Xiaomi Is the Chinese Threat Trump Should Be Watching

(Bloomberg Gadfly) -- If you want an example of the threat faced by the U.S. from an emerging China, look no further than Xiaomi Corp.

The electronics manufacturer has made the bold move into designing its own smartphone chips. Of the vast variety of semiconductors that reach the market every year, it's those processors used in mobile phones that are among the trickiest to master. Difficulty wasn't a deterrent when Xiaomi rewrote the smartphone business model by selling direct to consumers online, so there's no reason for it to be a hindrance now.

It's no coincidence that the only three companies that have consistently deployed their own designs are also the top three global smartphone players: Samsung Electronics Co., Apple Inc. and Huawei Technologies Co. Arguably it wasn't home-made chips that helped these companies get so big, but the other way round: Scale enabled them to go their own route.

Xiaomi started the project back in 2014 when growth was strong and it was on the way to a record $45 billion valuation.

Designing your own smartphone processor is brave for two reasons -- quality and cost. Eschewing chips from leaders Qualcomm Inc. and MediaTek Inc. means Xiaomi is betting that even starting from scratch, it can match the quality and reliability of companies with decades of experience. (To be clear, there's no indication that Xiaomi's Pinecone Surge has defects or is inferior to competing chips.)

Most of the expenses are borne as sunk costs to hire dozens of engineers and then pay a contract manufacturer (in this case, Taiwan Semiconductor Manufacturing Co.) upfront to allocate production resources. While Xiaomi Chairman Lei Jun thanked the government for its support, the company says it funded most of the development itself.

China has been vocal about its semiconductor ambitions and has committed billions of dollars to the cause. According to Xiaomi, its own chip cost more than one billion yuan ($145 million) to develop. A company representative wasn't able to tell Gadfly exactly how much the chip cost to design or how much money the government provided, but said assistance extended beyond cash to include research and development.

The level of support that Xiaomi -- which means "little rice," or millet -- received from the government is a crucial question, because it gets to the heart of whether a struggling company would otherwise be able to branch out into the toughest sector of electronics. Absent assistance, it is unlikely it could develop the chip without losing money on each unit sold, or substantially raising the phone's price, which stands at 1,499 yuan. Either outcome would be a competitive disadvantage.

A move by President Donald Trump's administration to reduce U.S. involvement in the World Trade Organization, as reported by the WSJ,Chinese support for a type of rice.

Yet whatever the forum of complaint -- be it Congress, a global trade body or Twitter -- cheap labor and currency manipulation aren't the chief threats to the U.S. economy. Instead, the Trump administration might do well to keep an eye on a Chinese government with unlimited resolve and resources to take on the world's technology superpower.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Tim Culpan is a technology columnist for Bloomberg Gadfly. He previously covered technology for Bloomberg News.

To contact the author of this story: Tim Culpan in Taipei at tculpan1@bloomberg.net.

To contact the editor responsible for this story: Paul Sillitoe at psillitoe@bloomberg.net.