amsung Electronics, one of the leading semiconductor companies, has also experienced a downturn. According to recent reports from Yonhap News Agency, Samsung Group’s largest subsidiary, Samsung Electronics, had a first-quarter operating profit of only KRW 6 trillion, a sharp decline of 95.8% year-on-year, and the lowest level in 14 years. In addition to the profit drop, Samsung Electronics’ revenue also fell sharply, with first-quarter sales of KRW 63 trillion, down 19% year-on-year.

Regarding the huge losses, Samsung Electronics explained that all of its businesses, from chips to displays and electronic devices, have experienced weak demand. However, analysts believe that the losses in the chip business are the main factor.

Bloomberg estimates that Samsung Electronics’ storage chip division lost about $3 billion, coupled with a sharp drop in industry demand. At the end of last year, Samsung Electronics’ inventory was as high as KRW 52.2 trillion, equivalent to half of its quarterly sales.

Under performance pressure, Samsung Electronics has finally begun to release signals of production cuts, stating that it is “cutting memory production to a meaningful level,” changing its previous stance of not deliberately reducing production. With the release of the production cut signal, Samsung and Hynix’s stock prices have risen accordingly.

The semiconductor division has always been Samsung Electronics’ main source of profit, contributing to 80% of the company’s profits at its peak. However, since last year, the proportion of profits contributed by the division has been declining.

Financial data shows that Samsung Electronics’ profit for the full year 2022 was KRW 43.3 trillion, of which the semiconductor business contributed KRW 23.8 trillion.

Looking at the quarterly figures, the semiconductor division’s profits in the four quarters of last year were KRW 85 trillion, KRW 99 trillion, KRW 51.2 trillion, and KRW 2.7 trillion.

With weak demand and pressure on performance, in February of this year, Samsung Electronics borrowed KRW 20 trillion from its sister company, Samsung Display, to ensure sufficient operating funds.

According to financial data, Samsung Electronics had KRW 115.2 trillion in cash at the end of last year. Borrowing externally even with sufficient cash may be related to its planned investments.

Behind the high value-added and high-profit semiconductor industry, the required R&D and infrastructure costs are very high. In 2022, Samsung Electronics invested KRW 53.1 trillion in related infrastructure, far exceeding its operating profit.

In addition, on March 15th, according to Yonhap News Agency, Samsung plans to invest KRW 300 trillion in Gyeonggi Province to build the world’s largest semiconductor cluster, which will include at least five advanced process wafer foundries. The investment amount for this plan is higher than the total amount invested in Chinese semiconductor projects last year.

Samsung’s aim with this move is to maintain its position as the dominant player in memory chips while narrowing the gap with TSMC in logic chips, in order to obtain higher profits in markets such as consumer electronics, automobiles, and AI. However, in the downward cycle of the industry, maintaining investments is becoming increasingly difficult, and the semiconductor business is gradually becoming a burden for Samsung Electronics, which used to be its main pillar.

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The news of Samsung’s production cuts significantly boosted investor sentiment, with the stock price rising 4.7% on the day of the announcement, marking the highest increase in three months.

However, the stock market often leads the market, and analysts generally expect the effects of capacity adjustments to begin to show in the second half of the year. This means that the semiconductor business’s loss gap may further widen in the second quarter, and there is a risk of an overall loss for Samsung Electronics in the second quarter.

Nevertheless, the outside world is not surprised by Samsung’s measures. Samsung has always chosen not to slow down during difficult times in order to seize market share from its competitors.

Due to the ongoing industry downturn, major memory chip manufacturers have announced production cuts in recent months. Micron announced a 20% reduction in DRAM and NAND Flash production, while Kioxia announced a 30% reduction in NAND Flash production. However, as long as Samsung, with the highest market share, does not compromise, other manufacturers’ production cuts cannot obtain pricing power.

However, in the first quarter of this year, the pressure of profitability and inventory forced Samsung to compromise with the market and announce production cuts.

Of course, the downturn in the memory market is not the only factor for Samsung’s compromise. As a “two-pronged” player in the semiconductor business, Samsung also needs to take a breather through market recovery.

As the leader in the memory chip race, Samsung has the deepest understanding of how cycles affect the industry. This year’s poor performance in the first quarter is evidence of this. Therefore, TSMC, which relies on wafer foundry to weather the cycle, has become the object of Samsung’s imitation.

At the end of last year, a research institute released a report stating that Samsung’s wafer foundry revenue will reach $5.584 billion in the third quarter of 2022, higher than NAND flash business’s sales revenue of $4.3 billion. Foreign media reported that this is the first time that Samsung’s wafer foundry business revenue has exceeded NAND flash business revenue.

However, the main factor behind this achievement is the low demand and price collapse of NAND flash, not how much progress the wafer foundry business itself has made.

At the end of 2020 and the beginning of 2021, Qualcomm released two flagship processors, Snapdragon 888 and Snapdragon 8Gen1, both of which were manufactured by Samsung. However, Samsung’s manufacturing process performed poorly, with low yields, high power consumption, and poor market feedback.

Meanwhile, Qualcomm’s old rival MediaTek joined forces with TSMC to eat away at Qualcomm’s market share. Under market pressure, from May last year, Qualcomm’s new generation flagship chip has been manufactured by TSMC.

