FREE ESSAY ON TEXAS INSTRUMENTS

TEXAS INSTRUMENTS

Texas Instruments
Global Pricing in the Semiconductor Industry
The Case Issue
The major issue of the case is dealing with the question, if a global pricing strategy
would be adequate to pursue in the semiconductor industry. So far, semiconductors had
been bought and sold at different price levels in different countries to reflect the
various cost structures of the countries in which they were produced. Semiconductors made
in European countries were usually more expensive than those made in Asia or North
America, simply because it cost manufacturers more to operate in Europe than in the other
two regions. Despite these differences, large distributors and some original equipment
manufacturers were becoming insistent on buying their semiconductors at one worldwide
price, and were pressuring vendors to negotiate global pricing terms.
As a consequence, and due to the fact that the semiconductor industry is very price
competitive and price sensitive, the manufacturers of semiconductors are faced with the
issue whether they can offer global prices for the same products and therefore are able
to develop a cohesive pricing strategy. A further question would be how Texas Instruments
could reorganize themselves in order to make global pricing a realistic option and what
implications would a global pricing strategy have in relationship to other international
customers.
To solve this issue would be enormously important for Texas Instruments, since the vast
majority of semiconductors were considered commodity products, the buying decisions of
distributors were based entirely on price.
Company History
Texas Instruments Incorporated was established in 1951 as an electronics company serving
the American defence industry. Although Texas Instruments was often considered the
pioneer of the American electronics industry﷓it was one of the first companies to
manufacture transistors and developed the first semiconductor integrated circuit in 1958.
Jack Kilby was the Texas Instruments engineer who developed the first integrated circuit,
a pivotal innovation in the electronics industry. Only a few years after Kilby's
invention, electronics manufacturers were demanding these integrated circuits, or chips,
in smaller sizes and at lower costs, a move that led to unprecedented innovation in the
electronics industry. Soon chips became a commodity, and chip manufacturers relied on
high﷓volume, low﷓cost production of reliable chips for success.
After receiving market attention with its development of such innovative consumer
products as the pocket calculator and the electronic wrist watch, Texas Instruments lost
its business in both markets to cheap Asian imports. Meanwhile, it struggled to keep up
with orders for its mainstay business in semiconductors through the 1970's, only to see
demand for its pioneer semiconductors shrink during the recession of the early 1980s.
Nevertheless, Texas Instruments struggled to maintain its position in the electronics
industry through the intense competition of the 1980s.
Faced with heavy losses in many of its core areas, Texas Instruments reorganized its
business to foster and embarked on a program of cost﷓cutting. By the year 1985,
the company had refocused its efforts on its strengths in semiconductors, relinquishing
market dominance in favour of greater margins. Over the period of time, Texas Instruments
continued to remain powerful in the semiconductor industry, in part because it was the
only American company that continued to manufacture dynamic random access memory chips in
the face of fierce Japanese competition in the 1980s. The company had manufacturing sites
spread throughout North America, Asia, and Europe, and was pursuing its strategy of
increasing manufacturing capacity and developing manufacturing excellence.
1994's performance was record breaking for Texas Instruments. It marked the first time
the company exceeded sales of $10 billion and over $1 billion in profit, and followed a
history of volatile financial results.
Finally, by the year 1995, Texas Instruments had developed a strong position in the
electronics industry, despite its reputation as a technological leader rather than a
skilled marketer of its products.
Current Situation of the company
Product
By the year 1995, Texas Instruments was a leading manufacturer of semiconductors, defense
electronics, software, personal productivity products and materials, and controls.
The Semiconductor Group divided its business into two segments: standard products and
differentiated products. Standard semiconductors, which accounted for 90% of the Group's
sales, included products which could be substituted by competitors. Standard
semiconductors performed in the market much like other products for which substitutes
were readily available. The remaining 10% of the company's semiconductor business came
from differentiated products, of which Texas Instruments was the sole supplier. Because
substitutes for these products were not available in the marketplace, differentiated
products commanded higher margins than their standard counterparts and were receiving
greater strategic emphasis on the part of Group management.
Semiconductors were silicon chips which transmitted heat, light, and electrical charges
and performed critical functions in virtually all electronic devices.
They were a core technology in industrial robots, computers, office equipment, consumer
electronics, the aerospace industry, telecommunications, the military, and the automobile
industry. The majority of semiconductors consisted of integrated circuits made from
monocrystalline silicon imprinted with complex electronic components and their
interconnections. The remainder of semiconductors were simpler discrete components that
performed single functions.
