The Power of Pricing Management
Once characterized by strong revenue growth and wide margins, the semiconductor industry is experiencing profound changes. Today, margins are eroding and the number of products and markets that semiconductor companies — particularly integrated device manufacturers (IDMs) — must manage is mushrooming.
Scott Grant, Global Managing Director, Accenture, Phoenix, www.accenture.com -- Semiconductor International, 8/1/2008
Once characterized by strong revenue growth and wide margins, the semiconductor industry is experiencing profound changes. Today, margins are eroding and the number of products and markets that semiconductor companies — particularly integrated device manufacturers (IDMs) — must manage is mushrooming. In domino fashion, each specific change affects the way IDMs manage their pricing. These trends offer opportunities to work toward pricing enhancement within the IDM industry. And these opportunities center on a framework for building a differentiated pricing management capability.
There is no going back to the good old days of wide margins and rapid growth. However, by developing market-leading price management practices, IDM executives can set prices that deliver value to customers while enhancing revenue and profit growth.
Savvy pricing initiatives can drive substantial improvements to operating income for IDMs. For example, a $1B company could experience improvements ranging from an estimated $15M to $30M per year. Foundation activities typically involve:
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Enhancing visibility to drive better pricing decisions
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Avoiding poor discounting practices
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Incorporating accurate costing and cost-to-serve into pricing decisions
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Revisiting operational and organizational aspects of pricing
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Using technology to increase efficiency
Industry maturity has caused the semiconductor industry's new era of slower growth, increased globalization and daunting complexity. In the 1980s and 1990s, high levels of growth were almost a given. Globalization, which involves how customers buy chips and how chipmakers create supply, is another mainstream factor. A third trend is complexity: Core activities, such as distributed manufacturing and assembly, compel pricing management to have a better understanding of individual and total costs. And there is the proliferation of stock keeping units (SKUs) and customers.
The two prevalent business models in the semiconductor industry are IDM and fabless (some IDMs also use third-party foundries for "overflow capacity," but their business model is similar to a traditional IDM).
Because IDMs get significant operating leverage when they can run their manufacturing at close to capacity and produce the right product mix, the pricing management approach for them must consider the impact on fabless use. As a result, accurate price-based forecasting, understanding of true costs in manufacturing, and long-term contract management for large customers are key considerations for IDMs.
Conversely, fabless companies rely more on the flexibility of their business model rather than economies of scale. Because they usually have a good handle on their true costs, fabless companies derive most of their value from "value pricing," making margin management particularly important for the long-term sustainability of the fabless model.
A picture of opportunity
A recent survey of global senior IDM executives paints a picture of opportunity. While few IDMs believe that they are doing particularly well at pricing management, many recognize its importance and the need to improve it. Research also indicates that pricing management can be a source of great value to IDMs. Indeed, those executives who have undertaken pricing improvement initiatives have enjoyed high levels of success.
These levels of success have clearly made pricing management a critical process to the semiconductor industry as a whole. In fact, many companies have formal organizational roles and responsibilities for setting and approving prices, as well as an explicit pricing strategy closely linked to their marketing plans. This importance reflects the unique demands of the semiconductor industry. Most IDMs say that competitive pressures, changing product lifecycles, and the need to meet consumer demands for product value led them to individually approach each deal.
The debate continues over which model — IDM or fabless — enjoys the greatest advantages. However, pricing management is important to the performance aspirations of each business model; both must set profitable and attractive prices in a global market increasingly swamped with SKUs and low-cost competitors.
For IDMs, the goal should be to better integrate pricing systems with customer relations management, supply chain and other systems to adjust production in response to quantifiable demand more effectively. This will, at a minimum, help them avoid fire sales in the process. Fabless companies should take advantage of pricing management systems for better control and consistency of their deal-making processes. This will help them confirm that the sales force is enhancing the value of each chip it sells. In both cases, an effective approach to pricing management can help semiconductor executives avoid leaving money on the table.
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