October 12, 2022
Call it a friendly-fire incident. Joe Biden steps onto the technology battlefield, unleashes a bazooka at China's semiconductor industry and takes out one of his own battalions. A sweeping expansion of US export restrictions further isolates China, denying it even more of the US chips and tools it needs for its own technology sector. But it risks decimating US firms that have owed their fiscal health to surging Chinese demand.
US hawks will insist the immediate collateral damage is worth bearing. For years, China has been accused of ripping off US innovation, plundering intellectual property and even selling it via ZTE, a state-backed maker of telecom networks, to rogue states such as Iran and North Korea. While that was going on, China's access to US technology became a critical leg-up for Huawei as it overtook Western rivals to become a smartphone juggernaut and the world's biggest vendor of network equipment.
Evidence of that is provided by Huawei's subsequent misfortunes after a few rungs in the US technology ladder were removed. Sales dropped about 30% last year as smartphone sales collapsed and one leading analyst has delivered a grim verdict after reading the latest set of rules. "The net result is that Huawei's attempts to circumvent the restrictions and return to being a major manufacturer of smartphones are very unlikely to succeed," said Richard Windsor, an analyst with Radio Free Mobile who formerly worked for Nomura Securities.
He neatly summarizes the new restrictions in a blog on his website. Essentially, they expand the trade embargo to cover everything up to and including 14-nanometer chips (the measurement basically refers to the size of transistors, with the most advanced chips today built on 5-nanometer processes), and not just the cutting-edge designs. Crucially, this will affect US companies that either make semiconductor equipment or design semiconductor software they have previously sold to China.
Sharing this expertise with an increasingly aggressive totalitarian state – one poised to invade Taiwan this decade – is folly in a world hooked on technology, where chips are being used to control and connect the most commonplace devices. That, at least, appears to be the assessment of the Biden administration, which has massively upped the stakes in the game Donald Trump was criticized as a warmonger for starting.
But the raising of those stakes could entail a huge economic cost for the US. In the worst-case scenario, it could be a major setback for America's own semiconductor industry. Since October 6, the day before the US Commerce Department published the latest rules, the combined market value of Applied Materials, Lam Research and KLA Corp – three US makers of semiconductor equipment – has dropped by $25.4 billion. Synopsys and Cadence, US designers of the EDA (electronic design automation) software used in semiconductor production, are worth $9.4 billion less.
An examination of their filings with the US Securities and Exchange Commission shows why investors are in a flap. Combined equipment sales to China rose from less than $4.2 billion in 2017 to nearly $14.5 billion last year. For the quarter ending in May, China was by far the biggest market for Applied Materials, accounting for 36% of total revenues. The same is true of Lam Research and KLA Corp, each of which owed 31% of its revenues to China for its March-ending quarter.
FAB equipment subtotal
(Source: companies, Securities and Exchange Commission)
Sales to China of EDA software developed by Synopsys and Cadence have also been rising sharply, growing from $564 million in 2019 to $941 million last year. Chipmakers will also be hurt by the latest restrictions. Nvidia and AMD have been told they will no longer be allowed to sell their advanced artificial intelligence chips to China, notes Windsor. Since October 6, Nvidia's market capitalization has dropped by $38.4 billion, to about $288.5 billion, while AMD's is down by $16.5 billion, to $93 billion. Last year, their combined sales to China soared 80%, to $11.2 billion, accounting for more than a quarter of the total.
The impact of losing a huge chunk of Chinese business would be felt in job cuts throughout the US semiconductor industry as firms retrench. Those concerned about US competitiveness will be even more worried about the long-term effect on research and development, where investment activity has been fueled by Chinese demand. One concern is that China finds non-US alternatives elsewhere, thwarting US efforts to cripple its technology sector even as US sanctions weaken American firms.
Today, that seems unlikely. Many of the top US companies in the semiconductor industry have no international equals, much as Huawei for a long time seemed to be unsurpassed on the quality of some network products. But it would be arrogant to think a superpower of 1.4 billion people can never catch up or seed activity in countries friendly to it, even if doing so takes ten or 15 years. Is America simply holding out hope that China will undergo positive regime change and give up its Taiwan claims over this period?
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The timing of Biden's move is not auspicious, either. When the first wave of sanctions previously tore into revenues at NeoPhotonics, which counted Huawei as its biggest customer, the small maker of optical components was able to make up the business elsewhere. Huawei's contribution fell from 52% in the July-ending quarter of 2020 to just 5% two years later, and yet revenues dropped only 8% over this period.
Economic circumstances are now totally different. Inflation is spiraling, recession looms and a glut of semiconductors is forecast. For companies suddenly cut off from their biggest market, the future looks like a worrying place.
— Iain Morris, International Editor, Light Reading
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