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The Rise of Counterfeiting

Mon, 11/23/2009 - 6:05am

John P. Brown vericalBy John P. Brown, Verical verical logo

The rise of counterfeiting in recent years has been astounding. The U.S. economy loses some $250 billion annually with some three-quarters of a million jobs lost every year to what the Wall Street Journal has labeled as “nothing short of an economic crisis.” The pain reaches in to all corners of the economy, and high technology manufacturing is no exception. Counterfeit electronic components can be found in all corners of the high tech chain, from basic light switches and games to advanced medical scanners and telecommunications infrastructure. As electronic components find their way into more and more parts of modern life, the risk of counterfeits will threaten economic growth and consumer safety the world over. For the industry to successfully protect against this risk, we must understand its causes and how these components find their way into the legitimate supply chain.

Size and Scope of the Problem

As with any illicit activity, it is notoriously difficult to get firm numbers on just how large the impact of counterfeit electronic components has been. Preliminary results from the U.S. Department of Commerce’s study on the topic put the figure at $10 billion in 2008 for the U.S., just for fake semiconductors alone. A 2008 UK report calculated that the British economy suffers losses of some $2 billion annually. The pain is not just financial — intellectual property, jobs, manufacturing rework costs, warranties and returns, national security, and the end users’ health and safety are all at risk when counterfeit components infect the supply chain.

The UK’s Association of Franchised Distributors of Electronic Components published some startling figures of the cost of letting counterfeits penetrate the manufacturing process. The AFDEC figures put the cost of discovering and replacing a single component in the receiving process near US$0.40 at the time of the study in 2007. The cost spiked to nearly $40 when the fraud was not discovered until the component was on a warehouse shelf. Factoring in rework and replacement, the study placed the cost of replacing a counterfeit component once it had been mounted on a circuit board at over $400. Once the infected product shipped, with both warranty and recall costs incurred, the cost of replacing a single counterfeit electronic component ran to nearly $2500.

Counterfeiters have become very sophisticated in recent years, and their products penetrate the supply chain more deeply. Less frequently do inspections intercept fakes at the receiving dock. More and more, counterfeit parts pass initial testing and make it into the end product. Manufactured without quality in mind, these illicit parts lack the durability of their authentic counterparts and will eventually fail in the field, at much greater cost to the manufacturer than if they had been detected at receiving.

These costs would be merely annoying if the incidence of counterfeit components had remained at historical levels. Since 2001, however, the frequency with which counterfeit parts have been found has increased many times over. Whereas fake components might once have represented a mere percentage point or two of all components sold in the secondary market, they now represent a much more significant fraction of that large market. IPC, the Association Connecting Electronics Industries, released the findings of a study in 2008 which estimated that a stunning 13 percent of components sold in the secondary market were counterfeit. An October, 2008 article in BusinessWeek cited a U.S. Defense Department estimate that counterfeit parts represented over 15 percent of components DOD contractors purchased from the secondary market.

It has been said that the only certain things in life are death, taxes and inaccurate forecasts. Every firm, no matter how large or lean, will face regular shortages as part of their normal operations. As electronics become central to products across industries, more and more sectors of the economy will face the very real risk of counterfeit components. Counterfeit parts enter the supply chain via the secondary market, and since there is no plausible way to avoid shortages, executives across all sectors of industry must tackle this grave and growing problem head on.

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John P. Brown is co-founder and VP of Marketing and Strategy at Verical, an emerging online electronic component marketplace. Learn more about Verical at http://www.verical.com/, blog: http://blog.verical.com, Twitter: @Verical, and email John at jbrown@verical.com.

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