Growing doubts despite record profits, 'long-term semiconductor boom theory' is put on hold

Memory prices boosted by supply shortages, semiconductor earnings strong
Tapering growth in profits expected as long-term contracts with price caps increase
Demand and competition conditions unclear, raising doubts about sustainability of the boom

Questions have been raised about the sustainability of the semiconductor boom that supports the South Korean economy. Exports and corporate profits soared due to memory supply shortages and soaring prices, but it remains unclear whether future performance can be boosted at the same pace. There are also forecasts that the price increases of memory will be limited as long-term supply contracts with price caps increase. On top of this, the possibility of a slowdown in artificial intelligence (AI) investment and China's technological catch-up have dampened hopes that long-term prosperity would continue.

Weakened industrial competitiveness overshadowed by semiconductor earnings

At an economic policy roundtable jointly hosted on the 12th by the Near Foundation, Korea Development Institute (KDI), and the Korean Economic Association, it was diagnosed that this year's improvements in exports and corporate earnings due to the AI semiconductor boom cannot be seen as a recovery in overall industrial competitiveness. Kwon Nam-hoon, president of the Korea Institute for Industrial Economics & Trade, warned against the weakening industrial competitiveness obscured by increased aggregate indicators driven by semiconductors. The growth rate of total factor productivity, the ability to generate more added value with the same labor and capital, has slowed, weakening the South Korean economy's long-term growth engine. Kim Miru, head of macro-financial policy research at KDI, warned that if the long-term growth rate continues to decline by about 1 percentage point every five years, growth could nearly stagnate around 2029-2030. He cautioned that complacency with the semiconductor-centered short-term boom could cause one to overlook structural vulnerabilities and slowing growth across industries.

In fact, dependence on semiconductors in exports is increasing. Last month, semiconductor exports reached US$60.3 billion, accounting for half of the total exports of US$120.94 billion. The overlapping effects of expanded AI infrastructure investment and rising memory prices have concentrated export performance in specific items. Meanwhile, traditional core industries such as petrochemicals, steel, and batteries have seen a decline in production base vitality, with production facility utilization rates falling in recent years. Factors weakening competitiveness in these sectors include a global demand slowdown and China's overexpansion of production capacity. Intensified supply competition amid insufficient demand growth is pressuring the profitability of domestic companies.

"Beware of semiconductor-induced illusions, cannot guarantee 10 years"

Uncertainty remains over the sustainability of the semiconductor boom driving South Korea's economic growth. On the 10th, former Bank of Korea Governor Lee Chang-yong said, “There is concern that the semiconductor cycle, said to last 10 years, might end in just a few years.” He noted that current domestic semiconductor companies' performances reflect the impact of export restrictions due to U.S.-China conflict limiting China's access to advanced equipment. If export restrictions ease or China develops its own lithography equipment, Samsung Electronics and SK Hynix may find it difficult to maintain high profit margins.

Such uncertainty also burdens fiscal management. The OECD pointed out in its July Korea Economic Report that Korea's tax revenue is heavily influenced by corporate taxes, which are sensitive to the semiconductor industry's performance. It identified Korea's habit of using increased tax revenue during economic booms for sustained spending expansion as a risk factor. In fact, during the peak semiconductor years of 2021-2022, soaring tax revenue was quickly reflected in supplementary budgets, while in 2023-2024, when tax revenue decreased, spending cuts were difficult to implement. In this process, the government's self-set target of a 3% deficit in the management fiscal balance relative to GDP was not met. This means that if the semiconductor industry also weakens amid rising welfare spending due to aging, the government's capacity to respond to economic fluctuations and support vulnerable groups could be reduced.

There is also concern that operational difficulties in vulnerable industries could spread to financial sector insolvency. According to a report titled 'The Shadow of Growth Polarization: Risk in Loans to Vulnerable Industry Enterprises' released by the Korea Institute of Finance on the 12th, the construction and real estate sectors are under profit pressure due to non-performing real estate project financing (PF), severe unsold units, and rising construction costs. The retail sector faces restructuring centered on online distribution and sluggish domestic demand. Notably, real estate and retail industries account for 36.5% and 23.9%, respectively, of all corporate loans in the financial sector, meaning 60.4% of loans are concentrated in these two sectors. These sectors have a high proportion of high-interest non-bank loans and small business loans, making them vulnerable to interest burdens. The Korea Institute of Finance warned that prolonged high inflation and interest rates could degrade borrowers' repayment abilities and increase delinquencies, which could impair the soundness of some non-bank financial companies.

