BRAZILIAN SEMICONDUCTOR INDUSTRY: TECHNOLOGICAL CHANGE AND COMPETITIVENESS

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1 BRAZILIAN SEMICONDUCTOR INDUSTRY: TECHNOLOGICAL CHANGE AND COMPETITIVENESS João Amato Neto Author 1, Cristiano B.V. Fontes Author 2 Escola Politécnica/ University of São Paulo/Brazil; Address: Av. Prof. Almeida Prado, 128 trav Cidade Universitária- São Paulo-SP Brazil Abstract: This paper intends to investigate how process and product technological changes are sought and conducted by Brazilian semiconductor companies. The semiconductor sector (strongly represented by chips) deserves special attention in the set of links composing the various supply chains of the electronic industrial complex, since it is highly strategic in this context. A survey with all semiconductor manufacturers and other players from the sector was conducted, and results were compiled in order to qualify technological efforts and changes in these companies. A literature review was thoroughly conducted, and an analysis of the semiconductor industry and trends was also detailed. Results showed the strong dependency of technological efforts and showed some leads for a further investigation on the means to overcome the obstacles this industry currently faces. Keywords: semiconductors; electronic complex; technological change; technological effort; innovation 1 INTRODUCTION The possibilities for the insertion of the Brazilian industry in the more modern and dynamic supply chains of the new digital economy are an issue of great relevance. The semiconductor sector (strongly represented by chips) deserves special attention in the set of links composing the various supply chains of this industrial complex, since it is highly strategic in this context. The Brazilian semiconductor industry has regained strength since it was chosen as one of the four industrial policies primary sectors. Throughout history, the industry had a boom in the beginning of the 70 s, reaching its height in 1980, when 23 enterprises were manufacturing microelectronics components in the country. With the Computer Science Law of 1991, the industry was greatly affected, since it benefited the assembly of products instead of the manufacturing of its components. This scenario contrasted with countries such as Taiwan, South Korea and Malaysia, which rapidly built a very expressive electronic industry. In 2001, the New Computer Science Law sought to renew the benefits of the previous law, but it demanded that companies invested a parcel of its income in R&D. Unfortunately for the components industry, it once again privileged the assembly and not the manufacturing of components. Nowadays the Brazilian participation in this industry is almost zero. There is no relevant semiconductor production in the Brazilian economy, which has caused increased deficits in the trade balance of the sector. Currently, only four companies produce semiconductor components in Brazil, and all of them are national companies. The deficit in the Brazilian balance of trades due to electronic components imports reached US$ 5 billion and the national production reached only US$ 50 million (only 5% of the total market, compared to 40% in 1989). The semiconductor components alone answered for US$ 1.3 billion and it could reach US$ 4 billion in The discussion on the possibilities of rebuilding the semiconductor industry restarted mainly because of the definition of the Digital Television standard. After its definition, it will be deeply affected, since it would be much better for the country to have the capability and knowledge to produce its components internally. Therefore, knowing whether the Brazilian semiconductor industry is capable of supplying this new demand, or even if it is keeping up with the state-of-the-art technologies, would be most useful. 2 THE THEORETICAL APPROACH: INNOVATION AND TECHNOLOGICAL PARADIGMS Accompanying the evolution of the scientific paradigms, the technology and the productive organization also underwent several radical transformations, as illustrated by Schumpeter (1984) so well, analyzing the fundamental role of the innovative force inside the creative destruction process. More recently, other authors also offered new interpretations concerning the technological paradigm. Nelson and Winter (1982) used the concept of technological regime to define borders of the technical progress, as well as to indicate guidelines to reach such borders. On the other hand, Dosi (1984) states that, after the establishment of a certain paradigm, a normal development process would follow along a technological trajectory, defined by the own paradigm. 2.1 The microelectronic paradigm Constituting a revolutionary innovation, this new technical base creates new perspectives for the modern society and especially for the new digital economy. Freeman (1987) emphasizes this revolutionary aspect of microelectronics due to the fact that this technology empowers the introduction of new products and services, besides the fact that there is an enormous possibility of pervasiveness of this new technology in several economic sections, implying in significant changes in the cost structures of the input, changing the production and distribution conditions of goods and services. The development and diffusion of microelectronics technology and computer science, specially through the computer and other intelligent components, constituted the vital elements of the integration of the project area with