Price
As I already mentioned above, prices for semiconductor products differ a lot in the
various countries they are produced. Semiconductors had been bought and sold at different
price levels in different countries to reflect the various cost structures of the
countries in which they are produced. Semiconductors made in European countries for
example, were usually more expensive than those made in Asia or North America, simply
because it cost manufacturers more to operate in Europe than in the other two regions.
Since the vast majority of semiconductors were considered commodity products, the buying
decisions of distributors were based almost entirely on price. Furthermore, semiconductor
prices were notoriously volatile.
The Semiconductor Group at Texas Instruments combined the practices of forward pricing
and continuous price negotiations to set prices with its distributors.
Forward pricing: The cost of semiconductor manufacturing followed a generally predictable
learning curve. By increasing the volume of production, the cost of production would
decrease and the percentage of functioning chips would increase. This percentage, termed
`yield' in the industry, and the standard learning curve of semiconductor manufacturing
together had a large impact on the prices semiconductor manufacturers set for their
products. Managers could predict with considerable accuracy the production cost decreases
and yield improvements they would experience as their production volumes increased. These
predictions are the basis of the forward prices they set with both, original equipment
manufacturers and distributors.
Continuous Price Adjustments: Production costs and yield rates were not the only
contributing factors to price levels for standard semiconductors: market supply and
demand played also a powerful role in establishing prices. As a result of volatile prices
caused by shifts in supply and demand, distributors often held inventories of
semiconductors that did not accurately reflect current market rates. To protect
distributors from price fluctuations. most semiconductor manufacturers offered to
reimburse distributors for their overvalued inventories. Due to the fact, that
distributors had access to the prices of products from all the semiconductor
manufacturers at any given time, and some any where in the world, pricing decisions were
very critical because making one mistake in pricing could lead to a lost in market share
in a day, that can take them three months to recapture.
Due to the fact, that the distribution network consolidated into a small number of
powerful companies, Texas Instruments had begun to notice that his price negotiations
were increasingly focused not only on beating the competition in North America, but on
beating prices available around the world, including those of TI in other regions. Due to
different distribution channels everywhere in the world, costs and calculation models
differ accordingly. For example, Europeans include freight in their prices, what North
America doesn't. Furthermore, the cost of producing semiconductors varies by country.
Europe tends to be more expensive than North America or Asia, because their
infrastructure is more costly.
Financial
Texas Instrument's sales and net profit have steadily grown over the past period of time
and the Semiconductor Group, a part of the Components Division, had total sales of $2
billion in 1994, the third consecutive year in which Texas Instruments semiconductor
revenues grew faster than the industry. The company's return to financial success in the
early 1990's was based on its strong performance in semiconductor sales and profits, both
which were at record levels in 1994. Management in the company expected semiconductor
sales to continue to grow strongly and was planning heavy capital expenditures on new or
expanded plants in the United States, Malaysia, and Italy to increase the company's
capacity.
Texas Instrument's 1994 sales of $10.3 billion, a 21 % increase from the previous year,
was split among components ($6.8 billion), defense electronics ($1.7 billion), digital
products ($1.66 billion) and metallurgical materials ($177 million). 1994's profits of
over $1 billion came almost entirely from its components business. Components made a
profit of $1.1 billion, while defense electronics made $172 million.
1994's performance was record﷓breaking for Texas Instruments. It marked the first
time the company exceeded sales of $10 billion and over $1 billion in profit, and
followed a history of volatile financial results.
External Environment
Industry
The pervasiveness of semiconductors in electronics resulted in rapidly growing sales and
intense competition in the semiconductor industry. Market share in the industry had been
fiercely contested since the early 1980s, when the once﷓dominant U.S.
semiconductor industry lost its leadership position to Japanese manufacturers. There
followed a series of trade battles in which American manufacturers charged their Japanese
competitors with dumping and accused foreign markets of excessive protectionism. By 1994,
after investing heavily in the semiconductor industry and embarking on programs to
increase manufacturing efficiency and decrease production costs, American companies once
again captured a dominant share of the market.
In 1994, total shipments of semiconductors reached $99.9 billion, with market share
divided among North America (33%), Japan (30?/0), Europe (18%), and Asia/Pacific (18%).
The
industry was expected to reach sales of $130 billion in 1995, and $200 billion by the
year 2000. To capture growing demand in the industry, many semiconductor manufacturers
were investing heavily in increased manufacturing capacity, although most industry
analysts expected expanding capacity to reach rather than surpass demand. Combined with
record low inventories in the industry and reduced cycle times and lead times, a
balancing of supply and demand was causing semiconductor prices to be characteristically
stable.
