Chips, Cars, and China

Made in China: The rising challenge to global auto semiconductor suppliers is still underestimated.

Storm clouds continue to gather over U.S., European, and Japanese auto and industrial semiconductor suppliers, as risks to their China related revenue streams become increasingly acute. In the near term, these companies are experiencing signs of a cyclical recovery—following the end of a prolonged downturn and period of under shipment relative to end market demand. However, over the medium to long term, intensifying competitive pressure from Chinese firms—bolstered by state-driven industrial policy—will weigh on these companies’ earnings power and valuation multiples. From a stock valuation and exposure standpoint, Texas Instruments and ON Semiconductor stand out as two of the least attractive names in the group.

Last week, Nikkei Asia reported that China’s Ministry of Industry and Information Technology (MIIT) has raised its policy objective, setting a new goal of achieving full self-sufficiency in the development and production of automotive semiconductors by 2027. This marks a notable increase from its earlier target of achieving 25% self-sufficiency.

While full localization is not a mandated requirement and will likely prove overly ambitious in the near term, the policy direction is clear. Chinese automakers—including SAIC, BYD, Geely, FAW, and GAC—are proactively aligning their procurement strategies with national policy, accelerating the displacement of foreign suppliers.

Leading analog, microcontroller, and power semiconductor firms derive approximately 20–35% of their revenue from China. However, the market’s strategic value extends beyond top-line exposure: China has outpaced other regions in electric vehicle (EV) adoption and deployment of advanced driver-assistance systems (ADAS), making it a key engine of global growth for auto semiconductors.

The auto and industrial semiconductor markets are far from monolithic. These markets encompass a wide range of chips and applications, spanning from highly customized components to more standardized, commodity-like products. While this complexity suggests that Chinese suppliers share gains will play out over a number of years, the trend is already underway—and the pace of market share loss for foreign players could be faster than many expect.

A common counterpoint is that the rate of Chinese chipmakers share gains will be limited by inferior product quality—especially in segments requiring higher component complexity. However, in a policy-driven system like China’s, where official industrial targets carry significant weight, a “good enough” product—particularly if priced below foreign competitors—can be sufficient to gain market share. Moreover, Chinese companies have a history of surpassing expectations in how quickly they can make technical advances and move up the quality curve across other industries.

Mobileye’s recent experience in China illustrates this dynamic. Despite offering a higher-performing system-on-chip for advanced driver assistance systems, particularly in high-speed driving scenarios, the company has lost significant market share to local competitors whose chips were reportedly less advanced but more cost-effective. In a market where policy incentives and price competitiveness dominate, even technically less robust products can displace established leaders.

The implications of rising Chinese competition will not be uniform across the semiconductor sector. Gross margin serves as a useful proxy for comparing and contrasting companies’ product differentiation, pricing power, and vulnerability to competition. Firms with high value-added products—reflected in stronger margin profiles—are better insulated from market share loss and pricing pressure. For example, Analog Devices (ADI), with a gross margin of approximately 70%, benefits from significant pricing power and specialized offerings, making it less susceptible to displacement. In contrast, companies like ON Semiconductor, with a gross margin of now less than 40%, are more exposed with a higher mix of lower value added products and weaker pricing leverage—placing them at greater risk as Chinese players gain share.

One Firm’s Growth Is Another’s Decline

Ironically, the competitive rise of Chinese chipmakers has been enabled by U.S., Japanese, and Dutch semiconductor production equipment manufacturers. While U.S. export controls have restricted China’s access to advanced-node manufacturing tools, they have not limited the sale of equipment used in “lagging-edge” process technologies—the dominant nodes used in the production of automotive and industrial semiconductors.

This regulatory gap has allowed Chinese semiconductor firms to expand their capability and capacity in precisely the areas where companies like NXP, ON Semiconductor, Texas Instrument, and Infineon are most exposed. As a result, foreign suppliers now face intensifying competition—facilitated by equipment provided by U.S., Japanese, and Dutch toolmakers—as Chinese firms scale production targeting the automotive, industrial, and consumer electronics end markets.

By early 2024, global semiconductor equipment sales to China had more than doubled, accounting for over 40% of total revenue—up from less than 20% in late 2022. Some argue that extending export restrictions to lagging-edge equipment would be excessive and forgo valuable sales. However, the revenue gains of semiconductor equipment companies come at the expense of market share and revenue for firms like Texas Instruments, ON Semiconductor, and NXP, as Chinese competitors—backed by state subsidies—expand production not to generate profit, but to fulfill the government’s strategic self-sufficiency objectives.

This is a familiar playbook. Across industry after industry, China has prioritized national strategic goals and production output over profits, leading to global overcapacity and ultimately downward pressure on industry economics. Even if Chinese semiconductor capacity remains focused on the domestic market, its global impact will be material. China is projected to account for 39% of mature-node foundry capacity by 2027, up from 31% in 2023.

