Chip crunch

By John Burton

Korea's semiconductor industry is at a crucial crossroads. It is under pressure from Washington to reduce sales to China and cooperate more closely with the U.S. in production and research. At the same time, it lags behind the tech developments of its main Taiwanese industrial rival, TSMC. All this is occurring as the demand for memory chips, in which Korea is the global leader, is weakening.

Many of these challenges will fall particularly on the shoulders of Lee Jae-yong, who recently assumed the role of the new executive chairman of Samsung Electronics, the world's biggest maker of memory chips, in October. Although Lee had been the de facto leader of Samsung for several years, he could not assume formal control until he was pardoned for bribery convictions by President Yoon Suk-yeol in August.

Lee is scheduled to hold a high-level global strategy meeting later this month to address the issues facing the semiconductor business. For the July-September quarter, Samsung reported a 31 percent drop in operating profit from a year ago due largely to falling memory chip prices.

This decline reflected weaker demand as inflation-weary consumers scaled back from buying electronic products after binging on them during lockdowns in earlier phases of the pandemic.

Although global economic uncertainties pose an immediate threat to Samsung's profits, a longer-term challenge is to boost its competitiveness in the manufacturing of more advanced and specialized semiconductors, such as logic chips that process information instead of memory chips that store data.

While Korea has seen a sharp fall in shipments of memory chips this year, Taiwan has experienced a relative boom in the export of logic chips. TSMC, which accounts for 90 percent of global advanced logic chip production, could soon overtake Samsung as the world's largest chipmaker in terms of sales. It is already the largest chipmaker by market value. Both Samsung and SK hynix, its main domestic rival, have seen their market capitalization fall to below pre-pandemic levels.

A key difference between memory and logic chips is that the former has become a commoditized product, while there is still a shortage of logic chips, which enables TSMC to be a price-maker instead of a price-taker.

This month's global strategy meeting at Samsung is expected to focus on its plans to boost the production of logic chips by 2025, although the recent drop in sales has meant that it has had to scale back its capital spending plans.

Samsung's dependence on memory chips has made it vulnerable to boom-and-bust cycles, since chipmakers tend to expand production when times are good. But this soon leads to overcapacity and a drop in pieces when demand weakens.

TSMC's cutting-edge chips enjoy a more stable production cycle. The Taiwanese company made the early decision to focus on making chips designed by customers. Although construction is more expensive for advanced chip plants than for memory chip facilities, TSMC was able to achieve large-scale production that made its products cost-competitive and attracted more customers.

Another threat to the Korean chip industry is the growing tension between the U.S. and China. Washington wants to reduce the supply of chips to China, while Beijing wants to develop a self-sufficient semiconductor sector and reduce its dependence on foreign chips, including those from Korea.

TSMC, for example, has already bowed to American pressure not to produce specialized chips for Chinese companies on Washington's blacklist, such as the Huawei telecom group. The U.S. recently announced a policy to cut off Chinese access to logic chips made anywhere in the world with American equipment. As a result, it is difficult to see China, the world's biggest semiconductor market, becoming a future growth market for Samsung.

Meanwhile, Samsung is becoming more dependent on the U.S. market as it expands production there. Generous American subsidies under the recent CHIPS Act have encouraged Samsung to build a new $17 billion chip fabrication plant in Tyler, Texas, by 2024.

The subsidies are part of Washington's efforts to strengthen its domestic semiconductor supply chain in a process known as "friend-shoring" as it attracts friendly foreign high-tech companies to its shores. The risk is that they could lead to a supply glut and depress prices.

There is Korean resentment about the U.S. pressure on chips since it jeopardizes economic ties with China, its biggest trading partner. Seoul is already angry about America's recent Inflation Reduction Act. Although it provides subsidies for electric vehicles that undergo final assembly in North America, Korea's EV carmakers are currently barred from enjoying the benefits due to tough local battery content rules. Many of the Korean EVs made in the U.S. use Chinese batteries.

It is clear that Korea's semiconductor industry has entered a new era. The go-go years of one of Korea's main export machines appear to be fading, buffeted by technology challenges and geopolitical tensions.

John Burton (johnburtonft@yahoo.com), a former Korea correspondent for the Financial Times, is a Washington, D.C.-based journalist and consultant.