UMC: No. 2, and Trying Harder

The contract chipmaker is catching up with TSMC, but still can't get respect from investors

Robert Tsao founder of Taiwan's United Microelectronics Corp. (UMC ), is fed up with being a perennial also-ran. With $3.4 billion in sales last year and a nearly fourfold leap in profits, to $1.5 billion, UMC would be top dog most anywhere in Asia. But as a chip foundry that makes semiconductors on a contract basis, it remains No.2 in the world to its neighbor in the Hsinchu high-tech district, $5.3 billion Taiwan Semiconductor Manufacturing Co. (TSM ) As the man who pioneered the foundry industry, TSMC Chairman Morris Chang is far more famous than Hsuan. And TSMC's stock trades at a multiple to earnings that is 45% higher. So while UMC's stock has risen 15% this year, TSMC's is up 19%.

On June 6, Tsao took action. One year after he had handed UMC's reins to his deputy John Hsuan, Tsao, 54, retook control over day-to-day operations as chairman. Hsuan now is one of three deputy chairmen. "During a down cycle, you have to get more involved in the details of the operation," says Merrill Lynch analyst Daniel Heyler. As UMC's founder in 1981, Tsao "has a lot more experience and credibility."

UMC executives have reason for concern. Not only were UMC's profits much stronger last year but "we show better growth, higher operating efficiency, and better electronic services," Hsuan griped in an interview days before the announcement. In the past five years, UMC's share of the global foundry business has climbed from 5% to close to 30%.

But UMC sees opportunity in the current tech downturn. By aggressively cutting costs on everything from new production plants to employee bonuses, it hopes to show investors it is their best pick in a hard-pressed sector. In contrast to TSMC's Chang, who sees a quick recovery, Hsuan has been blunt about UMC's near-term prospects. "We are still in winter, and there are no signs of spring," says the 49-year-old engineer. In the tech sector, "the recession is still here."

Such frankness is winning some fans. "Their view is more conservative than TSMC," says Taipei-based SG Securities chip analyst Connor Liu, who is advising clients to buy the stock. Tsao's financial management also is a big reason UMC is ahead of its archrival by at least one measure: It ranks No.8 in this year's BusinessWeek IT 100, ahead of No. 24 TSMC.

While demand for foundry services soared in 2000, the company also benefited from a corporate restructuring early in the year in which four UMC units were combined. As a result, revenues soared by 244%.

NEW WAFERS. UMC also has proven adept at acquisitions. It bought Nippon Steel Corp.'s money-losing semiconductor business in 1998 and turned it around. That gave it a beachhead in Japan, something TSMC lacks. UMC also has invested in chip-design companies in Taiwan and the U.S. When it comes to dealmaking, UMC is "more nimble" than TSMC, admits an investment banker who works closely with TSMC.

Another key difference is that UMC is building a diversified electronics conglomerate. Tsao's aim is to achieve world-class standing in each sector. In March, for instance, UMC subsidiary Unipac Optoelectronics Corp., which makes flat-panel liquid crystal display screens, merged with Acer Display Technology, part of Acer Group. Last month, World Wiser Electronics, a producer of printed circuit boards that is 39% owned by UMC, merged with three Taiwan companies.

Still, the foundry business remains the heart of UMC. Even though a sharp falloff in capacity utilization has forced it to slash new spending by half, to around $1.5 billion this year, he figures the company is in a strong position to grow. In May, its Japanese joint venture with Hitachi announced that it was the first foundry to begin commercial production of 12-in.-wide silicon wafers, which yield far more chips than the 8-in. wafers now standard in the industry. The company is building two more 12-in. fabs, in Taiwan and Singapore.

"STRIKING DISTANCE." UMC also is working with IBM and Infineon Technologies to produce chips with lines--the paths for carrying electricity--that are 0.1 micron wide or less, thus allowing more circuitry to be crammed onto a chip. The current state of the art for chips in commercial production is 0.13 micron. In terms of technology, "they are within striking distance of TSMC now," says UBS Warburg Hong Kong-based tech strategist Sean Debow.

The company also is putting heavier emphasis on its e-business operations. According to Robert Chin, UMC's chief information officer, more than 90% of UMC's business is conducted over the Internet. Only a year ago, UMC needed two days to confirm a customer's order. "Now," says Chin, "it takes 30 seconds." That's vital, he explains, since TSMC has also been heavily promoting its "virtual foundry" services, which enable chip companies that use UMC's wafer fabs to do much of their design work and product management online. Chin asserts that UMC is actually ahead in e-commerce, although TSMC vigorously denies it is behind. But at least UMC is working hard to get word out that it, too, is on the chip industry's cutting edge. Now, Tsao's challenge is to get investors to pay attention.

By Bruce Einhorn in Taipei

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