M&A Trend in Taiwan

Current environment

Many economic indicators are now showing that the US economy has reached the end of its slowdown and is beginning a gradual recovery. Taiwan’s economy, which is strongly tied with the global economic cycle, has also been picking up since last December. Political turmoil is another significant factor in Taiwan’s economic volatility. However, following victory by the Democratic Progressive Party and its alliance last December, financial markets have become more upbeat and increased optimism is being reflected in many domestic economic indicators.

Global as well as domestic capital markets are climbing back to the levels before September 11. The Taiwan Stock Exchange Index has risen more than 40% since Q4 2001. GDP growth has also increased from negative figures to a positive 0.9% for Q1 2002 and is estimated to reach 2.6% for the full year.

Export orders for March 2002 were US$12.7 billion which is the highest level in the past 15 months. The annual growth rate is 1.7%, which was the first positive growth in the past 13 months. The Industrial Production Index has also turned positive (0.4%) and this index is estimated to enjoy 1% to 2% growth in Q2.

However, growth in Q2 is expected to be somewhat constrained due to drought and water shortage problems, which have negatively impacted the production process in major science and technology parks throughout the island. Looking ahead, a gradual pick-up in US demand and a bottoming in the IT cycle should positively impact exports. In 2002, the impact of imports following Taiwan's entry into the WTO is expected to gradually increase due to the reductions in high value import duties on goods such as automobiles.

The upbeat outlook has made fundraising easier, especially for small and medium-sized companies. As Taiwan’s businesses are primarily comprised of this sector, the majority of local companies are beginning to see the benefit of increasing market demand. This, in turn, is facilitating the injection of new funds.

However, Taiwan’s financial system still faces severe challenges. The government’s official estimate for nonperforming loans was over 7.8% at the end of September 2001, and the actual figure in Q1 of 2002 has continued to rise to 8.8%. An increasing non-performing loans ratio and loan growth spiralling downwards since the beginning of 2001 continue to be alarming indicators. However, there will be opportunities for restructuring amid the government’s
policy to encourage mergers among financial institutions, issuance of second priority fixed income facilities, and the write-off of bad loans through retained earnings. The passage of three Financial & Banking Bills is part of this trend of financial reform.

Taiwanese businesses have flocked to China in the past decade and they continue their westward movement despite the restrictions laid down by the Taiwanese Government. In response to business expectations, the government has significantly relaxed its controls over investment into China and taken away the restriction on 8-inch wafer foundries to expand their operations in the PRC. This represents a significant breakthrough for Taiwanese technology companies for expansion of their coverage, and will help facilitate the integration between Taiwanese and Chinese players. In this regard, United World Chinese Commercial
Bank has been granted the right to run their commercial banking business in China and more and more Taiwanese banks will be permitted to engage in direct business with Taiwanese enterprises on the Mainland in the future. This signals even greater integration between the two economies.


Deal activity

The financial services industry has been, and will remain, by far the most active M&A sector in Taiwan. To date around 10 Financial Holding Companies (“FHCs”), formed by the former state-owned enterprises (“SOEs”), have arisen and among the top four are Chiao Tung, China Trust, CDIB and FCB. In addition, Fubon and Cathay have completed ECB offerings and raised US$400 million and US$700 million, respectively this year.

Fubon FHC is competing with Cathay FHC to acquire control of United World Chinese Commercial Bank, one of the leading and top performing banks in Taiwan. Taipei Bank, a bank under Taipei City Government’s control and a star bank due to its successful lottery agency business, signed confidentiality agreements with four to five FHCs. These FHCs are expected to bid for this bank after due diligence and valuation. However, the final decision as to which bid will be accepted will be up to the Taipei City Government. FHCs started their formation last year in Taiwan. This year they are likely to absorb more diversified financial services
firms to enlarge this sector further and we expect to see further M&A activity in this field.

The integration between local security houses has also drawn some recent attention, such as the announcement by Jih Sun Group that it has recently acquired a number of small sized security firms.

The trend for M&A in the integrated device manufacturer (“IDM”) industry is moving towards internal reorganization and spin-off of non-core businesses. The only two IDMs in Taiwan, Winbond and Macronix, are considering whether their business models remain suitable for the future competitive environment. They may follow UMC’s lead and spin off their integrated circuit (“IC”) design divisions leaving the foundry business independent.

VIA, the top IC design company in the world, announced the acquisition of LSI Logic, a code division multiple access (“CDMA”) standard product design centre, in California to obtain their CDMA, central processing unit (“CPU”) and mixed signal know-how for US$33 million. VIA has also expressed an interest to continue acquiring companies with key mixed signal, radio frequency and baseband technology.

Significant deal activity is also noted within the technology sector. Mosel Vitelic, a Dynamic Random Access Memory (“DRAM”) manufacturer, has expressed an interest in acquiring assets from Hynix, the Korean DRAM manufacturer.

After Cando failed to acquire Hydis, a TFT LCD panel manufacturer and a subsidiary of Hynix, Korean DRAM player, Hon Hai (Foxconn) Group has announced their interest in the deal and is taking over the negotiation process.

e-Bay has acquired bid.com and ubid.com for US$9.5 million, which are the largest B2C and C2C on-line auction platforms in Taiwan.

Synnex, a leading channel player for PC hardware, communications devices and other peripherals, acquired another similar channel, BestCom. This acquisition
expedited the industry concentration and left BestCom’s original owner, Universal Scientific Industrial Co., to focus on its core business.


Outlook

The Taiwanese Government has passed some significant amendments to Company Law and Company M&A Law since last year, with further changes in the pipeline. The new legislation simplifies the procedures, provides significant tax benefits to M&A activities and is expected to have profound effects on Taiwan’s M&A transactions.

The recently enacted Financial Holding Company Act has given the financial institutions an adequate platform to manage their balance sheet problems, and will lead to increased M&A activity in this sector.

As the economic situation shows signs of gradual recovery, Taiwanese companies are anticipated to adopt more aggressive business strategies involving both vertical and horizontal integration as well as restructuring to position themselves for when the economy rebounds.

Recent entry into the WTO will also elevate competition considerably as a result of the removal of existing trade barriers. Consolidation of competitive edges in technology is also a must for Taiwanese companies in the global market place because the island economy is highly reliant on the overseas market. Today, M&A activities are considered by most Taiwanese business owners to be an effective way of achieving that goal.

Taiwanese companies will continue to expand their operations into China taking advantage of low labour costs and the booming market. A quicker and potentially less risky route may be through acquisition of Mainland companies. Forming ventures with Western partners is also an efficient way to achieve the same objective.

Recently the Mainland Government also ratified some significant legislation to facilitate M&A activities in the PRC. These are expected to help solve the structural and operational problems of SOEs. Potentially these legal environment changes will promote M&A activities. In addition, Taiwanese firms with manufacturing operations in China and their R&D and marketing capabilities in Taiwanese headquarters are anticipated to continue to attract the interest of foreign buyers.