Outsourcing and Offshoring in the Semiconductor Industry

1. Outsourcing and Offshoring in the Semiconductor Industry David A. Hodges Robert C. Leachman Competitive Semiconductor Manufacturing Program UC Berkeley Sloan Industry Centers Annual Conference Atlanta, GA April 19-21, 2004

2. U.S. Integrated Device Manufacturers(e.g. Texas Inst., Motorola, Intel, …) Labor-intensive chip assembly work mostly off-shored since the 1960s • Initially, plants served just one company • More recently, independent assemblers and testing firms are serving multiple customers • IBM automated in the 1960s • Automation of assembly and testing now spreading industry-wide and world-wide

3. U.S. IDMs, 1960-1990 • Capital-intensive wafer fabs were off-shored selectively: important aid market access • Cost of direct labor not a significant factor • US ownership, international professional staff • Hazards: weak infrastructure, long supply lines, business and political climate • Early examples: Texas Instruments (Japan), Analog Devices (Ireland), Intel (Israel)

4. U.S. IDMs, 1960-1990 • Skills-intensive process development and product design mostly remained in the US • Firms sought advantages from proprietary technologies • Few skilled professionals available abroad • Some exceptions: Chip design centers in England (TI), Israel (Intel); typically devoted to specific products for worldwide markets • Sales, marketing, customer support efforts carried on world-wide

5. Changing business models:IDMs forced to become specialists • Intel, AMD: microprocessors • Samsung, NEC, Micron, Infineon: memory • Texas Inst., STM: chips for cell phones • These are standard products, MM units; same designs purchased by many competing original equipment manufacturers (OEMs) • Above categories represent about ½ of total worldwide semiconductor production • What about the other half?

6. Factors leading to “foundries” • Competitive modern wafer fabs cost $2-4B • employ ~ 1000 people (total for 7 x 24 operation) • Annual revenues > ½ fab cost for profitability • Worldwide standardization of mfg. process • Innovative design firms require only a fraction of one fab’s capacity • Vastly different management skills: design vs. fab • IDMs rarely succeed in serving fabless firms • Foundries were established to serve this need • Leadership of Morris Chang!

7. Fabless-foundry business model • Fabless firms define, design, & market chips • small investment, quick response • $300-500K revenue/employee • ~50,000 well-paid U.S. jobs; ~13,000 ROW • Asian foundries fabricate chips for many firms • huge investments; fixed costs ~75% of total • ~15,000 factory jobs, well-paid by local scales • highly automated for tight process control • short production cycle • timely intro of new technology generations • excellent customer service • some niche specialists with old technology

8. Outsourcing, Offshoring? • Fabless design centered in the U.S. • MS, PhD grads of top U.S. universities • U.S. is #1 (78% of ‘03 revenues) • Taiwan is #2 (11% of ’03 revenues) • Equivalent design skills very rare elsewhere • Most silicon foundries are in Asia • Many process development jobs in Asia • Many grads of top US universities • Weak U.S. domestic investment (except Intel)

9. “Food chain” for semic. industry • Semiconductor production equipment & raw materials are supplied mainly from U.S., Japan, and Europe • U.S. leads in key areas: • MS & PhD education • Computer-aided design for semiconductors • University-industry cooperation • Climate for innovation • Market for advanced technology • Government support is strongest in Asia

10. Factors influencing location for manufacturing investments • Trophy value of semiconductor fabs (Think about the steel industry in the 1960s) • Trophy sought by gov’ts worldwide: tax incentives! • China is the current leader in incentives • Most capital comes from outside PRC • Fading concerns about investment risks • Weaker controls on U.S. equipment export • Commodity status of manufacturing technology • Return of expatriates; spread of higher education • Protected IP less important than know-how • Improving infrastructure in China, other nations

11. Chinese competition for foundry business • Semiconductor Manufacturing Int’l Corp. (SMIC) • largest, most advanced Chinese foundry • founded in 2002; 3 8” fabs in Shanghai • purchased Motorola’s 8” Tianjin facility • 12” fab in Beijing under construction • 3/17/04: $1.8B IPO in HK & NY; -12% as of 4/6/04 • U.S. filed WTO complaint re: China’s lower VAT for locally designed or manufactured semiconductors • China remains far behind in chip design capability • China establishes unique domestic standard for cellular telephony; Chinese partners required

12. 2003 Foundry revenue leaders • 1. TSMC (Taiwan) $5.9 billion + 26% • 2. UMC (Taiwan) 2.7 + 27% • 3. Chartered (Singapore) .73 + 49% • 4. IBM (U.S.-IDM) .56 - 27% • 5. NEC (Japan-IDM) .43 + 33% • 6. SMIC (China) .37 +630% • 7. Hynix (Korea-IDM) .34 + 39% • 8. DongbuAnam (Korea) .33 + 27% • 9. Jazz (U.S. ex-Rockwell) .19 + 16% • 10. HHNEC (China) .17 + 13% • 11. SSMC (Singapore) .16 + 82% • 12. X Fab (E. Germany) .13 + 27%

13. Survival strategies of U.S. IDMs • Intel: heavy investments; try new markets • Texas Inst: limit investments + use foundries • IBM: partnered with Chartered, Infineon • AMD: more German incentives in Dresden • Micron: innovation; more cost reductions • Motorola: divesting semiconductor business • National: product focus; use foundries • Analog Devices: limit investments + foundries

14. Conclusions for semiconductor industry • It’s a fully globalized industry • Microprocessors: Intel unchallenged • Memory is a commodity; Samsung leads by far • IDM business model is dead for other products • U.S. leads in innovative chip design • U.S. unchallenged in design software • design & software skills are bound to spread! • Asia leads in foundry manufacturing • U.S. is not a serious competitor; poor ROI • TSMC, UMC are likely to remain leaders • Overcapacity looms; SMIC payoff is uncertain