TAIPEI/QUANZHOU -- In the southeastern Chinese port city of Quanzhou, a near-derelict factory hit by U.S. sanctions four years ago has discreetly come back to life.
Fujian Jinhua Integrated Circuit Co. (JHICC), a memory chipmaker, had to halt operations after the U.S. accused it of stealing trade secrets in late 2018. But it has been gradually resuming production after a mysterious new client emerged.
JHICC's campus of sleek glass buildings looks stately again, its trees pruned and its lawn mowed since it reopened. Earlier this year, busloads of engineers and procurement and financial staff began arriving from the new customer to help the company restart production. They ask JHICC counterparts to call them by their English names, rather than their Chinese ones, in order not to draw attention to themselves, four people with knowledge of the situation told Nikkei Asia.
Their identities, however, are an open secret within JHICC. They come from Huawei Technologies, China's technology champion, whose chip supplies have been crippled for two years, a victim of U.S. sanctions imposed in 2020.
Unable to buy computer chips abroad without a U.S. license, Huawei has had to depend more on domestic suppliers and even dive into chip production itself. It used to design its own chips and have them manufactured in Taiwan or elsewhere.
"No one knows better than Huawei how to operate under U.S. blacklisting"Donnie Teng, Nomura Securities
That is where JHICC comes in - it is a part of a new manufacturing supply chain Huawei is stealthily building across China, from Beijing to its home base of Shenzhen. The chipmaker recently told several suppliers that it would like to double its production capacity in two years. JHICC did not respond to requests for comment.
"The plant has now come back to life," said one employee with Naura Technology Group, China's top chipmaking equipment manufacturer, who is currently stationed at JHICC. "Previously, all supporting teams from U.S. companies left, and that's why we are here to help." Huawei declined to comment for this article.
Just across the street from the JHICC plant, meanwhile, little-known Quliang Electronics, a chip packaging service provider, is constructing a second production facility on a site the size of 20 soccer fields. The facility is aimed at meeting the growing demand from the same top client, sources briefed on the matter told Nikkei.
"Much of our production is for Huawei," a Quliang employee confirmed to Nikkei. "We already have about 2,700 [people] in our workforce, and we are now constructing the second phase of the plant." A Quliang spokesman did not respond to a request for comment.
Huawei's stealthily assembled supply chain is quite a step down from where it was prior to being battered by U.S. sanctions. Before 2020, the Shenzhen-based company competed head-to-head with world giants like Apple and Samsung Electronics, buying or sourcing the latest semiconductors from top global suppliers like Taiwan Semiconductor Manufacturing Co. and Japan's Sony to use in its electronics.
Huawei's smartphone shipments overtook those of Apple in 2019, coming in at No. 2 globally, versus Apple's No. 3, according to research company IDC. It is still the world's top telecom equipment maker, thanks to its dominance in China's vast market. Its chip design unit, HiSiliconTechnology, had revenue of $8.2 billion in 2020, according to Gartner, almost the same size as Apple's design unit. It built the world's first 5G-integrated chipset in 2019 and mobile processors with artificial intelligence capability in 2017, another world first.
As Huawei grew, however, Washington became increasingly alarmed about the company's alleged links to the Chinese military, which the company has long denied. The sanctions announced in 2020 blocked foreign suppliers from making components for Huawei if the production involved the use of American technology.
"Huawei's counter-efforts are like guerrilla-style campaigns"Industry executive
Huawei has been allowed, under U.S. license, to buy off-the-shelf semiconductors from global vendors like Qualcomm. But designing its own and producing them abroad, which was once a key source of Huawei's competitiveness, has been thwarted by the sanctions. Despite stockpiling components before the restrictions hit, Huawei's revenues slid 28.6% in 2021 to 636.8 billion yuan ($99.88 billion), while its smartphone business collapsed, falling from No. 2 in the world by shipments to No. 10, IDC data shows.
But the company has proved resilient, confounding the many industry experts who predicted U.S. sanctions would strangle Huawei and ultimately kill it. "If the U.S. crackdown is like bombardment with the most advanced fighter jets, Huawei's counter-efforts are definitely like guerrilla-style campaigns," one executive whose company does business with Huawei told Nikkei.