The Global Ripple Effect of Rising Chinese Competition

While the long-term threat posed by China is gaining attention, the full magnitude of the challenge remains underappreciated. As detailed in my post China’s Subsidized Silicon Strategy, Chinese chipmakers—benefiting from a debt-fueled industrial policy and state subsidies— are rapidly scaling production while operating under a fundamentally different set of rules. This dynamic distorts market pricing, undercuts foreign competitors, and poses a growing threat to U.S., Japanese, and European semiconductor firms.

With China as the world’s largest semiconductor market, even a gradual displacement of foreign suppliers will erode China-sourced revenue for these firms and trigger a ripple effect beyond China. As companies seek to offset lost revenue, competition will intensify, further pressuring market dynamics worldwide.

Auto Chip Risk from China’s EV Rise

For U.S., Japanese and European auto semiconductor companies, the challenge extends beyond direct competition with Chinese chipmakers. A second-order effect is emerging: the global rise of Chinese EV OEMs—particularly in Europe—poses an additional threat. These vehicles will be increasingly built using domestic Chinese components, including semiconductors, further displacing incumbent suppliers.

While China has developed globally competitive EVs, the sector’s rapid growth has been heavily subsidized and supported by a financial system that prioritizes production over profitability. This has enabled Chinese automakers to scale aggressively, leading to overcapacity and aggressive pricing, conditions that would not be sustainable in market-based economies. The result is a structural distortion that amplifies competitive pressure on Western and Japanese semiconductor and automotive firms alike.

Companies like NXP and ON Semiconductor—with over 50% of revenue tied to the automotive sector—are particularly exposed, as Chinese competitors gain market share not through pure market-based competition, but with a significant advantage from an economic and financial system engineered to fulfill national strategic policy objectives. As Chinese firms scale, the pattern is consistent: they first displace foreign competitors within the domestic market. Over time, as excess capacity accumulates—a recurring feature of China’s economic model—that production spills into global markets, intensifying competitive pressures and undermining pricing power across the industry.

China Inc.’s Debt Driven Growth Model

To achieve its economic policy goals, the Chinese Communist Party (CCP) relies heavily on credit as its primary lever of economic control, channeled through state-owned banks, local government financing vehicles (LGFVs), and non-bank financial institutions. Under Xi Jinping’s leadership, the financial sector has become even more politically driven, as strategic objectives increasingly take precedence over profitability.

While state-directed industrial growth has long been a feature of China’s economy, Xi Jinping’s leadership has intensified this model—expanding the supply-side policy framework to accelerate technological self-reliance and reduce dependence on foreign suppliers. Semiconductors and EVs are both at the center of this strategy. In industry after industry this approach has led to excess investment and structural overcapacity.

Reflecting the consequences of China’s economic policy model, a report from the European Central Bank highlighted that the share of loss-making Chinese industrial firms has doubled since 2018, reaching 28%. This trend, coupled with a concurrent sharp rise in the inventory-to-sales ratio among industrial firms, highlights the deflationary pressures mounting in sectors burdened by severe overcapacity—within a financial system where loss-making companies are often shielded from typical market-based consequences.

The effects of China’s excess industrial and manufacturing capacity are not limited to its domestic market. Increasingly, China is exporting its surplus production, amplifying the impact on global markets. This export-driven strategy is a critical pillar of China’s economic growth—and one that is unlikely to reverse in the near term. As outlined in my post Trade War: China’s Economic Fault Line, this approach is also closely tied to China’s reliance on its trade surplus as a key source of domestic liquidity and economic growth. According to the Mercator Institute for Chinese Studies, China’s global trade surplus reached $992 billion in 2024, equivalent to 5.6% of GDP, with net exports accounting for 30% of GDP growth.

Headwinds on the Horizon

Just as many analysts and investors underestimated the extent to which auto and industrial chip suppliers were over-shipping during the last cyclical upturn, many now appear to be underestimating the competitive threat posed by emerging Chinese players. This risk is being obscured by near-term optimism, as management teams offer more constructive commentary while exiting a period of under-shipping relative to end market demand and a likely boost to revenue from demand pulled forward in response to tariff uncertainty.

Once this phase of revenue mean reversion passes, and as Chinese competitors continue to gain traction, the longer-term implications will come into sharper focus. A structural shift in the competitive landscape is likely to drive a valuation derating for U.S. and European auto and industrial semiconductor stocks relative to the broader market.

The impact, however, will vary by company. Texas Instruments, for example, trades at more than 30x forward earnings—leaving it more exposed to absolute downside risk. In contrast, while NXP is also vulnerable given its significant exposure to China and the auto sector, some of this risk appears to be priced in. The stock currently trades at 15x forward earnings, a discount to the S&P 500, suggesting a greater likelihood of relative underperformance rather than absolute downside in the near term.