Cheap loans underpin China’s semiconductor sector: OECD

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Tsinghua Unigroup and SMIC topped the OECD’s list of top recipients of government support in the global integrated circuit industry. (Image credit: TechNode/Eliza Gkritsi)

Chinese semiconductor companies receive the most government support of any of their global peers proportionately to their revenue, states a report from the Organization for Economic Construction and Development (OECD). The report describes not only the enormous size of the Chinese apparatus supporting the local integrated circuit (IC) industry, but the unique role of government equity and cheap loans in the Chinese IC ecosystem.

Some non-Chinese companies like Samsung and Intel receive similar amounts of state funding, but because of higher revenues, the government funds support a significantly smaller proportion of their operations.

The OECD, an intergovernmental economic organization, looked into public financial records of 21 international chipmakers which represent two-thirds of the global market. They found that Chinese companies receive higher government support relative to their revenues on average than their global peers. This support comes by way of cheap loans, investments at below market price, and direct budgetary support.

Tsinghua Unigroup, a semiconductor developer 51% owned by a leading state university in Beijing, is the largest recipient of government support in the sample. The Semiconductor Manufacturing International Corporation (SMIC), China’s largest chip manufacturer, is the largest recipient of funding as a proportion of revenue, getting government help equal to over 40% of its revenue.

In terms of Chinese semiconductor companies, only privately-held HiSilicon, owned by Huawei, made it into the global top 20 by revenue in 2018, in sixteenth place.

Disproportionate government ownership

Chinese firms received 86% of all below-market-equity investments among the firms surveyed. These take place via the Integrated Circuit Fund, a government company set up in 2014 to invest $23 billion in the industry, as well as through state-owned enterprises and local governments that acquiring stakes in chipmakers.

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Semiconductor plants, known as fabs, are subject to a complex ownership structure in China, involving different levels of government in different parts of the company structure. One of these facilities costs around $20 billion to construct, the OECD said.

The government owns 95% of equity in fab Shanghai Huali, the OECD said. It is supported by a $1.8 billion injection from the national IC fund and $316 million from the Shanghai government. In addition, it is owned by the SASAC and Hua Hong Group, a state-owned semiconductor agency. Other examples in the report include 75% government equity in a fab in Wuhan, the provincial capital of central Hubei, and 57% in a Beijing fab.

But these investments have yet to produce significant returns, as profits remain low. Chinese firms’ assets doubled in the period 2014 to 2018, after the national IC fund was set up, but average profit margins were one-fifth of their global peers as of 2018.

Chinese IC firms lack their own chip designs, and usually act as manufacturers for overseas companies, which keeps profit margins low. In September, two Chinese companies announced plans to start making homegrown memory chips, but experts remain skeptical on if they can compete with incumbents.

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“New NAND flash and DRAM players like Changxin Memory and Yangtze Memory are entering markets full of incumbents,” Stewart Randall, head of electronics and embedded software at Intralink, a consultancy that provides market entry services to China, told TechNode. “It will be extremely hard to gain market share. selling at a loss to gain market share may be necessary, but government funding can keep them going,” he added.

Better loans, budgetary help

The three largest recipients of below-market loans between 2014 and 2018 were Chinese; Tsinghua Unigroup at $3.14 billion, SMIC at $695 million and JCET at $688 million, the OECD said. State-owned Hua Hong Group also received a $71 million loan in that period, the report states.

These loans typically include better terms than those from commercial lenders, with lower interest rates and longer repayment periods. The loans came from state-owned banks, namely the Bank of China, China Development Bank, and China Construction Bank.

All other firms in the sample received little or no funding. The next largest non-Chinese recipient on the list was Korea’s SK Hynix, which borrowed $34 million from various lenders, including the Korean Development Bank.

Beijing is also helping China’s chip industry through direct cash injections, subsidized inputs and tax deductions. SMIC and Hua Hong were the greatest beneficiaries of such budgetary support, proportionately to their revenue, according to the report. SMIC receives fiscal help from the government equivalent to almost 7% of revenue and Hua Hong’s budget receives assistance equivalent to 5% of revenue.

The US-dominated semiconductor firm acquisitions from 1998 to 2018. But with the creation of the national IC fund, international buyouts from Chinese players boomed. Nearly three-quarters of all IC firm buyers were Chinese in 2016. Activity has since slowed as restrictions on capital outflows intensified.