Banking Electronic Chips for the Next Boom (or Bust)

Estimated reading time: 9 minutes

Today, the parallels between the electronic chips that power just about every type of device today and the global oil market are undeniable, with many news outlets – including the Wall Street Journal, proclaiming in headlines that “Chips Are the New Oil.”

Just as with oil, when demand for electronic chips outstrips supply, prices rise, impacting consumers and manufacturers alike. Oil markets are known for their volatility, influenced by factors such as geopolitical tensions, shortages, and natural disasters. Similarly, the supply of computer chips can be impacted by factors like trade disputes, geopolitical tensions, and disruptions in manufacturing processes. Fluctuations in chip prices can ripple through the economy, affecting the cost of electronics, vehicles, and other high-tech goods.

Now, recent shortages during the pandemic and fears of China’s ambitions to dominate the industry are spurring fears of future shortages. On the brighter side, some experts are suggesting we are on the precipice of the next tech boom, driven by artificial intelligence, mobile internet, cloud, and the Internet of Things (IoT).

Either scenario – boom or bust – raises the specter of potential future shortages or hard to get parts, which has some OEMs and Electronics Manufacturing Services (EMS) working to “bank” a supply of critical chips in preparation for whatever might come.

“Many companies – particularly those that build critical equipment like medical, military, industrial controls, and automotive – are now considering how they can protect themselves from future vulnerability. They experienced serious chip shortages and want to ensure a reliable, ready supply at a reasonable price without tying up capital,” says Mike Thomas, President at Classic Components, a premier independent stocking distributor of electronic components based in Torrance, Calif.

A Strategic “Chip Bank”

Today, many electronics OEMs are receptive to the idea of access to a vetted supply of quality chips readily available to them. However, few want to commit capital for chips they may not need for years, particularly if owned by equity or publicly traded firms, according to Thomas.

In response to the market need, premier independent distributors like Classic Components hold sufficient supplies of quality chips, acting as de facto “chip banks” for companies requiring the service. Independent distributors play a critical role when franchised/authorized distributors are not able to supply the required parts by leveraging their extensive expertise to find alternate sources for chips through regional authorized/franchised distribution, manufacturer direct, or surplus/excess inventories.

To ensure there are no delays when the chips are needed, the independent distributor can be proactive about securing the required inventory without asking for money up front.

“We invest our own capital to secure the chips and hold them in inventory for the customer until required, however long that takes. We keep a certain amount in buffer stock, ship it when needed, and then get paid. In doing so, manufacturers can get the chips they need, when they need it,” explains Thomas.

Independent distributors like Classic Components can lock in prices and delivery dates using its vast network of supply chains and partners for many months at a time. The chips are placed in long-term bond or long-term schedule contracts with applicable service or storage fees. The inventory can be shipped to authorized partners, contract manufacturers, sister companies, and subsidiaries on demand.

This is a unique offering within the independent channel that only the largest, most financially stable distributors are willing or able to offer. Classic Components has the benefit of being in business for more than 40 years. The company can usually deliver parts in 2-3 weeks that the OEM or authorized distributors may not have access to for 52 weeks or longer.

Classic Components will also stock chips that OEMs acquire through traditional distribution, franchise distribution, or authorized distribution channels. Based on customer preferences, the independent distributor can hold all, or some, of the stock and distribute it where needed based on long-term production schedules.

“Based on annual projections and forecasts, we can keep a certain amount of inventory on hand and a certain amount of inventory on order, so capital exposure is minimized,” says Thomas.

Price protection is also a concern for OEMs. In addition to guaranteeing chip availability, electronics manufacturers may seek to shield themselves from escalating prices caused by the scarcity of components and commodities, which can unpredictably surge in global markets. “Many Chinese semiconductor firms have told customers they are raising prices due to rising costs of precious metals, such as gold and copper,” according to the article, “Chinese semiconductor firms raising prices on soaring precious metal costs” by DIGITIMES Asia.

“Manufacturers may want to place a year's worth of electronic chips on order now,” explains Thomas. “If the price rises and it costs 20% for the same chips six months later, they already have stock for the rest of the year that is price protected,” says Thomas, adding that even the largest franchised/authorized distributors are unlikely to hold more than a few months of inventory at fixed prices.

Thomas says this speaks to the core competencies of an independent distributor. Classic Components, for example, procures material in all the local markets where they do business and has offices all over the world so is not bound by regional price constraints. With a comprehensive global network, the independent distributor can make purchases in local markets that currently offer the lowest prices and pass the savings to their customers.

