Is China's Semiconductor Manufacturing International Corp. playing fair?
Despite persistent losses at SMIC and a slowdown in the chip industry at large, the Shanghai-based foundry provider continues to announce new fabs at an alarming pace.
Last week's bombshell announcement that SMIC plans to add separate 200- and 300-mm fabs in Shenzhen had some observers puzzling over the maverick foundry's motives.
Revelations that several Chinese municipal governments, including Shenzhen, have largely or fully funded a number of SMIC facilities as part of a "virtual fab" strategy has further raised eyebrows. Under the approach, a municipality owns the facility and SMIC manages it, garnering fees and a share of the profit for its troubles. (Though it may receive some government funding for the fabs announced last week, SMIC apparently will own them.)
Whether SMIC's virtual fabs give it an unfair advantage over rivals that must foot most of the bill for their facilities remains a matter of debate. Indeed, some sources said the strategy has already proved a disappointment and may be in flux. They pointed to the foundry's severing of ties with Japanese DRAM specialist Elpida Memory Inc., which reportedly was to occupy a 300-mm virtual fab in Wuhan, China, that now stands empty.
Such setbacks and a spate of quarterly losses have prompted fears that SMIC, having set the stage for a capacity glut, may kick off a price war. That would be bad news for the foundry industry, which is projected to log 15 percent growth this year, coming off a flat 2007.
Against the grain
Despite some strengthening in the market for foundry services, top pure-play foundries Chartered Semiconductor Manufacturing, Taiwan Semiconductor Manufacturing Co. Ltd. and United Microelectronics Corp. have reined in their capital spending plans for the year in response to recessionary fears and the seasonal IC lull.
SMIC has another game plan: It expects to boost capacity about 31 percent by year's end, to 267,000 wafers per month from last year's monthly capability for 185,000 wafers.
"Our strategy is to expand our capacity to meet customer demand," CEO Richard Chang declared in a conference call last week.
Since its founding in 2000, SMIC's penchant for going against the grain has fueled its meteoric rise. In the first half of 2007, the company was the world's third largest pure-play foundry in terms of sales, behind only TSMC and UMC, according to Gartner.
SMIC has built China's most-advanced fabs and is the prized pillar of the nation's effort to get its semiconductor industry off the ground. But market watchers say the foundry's eye-popping ascendancy has come at the expense of its bottom line. Analysts note that the company has never made a profit on a fiscal-year basis and that it reported losses in three quarters last year.
Perhaps more worrisome for the industry at large is the company's allegedly spotty regard for intellectual property rights; indeed, some analysts went so far as to say that TSMC's IP had helped put SMIC on the map.
In 2003, TSMC sued, claiming SMIC had infringed its patents and misappropriated trade secrets. The complaint claimed the Chinese foundry had hired more than 100 former TSMC employees and had asked some of them to provide confidential trade information. TSMC also alleged that SMIC had stolen its 0.18-micron process and related technologies.
SMIC settled in 2005, paying TSMC some $175 million. But the Taiwan-based foundry again sued SMIC in 2006, alleging the latter had breached the settlement agreement. That suit is still pending, and the companies continue to trade complaints.
SMIC has consistently denied that it stole TSMC's IP. It claims to be in production with its own 90-nanometer process, and to have a 65-nm process in qualification. And it has cultivated an impressive customer list, including such high-profile names as Broadcom, Qualcomm and Texas Instruments.
Late last year, SMIC licensed a 45-nm process from IBM Corp. The technology provides the foundry with a migration path from the 65-nm node and buffers it from further allegations of IP breaches.
In another strategic shift, the foundry provider has distanced itself from its initial focus on DRAMs. Early on, SMIC snagged the likes of Elpida and Qimonda as customers, but plummeting margins in the DRAM business over time wreaked havoc on its bottom line. SMIC thus has sought to build business in the more-profitable logic sector.
Then there's the virtual-fab strategy.
Initially, SMIC "spent a lot of capex" to build fabs in Beijing and Shanghai, said Steven Pelayo, an analyst with HSBC Global Technology Research in Hong Kong. But in 2005, it turned to outside investors to fund a 200-mm facility in Chengdu, China. SMIC manages the business, operating as Cension Semiconductor Manufacturing Corp., for the fab's owners.
Two years ago, SMIC constructed a 300-mm virtual fab in Wuhan. The facility was the first semiconductor foundry to be built in central China--again, with funding from the local government.
"It's not a level playing field from a financial point of view," HSBC's Pelayo said of the virtual-fab strategy. But he added that the approach has let SMIC "lower its capital spending" and could fuel a "return to profitability."
Jim Hines, an analyst with Gartner (Stamford, Conn.), said he doesn't "view this as a fairness issue," adding, "The idea of government investment is not necessarily a new idea in the semiconductor industry." Foundries in Taiwan and Singapore also receive government support, Hines noted.
The Garner analyst also dismissed the notion that SMIC's fab expansion plans could fuel a capacity glut this year. "We're not expecting a surplus of capacity in the foundry business, [regardless of] what SMIC does," he said.
In any case, SMIC appears to be reevaluating its virtual-fab strategy. "The rapid falloff in management-service-fee revenue and the announcement of two new SMIC-owned fabs in Shenzhen lead us to believe that management is adjusting course," Pelayo said.
Under the deal announced last week, SMIC will build separate 200- and 300-mm fabs, as well as an R&D center, in Shenzhen. The fab project will cost $1.58 billion in the initial stages. The government reportedly may fund a portion of the project but will not own the fabs.
The 200-mm fab will be capable of processing wafers at line-width geometries from 0.35 to 0.13 micron when it moves into production in late 2009. The 300-mm fab is expected to tap the 45-nm process licensed from IBM. SMIC did not divulge a timetable for the 300-mm fab or the R&D center.