On March 12th, Samsung released its “Electronics Business Report,” which mentioned that Samsung will begin mass-producing third-generation 4nm chips from the first half of 2023. However, a week later, Qualcomm released the Snapdragon 7+ processor, still choosing TSMC’s 4nm process.

Just as the wafer foundry business lost a major customer, the consumer electronics industry has yet to see a recovery, and Samsung is finding it difficult to withstand the continued price reductions of memory chips.

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Qualcomm’s move is just another setback for Samsung’s challenge against TSMC. Over the past decade, surpassing TSMC has become an obsession for Samsung.

In 2005, during a downturn in the global memory market, Samsung entered the chip foundry industry. Prior to that, Samsung and TSMC, one doing memory chips and the other logic chips, coexisted without competing.

In the chip foundry market, Samsung struggled to gain traction until 2009.

The financial crisis hit the semiconductor industry hard, and during that time, TSMC made significant cuts in headcount and salaries. Samsung seized the opportunity and offered double the salaries to poach dozens of TSMC employees, including Jiang Shangyi’s student, Liang Mengsong. With Liang’s help, Samsung’s process technology made rapid progress and it was the first to mass-produce 14nm process technology ahead of TSMC. This technological breakthrough allowed Samsung to attract large customers such as Apple and Qualcomm.

However, in 2011, TSMC sued Liang Mengsong, preventing him from continuing to work for Samsung, which slowed Samsung’s progress. Since then, TSMC has always been ahead of Samsung from the crucial 10nm process technology node.

After this failed challenge, in 2019, Samsung set a new goal to surpass TSMC in chip foundry within 12 years while maintaining its global leadership in memory chips.

Counter-cyclical investment was once an important tool for Samsung to establish its position in the memory industry. In 2007-2008, the memory market was in a slump and manufacturers reduced production, but Samsung increased capacity significantly, causing the price of memory chips to fall below material cost, forcing giants like Elpida to go bankrupt and leaving Samsung as the sole dominant player.

Now, Samsung wants to crush TSMC in the same way it defeated Elpida. Last May, Samsung announced a massive investment plan of $35.5 billion over the next five years in chips, biotech, and other fields.

Samsung’s counter-cyclical expansion is not only reflected in its funds and infrastructure, but also in its talent reserves. According to South Korean media reports at the end of last year, Samsung’s System LSI department plans to expand its workforce from 9,000 to 15,000 employees over five years, focusing on strengthening human resources in semiconductor design and research and development to adjust Qualcomm and Sony’s leadership positions in specific fields.

In addition, perhaps because of its success in poaching Liang Mengsong, Samsung hired TSMC veteran Lin Juncheng in March this year to fill the gap in advanced packaging technology. In fact, talent poaching is common in the semiconductor industry, and Samsung has always been keen on technology talent, having poached several executives from competitors in recent years, such as Apple’s semiconductor expert Kim Woo-pyeong and Intel’s technical expert Lee Sang-hoon.

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Samsung’s purpose for each of its contrarian investments is to gain a larger market share and profit. If Samsung can truly surpass TSMC, it will have almost absolute pricing power in the semiconductor market. However, TSMC is not an easy opponent to beat, and Samsung’s gamble faces great risks.

In order to surpass TSMC, Samsung must not lag behind in capital expenditures. From 2018 to 2021, Samsung’s capital expenditures were far higher than TSMC’s, but more of it was invested in memory. Although investments in the chip foundry business grew rapidly, they were still less than half of what TSMC invested.

This is also one of the difficulties that Samsung faces in implementing its plan. Samsung not only needs to occasionally use price wars to suppress memory chip manufacturers but also needs to catch up with TSMC in the wafer foundry field. In the past, wafer foundry could rely on the profits of memory chips to support it. Now that memory chips themselves are losing money, they have become a burden on the company, and Samsung Electronics also has to rely on its sister companies to maintain normal operations under huge investments.

In addition, the internal management chaos of Samsung Electronics is also a cause for concern. Following last year’s rumors of internal fighting and falsifying yield rates, Samsung Electronics experienced three data breaches after introducing ChatGPT in March this year.

Nevertheless, the demand for AI is still a great hope for Samsung to surpass TSMC.

According to foreign media reports, Samsung’s semiconductor foundry division has begun to manufacture NPU chips named Warboy for FuriosaAI, a local Korean company that does not have its own wafer fab. In addition to FuriosaAI, another Korean start-up, Rebellions, which focuses on AI semiconductor design, will also use Samsung Electronics’ 5nm process technology to manufacture their chips.

Although the order volume for these companies is very small, it represents a major trend in the current semiconductor industry: the consumer electronics market continues to be weak, and the demand for AI is growing steadily.

As Google launches Bard, Baidu releases Wenxin Yiyan, and Microsoft integrates ChatGPT into Bing, more and more tech giants are preparing to join the AI big model rush.

As with all gold rushes in history, those who sell shovels are guaranteed to make a profit.

In the AI boom triggered by ChatGPT, although orders from major customers such as Nvidia have flowed to TSMC, some industry insiders point out that the foundry market may rapidly grow as global companies rush to enter the AI industry. Even Nvidia may also divert some of its orders to Samsung Electronics in the future to ensure production capacity.

Of course, distant water cannot quench immediate thirst. The memory chip market has not yet bottomed out, and the wafer foundry business has not yet regained customer trust. Over the next few quarters, the pressured semiconductor business will still be the biggest burden on Samsung Electronics’ performance.