BENGALURU -- Propelled by government support, India's chip design startups are nearing commercial production, but steep fabrication costs due to low volumes and supply chain bottlenecks are complicating the path to market.

Due to capital constraints and a longer development cycle, a startup just beginning production would utilize perhaps 100 wafers from a fabrication plant, each containing a few thousand chips, depending on its size. But in comparison, bigger companies place orders for tens of thousands of wafers a month.

"These production fabs, they look for volume," said Rakesh Malik, founder of Vervesemi, which has reached the final stage of design, known as a tape out, for chips for sectors ranging from power to telecoms. "They charge us 50% more than what they give to other companies.

"It is a challenge in terms of cost because when you are trying to price your product in the market, it is very hard to compete because your raw material or the wafer, which is coming from the fab, is not priced competitively," Malik added.

Still, simply being chosen for India's semiconductor mission has opened doors for startups that had previously spent years bootstrapping. This year, Vervesemi raised $10 million in venture capital. And in June, Bengaluru-based startup Fermionic Design announced a commercial partnership with U.S.-based fab operator GlobalFoundries to manufacture radio frequency chips, becoming the first Indian company to do so.

Fermionic founder Gautam Singh credits the semiconductor policy environment for how the partnership has been able to address the volume challenge to some extent, adding that with GlobalFoundries, the company has been shipping "medium" volumes and plans to scale up slowly.

"From the GlobalFoundries point of view, India is going to be a bigger part of the semiconductor value chain. Having this collaboration signals they can support potential future customers even during the initial stages of production," he said.

The growth in local chip designers is seen as a significant policy success, as launching such a startup is a risky proposition. India hosts 20% of the world's chip design engineers, but mostly at local offices of multinational companies such as Qualcomm and Intel, making it harder to tempt a would-be entrepreneur away from one of these coveted jobs to start a company in an industry where it can take more than a decade to build a customer base and turn a profit.

Under the first phase of India's semiconductor mission, launched at the tail-end of 2021, 24 chip design projects received government funding covering 50% of chip design costs and deployment incentives of up to 6% of net sales turnover, capped at 150 million rupees ($1.58 million) and 300 million rupees per company, respectively.

In addition, more than 100 companies were given free access to costly industry-grade electronic design automation tools at a center in Bengaluru, which is often called India's Silicon Valley.

"We actually never imagined that we would get such a massive uptake for this chip design infrastructure," a government official who is part of the mission said on condition of anonymity, adding that similar initiatives by state governments previously didn't see as much demand.

Under the second phase of the semiconductor mission, launched this year, the government will reimburse 9% of the net chip sales for startups. Still, most startups will inevitably struggle with volumes and cost in their path to market, the government official acknowledged.

He added that even when India's first fab by the Tata conglomerate starts commercial production, it is unlikely that the services it offers will align with the variety of chips Indian startups are designing.

"Honestly speaking, it's a free market. Forcing a startup to go to Tata or asking Tata to give a favorable price, that will work well on paper, but not in practice," he said.

The pricing conundrum for startups also persists at the chip packaging stage, despite India now having five such plants in commercial production. After a fab, such as Taiwan Semiconductor Manufacturing Company, prints microscopic circuit designs layer-by-layer onto silicon wafers based on the chip design, a packaging plant cuts those completed wafers into individual chips and seals them in protective casings.

Vervesemi's Malik said the pricing that was quoted to him from most of India's packaging plants was two to three times higher than what was quoted at factories abroad. Nonetheless, difficulties with customs can push chip designers toward these more expensive domestic plants, with Vervesemi partnering with Gujarat-based Suchi Semicon for one of its designs.

A startup sends not just one chip but the wafer containing thousands of chips outside India's borders to be packaged. What it gets in return is not a wafer but 5,000 sliced, diced and packaged chips. That discrepancy has confounded customs officials, and it took Vervesemi three months to untangle the miscommunication.

In another such hurdle, Indian chip design firms pay overseas fabs upfront to make a photomask, which is a high-precision plate that acts as a stencil for printing microchip circuits. India's central bank rules mandate that a physical asset paid for via advance remittance must be physically imported into India within three years, but masks are meant to stay in the fab. "We are fighting this also right now," Malik said.

The government official attributed these hiccups to the still nascent understanding that state governments, ministries and customs officials have of the semiconductor sector, adding that officials have intervened in less than a day when startups find shipments stuck due to regulatory issues.

He added that under phase two of the semiconductor mission, the priority is to nurture the startups that have already produced a chip, rather than necessarily expanding the base to fund more companies. But some industry veterans have advocated for a different approach.

"I think 24 is too small a number," said Mukul Sarkar, founder of startup Orvis Semi, in reference to the number of projects funded under the first phase. "For the scale of this country, 25 to 30 companies should be in Delhi alone.

"The fundamental economic principle [of funding startups] will not change. Out of these companies, only two to three will see the next decade."