Facing a Shakeout, PC Makers Aren't Shrinking

High-tech stars are boosting capacity to gain market share

Given the global slowdown, one might expect Ray Chen to be downsizing. After all, his Compal Electronics Inc. makes notebook PCs for the likes of Dell Computer (DELL ), Compaq Computer (CPQ ), and Toshiba--companies now suffering inventory overload. But Chen, whose business last year made an estimated $183 million on revenues of $2.2 billion, is still ramping up. He plans to hire 150 engineers in China and 50 in Taiwan, more than doubling his staff. Why? Because as profit margins plunge, Chen predicts big PC makers will outsource even more business to low-cost Taiwan manufacturers.

Depending on how one views it, Chen's strategy is either cleverly counterintuitive or sheer folly. Slumping global demand for PCs is sending shocks through the high-tech industry, the backbone of Taiwan's economy. Yet Taiwan's high-tech stars are not retreating--far from it. In response to the slowdown, Compal, Quanta Computer Inc., and others are boosting capacity in a bid to snatch market share from weaker rivals, while companies such as Acer Inc. are shopping for acquisitions. At the same time, Taiwan computer makers are shifting ever more production and R&D to China, where engineers will work for less than half the wages of their Taiwanese counterparts.

The shakeout will likely spare firms with economies of scale, track records, and established clients. "First-tier players have more resources to weather the storm," says Jason Lin, a Salomon Smith Barney analyst in Taipei. And the smaller ones? They may be gone.

Consider the robust numbers Taiwan's bigger PC makers continue to report. Quanta claims sales jumped 29% in February and will rise 40% this year. Chief Financial Officer Tim Li insists notebook demand remains strong and expects plenty of orders from the likes of Dell Computer Corp.

Other major manufacturers of PCs, motherboards, and components are similarly optimistic. Hewlett-Packard Co. (HWP ) says it will increase procurement from Taiwan to as much as $5 billion, about 15% more than last year. Dell and Compaq are buying more from Taiwan as well. Chen Chiou-ming, who buys for HP, is looking to order more Taiwan-made servers and palmtop devices. "Because of cost pressure, you need to go to low-cost models," he says. "And there is more buying opportunity in Taiwan." Investors are going along; so far this year, they've pushed Taiwan's index of computer-equipment stocks up 20%.

All the new orders will not necessarily translate into healthy profits. Ask Quanta's Li about earnings, and he responds with an embarrassed laugh. "It's still up in the air," he admits. Adding to the pressure is the current tendency of Taiwan's companies to go downmarket. Motherboard maker Asustek Computer Inc. will focus more on local no-name PC makers. That should generate plenty of sales but keep margins wafer-thin. "It's more important to grab market share at this stage," says Asustek Chairman Jonney Shih. "We'll have very aggressive growth targets." Today, "everyone is squeezed," says Quanta's Li. "You need more revenue, so you take all the orders you can."

BIG SHIFT. Inevitably, companies are merging. In the biggest deal yet, on Mar. 13, Acer Display Technology, a subsidiary of Acer Inc. (ACRRF ) that makes LCD screens, announced a $1.3 billion merger with Unipac, a division of United Microelectronics Corp. (UMC ) The tie-up will be the world's No. 2 maker of monitors.

And the shift to low-cost China is gaining momentum. Notebook producer Arima Computer Corp. is investing $100 million in several projects there. By yearend, predicts Chief Executive Stephen Lee, Arima will have 650 research engineers on the mainland. Rival Compal is expanding in China, too. "Customers will surely be more demanding," says Compal's Chen. "So we have to move to China." For Taiwan companies, it's a critical time. Only the nimblest will avoid hitting the rocks.

By Bruce Einhorn in Taipei

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