2 several functions of the production system. Besides, the microelectronics paradigm makes possible the largest productive integration inter-units of a same company and among companies (customers and vendors), by computer nets operating online. In this context, the change of technological paradigm propitiated by the development of microelectronics enabled a new manufacturing strategy through the substitution of conventional, specialized and dedicated machines for programmable multi-functional machines. Under this new paradigm, the production system of goods and services developed a new standard: instead of the traditional production, with great volumes and limited variety of standardized products, a new reality can now be found, with the production of a wide variety of small lots of differentiated products. 2.2 Technological Strategy and Change and Competitiveness According to Porter (1992), technological strategy is the method of the enterprise to develop and use technology. Although it comprises the most obvious role of R&D departments, it is much more comprehensive, due to its penetrating impact over the value chain. The technological strategy should be reinforced by functions and activities constantly. Porter (1992) states that since technological change has the power to influence industrial structure and competitive advantages, it should be one of the main components in an enterprise s global strategy. The decision to adopt the concept of technological change derives from the frequent difficulty found in technology studies or papers, that usually do not discern between innovation through adoption (duplicative imitation and, sometimes, creative imitation), and innovation through efforts (creative imitation and original innovation). Sometimes, both enterprises that contributed with a creative element to the change, and those who simply introduced a change that was developed by another enterprise, were considered innovative ones. Strategically, any technological change can be conducted to achieve specific objectives, with the ultimate goal to raise the competitive positioning of the enterprise. Also, the directions of the technological strategy and technological changes are much guided by the stage of the product s life cycle, by the conception of the dominant project, and by the technological trajectory of the enterprise, considering its restrictions (Utterback, 1994). 2.3 Analysis of the World Semiconductor Industry The analysis of the international scenario of the semiconductor industry indicates some main trends. In the last 20 years, the electronic industry as a whole has shown a widely superior growth to the average verified in the transformation industry. In the 1993/98 period, while sales of electronic products and systems grew 8.6% per year, the global industry production grew only 3.2% per year. It is possible to perceive through this data that the products of the electronic complex have presented high elasticity-income since, in spite of the strong oscillations, the observed growth rates surpassed the expansion of the industrial product. This is justified by the ample diffusion of devices and electronic equipment in the consumption of families and in the diverse sectors of the industrial and service activities. There are clear indications that this rising trend in the demand for semiconductors will continue in the next decades, even if in smaller rates. This will be verified because of the increase in the use of these components in the sectors of computer science, telecommunications, automobiles (embarked electronic, mainly) and consumer electronics. These oscillations can be caused basically by two nonexculpatory main elements. Firstly, they can derive from equally sudden oscillations in the demand for semiconductors, where the user companies (basically of the computer science, telecommunications equipment, consumer electronics and automobiles sectors) adjust their input purchases in accordance with the demand for their products. The second element that can justify the oscillations of the semiconductor prices is the supply structure. As it is a sector in which the productive processes take place in large-scale plants, companies investments in the sector occur similarly in high sums. This makes the supply of semiconductors grow by leaps and bounds, which determines the unsteadiness in the demand growth and, therefore, price oscillations. It is interesting to notice that the data above reveal that the semiconductor consumption in industrial control and automation equipment has presented a fall in its relative participation. This means that the embarked electronics in automation equipment has, at best, grown less than proportionally to the expansion of the other uses of these components. This segment represents a relevant 6% of the semiconductor demand. The main demanding sectors are computer science, with immense prominence for the production of personal computers (PCs), and telecommunications, including both fixed and mobile telephony. Referring to the regional distribution of production, the displacement of the semiconductors production to the Pacific region in Asia can be clearly perceived, in detriment of traditional producers such as the United States, Europe and Japan. Data presented by Leachman and Leachman (2002) show that the participation of this region went up from 4% in 1980 to 12% in 1990 and 38% in It is also interesting to notice that this capacity has increased due to the participation of local companies, even though sometimes in joint-ventures with great international companies. Furthermore, according to Leachman and Leachman (2002), 39% of the worldwide capacity installed for the production of semiconductors in 2001 was property of companies of countries in the Asian Pacific. This is basically due to the deverticalization strategies of the production of semiconductors by the great world companies, which outsourced part of the manufacturing processes of these products. Following this nomenclature, we will identify that the crucial activity of this industry is situated in the development and production of this more complex type of component, the Integrated Circuits. It is in this activity that it is possible to find the highest technological dynamism, with the most significant advances in miniaturization and aggregation of more complex functions. Figure 1 below presents the relative importance of the ICs among other semiconductor types.

