In the Chips : America’s semiconductor industry again leads the world. But new Asian competitors are gaining strength. And you can never count Japan out.
A cavernous concrete shell rising from the mud in this community south of Portland echoes with the whining drills of construction workers. They are rushing to complete a $400-million semiconductor production facility for Silicon Valley chip maker Integrated Digital Technologies.
Across a nearby field, Intel Corp. is breaking ground on a $2.2-billion complex. LSI Logic, another Silicon Valley company, is scouring the neighborhood for a place to build its newest plant.
Call it America’s high-tech renaissance. As profits rise and stock prices soar, American chip companies, which make the guts of virtually all high-tech products, are once again investing huge sums on research and production in America.
Today it seems natural that America should be the world center of leading-edge technology. After all, the idea of packing electronic circuits on a silicon chip is an American invention, America still boasts the world’s leading chip designers, and the technology for personal computers--the biggest consumer of chips--is being driven by American companies such as Microsoft, Compaq, Intel and Apple.
But it’s easy to forget that just a decade ago, U.S. chip makers were swamped by a rising tide of Japanese competition. Intel, now by far the world’s largest and strongest producer of chips, was so weak it needed a $250-million investment from IBM to keep it alive.
As late as 1987, a report by the Defense Science Board Task Force concluded that “the ability (of Japan) to dominate the semiconductor industry would appear to be a mere step along the strategic way for Japanese firms to dominate the world information market.”
Without a vibrant semiconductor industry, America’s progress in new fields such as wireless communications, multimedia and personal computers would have been hampered, damaging the broader economy.
“If we had lost our strong position in the semiconductor industry, there is no question it would have hurt our standard of living,” says Kevin McGarity, senior vice president of Texas Instruments’ semiconductor group.
How America responded to that challenge is a story about the nation’s awakening and maturing as a global technology player. It is a story that sheds light on changing management practices as well as the debate raging over the proper role of government in industry--debate that has been reignited by the new Republican-controlled Congress.
And it is a story that offers a lesson about corporate complacency and hubris, about how an inflated self-opinion will lead inevitably to a sudden and disastrous downfall.
In the 1970s, it was the U.S. chip maker that grew arrogant and paid the price. In the 1980s, it was the Japanese who came to believe that world domination in electronics was their birthright. Now, as the orders and the profits continue to pour in, U.S. firms must struggle against the temptation to see their success as simply the result of superior creativity and ingenuity. For the chastened Japanese are now re-emerging, and chip makers in South Korea, Taiwan and Singapore are getting stronger every day.
In historical terms, it’s all very recent. AT&T; invented the transistor in 1948, Texas Instruments took it a step further by creating the integrated circuit in 1959, and by the early 1970s, a rapidly growing chip business centered in Silicon Valley in the San Francisco Bay Area had sprung up. It was managed by cocky engineers who found thrills in the fast-paced, make-or-break world where innovation and speed were everything.
When powerful Japanese electronics companies took big chunks of the semiconductor market each time they conquered a new sector of the consumer electronics industry, the chip makers shrugged. Japan was a copier, not an innovator. America’s cutting-edge designs and its domination of the global computer industry would keep fleet-footed Silicon Valley companies one step ahead.
When the Japanese firms pooled their resources in the 1970s and won government backing for a series of joint projects aimed at cramming even more circuits onto silicon, nobody noticed.
So the industry was shocked in 1979, when computer maker Hewlett-Packard published a study showing that Japanese companies’ products had defect rates one 27th those of U.S.-made products.
“It was a ‘emperor has no clothes’ statement,” recalls Ken Newton, now director of procurement at HP. “There were screams of outrage and anguish. People felt they had been betrayed.” American executives denied the charges and accused Japan of cheating by screening out defective chips. They also cited pirating of designs and dumping as reasons for Japan’s success.
Some of the accusations were true, but they missed the key point. Since cost is based on the number of good chips taken from a wafer, or yield, Japan’s low level of defects meant its costs were also sharply lower. The entrepreneurial firms’ short-term profit mentality was yielding to the long-term bulldozer approach of Japanese conglomerates.
By 1983, Japanese electronics firms were pouring huge sums into new production, out-investing their U.S. counterparts. When chip demand fell in 1985, there was huge overcapacity and Japanese firms lost billions of dollars selling in the United States, often at prices below cost. But it was the more profit-sensitive U.S. companies that went bankrupt or were driven out of business. By 1986, seven of the nine American firms making DRAMs--dynamic random-access memory chips, which were the highest-volume product in semiconductors--had left the business.