Distributors
Texas Instruments sold its semiconductors through two channels: directly to original
equipment manufacturers and through a network of electronics distributors. Approximately
70% of the Group's U.S. customers dealt directly with Texas Instruments. The remainder
bought their semiconductors through one or more of the seven major semiconductor
distributors that served the North American market. Whether an original equipment
manufacturer dealt directly with Texas Instruments or bought from a distributor depended
on the manufacturer's size. The largest original equipment manufacturers were able to
negotiate better prices from semiconductor manufacturers than were distributors and
therefore bought directly from the manufacturers. For smaller sized manufacturers, it was
more efficiently to serve them through the distribution channel.
Distributors were considered to be clearinghouses for the semiconductor industry. Each
distributor dealt with products from all the major semiconductor manufacturers. The
distributors specialized in handling logistics, material flows, sales and servicing for
electronics manufacturers who were either too small to negotiate directly with the major
semiconductor manufacturers or lacked sufficient expertise in logistics management.
The electronics distribution network had originally consisted of a large group of'
smaller companies. By 1995, industry consolidation had left almost 40% of the
distribution market in the hands of its two largest competitors, arrow Electronics and
Avnet, with own together a market share of 39.6%.
The seven largest distributors captured 58% of sales in the market. This trend toward
consolidation had had a major impact on the nature of the relationships among
semiconductor manufacturers and the distributors through which they sold their products.
Competition
The competition, Texas Instruments is faced to in the semiconductor industry is very
intensive. Companies in this industry compete mainly on prices and therefore cost
reduction in the manufacturing, but as well increasing efficiency are essential for the
success and to gain competitive advantage.
Market share in the industry had been fiercely contested since the early 1990s, when the
once﷓dominant U.S. semiconductor industry lost its leadership position to Japanese
manufacturers. There followed a series of trade battles in which American manufacturers
charged their Japanese competitors with dumping and accused foreign markets of excessive
protectionism.
Distributors in this industry have access to the prices of products from all the
semiconductor manufacturers at any given time and some anywhere in the world, this
further increases the competition on prices between the manufacturers. As a consequence,
Texas Instruments is doing 10% of their sales through price adjustments. On the other
hand, at the same time, through negotiations with distributors, TI captures masses of
data regarding the pricing levels of their competitors and the market performance of
their different products. This process clarifies, how intense the competition in this
market is and how well informed manufacturers are about competitor's prices.
Beside the increases in sales of Texas Instruments in the past period of time, Texas
Instruments is nowadays a market follower behind companies like Motorola, Toshiba, NEC,
and Intel which is the market leader.
Only in the differentiated semiconductor business, Texas Instruments was the sole
supplier. Because substitutes for these products were not available in the market place,
differentiated products commanded higher margins than their standard counterparts and
were receiving greater strategic emphasis on the part of Group management. But also in
this segment, competitors started to produce differentiated semiconductor products, in
order to reach higher premium prices and therefore competition will increase.
Market Description ( Customers, Size of the market,...)
The semiconductor market can be divided into three tiers. Fifty percent of the sales in
semiconductors go to the top tier of perhaps 100 large electronics manufacturers who deal
directly with Texas Instruments. The next 46% of Texas Instruments' sales comes from
1,400 medium sized companies at the next level, half of whom buy through distributors.
The remaining 4% of sales are to 150,000 smaller companies at the bottom tier in the
market, who deal only through distributors. As a consequence these distributors have a
clearly defined role in servicing mid﷓sized and small buyers. The biggest
customers, and at the same time distributors of Texas Instruments are Avnet and Arrow
Electronics.
They cover about 40 % of the whole distribution market and are therefore essential for
TI's turnover or sales. With sales of almost $4 billion in 1994, Arrow Electronics was
the largest semiconductor distributor in North America, of which TI products accounted
for approximately 14%.
The market demand and buying behaviour are a lot dependent on the current market prices
of semiconductor products and therefore customers are very price sensitive. This was also
due to the fact, that distributors hold large inventories and purchased when the market
price was lower. In fact, it is an endless circle in this market because, price is
strongly related to supply and demand and in contrary demand is very dependent on the
current market prices. Furthermore, due to the fact that the market is very price
intensive, sales are very dependent on negotiating skills, price adjusting policies and
customer relationship. As a consequence, profit margins are very low.
Customers in this market purchase in large quantities, and as a consequence, a mistake in
pricing can have enormous consequences for the market share and overall sales.
