ASML: Trying to Endure U.S. Sanctions That are Ineffective and Backfiring
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U.S. sanctions on semiconductor technology are failing to curb China’s technological advancements and are inadvertently strengthening its domestic industry.
Potential U.S. sanctions on prohibiting ASML to service and sell parts to customers of its equipment in China will not work, and ASML may actually benefit
ASML remains unchallenged in the Chinese DUV lithography market, ensuring continued strong growth prospects through 2025.
Despite regulatory pressures, ASML's substantial revenue growth from China underscores its resilience and competitive edge in the global semiconductor sector.
On August 29, Bloomberg reported, citing anonymous sources, that the Dutch government plans to restrict ASML's provision of repair and maintenance services for semiconductor equipment to Chinese customers, which may result in some equipment being unable to operate as early as next year.
For ASML, an agreement poses significant operational challenges, as it restricts the company's ability to support and service its existing Chinese customers. This could disrupt the operations of Chinese semiconductor manufacturers and impact production capabilities.
Former Dutch Prime Minister Rutte resisted pressure from the United States and asked for more time to evaluate the impact of export restrictions on advanced semiconductor manufacturing equipment. However, current Prime Minister Schoff is unlikely to renew the relevant licenses expiring by the end of this year.
The move reflects a strategic push by the U.S. to control technology transfer and maintain technological superiority. It also highlights the growing geopolitical tensions over technology and trade, affecting global semiconductor supply chains and diplomatic relations between the Netherlands, the U.S., and China.
In this article, I discuss how the restriction on maintenance of ASML’s equipment could lead to broader ramifications for the semiconductor industry, influencing global supply chains and the dynamics of technology transfer.
I also demonstrate how overall U.S. sanctions have become a catalyst for increasing self-sufficiency in China’s domestic equipment production
ASML’s Past Headwinds
I’ve written a dozen articles on ASML, its sanctions, and headwinds from internal issues, and readers can do a search to find every one of them and details of these headwinds. The internal issues have been resolved, including supply chain disruptions post Covid lockdowns, and a Jan. 3, 2022 fire inside the section of ASML's Berlin factory that makes optical components for the company's lithography scanners.
A more recent headwind tied to supply-chain issues is ASML’s shipping of incomplete EUV systems to customers, as I explain in one of my articles:
"Because of the complexity of the EUV systems, ASML has a unique way of categorizing EUV sales vs. shipped. ASML uses the term "fast shipments," which is in support of customers' desire to bring systems into production as quickly as possible. By skipping some of these testings in its factory, ASML can shorten the cycle time. Final testing and formal acceptance then take place at the customer side, at which time ASML will recognize revenue."
Currently "fast shipments" are significant. As ASML's Skip Miller noted:
"We currently have $2.2 billion coming out of 2022 into '23, and depending on how fast shipments evolve, we may have some coming out of Q4 next year unless we're able to result some of the accounting issues with respect to revenue recognition."
On the "accounting issues", ASML is trying to get customers to accept the EUV lithography system on the basis of testing done at ASML, rather than at testing of the incomplete system at the customer's fab.
These “fast shipments” had a negative impact on shipments of EUV systems, but the Chinese semiconductor companies in their exuberance to acquire ASML’s DUV systems weren’t bothered and took them “as is” and sounded like the Dicken’s orphan Oliver Twist who said “I want more” for another helping of food.
I also discussed U.S. governmental efforts to have DUV systems also restricted from being shipped to China. The National Security Commission on Artificial Intelligence (the Commission) is a committee established by Congress in the John S. McCain National Defense Authorization Act for Fiscal Year 2019.
But the headwinds facing ASML, which go back to 2018 and continue to the present time, are U.S. sanction on shipping lithography systems to China. These are highlighted as follows:
Timeline of Sanctions and Export Controls Affecting ASML
June 18, 2018:
Early Discussions: The U.S. government begins discussions with allies about restricting the export of advanced semiconductor manufacturing technology to China, focusing on EUV lithography.
September 2019:
Informal Restrictions on EUV Equipment: The U.S. imposes informal restrictions on the sale of EUV lithography machines to China. Although not formalized, these restrictions impact ASML's business with Chinese customers.
March 2020:
Restrictions on EUV Equipment: ASML announces that it is unable to deliver EUV lithography machines to its Chinese customers due to U.S. export control restrictions. The impact on their business becomes apparent.
October 7, 2020:
Formal Export Control Implementation: The U.S. formally enforces export controls prohibiting ASML from selling EUV lithography equipment to China. This formalizes the restrictions and impacts ASML's sales strategy.
July 2021:
Expansion to DUV Lithography: The U.S. expands its restrictions to include deep ultraviolet (DUV) lithography machines. Specifically restrictions are placed on DUV models such as the TWINSCAN NXT:2000i and TWINSCAN NXT:2050i, preventing ASML from shipping these models to China.
October 7, 2022:
Further Expansion of DUV Restrictions: The U.S. tightens restrictions on DUV lithography equipment. The sanctions now also affect older and less advanced models of DUV machines, such as the TWINSCAN NXT:1980Di, restricting their export to China. This expansion aims to limit China's capabilities in producing advanced semiconductors using a broader range of equipment.
October 2023:
Additional Restrictions and Enforcement: The U.S. enforces additional sanctions on semiconductor technology exports to China. These include enhanced controls on both EUV and DUV machines. New measures require stricter compliance and reporting from companies like ASML, further complicating their ability to do business with Chinese customers. The restrictions now also encompass a wider array of semiconductor manufacturing technologies.