JHICC and Quliang are just two examples of Huawei's domestic supply chain ambitions. With help of local governments across China, Huawei and its partners are working on a new chip production and assembly network in Beijing, Wuhan, Qingdao and Huawei's home base Shenzhen, with investments estimated at more than 400 billion yuan ($55.8 billion). The goal is simple: to replace foreign manufacturers and suppliers, and bring back Huawei's key chip production for telecom base stations, surveillance cameras and smartphones -- and venture into the automotive chip business.
Signs outside the construction site for chip packaging company Quliang Electronics' new production facility in Quanzhou, Southeast China, read: "Never rest and do not delay for a single day." (Photo by Shunsuke Tabeta)"No one knows better than Huawei how to operate under U.S. blacklisting," Donnie Teng, a tech analyst with Nomura Securities, told Nikkei. "What we know for sure is it is planning to make a comeback [with] its own chips. We are not sure how effective and how fast it [can] build competitive chips from the local production network."
Meanwhile, Huawei's "guerrilla campaign" is being eagerly watched by the rest of China's semiconductor industry, which finds itself in the same boat as Huawei. Following a new round of unprecedented U.S. sanctions in October, many in China's chip industry face the same choice that the Shenzhen based counterpart did two years ago: innovate and localize, or die.
A "technological economic cold war"
Since 2020, the momentum for sanctions has only grown in Washington, and semiconductors have become the arena of a ferocious geopolitical rivalry as the U.S. attempts to cement its technological hegemony and slow China's rise. Possibly because its founder, Ren Zhengfei, was a former engineer in the People's Liberation Army, Huawei was the first major Chinese tech company to attract scrutiny for its military ties.
Washington had long been wary of the overlap between military and civilian technology in China: Semiconductors go into smartphones but also are needed for stealth fighters. "Civil-military fusion programs, as well as other areas, such as surveillance that link with human rights abuses," is how a U.S. Commerce Department official put it when announcing the targets of the newest sanctions in October.
U.S. President Joe Biden, right, met with Chinese President Xi jinping in Bali, Indonesia, on Nov. 14. U.S. sanctions on China's growing tech industry have been tightened since Biden came to power in early 2021. © APThese restrictions, announced Oct. 7, included new export bans aimed at curbing almost every aspect of China's chip development. The orders barred American companies from shipping certain grades of advanced chipmaking equipment to any China-based client without a license, and also limited any supplier in supporting the development of China's cutting-edge artificial intelligence and supercomputer chips. The new regulations also included the first-ever ban on U.S. persons -- including citizens and permanent residents -- helping with China's advanced semiconductor advancement.
"The regulations amount to a declaration of full-scale technological economic cold war," said Dylan Patel, chief analyst of SemiAnalysis, a chip industry consultancy. "The U.S. is forcefully decoupling the entire advanced technology supply chain before China in-sources it."
Soon after the new U.S. rules became effective in early October, most critical U.S. suppliers quickly withdrew hundreds of support personnel from China's top chipmakers. They included Santa Clara, California-based Applied Materials, the world's biggest manufacturer of chipmaking equipment; KLA, based in Milpitas, California, which is the world's biggest provider of wafer inspection and measurement machines; and Lam Research from Fremont, California, a manufacturer of etching tools, which are indispensable in building advanced memory chips. These companies worked on-site at top Chinese chipmakers such as Wuhan based Yangtze Memory Technology Co. (YMTC) and ChangXin Memory Technologies (CXMT) located in Hefei.
"It's like a Dunkirk evacuation in the chip industry."KLA employee
The American equipment makers also asked their staff to leave advanced plants owned by Semiconductor Manufacturing International Co, China's biggest contract chipmaker, which serves many local and international chip developers, according to people familiar with the matter.
"It's like a real war, but there are no bullets and missiles flying in the sky," a KLA Employee told Nikkei.
U.S. Secretary of State Antony Blinken speaks with American chipmaking equipment producer Applied Materials CEO Gary Dickerson during a tour of the company's Maydan Technology Center in California in October. © AP"The day before the ban, these Chinese chipmakers were still [among] our most important customers. But the next day we had to pack our belongings and just walk away. No communication was allowed thereafter," the employee said. "It's like a Dunkirk evacuation in the chip industry."
