In recent years, China has advanced rapidly in tech developments and has even developed into a leader in mobile 5G technology. As China catches up and even surpasses the world on some technology fronts, the US has been suppressing China’s tech development by curtailing the country’s access to American technology, putting Chinese tech companies’ businesses at risk. Under these circumstances, it might come as a surprise to some that the stock of a Chinese tech company has risen almost 40% so far this year1, and there are others who are also thriving. Are there really companies that would benefit from the tech cold war?
This company that we speak of is an analog integrated circuit (“analog IC”) design company (“Company A”) that is likely to become a beneficiary of the tech war, since the US government’s export ban is forcing China to speed up semiconductor localization.
China’s semiconductor localization to accelerate domestic demand for power management chips
Company A specializes in power management chip design for industrial, consumer, computer and network communication devices. An example of application would be a cell phone, which consists of many chips for different functions in one place. Since the chips work at different voltages, a power management circuit is needed to adjust the power going into each of these components. Although the technology involved isn’t rocket science, it is essential to all electronic devices and production of these components requires skilled analog designers and engineers. Nine of the top 10 suppliers that held 60% of analog market are all from western countries2 and Company A is one of the very few companies in Greater China that have gained significant market share in Asia.
Chinese electronic manufacturers used to choose US power management chips because of their sound quality and there wasn’t much incentive to switch to other analog IC suppliers, since it wouldn’t deliver significant cost savings. Until recently, the US banned their semiconductor makers from cooperating with Huawei, which prompted these Chinese companies to develop their own semiconductors and use domestic products. We think this trend will increase the demand for non-U.S.-made power management circuits, benefiting Company A as an analog IC design company founded by Chinese experts. Besides that, most of its sales come from Asia, so the business that it would lose during the trade war would be manageable.
Core competitiveness of the analogy IC design company
We first researched Company A back in 2015 and we believed that, as an analog IC design company, it would become an industry leader in Asia and a high quality but lower cost import substitute for the current incumbent suppliers in the US and Europe. Currently, China takes up 40% of the global analog market while Company A has less than 50% of revenue from China3 – we see there is still ample room for growth and the company will benefit from China’s ambition to localize its semiconductor supply in the long run.
The core competitiveness of Company A lies with its four founders who are analog IC veterans from the US, leveraging the massive supply of low-cost engineering talent in China to build the only local analog IC design company with in-house Intellectual Property capable to rival big global competitors like Texas Instruments and Maxim. With its strong Research & Development (R&D) capability and lower selling price, even before the relationships between China and the US soured, the company had already been gaining market share. Another factor that makes the company competitive is its private status. Unlike many state-owned semiconductor players that rely on subsidies from the government, Company A has been staying on top of their business to increase profitability by constantly developing independent R&D capabilities.
We believe that neither China nor the US could come out of a tech cold war unscathed. Not only is China still one of the best places in the world to manufacture large-scale electronic products, it is also an important consumer market for most of the US tech brands. Although the Sino-US conflict inevitably slows down the technological advancement of China in the short run, China is set to further develop its independent R&D capabilities with the government’s policy push and the nation’s growing talent pool in STEM. And it would do well for investors to remember that even under the current conditions, some companies will continue to evolve and thrive.
[1] Source: Bloomberg, as of July 2019
[2] Source: IC Insights, as of May 2019
[3] Source: CLSA, as of March 2019
Disclaimer
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