April 2024:
Current Status: The export restrictions remain in place with ongoing adjustments. ASML continues to navigate the complex landscape of U.S. regulations, impacting its operations and sales strategies in the Chinese market.
China Equipment Purchases
In Table 1, I show equipment revenues from sales generated in China by quarter from Q1 2023 through Q2 2024. ASML’s (ASML) Q2 2024 revenue increased over the 3-quarter-average of 44% to 49%, indicating strong continued demand for its lithography systems. These are revenues from Semiconductor Equipment from China and exclude its other segments.
In Q1 2024 ASML generated 49% of revenues from China. Significantly larger than the 17% in 2022, it peaked at 46% in Q3 2023, slowed in Q4 2023, before increasing again in Q1 2024, according to my report entitled “Mainland China’s Semiconductor and Equipment Markets: Analysis and Manufacturing.”
There are important takeaways, according to Table 1 and according to according to The Information Network’s report entitled “Global Semiconductor Equipment: Markets, Market Shares and Market Forecasts.”
• AMAT exhibited the greatest percentage of revenue from China that the other peers and competitors. Equally important, revenues generated averaged 55% for the past three quarters, only do drop to 39% in the recent quarter.
• The subtotal of all companies, which averaged 47% in the past three quarters only to drop to 45%, due to the drop at AMAT on its loss of the DRAM business in China.
• Lam Research (LRCX), a major competitor to AMAT in memory chip production, dropped from a 3-quarter average of 43% to 39%.
• KLA (KLAC) with a 3-quarter average of 42% increased to 43%.
• Tokyo Electron (TOELY) increased to 50% in Q2 2024 and above its 3-quarter-
average of 46%.
• Screen’s (DINRF) Q2 2024 China revenues were 46% in Q2 2024 and above its 3-
quarter-average of 44%.
Service Revenues From China
ASML’s service revenue was 24% of total revenue in Q2 2024. Based in ASML’s revenues from China were $2,533 million (equipment only) in Q2 as show in above in Table 1. That means that service revenue from China was $600 million, based on a selling price to China of $3,322 million.
In principle, ASML would not be able to generate the $600 million. But as I noted above, ASML received acceptance from its customers on DUV tools to recognize revenue upon shipment. This resulted in €700M of revenue recognized in 2023 and no longer deferred into 2024 in its Fast Shipment program, as a result of screaming demand for DUV systems coming from China.
I suspect that based on demand, ASML could sell its systems to China for full price even without a service contract, thereby generating the additional 24% of sales. Yes I know its price gouging but I doubt ASML executives are Democrats.
Chart 1 shows HoH revenue growth for 1H 2024 / 1H 2023 for Chinese equipment suppliers and non-domestic competitors. ACM Research Shanghai grew 49.3% versus 1H 2023. In fact, the mean growth of Chinese companies grew 43.4% YoY. Each of these Chinese companies sells semiconductor processing equipment, primarily deposition, etch, and/or cleaning.
Non-Chinese companies fared badly, with the mean HoH growth of -2.7%. Importantly for this article, Lam Research grew 6.2%, better than major etch companies Applied Materials at -4.9% and Tokyo Electron ("TEL") at -13.8%. ASML’s HoH revenues grew -20.0%.
Table 1
The growth of Chinese equipment companies is not unusual as Table 2 shows similar HoH growth for 1H 2023 / 1H 2022. HoH growth for Chinese equipment companies had a mean growth of 48.8% versus -3.3% for non-Chinese companies.
Chart 2
Granted revenues for Chinese companies are lower than those of the non-Chinese companies, but with continuous double-digit growth that will change. In fact, in 2023 Chinese equipment company Naura was the #9 company globally based on revenues, as shown in Chart 2. ASML took over the lead at #1 over AMAT.
Investor Takeaway
Financial Impact and Market Dynamics
Despite these challenges, ASML has demonstrated resilience. In Q2 2024, the company saw a significant increase in revenue from China, reaching 49% compared to 17% in 2022. This surge reflects strong demand for ASML’s lithography systems, particularly DUV models.
However, the broader market context reveals a shift in dynamics. ASML's competitors in the semiconductor equipment sector, such as Lam Research, KLA, and Tokyo Electron, are also navigating similar geopolitical pressures. The growth of Chinese equipment suppliers, driven by domestic demand and increasing self-sufficiency, adds another layer of complexity to the competitive landscape.
The ongoing sanctions have aimed to limit China's access to advanced semiconductor technologies, but evidence suggests they are falling short. For example, Applied Materials faced a significant setback, losing $700 million due to the erosion of its DRAM business in China. This loss highlights the unintended consequences of the sanctions, which have spurred growth in China's domestic semiconductor industry, particularly in deposition and etch technologies.
Despite these challenges, ASML is uniquely positioned in the market. The company faces no direct Chinese competition in the DUV (Deep Ultraviolet) lithography sector. This absence of local competitors provides ASML with a strong competitive edge in China, suggesting that its growth trajectory in this market could remain robust through 2025.
ASML's strong performance in the Chinese market is reflected in its financials. In Q2 2024, the company achieved 49% of its revenue from China, a substantial increase from 17% in 2022. This growth underscores the ongoing demand for ASML’s lithography systems despite the sanctions. The company’s ability to recognize €700 million in revenue from DUV systems in 2023, due to high demand and the “fast shipments” program, further supports its strong market position.