3 Figure 1: Semiconductors: Component share Discrete x lcs 1995/2000 in US$ billions Source: MELO; RIOS; GUTIERREZ, 2001 Semiconductors Discrete Integrated Circuits , Total RESEARCH METHODOLOGY The methodological framework is based on a survey involving eight players of the electronic complex in Brazil. Among the eight players, the four semiconductor manufacturers are included, but other companies that also have some relationship with the semiconductor industry were included as well. A detailed questionnaire was created and applied. It included topics related to the enterprises current situation, technological capability and research and development efforts (investments in R&D). The main objective of the field survey was to competitively position all players in the semiconductor industry in Brazil. Thus, the first part of the research consisted of identifying the players in each nod of the semiconductor productive chain. The sample totalled eight different companies, being two players with activities in the entire productive chain, one specifically in the design phase, one in the back-end stage, three being large players in the commercialization of semiconductors, and one manufacturing not exactly semiconductors, but the silicate wafers, and using them in the manufacturing of solar panels. This sample was very comprehensive, since it included not only all national semiconductors manufacturers, but also large semiconductors consumers and lastly worldwide semiconductors manufacturers that do not have foundries in Brazil, and therefore must import all of their semiconductors. It is important to emphasize that these eight companies basically consists the entire existing universe of the semiconductor market players in Brazil. The comprehensiveness of the sample allowed the analysis of both national and international trends. Also, the field investigation is of highest importance in order to verify the real causes of the trade balance deficit in the electronics sector. 4 THE RESEARCH AND SAMPLE CHARACTERIZATION In this section, the main characteristics of the eight semiconductor players are presented: Manufacturer 1 first began its activities in 1984, but two years of preparation were required. Nowadays, the company has over 60 full-time employees in one plant, located in the metropolitan area of Sao Paulo. Its production is basically dedicated and make to order, and its product line is basically composed by diodes, thyristors, and dynamic memories. The sales strategy is focused in supplying market niches that are not addressed by large manufacturers. Manufacturer 2 is a worldwide manufacturer, although it functions as an independent company in Brazil. Its plant located in Sao Paulo has 430 employees, though not all of its employees are assigned to semiconductor production lines, which include diodes and thyristors. Manufacturer 3 is mainly a solar panel manufacturer, located in the metropolitan area of Sao Paulo. Manufacturer 3 has been going through financial difficulties, using as little as 5% of its existing productive capacity. It has only 4 full time employees and 16 other parttime employees. Back-end 1 is the largest printed circuit boards and memory modules manufacturer in Brazil, being only responsible for the latter part of the productive chain. Printed circuit boards are mainly exported to Europe and the Unites States and memory modules are entirely sold in the internal market. Back-end 1,located in an industrial district close to Sao Paulo, is part of a large conglomerate and one of its main clients is another company of this conglomerate. Design 1 is one of the world-wide leaders in the mobile phones market. The Brazilian productive plant is the only non-dedicated plant of the company, with as much as full-time employees. It is important to notice that Design 1 does not possess the entire semiconductor manufacturing process, basically assembling imported parts to its products. Commercial 1 was firstly devised to be an opto-electronics manufacturer and a main player in the fiber optics market. The opening of the Brazilian market in the early 90 s, though, made it diversify its portfolio, and today it is basically a telecommunications equipment manufacturer. Commercial 2 is one of the world leaders in semiconductor production, it employs over 80,000 people in 45 offices / plants located in all regions of the world, and is also one of the leaders in technological development in the semiconductor sector. Commercial 3 is one of the largest telecommunications equipment manufacturer in Brazil. It has also played an important role in the early development of telecommunications in Brazil, being an active investor in telecommunications infrastructure. 4.1 Research and Development Efforts In the Brazilian semiconductors sector, it is possible to find companies with massive investments in R&D, and others that simply adapt new technologies to its own needs, not having any formal or structured department inside the company. Firstly, it is important to group companies depending on its total sales, i.e., size (small, medium, large). Figure 4 groups the companies investigated accordingly. Figure 2: Sample companies grouped by total sales Source: The authors, based on field research Size Total Sales (2002) Companies Small Medium Large Up to US$ 1 million From US$ 1 to US$ 50 million From US$ 50 million to US$ 8 billion Manufacturer 1 Manufacturer 2 Manufacturer 3 Commercial 1 Back-end 1 Design 1 Commercial 2 Commercial 3 Basically, small semiconductor companies (all Brazilian manufacturers) tend to put little effort in product R&D, simply following market trends, unable to keep up with the state-ofthe-art product technologies and never generating any type of innovation. Thus, these companies only undergo