Non-U.S. tech companies, such as Europe's biggest chip equipment vendor, ASML, as well as other chipmaking material makers have had to review the nationality of their people working in China. They asked American employees to retreat from top Chinese chipmakers likely to fall under the scope of the new U.S. regulations.
In Washington's view, "Since it's impossible to just target the Chinese military, the only other option is to target all of China."Chris Miller, Fletcher School
Washington looking to widen the high-tech trade war: It is in talks with key allies from the Netherlands and Japan, hoping to cajole them into imposing similar sanctions, U.S. Commerce Secretary Gina Raimondo said in a CNBC interview in November.
Chris Miller, associate professor of international history at the Fletcher School at Tufts University who specializes in chip industry analysis, told Nikkei that the U.S. is trying to stop China from honing its technological skills, especially in areas with military applications. American allies are likely to comply, he said.
"The conclusion from Washington has been that, since it's impossible to just target the Chinese military, the only other option is to target all of China to slow down the entire country's progress," Miller said. "Chinese are building more ships, more planes, and more missiles ... so the importance to the U.S. of retaining its technological edge gets more and more important every year."
"Non-A " production lines
Ironically, the U.S. sanctions may succeed in doing something that Beijing has long struggled to accomplish: Jump-start its own semiconductor industry. Despite spending at least 1.2 trillion yuan in public and private money on domestic semiconductors since 2014, and decreeing that many state companies must buy Chinese, Beijing had made little progress toward self sufficiency in chips before 2020. What was missing was demand. No one wanted to buy Chinese chips -- even Chinese companies preferred buying from foreign suppliers.
Now, thanks to U.S. sanctions, that has changed and Chinese companies need a plan B.
The result is a boom for China's chip industry. Based in Shanghai, China's top two contract chipmakers SMIC and Hua Hong Semiconductor, which helped many Chinese chip developers put chips into production, reported record revenue in 2020 and 2021. SMIC even kicked off a historic expansion to pour in some $26 billion into expanding its capacity by several times, building new plants in Shanghai, Beijing, Tianjin and Shenzhen, citing surging demand for "indigenous production."
China's chip companies met less than 15% of local market demand back in 2018, before the U.S.-China tech war heated up, but that share jumped to about 24% of the local market by 2021, according to an estimate by International Business Strategies. Many Chinese chips, however, are for mid-to-lower-end consumer electronics, rather than high-end core chips.
This impressive growth comes with other caveats. Many of the chips making up that 24% share, although designed by Chinese companies, were actually manufactured by overseas contract chipmakers in Taiwan, South Korea and elsewhere. Chips made by Chinese companies in China made up just 6.6% of the total domestic market in 2021, IC Insights data shows.
In high-end areas like central processing units, graphics processing units, and AI accelerators for servers, computers and premium handsets, China is still far from self sufficient. The country still depends heavily on U.S. market leaders like Advanced Micro Devices and Nvidia, which are now forbidden to sell their most advanced chips to China.
Nvidia, based in California, U.S., is the world’s top developer of graphic processor chips. Under U.S. sanctions, it is now banned from selling its most advanced chips to China without a license. © APIn addition to the chips themselves, China's long-neglected indigenous chip equipment sector -- the companies making the machines needed to build chips domestically -- have seen local demand rise. The combined revenue of the top-five listed Chinese equipment makers -- Naura, AMEC, ACM Research, Hwating and Piotech -- jumped 121% from 2019 to 2021 to more than 15.9 billion yuan, a Nikkei analysis found. That is a faster growth rate than its industry peers abroad.
China's top chipmakers such as SMIC and YMTC, meanwhile, are both working hard to set up as much domestic chipmaking equipment and building production lines stripped of U.S. equipment over the next two years as possible, multiple chip industry executives told Nikkei.
SMIC, for instance, has created production lines free of American chipmaking equipment nicknamed "Non-A lines" at its factory in Beijing, and in another newly built plant in Tongzhou, southeast of Beijing, employees and suppliers with direct knowledge of the matter said.
"[China] is still far from self sufficient. It's not likely that it could build a complete production line without foreign help"Mark Li, Bernstein Research
The technological battle in chips is unfolding at the microscopic level: Logic semiconductors are rated by nanometers (one-billionth of a meter, or the amount a human fingernail grows each second), which measures the space between transistors on a chip's surface. The smaller the nanometer size of the chip, the more transistors can be squeezed into the same space, improving computing performance and energy efficiency.
