What’s next for China’s emerging IC industry
08/01/2005
This year’s significance for China’s electronics industry, and especially for its semiconductor segment, should not be underestimated. In 2005, China will emerge from its startup phase and become a regional IC powerhouse. As its electronics industry moves into the next phase, the paradigm of low-cost systems manufacturing fueled by foreign capital will give way to an indigenous industry that is increasingly capable of sourcing its factories internally, in terms of both silicon processing and IC design competence.
China faces many challenges before it can transition into an equal-status global electronics player. Its semiconductor capability is growing rapidly, but by 2008, China is expected to supply only 36% of the chips it needs for internal-systems manufacturing houses, which will be building products for both domestic consumption and export. This imbalance between consumption and production of semiconductors offers a great opportunity for China’s semiconductor industry to grow.
Having emerged from its startup phase, in which it successfully attracted foreign investment and talent and established incentives for penetrating local markets, China is fast becoming a global competitor in the high-tech industry and is entering its second stage of development.
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In Phase 2, which will last through this decade (see table), China will establish itself as a regional player by cultivating local talent, investing in advanced technologies, and establishing domestic financial markets capable of fueling expansion and retaining local talent and capital. For China, Phase 2 will see its industrial base migrate westward across the nation, from the higher-cost coastal centers with higher levels of employee turnover, to lower-cost regions with lower turnover.
In Phase 3, which will run from approximately 2008 through 2015, China will make its bid to become a global semiconductor establishment. Government-sponsored technologies will be moved to the private sector, brands will be established globally, and IC design and manufacturing will come into balance with systems manufacturing capability.
In the rearview mirror
Before reviewing China’s IC capabilities, it is worth noting how far its systems manufacturing industry has come in a decade. This historical perspective illustrates China’s strong will to succeed. It also provides valuable insights into how China is better positioned for semiconductor success than one might first think.
According to estimates from Gartner Inc.’s Dataquest research unit, China produced 92% of all DVD players, 44% of desktop PCs, 36% of notebook personal computers, 30% of mobile phones, 15% of PDAs, 64% of TV sets, and 25% of car audio sets in 2004 worldwide. While the country’s electronics industry has established itself in many of these segments, China’s technology market is still dominated by foreign companies. However, Chinese companies are making a good showing, particularly in the domestic hardware markets.
Some milestones that highlight China’s progress are worthy of review. In desktop PCs, for example, Chinese companies hold three of the top five vendor positions in the domestic market. Beijing-based Lenovo Group Ltd. is ranked No. 1 in desktop PC sales, followed by Founder Holdings Ltd. of Hong Kong. Tsinghua Tongfang Co. Ltd. of Beijing is fourth in China PC sales. US-based Dell Inc. and IBM Corp. are ranked third and fifth, respectively, in desktops sold in China. Lenovo’s recent purchase of IBM’s PC business strengthen its hand domestically as well as globally. In local area network (LAN) equipment, Shenzhen-based Huawei Technologies Co. Ltd. is second in China’s market and Fujian Start Network Technology Co. Ltd. in Fuzhou is fifth. Cisco Systems Inc. leads in LAN shipments in China, with D-Link Systems Inc. and 3Com Corp. rounding out the top five.
In a wide range of electronics services - covering everything from product design to contract manufacturing to information technology (IT) systems development - Chinese-based suppliers also are gaining ground. In these services, Digital China Holdings Ltd. of Hong Kong, Huawei Technologies, and ZTE Corp. (both of Shenzhen) occupy the third, fourth, and fifth positions. IBM is on top and Hewlett-Packard Co. is No. 2 in the services segment.
Winds of change
A trend very much in China’s favor is the worldwide drift toward low-cost end-user electronics systems and a corresponding shift to “middle-of-the-road” semiconductor products. China knows how to flex its manufacturing muscle but it is not yet known for producing the most advanced technologies. Ironically, that may be a good thing. According to Gartner Dataquest, the sweet spot for growth in worldwide electronics is shifting toward the mid-range of technology and lower-priced products. Between 2000 and 2008, the average electronics systems price is expected to drop from $142 to $100. Lower-cost products mean lower-cost, less aggressive semiconductor fabrication, which helps a country that is still climbing the learning curve in chip technologies.
In mainstream ICs, worldwide revenues will grow 59% between 2000 and 2008, approaching nearly $110 billion, according to Gartner Dataquest (see Fig. 1). In contrast, advanced IC revenues are expected to increase 26% in the same eight-year period, while legacy ICs will show only a 20% increase in sales between 2000 and 2008. Mainstream ICs include a wide range of high-volume devices used in low-cost products, such as consumer electronics, low- to mid-range PCs, cellular phones, wireless LANs, industrial systems, and other applications. ICs serving these applications will show the highest growth rates, while advanced ICs targeting high-end PCs and servers, communications infrastructure, and even the most powerful video game consoles are expected to lag mainstream components in average sales growth.