“Because we are a global, independent distributor with supply chain opportunities in various regions, we can take advantage of regional pricing. Certain parts are cheaper in Taiwan than they are in Brazil, for example.”

Besides its 60,000 square foot facility in Torrance, California, Classic Components has established 12 regional offices in strategic locations throughout the world to support its global distribution business. The company has nearly 200 employees who specialize in various aspects of the business including supply chain, quality, technology, and logistics.

“By using regional quality centers and logistic hubs, we have the flexibility to purchase components from any country, in any currency, and then ship them to anywhere they are needed,” adds Thomas.

To ensure the authenticity and quality of each part, the independent distributor offers a rigorous inspection process of each component received along with timely supply chain management. Classic Components, for example, utilizes a quality management system (QMS) and holds certifications such as AS6081, a requirement for distributors serving the aviation, space, and defense industry.

Financial Services

Like a bank, a premier independent distributor can offer a variety of financing options that can facilitate securing the required chips. One example is a “buy and sell back” program for companies with excess inventory.

“We can purchase your excess inventory, store it and then sell it to your authorized EMS partners as needed over time,” says Thomas.

According to Thomas, many manufacturers are sitting on excess inventory due to stockpiling parts and ordering from multiple sources to ensure delivery. If it is true dead stock, an independent distributor can help liquidate the electronic components while maximizing your recovery and get them off the books through various types of arrangements.

The company has provided this type of service since 1985, which can be initiated with a simple email list of surplus items along with the original price paid. Classic Components then searches its extensive database to see if any other customers use those parts and can broker a deal between the parties.

“We have a global customer base and lots of information about the materials they use,” says Thomas. “So, if a manufacturer has excess inventory, we can often find an opportunity to sell it to one of our other customers.”

Classic Components can also list and sell surplus inventory on consignment – with or without taking physical possession of the inventory.

“Essentially, after coming to a consignment agreement, the list of items is uploaded to our website. We offer complete transparency throughout the consignment process. As we receive inquiries, we share the information so you can decide whether to sell [your surplus] at the offered rate,” says Thomas.

Classic Components may even opt to purchase the inventory outright to resell it later. “We buy excess inventory every day and can make purchases on a line-item basis,” he says.

The distributor also offers transition services, which can benefit OEMs holding electronic chips in inventory that will be shipped to third parties such as an EMS that will do the actual manufacturing. In this case, an independent distributor can purchase, warehouse, and distribute the chips and later sell the inventory to the third-party – much like a Third-Party Logistics (3PL) operation.

Cautioning Against a False Sense of Security

Today, the memory of pandemic related chip shortages and sky-high pricing is beginning to fade. Chip manufacturers successfully ramped up their manufacturing capabilities and eventually caught up on orders. Now that the supply has stabilized, many OEMs and EMS may have a false sense of security.

“Manufacturers were often forced to wait 52 to 80 weeks for chips when the economy softened,” says Thomas. “The parts finally became available and now there is a good supply. However, as soon as demand heats up for any reason, they will face the same constraints. For some of these parts, the lead time is still 52-60 weeks. But nobody's that concerned because the demand isn’t there yet.”

Any number of destabilizing events could tip the global chip supply into a severe shortage, whether a future pandemic, global warming related natural disaster, or political tension boiling over into conflict. The most destabilizing event directly affecting the global chip supply, of course, would be any serious dispute between Taiwan and China.

Some are even predicting a tech boom in the next decades.

“With chip demand set to rise over the coming decade, the global semiconductor industry is poised to become a trillion-dollar industry by 2030,” according to the mckinsey.com article What’s driving the semiconductor market. About 70 percent of growth is predicted to be driven by the automotive (particularly electric vehicles), data storage, and wireless industries.

Ideally, OEMs would have access to a strategic reserve of the chips they require that could protect them from unexpected shocks in the market like the U.S.’s Strategic Petroleum Reserve.

“The world learned over the period of time through covid just how dependent the world is on chips,” says Thomas. “It really is a lot like oil. But I would argue OEMs are even more vulnerable to a disruption in the electronic chip supply chain because domestic manufacturers still rely predominantly on the global supply.”

As chip demand rises to supply myriad technologies in the latest tech boom, OEMs that work with independent distributors to secure low-cost, quality inventory over the long term will weather the inevitable, unexpected disruptions far better than competitors.