The U.S. sanctions imposed in October banned Chinese companies from buying chips or equipment capable of making logic chips in which the transistors are 14 nm apart or less -- just over five times the diameter of a strand of human DNA. Such chips are only possible to make using foreign equipment, and are used mainly to build advanced processors or AI chips.
The best that SMIC's "Non-A" lines can produce at the moment is 40-nm chips, meaning the space between transistors is comparatively massive -- about half the size of a coronavirus particle. Such technology existed as far back as 2008. SMIC is trying to advance to 28-nm chips without relying on American equipment within two years, people with direct knowledge told Nikkei. SMIC did not respond to a request for comment.
The older generation of chips made on Non A lines still have a variety of applications, however: image sensors, microcontrollers, Wi-Fi, Bluetooth, and in a wide range of other chips used in cars, industrial equipment and consumer electronics. But they are not competitive for use in processing units for smartphones and computers, or to run advanced AI algorithms and supercomputers. For example, the latest processor chips for premium iPhones use 4-nm technology -- roughly the size of 12 gold atoms laid end-to-end. China's chipmaking technology is not anywhere close to this.
Even to make the older generation of chips, meanwhile, SMIC's Non-A production lines still require support of non-U.S. foreign suppliers, two sources told Nikkei. Such foreign technology is used in processes like lithography, where ASML of Netherlands controls nearly 90% of the global market. Canon and Nikon of Japan are also key suppliers of chipmaking equipment.
"It may be possible to run a chip production line without U.S. participants," said an executive at a chip developer that is one of SMIC's clients. "But it's still not likely [we can] do that without other non-U.S. suppliers supported by ASML or Canon. That's why the U.S. is so eager to bring all other foreign key players on board -- to curb China."
Even if their technology was up to date, China's local equipment makers are still far too small to replace any of the leading American players. As of 2021, China's share of global chipmaking was about 2%, while Chinese chip equipment could at most meet 12% of local needs as of 2021, Bernstein Research estimates. The U.S. controls more than 80% of the global market in multiple chip manufacturing processes from etching, electrochemical deposition and spluttering, to high-current implanters -- all keys to smooth chip production.
"China's chipmaking equipment sector's growth was impressive over the past three years," said Mark Li, a veteran semiconductor analyst with Bernstein Research. "However, it's still far from self sufficient. It's not likely that it could build a complete production line that could work smoothly without foreign suppliers' help."
Shared pain
China's tech sector is not the only one suffering from the sanctions. America's top chip equipment makers have lost their foothold in China, their biggest export market. China accounted for around 30% of the total revenue of $52.2 billion for America's top three players in the 2022 fiscal year. Both Lam Research and Applied Materials estimated they could lose about $2.5 billion next year from the latest trade restrictions. KLA said it could lose up to $900 million.
"The U.S. export controls are causing collateral damage to American companies, as well as companies from South Korea, Japan, Europe and Taiwan. This will test American techno-diplomacy, as Washington must convince others to go along with its techno-nationalist policies on China," said Alex Capri of the Asia-based Hinrich Foundation.
Industry executives say they worry more about the long-term consequences. "Of course in the short term, China will take the hit," a manager at Applied Materials told Nikkei. "But in the long run, this kind of political intervention will still force local companies to grow, to seek alternatives instead of just sitting there and waiting to crash."
"If Chinese companies later have alternatives, they will not again buy from American suppliers, and we are set to lose the market in the long term," an Applied Materials manager told Nikkei.
Still, the decoupling of U.S. and Chinese tech industries has been far worse for China, which despite its newfound drive for self sufficiency, will remain reliant on foreign suppliers far longer with the sanctions in place.
According to tech consultancy International Business Strategies, if the U.S. restrictions remain, Chinese domestic makers will only be capable of supplying $245 billion worth of chips by 2030, or 33% of total domestic demand, rather than an earlier forecast of $394 billion, more than 52%.
YMTC: Flying too high?
The U.S. export controls appear to have been specially written with one company in mind, specifying a ban on U.S. exports to China of chipmaking equipment that could make 128-layer or more advanced NAND flash memory chips. These are the exact specifications that YMTC, China's premier memory chip maker, is starting to produce, and YMTC is the only Chinese company that can do so.
