Kevin Meehan: China's Role in the Global Semiconductor Industry

KEVIN MEEHAN: China's long played a key role in the electronics manufacturing industry, and as you might expect with a maturing economy, they're now trying to figure out a way to move up the value chain to higher value-add activities within that space. Specifically, if we double-click on the electronics industry and focus a bit down onto semiconductors, we've seen a lot of increased activity across the value chain today within China.

Specifically, they've made investments not just in the front end, but also in the back end. So they've looked at NXP's RF business that was spun out as a result of the Freescale-NXP merger. They've also made investments in ChipMOS, Powertech, STATS ChipPAC and others in the back end. One key trend underlying this move within China is a growing gap between the domestic supply and expected domestic demand going forward.

Right now, China supplies about 15% of the demand. We expect consumption within China to be at more than three times that by 2020, where they'll be consuming over 50% of the worldwide demand for semiconductor chips. And that creates a massive economic opportunity for China, if they can figure out how to close that gap and supply more of that with domestic suppliers.

Beyond the supply gap and the obvious economic benefits of closing that gap, there's also real concerns around IP, and around security and the security of technology in general. This was exacerbated by the Snowden incident in the last several years, and some geopolitical concerns then around both the West, and for China, sharing technology, sharing IP, and how do they make sure that their infrastructure is secure?

As a result, as part of China's 13th Five-Year Plan, there are specific calls for continued investment across the semiconductor value chain, both at the national level, as well as at the provincial level. And in fact, beyond some of the deals that I talked about earlier, there's been several attempts by companies in China to make investments in foreign firms, both in the US and in Taiwan.

And frequently those end up not going through, either because of a perceived concern that they'll be blocked by the government, or a real concern that they'll be blocked by those governments. The outcome here is hard to predict, of course, but we do know a couple of things. We know that China's had mixed success in the past.

For instance, with high speed rail they did a great job of gaining IP, and supplying not just their domestic needs, but also needs throughout the worldwide economy. They've had less luck with aircraft and automotive, where they've been manufacturing within China for years, but have never really been able to break onto the world stage. We also know that barriers to entry in the semiconductor industry are particularly high.

This is not just about money. There are many other firms and countries that have thrown a lot of money into the semiconductor industry, and failed to really reach the success levels that they hoped for. But it's really about IP, it's about technology, it's about engineering talent. And those are things that generally can't be fixed overnight.

So if we flip the lens for a minute and think about this not from the perspective of China and the Chinese companies, but of the IDMs and the multinational competitors in the space—whether they be in the US, Western Europe, Japan, Korea, Taiwan—we would recommend that they be proactive in how they think about the opportunities ahead of them, and the challenges they may face as China enters more strongly into this market.

For many, this is a classic prisoner's dilemma, so taking the time to really do some game-boarding and understand what are the moves China might make, what are the moves your competitors might make, and therefore what are your options, can help to inform whether, when, where and how to invest or partner with China.