* Market description: Please see also Industry
SWOT
Strengths
? Texas Instruments had developed a strong position in the electronics industry and is
known as a technological leader, also due to the fact of foster innovation and embarking
cost﷓cutting in the semiconductor business
? Furthermore, IT was the only American company that continued producing dynamic random
access memory chips and therefore captures also market share of the differentiated
semiconductor market which bring them also higher profit margins
? The company has manufacturing sites spread throughout North America, Asia, and Europe,
and was pursuing its strategy of increasing manufacturing capacity and developing
manufacturing excellence. As a consequence, they are able to serve the world market and
have enough capacity for their production, also in order to reach economies of scale
? Also the brand name, which they reached over the period of time through product
improvements and new technologies which had the consequence of good customer
relationships could be also seen as a strengths.
Weaknesses
Texas Instruments is rather not well known as a skilled marketer of their products, which
is also evidenced by the fact that they lost their market leadership between the 1980's
and today
Manufacturing facilities for their semiconductor products in several western countries
have the consequence of higher production costs and this makes it very often difficult
for the company to compete on price.
Texas Instruments is also very dependent on their large distributors like Avnet and Arrow
electronics which are able to put a lot of pressure on the company concerning the
prices.
Opportunities
Texas Instruments has the opportunity to reorganize themselves, in order to make global
pricing policies possible, and not to loose market share to competitors like Motorola
which already started to follow this strategy
Another possibility is to further build up good customer relationships in order make more
sales with them (fair practices)
Putting more effort towards their differentiated semiconductor business, which guarantees
them higher prices and therefore higher profit margins. In fact, here Texas Instruments
have the best opportunity to reach a strong position in the market and to defend it in
the future
Creating products which are unique in the market would allow them to be ahead oh
customers and the only supplier which offers this technology.
Threats
If the do not implement a global pricing strategy they can be faced to the danger of
loosing their major distributor and one of their biggest customers, which would have the
consequence of loosing market share to competitors and decreases in sales.
Furthermore, I would see Texas Instruments also as a candidate for a taking over of
another company like Intel, which is momentarily the market leader
Another threat could be that due to competitor's pricing policies, prices in the
semiconductor market escalate and TI couldn't adapt to the price adjustments anymore and
therefore wouldn't be competitive anymore.
Also other companies could come up with a new technology, which would replace
semiconductors and therefore a huge part of Texas Instrument's business would disappear
Alternative solutions
? One solution for Texas Instruments would be to follow a pricing strategy as before and
to serve the small and medium sized manufacturers themselves. This would have the
consequence, that they might loose their largest distributor but they would have the
opportunity to catch up sales by serving smaller companies directly
? Another solution would be to reorganize their production facilities in order to stay
price competitive. This means, to produce their semiconductor products only in countries
with lower production costs in order to reach a cohesive pricing strategy. This policy
would also make Texas Instrument's daily business easier, because they would no longer
have to continue their price adjustment negotiations and therefore save a lot of costs
for staffing the negotiations team. On the other hand, the possibility of gathering
information about competitors' prices and product performance would be taken away.
? A further solution would be focus more on the differentiated semiconductor business and
to become a market leader in this segment. First of all, it would allow Texas Instruments
to request premium prices, and secondly to achieve higher profit margins. Therefore, by
developing more successful differentiated semiconductor products, Texas Instruments would
achieve higher returns on development and manufacturing investments.
Recommendation and Implementation
I personally think, that by following or implementing a global pricing strategy, which
Motorola is rumored to be already preparing for, it wouldn't be assured that after the
implementation, Texas Instruments would then be totally price competitive. Furthermore,
the cohesive pricing would have the consequence that Texas Instruments would have totally
to restructure their organization. This is combined with a large investments and
consequently a drastically increase in costs.
Due to the fact, that Texas Instrument's are `only' a market follower in the industry,
and might still have problems after implementing a global pricing strategy to compete,
they should more focus on differentiated products, where they can reach higher returns on
investment of development and manufacturing.
Therefore I would suggest, that Texas Instruments should focus on their differentiated
semiconductor sector by developing new technologies and by creation of new usage.
Furthermore, to implement their own distribution channels to catch up sales which they
might loose when not implementing the global pricing strategy. As a consequence they
would be still price competitive by serving small and medium sized manufacturers
directly, because the margins, Arrow electronics takes for servicing and distribution
wouldn't exist anymore.
Nevertheless, in order to protect themselves against competition in the differentiated
semiconductor market, Texas Instrument should still focus and reorganize their company,
in order to combine technological improvements and their good reputation as the
technological leader, with cost reductions, especially for the production intensive
parts.
Due to improvements of their distribution channels, which would make it more efficiently
to serve also small and medium sized customers directly and due to technological
improvements and further efforts in the differentiated semiconductor segment, higher
returns can be achieved and the company wouldn't be anymore so dependent on prices.