A Common Afternoon in a Car Industry Supplier Office

Author: Wu Xianzhi

Editor: Wang Pan

Last year, on a typical afternoon, seven or eight men squeezed into the office of a Tier 1 supplier of a certain car manufacturer, the atmosphere was extremely tense.

“Mr. Huang, it’s been four months and you haven’t called me once. Today, you solved the problem in front of the chip manufacturer’s personnel,” said Zhang Xin, an automotive chip distributor. Due to overdue customer accounts, multiple unsuccessful communication attempts, he took some managers of a certain chip manufacturer in China on a “debt collection” visit.

To ease the growing urgency, he unbuttoned his collar, picked up a bottle of mineral water, and chugged it while staring at a middle-aged man opposite him.

“Brother, it’s not that we don’t want to pay. The customer hasn’t paid us yet. I’m not a money-printing machine, I can’t make money out of thin air!” The middle-aged man didn’t finish his sentence when he saw Zhang Xin staring at him. He quickly changed his tune, “Let me think of a solution. Give me two more days?”

“You might as well kill me. Our finance department said that if the money hasn’t arrived, we won’t be able to ship the goods.” Zhang Xin couldn’t contain himself and slammed his hand on the middle-aged man’s desk. As we all know, chip shortages were a big problem last year. Zhang Xin’s words directly angered the middle-aged man, “Several of the top executives from the chip manufacturer are here. Young man, are you saying you don’t want to cooperate by not shipping the goods?”

Seeing several managers from a certain American chip company beside him remaining silent, Zhang Xin calmly said, “Whether or not we cooperate depends on whether or not you pay. I can’t do anything if you don’t pay.”

Since the second half of 2019, the global shortage of automotive chips has continued to expand. As a Tier 1 agent of a certain chip manufacturer in China, Zhang Xin told Photon Planet that this argument was a common occurrence. “The worst part is accepting a deferred letter of credit. It drags on for months and wears you down.”

An industry insider believes that there is little hope for a turnaround in the supply of automotive chips before 2024. Even if there are domestically produced substitutes for some chips, car manufacturers and Tier 1 suppliers will not purchase them due to various considerations.

When Photon Planet asked several industry insiders about the reasons for chip shortages besides the global pandemic, most of them believed that the increase in chip prices was the result of the collective effects of the entire industry chain, rather than solely the fault of traders or intermediaries hoarding and speculating.

“If the intermediaries could raise prices so easily, then the entire industry chain is too fragile,” said an insider who knew the situation well. The problem is far more complicated than expected.

Why is the Chip Panic Happening?

In fact, the first push for the increase in chip prices came from car companies.

“In 2019 and 2020, when the pandemic broke out, SAIC and FAW realized that chips might be in short supply. A few automakers had previously stocked up on chips,” said Huang Lin, an electronic control engineer at a certain automaker. He certainly felt that the chip shortage was increasingly constraining the car industry.

When discussing the chip shortage issue in the automotive industry, the complex process that car chip suppliers undergo from manufacturing to delivery is often overlooked.

According to Huang Lin, “car manufacturers often do not deal directly with the chips themselves, so when they suffer from a chip shortage, it is mainly due to the shortage of electronic equipment Tier-1 suppliers who are unable to deliver the corresponding modules, causing a lack of chips in the car manufacturers.”

This statement is confirmed by a certain chip agent, Zhang Xin, who states that the domestic automotive industry chain requires at least four steps to obtain a chip: chip manufacturer (such as Texas Instruments, Infineon, NVIDIA), domestic level-one agent (such as CEC, Ailis), car component supplier (such as Bosch, Delphi, BorgWarner), and finally the car manufacturer.

Specifically, car manufacturers first inform Tier-1 suppliers of their demands. The Tier-1 suppliers then search for dealers in the market who can meet the demands. “In general, Tier-1 will inform us about a project and ask if we can match it,” says Zhang Xin. After the agent has been confirmed, either through bidding or direct negotiations, they will further pass on the demand to the original factory for adaptation and registration.

After accepting the order, the original factory will send engineers to work with the domestic dealer and Tier-1 supplier to advance the project. Tier-1 plays the role of the first part, the chip factory is the second part, and the agent mainly coordinates in between. It should be noted that agents not only represent products, but are also deeply involved in the entire process of revising, confirming, and mass-producing the entire solution once a demand arises.

Due to smart manufacturing and the impact of the epidemic, supply has been constrained while demand remains high. The delicate balance among the various stages of the domestic automotive supply chain and overseas chip manufacturers has been disrupted, leading to complicated negotiations.