Table 1. Market caution signals surrounding the semiconductor boom

Foreign investors remain sellers despite record profits

Market caution about the semiconductor boom is also seen in foreign investors' selling trends. Foreign investors, who have been reducing their Samsung Electronics holdings this year, continued selling even after Samsung announced a record US$82.6 billion preliminary operating profit for the third quarter on the 8th. The surge in selling led to a drop of over 4% in Samsung Electronics and SK Hynix share prices on the 12th, pulling down the KOSPI. Samsung Electronics' foreign ownership ratio fell to 46.35%, a level last seen during the global financial crisis. Despite record profits, buying momentum has not revived, weakening the stock market rally led by major semiconductor stocks.

The background to foreign outflows is attributed to heightened earnings expectations and worries about slowing profit growth. The sharp rise in memory prices led to upward revisions of earnings forecasts, reducing the impact of record profits as new drivers for stock prices. Forecasts of a slowdown in memory price increases also amplify these concerns. Market research firm TrendForce predicts that the contract price of general-purpose DRAM in Q4 will rise 10–15% from the previous quarter. Avril Wu, TrendForce's senior vice president, said that the increasing share of long-term contracts with price ceilings limits price growth. Additionally, concerns that a slowdown in AI investment growth could simultaneously affect memory demand and prices are weighing down investor sentiment.

Cap on undervaluation expectations amid fund outflows

Even the lowered price-to-earnings ratio (PER) reflects these uncertainties. The PER of four times cited for Samsung Electronics is based on next year's expected earnings. Depending on the realization of earnings forecasts, current stock price evaluations can vary. Particularly in industries like semiconductors with volatile earnings cycles, PER often decreases when profits peak because rapidly increased earnings inflate perceived undervaluation. If earnings estimates are revised downward afterward, PER rises even if stock prices remain unchanged. Thus, the current low multiple simultaneously reflects expectations of sustained high profits and market skepticism about their durability.

The environment for turning undervaluation expectations into actual purchases is also weakening. Samsung Electronics nearly exhausted its US$11.5 billion stock buyback budget earlier this month, and SK Hynix has purchased a substantial portion of its scheduled shares, reducing further buyback capacity. Together, these two companies have spent over US$38.5 billion on buybacks. While large-scale buying funds have been depleted, foreign investors have net sold domestic stocks for five consecutive months from May to September, with net sales reaching US$16.6 billion in September. Individuals also net sold US$10.9 billion the same month, leaving a gap in domestic demand that previously absorbed foreign selling. British financial group HSBC analyzed that foreign fund withdrawals reflect profit-taking and global asset allocation adjustments. Funds expected to flow in with corporate earnings improvements are instead leaving the domestic stock market after portfolio adjustments.

Semiconductor competitiveness biased toward DRAM and HBM

Weakness in non-memory businesses, hidden by the memory boom, also remains a burden. According to TrendForce, Samsung Electronics' foundry (contract semiconductor manufacturing) sales grew just 1.8% quarter-on-quarter in the second quarter. Failing to keep pace with market growth, its global market share fell to 5.9%, widening the gap with TSMC's 72.5% share to 66.6 percentage points. Aggressive pursuit by competitors is further narrowing Samsung's position. Chinese top foundry SMIC increased sales by 20% over the same period, raising its market share to 5.4%, narrowing the difference with Samsung Electronics to 0.5 percentage points, putting even the second place position at risk.

Gaps are also emerging in turning AI investment expansion into orders and earnings in advanced processes. TSMC's production capacity for 3-nanometer (nm) and 5/4 nm chips for AI servers was virtually full in Q2, and it recorded sales for the first time in 2 nm processes. Increased shipments of advanced products, combined with rising average selling prices, pushed operating margin to 60.3%. In contrast, Samsung Electronics' foundry is expected to continue losses in Q3 due to low utilization and fixed costs. Although demand for advanced process technology is expected to improve utilization rates and profitability in the future, for now, fixed costs are not sufficiently absorbed by the secured production volume, delaying profitability recovery.