Semiconductor chips are ubiquitous in everyday life and are the driving force behind many industries today. They are an essential part not only of computers and smartphones, but also of automobiles and aircraft, as well as critical infrastructure, data, communications and military use cases.
While today's chip value chain is the result of true globalization and optimal use of economies of scale and production cost advantages, the entire industry—including design, front-end and back-end processes—is at the center of trade wars, and foreign investment controls are a key issue for many Western countries. A key tool for governments to manage these geopolitical tensions.
Aspects of this trade war include not only the imposition of broad export control restrictions, but also intense scrutiny of transactions along the semiconductor value chain, especially when Asian investors are involved. Mainland China — a specific target of this campaign — has hit back by tightening its merger control regime, giving its authorities more tools to screen mergers and acquisitions in key industries such as semiconductors, which are already China’s largest by volume. one of the most scrutinized industries). Recently, there have been reports that the United States and the European Union are currently considering possible foreign investment controls, which may be a further escalation of such conflicts in the future.
Background
The global semiconductor industry expects global sales to exceed US$600 billion by 2022, and the market value of the world's top 10 chip companies will reach about US$2 trillion. Semiconductors play an increasingly important role in modern life, as cutting-edge chips are critical to future technological and economic development. Global demand for advanced semiconductors is expected to double by 2030.
However, Europe accounts for less than 10 percent of global semiconductor manufacturing, with the vast majority produced in the U.S. and Asia, especially in Taiwan and South Korea, and increasingly in mainland China. All of the world's most advanced semiconductor manufacturing capacity is currently located in Asia (92% in Taiwan, 8% in South Korea), while more capacity currently under construction in the US and Europe will take years to come to market funds.
The global semiconductor shortage since 2020 has made this difference more pronounced and exposed risks in the global supply chain. That has led to longer lead times for life-saving equipment and consumer electronics, and car production has fallen by around 30% in some EU member states. Meanwhile, 2022 will be characterized by geopolitical tensions, including ongoing tensions around Taiwan, China, and growing rivalry between the U.S. and China.
As a result, Western governments have turned to protecting and expanding their own semiconductor production capacity to enhance their competitiveness in the new global economic order. The European Union has proposed the European Chip Act to strengthen its future technological sovereignty and resilience, and announced a 43 billion euro investment plan. Given its political sensitivities, negotiations on the Eurochip Law have progressed faster than previously expected, with the Council of the European Union and the European Parliament reaching an interim political agreement on 18 April 2023.
Likewise, the United States introduced the CHIPS and Science Act in August 2022, aimed at strengthening the U.S. semiconductor industry, mobilizing approximately $280 billion. In October 2022, the United States will also impose new export restrictions on semiconductor manufacturing equipment and high-performance semiconductors of mainland Chinese companies, affecting not only equipment and semiconductors made in the United States, but also equipment and semiconductors manufactured in other countries using US-controlled technology. The Dutch government recently followed suit by introducing new restrictions on overseas sales of semiconductor technology on national security grounds, which will affect a major Dutch supplier to China's semiconductor industry.
Regulatory framework and practical impact
In addition to export controls, the Foreign Investment Review Mechanism is an important tool for the government to implement its semiconductor agenda. All major western foreign investment control regimes now feature some form of chip protection. For example:
In the EU, semiconductors are explicitly listed in the EU Screening Regulation as key technologies and related dual-use items that Member States and the Commission may consider when assessing foreign investment in the EU. Many EU member states, such as Italy and France, reflect this in their national systems.
However, there is a problem with the language in the EU Screening Regulation because it does not distinguish between different types of semiconductors. In fact, almost all production capacity currently located in the EU (especially CMOS processes) is related to rather old technology, which is by no means cutting-edge technology, and it is surprising that the foreign investment law does not make any distinction between technologies. In contrast, tools such as the EU Chip Act recognize the different relevance of different generations of semiconductor technology.
Furthermore, the EU screening regulations do not take into account the added value chain of the semiconductor industry, which is very complex in terms of design, front-end and back-end. Just like the production of traditional newspapers, there are many process steps, including chip design, front-end process printing large-scale integrated circuits on silicon wafers, and cutting these wafers into individual chips during the process. The EU rules do not even consider which of these steps are thin film deposition, photolithography, etching in the front-end process and dicing, wire bonding, molding in the back-end process, etc.
Some EU member states have introduced seemingly narrower rules. In Germany, the development, manufacture or processing of certain semiconductor products, such as integrated circuits or processing tools, including etching equipment, is the subject of a mandatory and suspended German foreign investment control regime in 2021. Since then, the acquisition of 20% or more of the voting rights of a German target company by a non-EU/EFTA investor for such activities has triggered mandatory reporting requirements and criminal sanctions for non-compliance. Similarly, in France, the acquisition of 25% or more of the voting rights of a French target company by a non-EU/EEA investor that conducts R&D activities related to a key technology triggers mandatory notification requirements and criminal sanctions for non-compliance . Again, however, national regulations take little account of the real complexity of the semiconductor value chain. Even the most specific German rules within the EU only refer "specifically" to certain types of semiconductor products, leaving open the question of which tasks and technologies are actually considered sensitive.