 Figure 1. Worldwide IC growth will increasingly shift into the mainstream segment. (Source: Gartner Dataquest) |
China is well positioned to move aggressively in the mainstream IC manufacturing segment. It is rapidly increasing its installed base of 200mm wafer capacity. For example, China added about 128,000 200mm equivalent wafer starts/month in 2004. This is 15% of what was added on a worldwide basis in 2004 and brings China’s IC production base to approximately 6% of the world’s total capacity. Lower costs for land, fab construction, and labor are fueling China’s IC exports. Rapid growth in China’s chip-manufacturing base also is being complemented by a fast-growing fabless industry inside the country.
Staffing up, spreading out
A truly vibrant semiconductor industry requires a strong design community with high-level capabilities -in large numbers. China is well on the way to achieving that goal. Its design sector’s sizzling compound annual growth rate (CAGR) for revenues reached 92% from 1998 through 2004. Design activities in China show no sign of slowing down and there is much room for growth. Revenue from the Chinese IC design industry has been estimated at 10 billion yuan (about US$1.2 billion) in 2004. The number of design houses in China increased from just 68 in 1998 to more than 500 in 2004. During that same period, the number of designers grew from about 1200 to 15,000.
Two megatrends will come into sharp focus in 2005. First, consolidation will winnow out the weaker design houses while strengthening the survivors. Second, some large players - such as Huawei Technologies, Hong Kong-based Solomon Systech Ltd., and Datang Microelectronics Technology Co. Ltd. in Beijing, which already are producing less expensive high-end designs - will enter even more sophisticated design arenas as their skill sets improve.
It is no secret that China owes the rapid growth of its electronics industry to low manufacturing wages. The same advantage works in China’s favor at the professional level. Engineers’ wages in China are not significantly higher than similar salaries in India and Russia. In all three of these countries, engineers are paid in the vicinity of $15,000/year, compared to the average $75,000 in the US.
China’s academic institutions already graduate about 213,000 engineers/scientists each year in semiconductor-related fields. These degrees cover electrical, chemical, and mechanical engineering; computer and materials sciences; physics; and chemistry. The number of Chinese graduates in these fields is growing at about 36% annually, compared to a slight decline each year in the US, where ~105,000 graduates receive degrees in semiconductor-related fields.
The growth in technical talent and other changes in China are leveling the playing field in global markets. Figure 2 shows how China’s semiconductor industry currently stacks up against the US, Japanese, and Taiwanese chip industries, and how the race could turn out in 2008, based on a sampling of industry executive opinions collected by Applied Materials and Shanghai Hua Hong NEC Electronics. The figure shows a comparison of each semiconductor supplier base, evaluated across five key indices: availability of capital, domestic IC markets, technology prowess, workforce capabilities, and overall costs.
China’s key weaknesses - availability of capital, technology, and workforce capabilities - will all be substantially eliminated by 2008, according to the study. In fact, China is expected to fare better than both the US and Japan in capital formation, workforce, and cost indices. Meanwhile, Taiwan’s industry is expected to see key challenges in several areas by 2008 with significant gaps appearing in capital, workforce, and cost. The “Achilles heel” of the US is, of course, higher cost.
China’s long-term vision
China appears well positioned to become a vertically integrated electronics player. To succeed, however, it must continue developing its “human capital,” grow mainstream manufacturing capability, and create standard programmable applications that can target both domestic and export markets. China’s immediate goals should include the development of an upstream supply chain that includes high-end contract manufacturing, leading-edge test and assembly capability, and new factories for thin-film transistor flat-panel displays.
Although this analysis paints a rosy picture for China’s indigenous semiconductor industry by 2008, success depends on achieving specific goals. China’s intellectual property (IP) policy has attracted international criticism and that must change. To foster a climate favorable to foreign investment, China must develop its own IP to encourage innovation, and it must enforce international IP protection agreements.
Just as important is China’s ability to establish an efficient capital market. Operating efficiently is essential to securing adequate, timely funding and to motivating managers and employees. An equally efficient corporate culture is also essential to China completing Phase 2 in its industry development because it will promote innovation. In the longer term (2010-2020), China faces the challenge of fostering a viable, fully programmable system-on-chip design capability and positioning itself for the post-silicon era by developing unconventional device structures and initiating research into new materials.
Contact David N.K. Wang at Applied Materials Asia, ph 86/21-5895-8985, fax 86/21-5895-8955.