The Japanese threat galvanized the U.S. industry. The once fiercely independent chip companies began working together through the Semiconductor Industry Assn. In 1982, they formed the Semiconductor Research Corp. to show universities what kind of research and training they needed. Two years later, they pushed through federal legislation to protect their designs from piracy.
But two problems remained: Japan had the advantage of a protected domestic market, and its large conglomerates could outlast smaller U.S. firms in price wars. Then there was the question of cooperation: Japanese policies encouraged it, while American antitrust law discouraged it. To deal with these issues, the U.S. industry needed government help.
The SIA diligently gathered evidence, with the help of University of California scholars, to support its contention that Japan was playing unfairly and to lobby Washington for help. Intel Chief Executive Andrew Grove bought a fiddle at a pawnshop and sent it to Richard Darman, a Reagan Administration official critical of American business, with a note implying that Darman was fiddling while the industry burned.
In 1985, the Administration launched two salvos against Japan, a dumping suit and a trade action warning of sanctions if Japan didn’t open up its domestic market to foreign producers.
The actions sent a strong message. “When it is clear to people that your country is interested in keeping that industry, they don’t screw around with dumping or improper use of intellectual property,” says Jim Morgan, CEO at Applied Materials, an American equipment supplier who had made early inroads into the Japanese market and had an inside look at what was happening.
By 1986, Japan had been pressured into signing an agreement that set goals for foreign market share there, and it developed mechanisms to prevent Japanese companies from dumping in world markets. A year later, tariffs slapped on a range of Japanese electronics products spurred action that raised the U.S. share of the Japanese market for the first time in a decade. And the dumping ended almost overnight.
Without the dumping suits, says George Scalise, senior vice president of National Semiconductor, “most of the big-name companies would have been out of business. There wasn’t a chance we could have survived.”
But industry leaders also recognized that they had to face the technology and quality issues. The problems stemmed from many sources, including poor worker-management relations, the short-term profit mentality of American companies and the weak ties between manufacturers and equipment suppliers.
“The Japanese worked closely with us and gave us technology help by helping to identify problems with equipment,” Morgan says. To U.S. chip companies, “we were a dime a dozen and were to be beaten up. They beat our prices down and blamed us if anything went wrong.”
Early quality-control efforts to meet the Japanese challenge had an almost comical, faddish quality led by strings of instant Japan consultants.
T. J. Rodgers, now chief executive at Cypress Semiconductor, recalls that during his days at Advanced Micro Devices, he arrived at work to find huge balloons painted with the names of each chip division, including one he managed. The idea was to cut loose the balloons as the divisions met their targets.
“It was bull . . . ,” Rodgers says. “We didn’t even know how to measure quality very well in those days.”
The chip companies soon turned serious, and the government pitched in: The Pentagon and the industry agreed to contribute $100 million a year each for a manufacturing technology consortium called Sematech.
As Morgan of Applied Materials says, “It was clear the cowboy mentality--that everybody can make it on their own--wasn’t going to cut it.”
In 1989, these actions still seemed hopelessly late. The Japanese juggernaut had overtaken the United States in world market share in 1985. Driven by a speculative boom in land and stock prices that made it possible to borrow money virtually free, dozens of conglomerates in every sector, from steel to ball bearings, borrowed on inflated land prices to take the plunge into the chip business. Japan was investing twice as much as America in new chip capacity.
Japanese firms grew arrogant. They sneered at the notion of emerging competition from South Korea. They rebelled against American pressure for them to buy what they called inferior chips. They stopped paying close enough attention to the market, and thus didn’t see how shifts in demand would affect them.
The change in fortunes was sudden. First, falling stock and land prices and rising interest rates, beginning in 1990, led to a 40% drop in investments by 1992. And the edge in chip demand shifted from consumer electronics, Japan’s strength, to areas such as cellular phones, personal computers and communications networks--where U.S. firms were strongest.
Now microprocessors, the brains of PCs, were produced in large enough volumes to keep U.S. vendors at the leading edge of production technology--DRAMs were less important. Sunlin Chou, one of Intel’s leading process engineers, says defect levels at Intel today are less than a tenth what they were a decade ago.
Industry analysts today like to say that the source of America’s strength is its innovation, and that Japan’s strength is limited to commodity markets in memory and logic chips.