In the UK, the National Security and Investment Act 2021 (NSIA) came into effect in January 2022 and introduced mandatory pre-closing filing obligations for transactions in 17 key areas of national security risk listed in a separate schedule. Semiconductor businesses may fall under at least one of these 17 mandatory industries, specifically the "Advanced Materials" program. NSIA has very broad jurisdiction and the mandatory notification regime captures non-controlling minority stakes as low as 25%. Unfortunately, there are currently no detailed guidelines or similar material that allow somehow differentiating technology generations and/or process steps. Instead, as in the EU, entire industries and entire value chains are "pulled" into mandatory scrutiny.
In the United States, certain investments in critical technology businesses, broadly defined as control of businesses that develop or produce items subject to certain categories of U.S. export restrictions, require pre-closing filings with the Committee on Foreign Investment in the United States (CFIUS). The relevant export control categories were recently expanded to include advanced computing integrated circuits (ICs), computer goods incorporating such ICs, and certain semiconductor manufacturing items. In addition, CFIUS has jurisdiction over certain noncontrolling investments in such businesses. Accordingly, the expansion of U.S. export controls related to semiconductors and semiconductor manufacturing technology expands the scope of mandatory declarations and CFIUS jurisdiction over related transactions.
Governments tend to apply these rules fairly broadly by including upstream and downstream activities. Furthermore, it is clear that investors from China in particular are subject to greater scrutiny. This combination has led to an increase in the number of high-profile cases and injunction decisions in recent months – for example:
In the UK, the secretary of state recently blocked the Chinese-backed takeover of Newport Wafer Fab, the UK's largest semiconductor maker, by Nexperia. The Welsh factory is understood to produce transistor-style chips, which are commonly found in more basic items such as charging cables and hair dryers. The ban decision (the first to be made under NSIA's "review" provision) has received significant media and political scrutiny (including pressure from the U.S. Congress). Nexperia offered "far-reaching remedies" to address the findings, including a pledge not to undertake related compound semiconductor activities and allow the UK government direct control and involvement in the management of Newport. The two sides argue that in the absence of any "meaningful dialogue" this has been "completely ignored". Furthermore, it should be noted that to date, 3 out of 5 injunction decisions under NSIA involved companies active in the semiconductor supply chain.
In Germany, there will be seven applications for foreign investment regulatory review in the semiconductor industry in 2022 and another ten in 2021. In early 2022, German ultra-pure silicon wafer maker Siltronic's attempt to acquire Taiwan's Universal Wafers failed because the German government did not meet the deadline for the deal. In addition, at the end of 2022, the German government blocked a Chinese-funded Swedish company from acquiring a fab and investing in a company that manufactures wafer probing equipment. Based on what is known about other cases prohibited by Germany's foreign investment rules, it appears that at least most of the other cases have been granted, possibly requiring some mitigating measures.
In Italy, in April 2021, the Italian government exercised so-called "special powers" to veto the acquisition of a controlling stake in LPE, an Italian company engaged in the production of semiconductor equipment, in particular in epitaxy reactors, by the Chinese company Shenzhen Investment Holding Co. In the design and manufacture of the chip, it allows the connection between various devices on the chip.
Overall, based on existing case law, it is very challenging to identify a pattern of which technologies and which process steps are ultimately considered highly sensitive under foreign investment rules. In fact, some cases suggest that factors such as short-term political views are likely to trump technology-related considerations.
Main point
Semiconductor products fall within the scope of all major foreign investment control regimes, and regulators generally apply these rules broadly. Therefore, foreign investment control filing requirements should be carefully considered – and very likely to be mandatory – for any investment related to the broader semiconductor industry.
Success or failure often lies in the details, and not all semiconductor products should be considered sensitive from a foreign investment control perspective. Unfortunately, the relevant laws do not currently take into account technological differences to the extent they should, and the ongoing review of the EU and German rules will be an opportunity to focus more on technologies that actually trigger security benefits (rather than on politicians' industry policy considerations list). The EU Chip Law, for example, despite certain shortcomings, can serve as a good starting point for such considerations.
Heightened scrutiny of certain investors, especially from China, could lead to increased risks of Phase 2 scrutiny and remediation. Foreign investors should also be prepared to increase public interest and political engagement if a semiconductor deal becomes public. In each case, it is essential at an early stage in the transaction to assess in great detail which concessions may ultimately be necessary to secure foreign investment approval, how these interact with the rationale for the deal, and put in place appropriate contractual safeguards.