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By Dan Reynolds

Scenario: Typhoon Tsuguko began her brief, violent life as a tropical depression in the northern part of the South China Sea on Aug. 12, 2013. Many of her stronger siblings over the years had been born in the northwestern Pacific to the east, but Tsuguko was born under a different set of stars and destined for much bigger things.

By dawn on Aug. 14, however, residents of the island nation of Taiwan were finding out from news reports that they instead could be her intended victim. Tsuguko wasn't heading straight at China anymore but seemed bent on shooting up the 90-mile-wide Taiwan Strait that separates eastern China and western Taiwan.

The mountainous ridge that runs the length of Taiwan, separating that country's east from its west, would insure, should Tsuguko do what she appeared to be aiming to do, that the torrential rains she would bring would be contained in the west.

By midafternoon , emergency management officials began warning residents to move to higher ground. Much of the western side of Taiwan is threaded with rivers. If a devastating storm were to move up the strait and stick tight to the Taiwan's west coast, flooding could be overwhelming.

Tsuguko was now a Category 4 typhoon, with maximum sustained wind speeds of around 145 mph (233 kph). And as she moved north, she got even stronger. By nightfall , she was a super-storm, a Category 5 beast with maximum sustained wind speeds of more than 155 mph (250 kph)

By the morning of April 15, much of the western flank of the tiny island nation was under water and Tsuguko was whipping the southern coastal cities of Tainan City and Chiayi City without mercy. West coast rivers like the Kaoping, the Tsengwen and the Choshui had overrun their banks. Emergency responders were doing what they could but entire villages in the watershed of the Choshui and the Tsengwen had disappeared.

International news reports featured camera footage of dead livestock floating in Taiwan's rivers and the heartbreaking imagery of soaked, bedraggled children clinging to their mothers in tents in the foothills of Taiwan's Chungyang mountain range. The International Red Cross was putting out urgent pleas for fresh water and medical assistance.

In Tsuguko's aftermath, battling disease from contaminated water supplies and attending to the mounting toll of the dead and injured strained domestic and international aid workers to the limit. But they did their jobs, as they always do. As the flood waters receded, the living got to the task of cleaning up, burying the dead and tending to the needs of the bereaved.

It wasn't until August 20 that Bloomberg, the Wall Street Journal and other business news publications began documenting a different sort of devastation. One-third of the world's semiconductor manufacturing capacity was gone and most of it wasn't ever coming back.

Analysis: Over the last 30 years, the Taiwanese government has supported the development of three science and industry parks in the north, central and southern sections of that country.

The industrial parks helped Taiwan dominate the global chip industry, and according to an analysis by PricewaterhouseCoopers, Taiwanese semiconductor industry revenues in 2010 jumped 37.3 percent to a record $58.9 billion.

"For the time being, Taiwan's domination of the global chip foundry and semiconductor assembly and testing sectors is assured," wrote Damian Gilhawley of PricewaterhousedCoopers in a Sept. 9, 2011 report on the industry.

The report identified Taiwan Semiconductor Manufacturing Co. and United Microelectronics Corp. as accounting for about "two-thirds of the total worldwide pure-play foundry market" and pointed to Advanced Semiconductor Engineering Inc. as the world's largest provider of contract semiconductor assembly and testing services.

Jeff Beauman, a vice president of all-risk underwriting with FM Global, said Taiwan's science and industry parks supply nearly one-third of the world's integrated circuitry components to upstream manufacturers. These components are vital to the automobile, truck, airplane, computer, heating and air conditioning, health care and lab equipment industries.

Should anything happen to Taiwan's science parks, lots of industries would suffer.

"It's a real pinch point in the electronics industry," Beauman said of the volume of contract manufacturing done in the region.

Recent flooding in Thailand and the devastation caused by the earthquake and tsunami in Japan in March of 2011 have given the world a supply chain lesson it won't soon forget. Auto manufacturers and the electronics industry found out the hard way that a lack of transparency into the second and third tiers of supply chains could be very costly.

Because the semiconductor industry in Taiwan is so concentrated, with not just with top-tier chip makers, but second and third-tier suppliers all occupying the same geographic area, a hit to Taiwan could be one of the worst supply chain breakdowns we have seen.

"If I were in the semiconductor industry, I might feel a sense of urgency due to the geographic concentration of suppliers in Taiwan," said Linda Conrad, director of strategic business risk, global corporate division, for Zurich Financial Services.

Many companies are still not doing enough to secure the flexibility and survival of their supply chains, according to recent research.

The Caversham, England-based Business Continuity Institute, for example, found that only 8 percent of companies surveyed ask their suppliers if they have business continuity plans. That same study found that 40 percent of supply chain disruptions are caused by occurrences below the tier-one suppliers.

In 2011, as many as 85 percent of responders said they had experienced some kind of supply chain disruption, the Institute found. In the case of extended disruptions, 40 percent of the businesses affected never recover, Institute researchers also found.

And it's not like a typhoon of the type that could do serious damage to the semiconductor industry is a rarity in Taiwan. "Typhoons in this area of the world are very, very common, even though they are not regularly covered by the Western press," FM Global's Beauman said.

In 2001, Typhoon Nari pounded Taiwan with torrential rains. Typhoon Elsie, in 1966, and typhoon Opal, in 1962, also caused great devastation on the island. Since the middle of the 20th century, Beauman said, there have been 11 years when as many as three typhoons struck the island in the same season, including 1961, when four typhoons came through.

Beauman said it wouldn't take all three of Taiwan's science parks getting hit by a typhoon for there to be substantial disruption in the semiconductor industry. Should even one of the parks suffer a hit, 5 percent to 15 percent of the world's supply of integrated circuits would be interrupted for the time it would take to get the manufacturing facilities running again.

Recent economic factors may be heightening this risk, Conrad said.

"Over the last few years, companies have been taking steps to take costs out of the supply chain," she said. In tight economic times, this has meant going to limited inventory or single source suppliers in cases where suppliers are offering a deal. However, steps taken to drive cost out of the supply chain can often drive risk in.

Procurement officers frequently get compensated on how much money they save, she said, not by how well they manage the risk of a supply chain breakdown. Conrad said risk managers should get the ear of the CFO and push the company to find alternate suppliers, even if that second source is offering a part at a much higher price.

Depending on a single-source supplier on the island of Taiwan in the area of advanced circuitry could be a recipe for a supply chain disaster, she said.

"This isn't something where you are going to find spare inventory the next week and keep going," she said.

DAN REYNOLDS is managing editor of Risk & Insurance®. He can be reached at dreynolds@lrp.com.

April 13, 2012

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