Last week the U.S. markets saw a huge sell-off across the three major indices. S&P 500 was down 3.29%, Nasdaq sank 4.21% and Dow Jones fell 2.99%. The major chunks of this sell-off are owed to Nvidia (NVDA) and Advanced Micro Devices (AMD), which fell nearly 15% and 11%, respectively, because of the U.S government’s decision of restricting the sales of artificial intelligence (AI) chips to China.
US-China Tech war
In recent years, the U.S. government has imposed a number of restrictions and sanctions on Chinese technology firms as a part of its plan to slow down or restrain China’s rise. The United States has requested major tech firms like Apple (AAPL) to move their factories out of China. Moreover, the U.S. government has tightened export regulations on chips created using American technology out of concern that Chinese companies would use them for spying or for military purposes. The U.S. has also steadily curtailed China’s access to semiconductor technology since at least 2019, when the Trump administration forbade Huawei from acquiring crucial US technology without authorisation and banned its equipment from appearing in U.S. telecom networks.
However, despite all these efforts by the U.S government, China’s semiconductor industry continues to grow. In 2021, Chinese orders for chip manufacturing equipment from foreign vendors increased by 58%, making China the largest market for those goods for the second year in a row. According to JPMorgan’s estimates, the market share of U.S. chip production fell from 37% in 1990 to just 12% in 2021. However, the United States has gone from playing defensive to offensive against China in the intensifying battle for dominance in the global technology industry.
The recent ban on AI chips
The US government has a fresh directive for chip manufacturers. It has asked the industry giant Nvidia and semiconductor manufacturer AMD to not sell their AI chips to China due to the country’s security concerns. The same disclosure has been made in a Securities and Exchange Commission (SEC) filing. The Biden administration is working to restrict U.S. exports of specific semiconductors and equipment because they are concerned that Chinese firms might utilize them for military purposes. Nvidia and AMD produce graphics processors that are well suited for artificial intelligence applications such as the development of weapons, facial recognition and other military uses.
What does it mean for Nvidia and AMD?
In a filing with the SEC, Nvidia claimed that the U.S. government informed the company on 26th August, about a new licence requirement for future exports to China, including Hong Kong, in order to minimize the risk that the items would be used by the Chinese military. Nvidia said that this order would affect their A100 and H100 chips. They are both graphics processors which can be used for supercomputing and artificial intelligence.
Nvidia’s data centre business, which includes sales of the A100 and H100 chips, is one of the company’s fastest-growing divisions, reporting $3.8 billion in revenue in the July quarter, up 61% year-on-year. The company had originally projected $5.9 billion in revenue for the upcoming quarter, but now anticipates losing $400 million in potential sales to China. The new order also applies to Russian sales, but won’t materially affect Nvidia because of less Russian exposure.
Exhibit 1: Nvidia’s China Exposure (Region-wise Revenue FY2022)
Source: Stockal Research, Company Financials, Data as of March 2022
The A100 is an older variant that has been in the market for a while, whereas the H100 is Nvidia’s upcoming enterprise AI processor which was previously anticipated to be shipped by year-end. Some of its development is taking place in China. However, Nvidia said later that the U.S. government has allowed it to continue the development of its H100 AI chip in China, giving the company a huge sigh of relief after the export ban. The company also said that it plans to apply for a license to continue some exports to China but is unsure whether the U.S. government will give an exemption.
AMD also reported that it has received new license requirements from the U.S. Department of Commerce that will stop its MI250 advanced AI chip from being exported to China, but the company does not expect them to materially affect its business because of less exposure to China.
How will the ban affect China and the Chinese chip industry?
The ban will impact Chinese firms looking to develop advanced computing capabilities such as speech and image recognition for both consumer and industry use, as there are just a few Chinese chip makers who might fill the resource gap in the face of the ban. As a result, while the restrictions are unlikely to prevent Chinese tech companies from advancing their AI research, research and development will become more expensive and less efficient in China.
Nvidia’s signature A100 AI chips are in huge demand in Chinese universities. High-profile universities and state-run research institutes in China who are dependent on Nvidia to power their AI technology will now be struggling because of the export ban.
According to Boston Consulting Group, Taiwan’s semiconductor industry accounts for 92% of the global production of advanced chips. China views Taiwan as a rogue province. They believe Taiwan is a part of China but still haven’t sent its forces for invasion. The U.S. has always stood by Taiwan. However, the recent restriction on the export of AI chips has escalated the issue and has raised the stakes of already tense US-Taiwan-China relations. Nvidia, AMD, Apple and many other big tech companies have some chips made by the world’s biggest semiconductor manufacturer, Taiwan Semiconductor Manufacturing Company (TSMC). TSMC has previously warned that if China invades Taiwan, then the most advanced chip factory in the world would not be operable. Fearing this, the U.S had previously expressed concern that losing Taiwanese chips could break the economy.
Exhibit 2: Nvidia Stock Price Performance History
Source: MSN Money, Data as of September 7, 2022
Exhibit 3: AMD Stock Price Performance History
Source: MSN Money, Data as of September 7, 2022