We see that some domestic automakers and Tier-1 suppliers are trying to solve the problem of chip shortage through short-term investments and mergers and acquisitions, or even collaborating directly with chip companies, and bypassing agents in China. For example, TuSimple worked with NVIDIA to develop unmanned driving controllers based on the latter’s latest car rule AI chip.

However, Chen Xin believes that legitimate agents cannot be bypassed. For example, AISi is TI’s exclusive agent in China and, like CEC, covers a relatively complete range of chips.

“Car manufacturers or Tier-1 in China are absolutely unable to directly deal with the original factory,” he added. “It is rare to see that domestic Tier-1 or car manufacturers can work with chip factories for long-term cooperation, let alone collaborate with them during the early stages of development.” Usually, the original factory designs a certain product and recommends it to domestic mainframe manufacturers for adaptation.The above-mentioned person explained that most chip manufacturers are European and American companies, and they will first meet the needs of existing customers. For example, large Tier-1 suppliers that have been providing support to BBA for many years can request the type of chips they need from chip companies, and the original manufacturers generally cooperate. However, this is not possible for domestic Tier-1 suppliers.

Domestic companies not only have no say, but before 2020, they even became channels for many chip manufacturers to clear inventory. “Unless it has been produced for three or four years and has been replaced by new ones, it will not be sold to domestic automakers such as Changan.”

On the other hand, chips are also subject to local legal and regulatory control, so third and fourth parties need to participate to avoid problems and potential risks.

A former BYD engineer told photon planets that when a component was only produced by a certain foreign manufacturer, his purchase intention was refused. The company finally took a long way around and went through a series of complicated processes such as Korean agents and domestic two-level agents before finally getting the product.

“A small part costs 2000 yuan. Can you believe it?”

In addition to supply chain issues, Tier-1 and chip factories need to share several levels of accounts payable due to the accounts payable issue of domestic related companies. “Chip factories cannot accept domestic accounts payable and acceptance, while domestic Tier-1 and automakers generally have a 3-month (90-day) accounts payable period”, which is also the root of Zhang Xin’s busiest work.

“It may take 105 or 115 days to really go through the entire process of checking accounts, invoicing, and payment. Sometimes you have to use the acceptance draft. If you happen to have a one-month draft, you are lucky. If you are unlucky, After a set of acceptances, it will be gone in six months.”

Therefore, domestic chip agents also play a role in hedging against the account period, making the agents have very strict discipline in fund turnover. “If the customer doesn’t pay, I won’t deliver.”

Engineer Huang Lin mentioned that if the demand is relatively high, in order to ensure that the payment progress meets expectations, the agent will not deliver all the chips at once, but will deliver them in batches of 20 chips after receiving payment.

Therefore, the chip problem cannot be solved overnight. The entire domestic supply system needs to start from multiple aspects such as R&D, materials, and capital to have a chance of being solved.

Who is raising prices after all?

After understanding the chip market situation, looking at the supply shortage in the past two years will have a completely different understanding.

Automotive chips are a vague concept, and actually include various types of chips with different uses such as MCU, ASIC, computing SoC, power semiconductors, sensors, storage, etc. Digitally confirmed from car companies, supply chain and agency personnel, the most scarce type of automotive chips at present is the MCU category (microcontroller chips).

According to previous data, the automobile microcontroller market accounts for approximately 40% of the total MCU sales in all industries. Most of the related companies are from overseas, including giants such as Texas Instruments that cover all areas and companies like Infineon that are competitive in some areas.

Obviously, the mismatch between supply and demand is a structural reason. However, during communication with industry insiders, Photon Planet found that the entire supply chain has more or less pushed up prices.

As mentioned earlier, at least four steps are required for automotive chips to enter the domestic market: chip manufacturers – agents in China – suppliers – automakers. Any price adjustment in any of these steps will increase the cost of the next step.

An insider said that in the face of soaring chip prices, manufacturers are relatively rational and their price increases in the past two years have not been significant. However, the epidemic is still ongoing, and upstream raw material price increases are suffocating manufacturers. Recently, Infineon issued a notice to downstream distributors, stating that due to the market’s supply shortage and the increase in upstream costs, it is unable to bear the overflow cost, and price increases will be a probable event.

As for the agent side, due to the existence of agency agreements with the original factory, there are strict requirements on price and quantity, and they cannot arbitrarily increase or decrease prices. According to the information provided by Zhang Xin and another chip agent Renhua, they are not sure how much demand their customers have, nor can they accurately grasp how much inventory and gaps Tier1 has.

