slow process

Chip manufacturers will only switch foundries from producing high-quality computer-related chips to building cheaper hardware used in cars when that is the most profitable decision. So change comes slowly.

Once it comes, it takes time to fulfill orders. Mohit Sharma, an India-based procurement and supply chain expert who advises Fortune 500 companies, told Financial Management magazine,A typical semiconductor production line can include 700 manufacturing steps in 14 weeks.”

Chip manufacturers are working to increase production capacity. But setting up new factories is a long process.

Intel announced plans to set up two new microprocessor factories in Ohio last January. They will produce their first usable chips, NPR reports, sometime in 2026.

Local production may be part of the answer. According to a September 2020 report from the Semiconductor Industry Association, the United States produced 37% of the global chip supply in 1990. Today, only 12% of the global supply is manufactured domestically.

More chips doesn’t necessarily mean more cars

For decades, the practice of the auto industry has meant keeping a stockpile of new cars available for sale. Dealers routinely kept so much inventory on hand that they discounted most cars for sale.

Even when chip production recovers, this practice may not return.

“We will never go back to the level of stocks we had before the pandemic because we knew we could be more efficient,” GM CEO Mary Barra told reporters last year.

BMW’s chief financial officer, Nicholas Peter, told the Financial Times last fall that the automaker plans to “clearly stick to… the way we manage supply to keep our pricing power at the current level.”

Mercedes-Benz’s subsidiary Daimler AG has the same idea. “We will intentionally convey the level of demand,” Daimler Chief Financial Officer Harald Wilhelm told FT.

Ford CEO Jim Farley has suggested the company might approach a build-to-order business model, though he recently promised dealerships that Ford wouldn’t sell cars directly to customers, similar to Tesla.

Merchant groups, too, say large stocks and huge discounts may not return.

Automakers are financially interested in making many of the cars Americans will buy. But the lack of chips probably teaches them not to make more than that.

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