Going Dutch
In the US-China chip war, the Netherlands struggles to split the bill.
“If you can't ride two horses at once, you shouldn't be in the circus.” – James Maxton
An oddity of human nature is that more money will often be spent chasing a prize in aggregate than it is objectively worth. This is why lotteries are profitable, casinos are willing to comp so many drinks, and big pharmaceutical companies make way for upstarts to discover blockbuster drugs before buying the proven ones at auction. Colloquially known as “prize theory,” the framework explains the motivations behind much of the high-risk, high-reward behavior observed across the economy that amplifies the competitive dynamic of markets.
Consider the Herculean efforts performed by the armies of researchers keeping semiconductor chip development on the path of Moore’s Law. The foundational technologies that will enable future generations of computing performance are unknowable in advance, and the vast majority of projects underwritten to discover them don’t produce a meaningful return. Despite this dim outlook, big winners emerge with just enough regularity to keep the race crowded.
One such winner is Advanced Semiconductor Materials Lithography (ASML), a joint venture formed between Philips and ASM International in 1984. Through years of extensive research, shrewd partnerships, and a little luck, ASML has come to effectively monopolize a suite of technologies that are indispensable to the fabrication of the world’s best chips. The Dutch company builds and services lithography machines that generate precisely controlled light capable of etching extremely small and detailed patterns onto silicon wafers. As a consequence, ASML has enjoyed explosive growth and excellent profit margins.
With a market cap in excess of $300 billion, ASML is the largest publicly traded technology company in Europe. With that distinction comes a slew of geopolitical challenges. As the US and China engage in a semiconductor arms race, the company finds itself in the unenviable position of having to please one superpower while suffering the wrath of the other. The issue is made all the more sensitive by the fact that China’s share of ASML’s net systems revenue dwarfs that of the US and would surely be even higher absent regulations. Here is a key segment from ASML’s latest annual report:
“In 2023, the market continued to be influenced by governments focusing on incentives to encourage the construction of semiconductor manufacturing facilities in their respective countries through chips acts. This led our customers to look into expanding their manufacturing in these new geographical locations. However, the readiness of these 'off-shore' facilities has been impacted due to a shortage of experienced staff in these new locations. In addition, new regulations were announced and imposed by the Dutch, US and Japanese governments regarding the export control of advanced semiconductor equipment impacting the customers in China that are using advanced lithography tools.”
As each attempt by the US to snuff out China’s development of semiconductor chips fails to achieve its desired objectives, Washington continues to expand both the sanctions regime and the threatened consequences for non-compliance. This is causing great unease for firms all along the supply chain. China is not without retaliatory weapons, of course, and has used its vast leverage to great effect thus far, offering a combination of its own sticks and carrots to achieve its national objectives. As arguably the most important company in the industry, ASML has a shrinking window to settle the issue decisively and the US is pushing it aggressively to do so. How will the Netherlands react to having its national economic anchor put in an impossible position? Will ASML abide by the US demands? What can China do in response? Let’s take a look at the chips on the table.