4 duplicative changes, i.e., changes that require little effort or investment and only adapt to the company s own reality. Furthermore, these changes must be fully mature in order to be accepted. Therefore, product R&D efforts are minimal, being also informal and occasional. On the other hand, process R&D is given much more attention by small companies for two main reasons: (1) cost reduction and (2) minimal technological update, i.e., process efforts are conducted basically to make their survival in the ever-changing semiconductor market possible. Therefore, these efforts could actually be classified as continuous, although in most cases they are still conducted in an informal manner within the company, with no clear processes or department established. Medium-sized companies behave similarly to small companies in one point: process R&D is still much more relevant and recurrent than product R&D. In terms of product R&D, these tend to be adaptation efforts, with these companies trying to keep up with the state-of-the-art, one step back from it, i.e., following the technological evolution, but never generating new ones. In terms of process R&D, medium-sized companies already have more asset availability to perform investments and keep up with the state-of-the-art technologies. Also, they possess clearly established R&D departments, with budgets defined for every fiscal year, full-time employees specifically allocated to functions within them, thus characterizing formal and continuous efforts. In the third group, large companies, it is required to make some considerations prior to the analysis itself. Firstly, neither company owns a semiconductor foundry. Secondly, one of them only commercializes imported products. And thirdly, the other two companies do not possess their core business in the semiconductor market, both being much more active in the telecommunications equipment and mobile phones markets. Therefore, only the latter two companies possess R&D departments in Brazil, both being large and including more than 100 technicians, who focus their efforts in product development, since they possess offensive technological strategy (i.e., defining the state-ofthe-art), developing original innovations, but mainly for their core business markets, and with the semiconductor market having less importance. The first one (Commercial 2) does possess R&D departments outside Brazil, and also dictates the state-of-the-art in terms of product innovations. 5 RESEARCH ANALYSIS One of the most important characteristics of the recent development of the worldwide economies was the increased growth in the electronic complex sectors. The rising demand for equipment used in products that incorporate electronic components is an indicator of the dynamism of this industry. The production of electronic components, especially semiconductors, has presented similar growth, basically because of the high electronic equipment diffusion, such as computer science, telecommunications and, in a smaller degree, consumer electronics, automobiles and automation. This growth happened in spite of big oscillations deriving from the high growth in supply and the deceleration of the demand growth. The Brazilian participation in this industry is almost zero. There is no relevant semiconductor production in the Brazilian economy, which has caused increased deficits in the trade balance of the sector. The trade balance deficit of the electronic complex reached US$ 6.4 billion in 2000, being the rubric main components, responsible for about US$ 3 billion of this total. This high negative balance is an indicator of the need of internalization of these activities in Brazil1. The reduced activities of semiconductor production in Brazil are restricted to the earlier and latter links of the semiconductor chain, which are basically design houses and tests. No matter how much people admit that the reversion of the high trade balance deficit is a long-term intention, it is necessary to intensify the internalization efforts in semiconductor production activities. Among the tasks that compose the production value chain, the ones that present greater chance are back-end and design houses, because of three basic reasons: - There already exist small domestic installed competencies. - The required investments and production scales are smaller, in comparison to a foundry, which works in worldwide scale. - There are concrete possibilities of insertion in the already existing chains in Brazil, which could stimulate user relations and foment an internal learning process. In this context, it is possible to outline some important segments that may represent business-oriented chances of establishment, such as backend for PCs (SDRAM, SRAM, Flash), backend for telecommunications (CI plates and Flash memory), dedicated industrial automation chips and dedicated chips for specific users such as the automotive industry, industrial automation and consumer electronics. These