Founded in 2016 in the Chinese city of Wuhan, YMTC is viewed as the most successful example of Beijing's chip push in recent years. It has become the world's sixth-largest NAND flash memory maker behind Samsung, SK Hynix, Kioxia, Western Digital and Micron Technology, and the only one from China in the top flight.
The most advanced 3D NAND flash memory chips are microscopic skyscrapers, measured in layers. The YMTC 128-layer chip is just 0.5 millimeters tall and its chips are only about one to two years behind global leaders Samsung, SK Hynix and Micron. The company is bringing a new plant online that could produce196-layer and 232-layer chips -- the industry's most advanced products -- in the next two years.
YMTC was expected to overtake top U.S. memory chip maker Micron in terms of global market share by 2025, but this will likely not happen now, due to the October sanctions. Micron's market share in the memory chip segment was about 10% in 2021. If planned production had remained on track, YMTC's global market share was set to reach 14% in 2025, up from about 5% in 2021, before the U.S. clampdown. Now, however, its 2025 figure will be closer to 6%.
"Let's be frank: it is a technology battle between two big countries. And we happened to become the key target"YMTC employee
YMTC's flash memory chips are so advanced that before the U.S. clampdown, Apple planned to use the company's NAND flash memory chips in its iPhones, a first for a Chinese supplier. That was seen by the industry as a clear sign that the Chinese semiconductor industry had arrived. These victories have shocked not only industry rivals Samsung and Micron, but also U.S. government officials and lawmakers.
"We think Apple's recognition might have been the last straw that brought [YMTC] to Washington's attention. The case is really like Huawei: YMTC rose too rapidly and became a real threat to incumbent U.S. players," an executive from a YMTC supplier told Nikkei. YMTC declined to comment.
YMTC's former longtime CEO, Simon Yang, a U.S. passport holder, abruptly stepped down as CEO at the end of September. Several sources with direct knowledge said this was related to new U.S. rules to prevent Americans from aiding China's advanced chip development.
China's YMTC, which makes 3D NAND flash chips (pictured here), was set to overtake U.S. chipmaker Micron's share of the global market by 2025, but such hopes have been dashed by U.S. sanctions on Chinese tech. © APSeveral other YMTC executives who are U.S. citizens also left the company in October, sources briefed on the matter said. The second phase of the company's expansion has been put on hold, according to two people close to the matter.
"It's not a battle between companies, but clearly, let's be frank: it is a technology battle between two big countries. And we happened to become the key target," one YMTC employee, who declined to be named, told Nikkei.
Street food
Not all chips need to be so advanced, however. Memory chips must be cutting edge to be cost effective, but logic chips, used in processors, driver integrated circuits, image sensors, microcontrollers, and connectivity, can be several generations old and still perform their function. In the logic chip sector, U.S. sanctions will affect only about 10% of China's production through 2025, according to the consultancy Counterpoint, compared with 45% for memory chips.
Most analysts expect China can continue to thrive making older generations of chip production technologies. For example, the majority of chips for cars, home appliances and connected devices generally do not need advanced chip process technologies.
"It is like if you are hungry. You don't necessarily need to eat at Michelin-starred restaurants to survive."Brady Wang, Counterpoint
To improve performance, Huawei is exploring ways to use advanced chip packaging and "stacking" technologies -- stacking several less capable chips into packages that would allow the package to perform like a single more advanced chip. While it would be a formidable challenge to manufacture a 4-nm chip, China may be able to make do by using existing technologies effectively, rather than by reaching the cutting-edge frontier.
China's semiconductor and tech industry is not crashing or dying, said Brady Wang, a tech analyst with Counterpoint. "China could still build an older generation of chips. But they might need to accept the fact that they have to buy key components such as advanced processors abroad. The country could still build a whole lot of electronic devices with older-generation chips."
"It is like if you are hungry. You don't necessarily need to eat at premium Michelin starred restaurants to survive. You could also eat ordinary street food to survive," Wang said. "This is the case for chips now in China."
From onshoring to stealth-shoring
Not far away from Huawei's headquarters, cranes and excavators are working on a new chipmaking facility for PengXinWei Integrated Circuit Manufacturing Co. in the northern suburbs of Shenzhen. The site will become a key production base make chips used Huawei, industry executives told Nikkei.
