With No Chips To Play Against U.S. Sanctions, SMIC's Margins Tumble

Ismed Syahrul

China’s starring semiconductor patient reported disappointing 4th fourth results and warned its gross will autumn this twelvemonth arsenic it suffers nether nan weight of U.S. sanctions.

U.S. sanctions proceed to wound Chinese chipmakers, which was heavy etched successful nan latest quarterly results from Semiconductor Manufacturing International Corp. (OTCQX:SIUIF, SMIC, 0981.HK; 688981.SH), China’s largest statement chipmaker. The institution reported its gross fell by 15% sequentially to $1.62 cardinal during past year’s 4th quarter, marking its first quarter-on-quarter diminution successful 2 years. Its nett profit besides fell 18.1% connected nan aforesaid ground to $386 million.

In summation to emotion nan weight of U.S. sanctions, SMIC and its peers are besides starting to consciousness nan effects of a looming downturn for nan world spot sector, pursuing a roar complete nan past 2 years arsenic nan world suffered from spot shortages during nan pandemic.

SMIC’s yearly gross past twelvemonth looked acold healthier than nan latest quarter, rising 33.6% to $7.27 billion, arsenic its nett profit besides roseate by a smaller 6.8% to $1.82 billion. That reflected amended times erstwhile nan world assemblage was still booming, and effects had yet to beryllium felt from nan U.S. “Chips and Science Act,” which was signed into rule successful August, aimed astatine boosting nan U.S. spot assemblage astatine China’s expense.

But SMIC’s latest quarterly communicative is acold much downbeat. Its gross separator fell steadily past year, dropping from 40.7% successful nan first 4th to 32% by nan fourth. Even much concerning, nan institution said nan fig would sag to betwixt 19% and 21% successful nan existent quarter, pinch nan fig settling astir 20% for nan year, overmuch little than nan 38% for 2022. It added it expects its gross this 4th to support falling by betwixt 10% and 12% from nan erstwhile quarter.

The institution acknowledged being respective generations down its competitors successful cutting-edge technologies, and said its description plans person faced headwinds from increasing U.S. bans connected nan waste of chipmaking instrumentality to China. The company’s banal fell by a cumulative 5.3% successful nan 2 days aft nan announcement, reflecting marketplace concerns astir its prospects.

Pessimistic outlook

Demand for user electronics is waning arsenic economical uncertainties equine worldwide, meaning SMIC’s latest highest whitethorn person passed already. CEO Zhao Haijun said connected nan company’s net telephone that request for smartphones, computers and family appliances weakened past year. He added SMIC’s clients had stockpiled 9 months’ worthy of show driver chips, which are utilized successful smartphones and different user goods, meaning their appetite for much specified chips would beryllium very limited.

Even earlier nan U.S., Japan and Netherlands recently agreed to ban nan export of heavy ultraviolet (DUV) lithography machines to China, nan U.S. had taken a bid of its ain steps to stymie China’s semiconductor industry. Those included transition of nan “Chips and Science Act” past August, which promised $52.7 cardinal successful subsidies and taxation credits to eligible fabs astir nan world connected nan information that they could not make immoderate finance successful China successful nan adjacent 10 years. The U.S. besides restricts nan export of super-computing GPU chips to China, and U.S. citizens, group pinch U.S. greenish cards and each labor of U.S. companies aren’t allowed to supply services to Chinese spot companies.

With nan operation of weakening request and U.S. actions hanging complete SMIC, it’s nary astonishment that guidance was cautious connected nan company’s 2023 outlook. The institution said that nan manufacture would stay mired successful a trough during nan first half of nan twelvemonth owed to outer uncertainties. Assuming things stabilize later, nan institution expects its gross will registry a debased double-digit percent diminution for nan year.

SMIC expects its superior expenditure this twelvemonth to lucifer past year’s level, but admitted its gross separator will consciousness unit from precocious depreciation of older machinery arsenic it continues to bargain newer equipment. It said its extremity is to stay profitable, and noted its projections trust connected a comparatively optimistic script that assumes world spot request will stabilize and U.S. sanctions won’t intensify.

As China’s starring spot manufacturer, SMIC had hoped to 1 time return connected world leader Taiwan Semiconductor Manufacturing Co. (TSMC, TSM, 2330.TW). But fixed each nan occidental restrictions it now faces, specified a scheme progressively looks for illustration a ngo impossible. TSMC is nan undisputed assemblage leader, much precocious technologically than different giants for illustration South Korea’s Samsung Electronics (OTCPK:SSNLF, OTCPK:SSNNF, 005930.KS) and nan U.S.’s Intel Corp. (INTC).

Potential for sanctions escalation?

TSMC is racing toward wide accumulation for chips made pinch 2-nanometer exertion successful 2025, ray years up of SMIC, which is still struggling to cleanable its 14-nanometer chips. The smaller nan technology, nan much circuits that tin beryllium packed onto a chip’s surface, making it that overmuch much powerful. Despite making overmuch bigger R&D finance and signaling higher instrumentality depreciation than its mainland Chinese cousin, TSMC achieved a mouth-watering gross separator of 59.6% past year, showing really lucrative nan high-end of nan spot marketplace tin be.

The U.S., Netherlands and Japan person yet to merchandise immoderate archive connected their statement yet, reflecting flexibilities nan U.S. is consenting to springiness to nan different two. DUV lithography machines are utilized successful 65 to 110-nanometer process technologies, which is already acold from cutting edge. A prohibition connected moreover little precocious instrumentality income to China could person a devastating effect connected SMIC and moreover nan full Chinese semiconductor industry.

Despite nan sanctions, SMIC has been capable to grow its capacity, pinch yearly superior expenditure totaling $6.35 cardinal past year. By nan extremity of past year, nan institution had entered accumulation astatine a caller installation successful Shenzhen. It had begun proceedings accumulation astatine its Jingcheng facility, though wide accumulation is being delayed by a 4th aliases 2 owed to precocious transportation of cardinal equipment.

Based connected its nett profit past year, SMIC’s latest price-to-earnings (P/E) ratio was 9.5 times, little than TSMC’s 14.6 times. That reflects investor concerns astir its outlook successful nan weaker macro environment, mixed pinch nan effect of U.S.-led sanctions and different actions.

Disclosure: None.

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Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

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