segments seem very interesting because, due to their small production scale, there are no large companies within them. Moreover, there are clear chances of businessoriented development in emergent areas such as consumer electronics, stimulated by the definition of the Digital TV standard and the diffusion of smartcards. However, in order to do so, some incentives will have to be created for implementing these enterprises in Brazil, commanded either by emerging Brazilian companies or by direct external investments of multinational companies. Also, the harmful effect of the horizontal factors must be observed, such as the high cost of capital in Brazil, the tax structure, which is deleterious to production and the deficiencies of the Brazilian infrastructure. Generally, it is possible to conclude that the technological efforts conducted by the group of companies included in the survey, which is basically the main players of the sector in Brazil, are still very subtle, in comparison to its counterparts in other countries, such as United States and European and Asian countries. This is partially explained by the end of the

5 market protection period in the computer industry (late 80 s) and the opening of the Brazilian economy in the early 90 s, which ruined the entire electronic components industry, and semiconductors in particular, in Brazil. The few national companies that survived this period have focused their strategies in specific market niches that do not possess credible threats or benefits to large manufacturers, since they are used in very specific applications, such as those used in industrial processes automation or in some that do not even make for a considerable segment. The only exception is Back-end 1, who owns a productive plant devised to supply the computer market (dynamic memory modules), but only conducts back-end activities (packaging and testing). The manufacturing activity, which consists of the core of the semiconductor productive process, is still far beyond the company s perspective, since it requires huge investments in fixed assets (the foundry itself, with all of its equipments) and also in R&D activities. Actually, process technologies in the semiconductor market become obsolete every three years, which gives this segment a whole differentiated dynamism in the electronic sector. On the other hand, of the three international companies with activities in Brazil, only Design 1 and Commercial 3 systematically invest in R&D activities, although, similarly to Back-end 1, do not possess any perspective of investing in a semiconductor foundry in the short or medium-term. 6 CONCLUSIONS AND FURTHER WORK deleterious to production, mainly because of the existence of cascade taxes, and the deficiencies of the Brazilian infrastructure, mainly transports and energy sectors. 7 REFRERENCES [1] Schumpeter, J.A. (1984) Capitalismo, socialismo e democracia, Rio de Janeiro, Ed. Zahar. [2] Nelson, R.; Winter, S. (1982) An evolutionary theory of economic change. Cambridge, Mass., Harvard U. P. [3] Dosi, G. (1984) Technical change and industrial transformation the theory and an application to the semiconductor industry. Londres. Macmillan. [4] Freeman, C. (1987) Technological Policy and Economic Performance-Lessons from Japan, Pinter Publishers, London, UK. [5] Porter, M. (1992) Vantagem competitiva: criando e sustentando um desempenho superior. Campus. Rio de Janeiro. [6] Utterback, J.M. (1994) Mastering the Dynamics of Innovation. Harvard Business School Press, Boston, MA. [7] Leachman, R.; Leachman, C. (2002) Globalization and semiconductors: do real men have fabs, or virtual fabs?. Univ. of California, Berkeley, mimeo. [8] Melo, P. R.; Rios, E.C.D.; Gutierrez, R.M.V. (2001) Setorial Complexo Eletrônico Componentes Eletrônicos: Perspectivas para o Brasil. BNDES The results mainly led to the conclusion that in comparison to other countries, technological efforts are very timid. Two enterprises were exceptions, one multinational and one national, that sought to create some state-of-the-art technology, one in the project of semiconductors and the other in the latter part of the production chain, packaging and testing. The first one used public investments alongside its own investments to build a semiconductor project research center, in order to create human resources capability in semiconductor project. The second keeps up with the latest technologies and maintains its position in the national market as the leader in dynamic memories sales, although the national gray-market in dynamic memories is very large, nearly 70% of the total consumption. The smaller companies basically used nearly-obsolete technologies and supplied specific market niches, in order to survive. In general, it is possible to say that there are clear chances of business-oriented development in emergent areas of the semiconductor industry, such as consumer electronics, stimulated by the definition of the Digital TV standard and the diffusion of smartcards. However, in order to do so, some incentives will have to be created for implementing these enterprises in Brazil, commanded either by emergent Brazilian companies or by direct external investment of multinational companies. A major issue is the harmful effect of the horizontal factors that must be observed, such as the high cost of capital in Brazil, the tax structure, which is