PengXinXu Technology Co., another chip startup with a similar name that formed this year, is also aggressively recruiting engineers and plans to build a chip plant in Shenzhen, executives briefed on the matter said. Huawei is a potential top client. Neither PengXinWei nor PengXinXu responded to Nikkei's request for comment.
PengXinWei, an emerging Chinese chipmaker, is building a new plant in Shenzhen from which Huawei aims to buy output. (Photo by Shunsuke Tabeta)Huawei also hopes to buy chips from SwaySure Technology, a dynamic random-access memory (DRAM) chip startup that was also founded this year and counts industry veterans such as former TSMC and Elpida Memory executives among its top management, two people told Nikkei. PengXinWei, PengXinXu, and Swaysure are fully owned by the Shenzhen government. Huawei is also building production networks in Qingdao, Beijing and Wuhan, its key base for developing silicon carbide chips -- a type of power semiconductor that future cars will need in massive quantities.
Huawei is still aggressively recruiting chipmaking talent abroad for its research centers in Europe and at home. In Nuremberg, Germany, it is recruiting engineers specialized in developing power semiconductors, in which German chipmaker Infineon Technologies is the top player. In Leuven, Belgium, Huawei is looking for experts in central processing unit architecture, a LinkedIn post said.
Across multiple Chinese cities -- Xi'an, Chengdu, Nanjing, Shanghai, Wuhan, Hangzhou, Shenzhen -- Huawei is hiring engineers specialized in processor chips, radio frequency components and analog chips, as well as chip-packaging design and testing experts.
"Cost at this point is not Huawei's first concern. The first priority is to see if there are ways to get around U.S. sanctions."executive close to Huawei
Rather than competing head-on with industry giants like Apple, Huawei's goals today are much more circumspect. It is looking to make progress in production of some of the core chips used in telecom base stations, surveillance cameras, automotive applications and smartphones as soon as possible, several industry executives with knowledge of the matter told Nikkei. At the same time, it is venturing into the growing power semiconductor segment to meet demand from automakers building future electric cars.
"Huawei is super tough, and I never doubt their determination," an executive with a supplier told Nikkei. "They are using all kinds of ways to prove to the world that they could still survive, and even get their chips back one day."
Huawei has focused not only on chip design but on rebuilding the whole supply chain, including manufacturing, packaging and stacking, as well as chipmaking materials and equipment. Soon, more Chinese chipmakers, such as YMTC or SMIC, may need to follow suit to save their own crippled supply chains, if U.S. restrictions remain in place.
Taiwanese chipmaker TSMC makes 12-inch wafers in chip plants like these. A former TSMC executive is now helping Chinese chip startup SwaySure make chips for a struggling Huawei. © TSMC"It will take a lot of time and effort, but [Huawei] has all the local governments on its side. It's still the national champion, and represents the China team for sure," one executive with knowledge of Huawei's plan told Nikkei. "Cost at this point is not Huawei's first concern. The first priority is to see if there are ways to get around U.S. sanctions."
Huawei said it increased research and development spending to 142.7 billion yuan ($20.65 billion) last year, which is equal to 22.4% of its total revenue.
When asked how it will rebuild its chip supply chain, Huawei executives acknowledged several times that it is a very "time-consuming" process, and said it aims to "extend our roots deep into soil and break limits high in the sky." They said this is a common goal of development for China's semiconductor industry.
Most analysts say that is too ambitious. "It's almost impossible that a complete semiconductor supply chain could be built all by one country without foreign help," Bernstein Research's Li said. "It may need some political negotiations after all."
Jones of IBS told Nikkei that he expects China will do whatever it can to negotiate with the U.S. to regain access to semiconductors. "China still has a lot of leverage to talk with the U.S., from specialty materials to batteries for EVs," he said. "China must have access to leadership semiconductors, and these cannot be supplied by Chinese companies. ... China will need to force the U.S. to compromise."
If not, Miin Wu, industry veteran and chairman and CEO of Macronix International, a leading Taiwanese memory chip maker, put the dilemma in stark terms: "It would likely take another 20 years for China to really have new breakthroughs and catch up with the U.S., if the sanctions are here to stay."
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