Renhua mentioned that agents only know how much supply their chip manufacturers provide and how much they can supply to the domestic market. Conversely, Tier1 knows how many chips it needs to provide supply services to automakers, and how much inventory they have.

When Photon Planet asked a Tier2 (secondary supplier), he agreed with Renhua’s statement. At the same time, he believed that price increases were mainly due to intermediaries raising prices and had nothing to do with suppliers. According to a trader who did not want to disclose detailed information, he also obtained chips from other channels, but refused to tell Photon Planet how he obtained the “goods”.

Zhang Xin analyzed that the source of chip traders comes from breaking the proper circulation channel of chips. Apart from the chip factory, the other three steps directly or indirectly contribute to the chip shortage.

“Because everyone is driven by interests to produce a kind of idea. This mainly depends on whether someone leads you to play and whether there is a channel for getting goods. Generally speaking, regular agents, traders, factories, and customers (Tire1) are on the same rope and may participate. If any part of the industrial chain is missing, there will be a chain reaction.”

Another automotive engineer categorized the following situations, which have certain reference value.The first case is due to Tier1’s failure to pay on time, resulting in chips being held by the agent. Some people saw the market price skyrocket and increased the price to other suppliers to alleviate risks.

The second case is Tier1 hoarding to cope with price increases or deliberately overreporting demand to agents. Zhang Xin’s statement can confirm this speculation.

“Indeed, some suppliers, in order to alleviate the chip problem, found four or five agents to bid in the bidding process, and finally reported the same demand to everyone.” However, he believes that it is difficult to occur unless the agent had a lot of goods before. “Because the demand will eventually be transmitted to the chip manufacturers, and sudden large demands will raise concerns among related companies.”

The third case is that some suppliers are unable to fully meet the sudden increase in demand from the automobile industry, and in order to consolidate cooperation, they may ask other peers to share the burden. Regardless of which one, it will push up costs and exacerbate the shortage of this type of chip.

In addition, some traders and speculators will try to raise prices by asking suppliers and agents for goods, which will also cause price increases. A supply chain insider once told Phystar that “customers are friends with each other, and sometimes, how much goods they want, which supplier to choose, and how much to use can all be resolved at the dinner table.”

Even some agents who follow regular channels sighed that there are indeed some peers who made millions or even billions of dollars in 2020 by speculating in chips. “Last month he was eating street food with me, and this month he invited me to his villa. Honestly, I’m still very envious.”

Factors affecting the circulation of chips

An automotive engineer in Beijing said that many companies have crossed into car manufacturing, which has brought great pressure to automakers.

“Lei Jun started making cars and digging people everywhere, which drove up labor costs. Previously, if you opened a mold and the quantity was large, you might not even charge for the mold fee. Now, you have to give me 2 million yuan for the mold fee if you want to spend 10 billion on making cars, don’t you?”

The global automotive industry has long been very mature, with interlocking chains, but with more and more companies crossing over into car manufacturing, the calm surface of the lake has been disturbed. “When the price of flour goes up, the seller of lime will follow suit.”

At the same time, upstream supply chains continue to integrate, and several large companies have more say.

In the battery field, CATL’s expansion upstream and downstream has clearly accelerated, acquiring lithium mines, investing, and even directly participating in car manufacturers’ financing and providing battery swapping services. Downstream automakers are becoming more and more wary of a “CATL king” that cannot be bypassed in the supply chain.In the field of electronic control, BorgWarner holds great say. Since 2015, the company has been integrating and acquiring to form a more complete product line, including electric drive modules, battery heaters and cabin thermal management products.

Because many automotive parts come from industrial parts, there are some companies that originally produced industrial parts that have also entered into the automotive field, such as Molex (USA) which integrated connector modules in recent years.

In 2015, BorgWarner acquired the leading technology of Remy Electric Motors in the industry, and in 2017, the UK’s new energy vehicle control device and battery charger manufacturer Sevcon was acquired. In 2019, two electric and hybrid companies were integrated, and a year later, BorgWarner acquired Delphi for $3.3 billion, entering the fields of automated driving and connected vehicles.

As an industry insider summarized, “you will find that there are more and more car companies targeting the consumer market and fewer and fewer suppliers targeting the car companies.” This is not only a trend in the development of the industry, but also because intelligentization has expanded the demand for components, which in turn requires suppliers to have stronger integration capabilities. Conversely, related domestic companies have always been in a state of individual breakthroughs.

