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Unless you’ve been living under a rock, you may have heard the global supply chain has experienced some issues over the past few years. Labor shortages, ships running aground in key waterways and rising costs have all taken turns dominating the headlines, thrusting complex systems we largely take for granted into the light for all to see. As we move into a post-pandemic reality, it might seem like those problems will start to subside and slowly return to “normal,” but the global economy is still squarely feeling the impact of the pandemic and it will be a slow crawl to get back to where we were in 2019. Oh, and there’s now a major war happening between neighboring countries casting its own ripple effects that is felt not only by enterprises who operate or do business in that region, but by the global tech community as well.
From a purely operational standpoint, it might seem like a SaaS company in Silicon Valley would be able to avoid the direct impact of a war taking place on the other side of the world, but this is folly. The war threatens a number of industries and will profoundly impact just about everyone within IoT-enabled SaaS, autonomous vehicles, electric vehicles and even robotics, source materials and scale their businesses. Founders who think they can use the downturn in the economy to put their heads down and focus on building their products still need to be aware and plan for how global events can impact their bottom line.
When materials are impacted, everyone feels it
To best illustrate this point, let’s look at the global shortage of semiconductors, which first began in early 2020, driven by pandemic-fueled demand for consumer technology and vehicles. The scarcity of chips has held back production of everything — from smartphones to pickup trucks — leading to billions in lost revenue and contributing to inflation by raising costs. With such high demand for chips, it was always going to be tough for suppliers to catch up post-COVID, but the war in Ukraine has exacerbated the problem. Lead times increased by three days to 26.2 weeks, while delivery times for microcontrollers reached a high of 35.7 weeks in February, according to research by Susquehanna Financial Group.
To make matters worse, Ukraine sources 90% of the world’s neon that is used in semiconductor manufacturing. In the wake of Russia’s invasion and annexation of Crimea in 2014, new sources of neon started to pop up around the world in order to be less reliant on Ukraine and the potential for more instability in the region. One American industrial gas company, Linde, spent $250M to build a neon production site in Texas. Companies in other countries, including China and South Korea, are also manufacturing their own neon supplies today. However, Ukraine still dominates the market, and there isn’t a viable alternative coming anytime soon that would alleviate the shortage of critical supplies for chip manufacturing.
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Russia itself supplies 45% of the world’s palladium, which is used in producing vehicle catalytic converters, as well as in key electronics components such as smartphones, digital cameras, computer hard disks, fluorescent and LED lights, computer monitors, flat-screen television and electronic displays. Furthermore, curbs on air transportation and shipping since the beginning of the war in Ukraine have heightened supply chain difficulties for palladium manufacturers.
Things will get worse before they get better
As previously noted, the semiconductor shortage and subsequent supply chain crush will continue to get worse before it gets better. Specifically, it will continue to be felt for the foreseeable future, even beyond whenever the war in Ukraine ends. Corporate leaders have to adjust their supply chain strategies accordingly. Any company that relies on hardware of any kind (IoT, robotics, vehicles, etc.) has to be strategic about where and how they source materials. It will be critical to diversify sourcing partners wherever possible and in some cases, might need to be prepared to commit a large prepayment to help guarantee some baseline supply.
It will also be very important for founders to be thoughtful in their commitments to customers and manage expectations accordingly. Transparency is always key when managing customer relationships, but it takes on added importance in today’s unstable, opaque operating environment. Even when you think you understand who all of your suppliers are, you never really do, because each supplier is typically dependent on someone else. Supply chain delays are inevitable, and in a world where companies are measured on a week-to-week basis, those that understand that volatility and optimize for them will be best poised to make it through these next few years relatively unscathed.
So what does this mean for entrepreneurs?
We tend to advise founders to separate things within their control from those outside their control. Issues like supply shortages can often feel like they’re in the latter bucket but we’ve seen teams mobilize in different ways to exert influence on this dynamic. Consider this exercise:
- Map your dependencies and your demand expectations of them. It’s surprising how little companies know about their supplier dependencies. The first step is to gather and visualize your supply chain in this regard. One company in our portfolio even lays out their bill of materials to help with this. Further, most companies do not have a clear understanding of the demand they have for the components or products their suppliers deliver to them. With this, there’s a granular understanding of supplier dependencies and the demand you have. The big question is whether your suppliers know how much you expect of them?
- Assess the risk. With this data in hand, it’s important to have a two-way dialogue with your suppliers to see what the risk is of missing quantities, cost overruns, or delays. Some people think that withholding information provides leverage, but how can a supplier plan to fulfill the volume expectations you have without your real forecast? This is supply chain 101. To note, this is not to say you reveal all your cards around pricing — be smart.
- Lean into existing relationships to secure supply for yourself. Now, it’s easier to work with existing suppliers than finding new ones off the bat. However, your existing partners can help with incremental units for certain minimums, more detailed forecasting/demand understanding or cash advances (as they manage their own working capital). Once this has been addressed, there’s enough understanding to expand your supplier base in a thoughtful way.
I’d also note that supply constraints are often a positive force. Is this an opportunity to simplify a product or focus on the key aspects that matter? One company in our portfolio used stress in their supply chain to simplify their design and improve the effectiveness of the solution for customers — all while driving down unit cost.
Santosh Sankar is managing partner of Dynamo Ventures.
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