But technology history could have been very different if the U.S. government had stuck to the laissez-faire policies it followed when America’s consumer electronics and machine tool industries were devoured by Japan.
Intel officials admit, for example, that if the government hadn’t stopped Japanese dumping of EPROMs (erasable programmable read-only memory chips), a product Intel depended on for revenue after pulling out of the DRAM market, the company wouldn’t have had sufficient revenue to invest in research to develop the microprocessors that drove the computer era.
The 1986 chip agreement also helped American companies compete by giving them access to Japan’s protected home base--foreign share of the Japanese market hit 23% last year, up from just 8% in 1986. And though higher prices resulting from the agreement gave big profits to the Japanese, they also opened the door for competition from South Korea.
“The Prime Minister (Kiichi Miyazawa) scolded me and told me to never sign an agreement like that again,” says a senior official at the Ministry of International Trade and Industry.
Sematech also played a key role in the recovery. When U.S. firms began to add to capacity in 1993, they could also choose from an equipment industry that had leading-edge technology and higher-quality products partially financed by Sematech. And Sematech forced companies to think of their long-term needs and build relationships with suppliers.
“It’s a partnership now. You don’t shop around. You decide what you need three years down the road. We have input into what products they make,” says Intel’s Youseff El-Mansy.
The results are impressive. Japanese customers now routinely ask to see the facilities of U.S. chip companies, to examine for themselves how American firms have improved their yields so dramatically.
But the U.S. industry, if revitalized, is hardly a clear victor. A new cycle is now beginning with new competitors and new battles--though many of the challenges ought to be familiar to those who have fought the war before.
The giant consumer electronics industry is gearing up to supply a whole range of new products for interactive television, wireless communications systems and computer networks, for example. And Gary Grandbois, principal analyst at San Jose research firm Dataquest, says that “this opens the door for consumer electronics to move back” to the United States.
That may be--but it is also bound to open up opportunities for new players to enter the business as low-cost Asian companies begin to build a bigger variety of sophisticated electronics products.
“Twenty-five years ago, the low-cost producer was Japan and Japan got the first look at new products,” says IDT Chief Executive Len Perham. “Now it’s Taiwan.” Taiwan, South Korea and Singapore are sending thousands of students to America to study engineering. Many are returning home to join their national chip development efforts.
Singapore has created a national firm to invest in semiconductors. “It’s a technology sponge,” says Della Rocchetta, vice president of sales and head of U.S. operations at Chartered Semiconductor, a partly government-owned chip manufacturer in Singapore. “We work with 40 companies worldwide. They help us transfer technology. You build up a technology base.”
Japan is also plotting its comeback strategy. It is making a major push into microprocessors by licensing designs from U.S. companies and building microprocessors and other advanced chips to put into a new generation Nintendo, Sony and other game machines.
The Japanese government is also getting back into the act, encouraging new cooperation among Japanese electronics makers.
“We need a clear vision for the future and proper procedures for the revitalization of the Japanese semiconductor industry,” said one prospectus published last year by a research institute formed by Japan’s largest electronics companies.
Japanese companies say their consumer electronics strengths give them an edge in a battle for a market they say will far surpass that for PCs. America’s leadership, the Japanese argue, largely stems from the fact that a single company, Intel, was lucky enough to be chosen to set the standard for the personal computer. As this technology evolves into consumer products that incorporate video capability and require new standards, they say, the game will change.
“Here there is no leader and there is no standard,” says Susumu Kohyama, a semiconductor manager at Toshiba Corp. “This is an area in which we have strength.”
Last year, Japan’s chip makers, aiming for a strong comeback, boosted their capital spending by 50%.
“It wasn’t true in the 1980s to say the Japanese were taking over and it isn’t true today to say that the U.S. is taking over,” says Kohyama. “We will remain a semiconductor power equal in strength to the U.S.
“Apart from Intel, there aren’t many (U.S.) companies that can build a $1-billion factory. Japan still has the financial strength.”
Texas Instruments, which chose to partner with Hitachi to build its new Dallas plant in spite of its financial recovery, underscores the point.
Says Morgan of Applied Materials: “We can be too enamored of how great we are.”
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American chip makers have regained the lead in sales...(see charts in hard copy)
Worldwide market share, in percent:
Capital spending by semiconductor companies, in billions of dollars...
Worldwide semiconductor sales, in billions of dollars:
Source: Semiconductor Industry Assn., Dataquest Inc.