A former employee of BYD told Guangzi Xingqiu that not only do chips lack domestically, but also many precision components heavily rely on imports, and even if there are domestic substitutes, the production process is still highly dependent on manual labor.

He said that when BYD wanted to localize a component that Bosch was mass-producing, Wang Chuanfu asked the engineers to find a way to “research” and produce it. Unfortunately, the precision of the machine tools was not enough, and the product was off by a millimeter when they tried to reproduce the model. So “a group of us were pulled in to manually polish the rough edges and calibrate the accuracy.”

Even so, the yield was only 20%. “There is a slogan within BYD, saying that ‘if the robot doesn’t work, add people’.”

In the field of chips, domestic substitution also faces enormous difficulties. Zhang Xin, in the position of a distributor, and engineer Huang Lin, both believe that chips cannot be domestically substituted in the short term.

First of all, due to safety reasons, car manufacturers’ suppliers have no motivation to localize production. “If you ask me to use domestic products, that’s fine. But who will take responsibility when problems arise? Car manufacturers, suppliers, or chip companies?” Huang Lin mentioned that apart from the reliability of the products themselves, foreign suppliers also have a sound responsibility system.

Secondly, the current area where domestic products can replace imports is quite limited. Zhang Xin believes that among all the automotive chip products, the short-term possibility of electric control chip substitution is the highest, and companies like Zotye Holding Group can provide relatively reliable products.

Finally, a chip needs to pass car-grade certification, and obtaining certification requires rigorous and strict testing to obtain the corresponding qualifications. The long period, high risk, and high cost impedes the pace of domestic enterprises. We see that some domestic companies have attempted to bypass this by acquisition, such as Wingtech’s acquisition of ANSCA to obtain MCU chips, but the far water does not quench the near thirst.The Tier 1 giants, such as Bosch and BorgWarner, may have joint ventures in China, but their ability to integrate the industry chain is obviously superior to domestic supply chain enterprises, and they will not easily replace existing second-tier suppliers.

Our agent Ren Hua described to us a bidding he participated in himself.

At the end of last year, a Tier 1 supplier approached four or five chip agents from China, Europe, the United States, and other regions to participate in the bidding. The competition was quite fierce. The supplier knew that it was difficult for domestic competitive products to perform well, so it released news that it would prioritize testing domestic products. Ren Hua heard the news and immediately contacted the technical staff of the chip company he represented to work with the supplier to meet the demand.

“I remember it was the 29th of the twelfth lunar month. I, the technical staff, the supplier, and the chip manufacturer worked overnight together. At the same time, another group of colleagues went to the supplier’s headquarters to attend their annual meeting and establish relationships. Only then did we manage to secure the order,” he said. He mentioned that there is indeed a considerable gap between Chinese and foreign companies in terms of solutions, processes, and services.

You can lack chips, but not heart

Long-term investment is necessary for Chinese companies to respond to the chip shortage, but short-term solutions are also indispensable.

According to an insider from a northern automaker, not only chip supply is tight, but there are also large gaps in other parts. The management had to require the production lines of several models to be started in accordance with the supply chain situation to have more time and space to allocate scarce modules.

For instance, the frequent negative events in Great Wall’s ORA brand reflect the shortcoming of the automaker in the supply chain field. Earlier, the “chip-gate” was caused by the supply chain shortage. Relevant personnel went desperate and then the black and white cat production stoppages occurred. It’s more likely that Great Wall temporarily suspended orders to adjust its production lines.

To be frank, from the cost perspective, the rising chip prices make it difficult for economy cars, like the black and white cats, to re-enter the market.

Photon Planet learned that to cope with the unrelenting growth of demand during the short-term chip shortage, some players in the industry chain have resorted to selling substandard products.

An industry insider learned from a certain domestic auto parts market that some businesses are engaged in recycling, refurbishing, and reselling semiconductor products. Among them are not only businesses that purchase scrap to refine precious metals, but also a group of merchants who specialize in buying scrap car chips. It is understood that these chips are called “disassembled chips” in the industry.

The above-mentioned insider mentioned that the sales volume of these products rivals that of chips from normal channels, which not only fills the gap but also meets market demand. The only problem is that, “since most of them are chips from four or five years ago, after installation, they may be very slow. However, since they have undergone car-grade certification, their reliability is still ok.”

He was also confused, “Now, speaking of it, why are their five or six-year-old chips still more reliable than our own?”

This article is a translation by ChatGPT of a Chinese report from 42HOW. If you have any questions about it, please email bd@42how.com.