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Breakingviews - SMIC selloff downplays U.S.-China trade friction

A researcher plants a semiconductor on an interface board during a research work to design and develop a semiconductor product at Tsinghua Unigroup research centre in Beijing, China, February 29, 2016. REUTERS/Kim Kyung-Hoon

HONG KONG (Reuters Breakingviews) - Chinese investors may be downplaying U.S.-China trade tensions. The Hong Kong shares of chipmaking champion Semiconductor Manufacturing International (SMIC) plunged some 23% on Monday on news that the White House might blacklist it. The immediate financial hit looks manageable, but long-term prospects are darkening.

Washington is considering whether to add China’s largest contract semiconductor manufacturer to its so-called entity list, Reuters reported on Sept. 4, citing U.S. officials. If so, SMIC will join more than 275 compatriots including telecoms-equipment giant Huawei and video-surveillance specialist Hikvision that are currently restricted from American suppliers and technology.

A ban will be manageable in the short term for state-owned SMIC, but only that. Analysts at Jefferies estimate up to half of its equipment is American. So even though the company’s facilities can still keep churning out chips, they will have to be serviced and maintained by U.S. suppliers eventually. Investors promptly erased over $6 billion in market value on Monday. The dual-listed company’s shares in Shanghai slumped 11% the same day.

Still, even after the latest selloff, SMIC’s Hong Kong shares are up over 50% since the start of the year and trade at a frothy 57 times forward earnings, well above rival TSMC’s 22 times, Refinitiv data show. On Shanghai’s STAR board SMIC trades at over 200 times. That suggests investors still hope Beijing’s ambition to become technologically self-sufficient will benefit SMIC and peers. Indeed, the central government has already pledged a whopping $1.4 trillion over the next five years to develop new technologies.

Some blacklisted firms, like artificial intelligence specialists SenseTime and Megvii, have shrugged off U.S. sanctions so far. But manufacturing chips is virtually impossible without American equipment. That is particularly so for advanced semiconductors, where SMIC is desperate to catch up. Falling behind further puts future survival at risk. Investors should brace for more volatility.

Breakingviews

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