High Tech Heartburn
Anyone looking for good news about the U.S. economy would be hard-pressed to find it in all the announcements of profit shortfalls, layoffs, and plant closings. But there is a bright spot in the statistics: Inventories are not piling up at the frightening rate they traditionally do in a down cycle. Some companies like Cisco Systems Inc. are recording big stocks of inventory. But overall, thanks to improved just-in-time production methods, U.S. companies are managing to avoid the huge expense of keeping unsold goods in warehouses.
The story, however, is very different in Asia, home to thousands of suppliers to American companies. In the vast Asian workshop, the news is alarming. Inventories, especially in high-tech products, are piling up fast as U.S. customers slash orders. The rollback is catching Asian suppliers off guard: They are having more trouble than their Western counterparts at managing in a world where corporate buyers no longer want to keep weeks of supplies of parts and finished goods on hand.
Nor have Asian companies been able to predict demand from their U.S. customers. According to Kirk Yang, an analyst at Credit Suisse First Boston in Hong Kong, Asian manufacturers were expecting a surge in orders as late as the third quarter of 2000. "Not until after Thanksgiving weekend did we start realizing the seriousness of the problem," says Yang. "Companies canceled orders to their manufacturers but not fast enough, which created an inventory buildup." As a result, many Asian manufacturers at the bottom of the food chain are getting the worst of the deal.
"A COLD WIND." There's little sign yet that Asian producers of nontech goods are getting hit, but the pain in the tech sector is plenty bad. Everyone from Japan's consumer-electronics giants to middle-tier suppliers in Seoul and Taipei is getting caught with warehouses full of inventory. Says Kazunari Shirai, executive vice-president of Fujitsu Ltd.: "The impact from the U.S. slowdown is huge in everything and anything." It's not just makers of finished goods. A whole range of contract manufacturers and sub-suppliers have been buried under boxes of unshipped goods, as major U.S. PC makers like Compaq, Dell, and Gateway cancel or cut orders.
South Korea, which has a history of overproducing, seems the hardest hit. Its computer inventories jumped 17.9% in December, while supplies for chips, cell phones, picture tubes, and display panels were about 50% over last year's levels. Daeduck Electronics Co., which makes printed circuit boards, watched sales drop 30% in January from the average of the previous six months. Says a Daeduck executive: "We're feeling a cold wind from the U.S. IT sector."
The story is the same in Japan, where, as of December, information-technology inventories were up 30% over the previous year. The cost of clearing out excess computer hard drives forced leading diskmaker TDK Corp. to slash its group profit forecast 17%, to $420 million, for the fiscal year ending in March. Ditto for NEC Corp., which on Feb. 20 cut its operating profit forecast 24%, to $1.65 billion. The company cited a $695 million jump in inventories, mostly in memory chips and telecommunications equipment, plus weak PC sales in the U.S. and Japan. Pressed by analysts about NEC's supply management, Executive Vice-President Shigeo Matsumoto said: "We're trying to get it right."
That will be key for Asian manufacturers this year. In the past few years, major U.S. companies have become much better at anticipating demand, thanks to sophisticated computer networks and Internet connections to customers. "Such electronic hookups in Asia just aren't as prevalent as in the U.S. and Europe," says Andrew Gort, executive vice-president for global supply-chain management at Celestica Inc., a giant Toronto-based contract manufacturer. Another problem is that certain goods Asia specializes in, such as semiconductors, require advance orders of up to three months before delivery: It's hard to adjust manufacturing flow quickly in these complex plants.
And, of course, a big U.S. company manages inventory to protect itself first, not a supplier. That is especially bad news for contract manufacturers in Taiwan and China. They can't hope to adjust production with the speed and agility that their highly automated U.S. customers can bring to bear on their order books. More sophisticated suppliers even get hit. An executive at a major U.S. contract manufacturer based in China thinks his American customers did a poor job of signaling the anticipated drop in orders. As a result, this executive's plant in China has been stuck with too much inventory.
A sudden dearth of orders is hurting even the most sophisticated Asian contract manufacturers. Consider Taiwan Semiconductor Manufacturing Co., the world's biggest foundry. Last year, TSMC's plants were running at full capacity and the company's chairman, Morris Chang, was fretting about filling all the orders. Since then the likes of Intel Corp. have canceled big chip orders. Now, Chang has the opposite problem. His customers, he says, "suddenly backed off."
Some Asian companies will weather this downturn better than others. Consider Samsung Electronics Co. Salomon Smith Barney recently lowered its 2001 profit forecast for the South Korean giant by 24%, to $3.6 billion. But Samsung has used sophisticated electronic tracking systems to keep inventory down, so it's not suffering as much as Hyundai Electronics with its big stockpile. Samsung officials say the company maintains its chip inventories at between 18 and 20 days at all times. TSMC also says its inventory is under control.
SPILLOVER. Overall, though, the inventory bulge--and the order slump that goes with it--are the last things Japan, South Korea, and Taiwan need. IT exports have been largely responsible for keeping their economies afloat through years of crisis. About 30% of South Korea's IT exports go to the U.S. Because of the U.S. slowdown, the country's gross domestic product growth is widely expected to drop by half this year, to about 4.5%.
With Japan already flirting with recession, the added danger is that the woes of the Asian high-tech sector will spread to nontech industries and pull down regional growth. Last month, reacting to an emerging regional glut in coiled steel and beams, Tokyo forecast a 7.5% first-quarter drop in steel production, the largest in 15 years. How long the glut will last is anyone's guess, though NEC's Shigeo Matsumoto told analysts he doesn't expect much improvement before the third quarter.
The irony is that policymakers in Tokyo, Taipei, and Seoul viewed the liftoff of their IT sectors in the past few years as proof positive Asia could replicate the kind of tech-driven growth that the U.S. enjoyed for nearly a decade. Now, they are learning that the white-hot New Economy can also burn you.