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Should the Government Save Taiwan's DRAM Industry?

Taiwan's DRAM sector is struggling for survival under a mountain of debt and a contracting market, leaving the government with a serious dilemma: prop up the industry or face the consequences of the bubble bursting.

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Should the Government Save Taiwan's DRAM Industry?

By Jimmy Hsiung, Jerry Lai
From CommonWealth Magazine (vol. 411 )

With the global economic slump showing no signs of abating, industrial prosperity and consumer confidence continue to plummet. Realizing that the economic situation is deteriorating, Taiwan's government has started to look at bailing out selected industries. And none of Taiwan's troubled industries have elicited more lively debate than the imperiled DRAM (dynamic random access memory) sector.

Should Taiwan's government rescue DRAM vendors?

Preventing a South Korean Monopoly

Those supporting a bailout for the DRAM sector believe it plays a crucial role in the nation's competitiveness.

"How to help Taiwan's DRAM industry survive is of major importance to Taiwan's computer sector and even the overall high-tech sector," said Frank Huang, the chairman of Taiwan's biggest DRAM supplier Powerchip Semiconductor Corp. at a press conference held jointly in Taipei on Nov. 21 with Yukio Sakamoto, the president and CEO of its Japanese strategic alliance partner Elpida Memory Inc. No sooner did the press conference start than Huang was stressing how crucial the DRAM sector was to Taiwan.

Huang's assertion is based on the fact that DRAMs are one of the three main components in a computer, along with CPUs and monitors. And Taiwan, long known as "PC Island," has the world's most densely woven computer supply chain, from connectors and mainboards to system assemblies.

In today's global DRAM industry, however, South Korea's Samsung is the unchallenged force, with a market share exceeding 30 percent. The DRAM industry, therefore, pits Taiwan and South Korea in a battle over their relative technological strengths.

If Taiwan's DRAM industry were to collapse, the country's computer industry, which is already fighting to maintain slim 3- to 4-percent gross margins, would face an even tougher predicament.

"If Taiwan's DRAM manufacturers all pull out, then DRAM prices will be under the control of South Korea's Samsung. That would be lethal beyond imagination to Taiwan's computer industry," stresses Ben Tseng, ProMOS Technologies Inc.'s corporate spokesman and vice president of its Sales & Marketing Group.

"If only Samsung remained, then it wouldn't be inconceivable that DRAMs that sold for US$0.50 would suddenly jump to US$8," Huang says, recalling a period more than 10 years ago when Taiwan's computer industry suffered severe losses because of the control wielded over the DRAM market by Japanese vendors.

Conundrum 1: Mountain of Debt, Jobs on the Line

Because the DRAM sector plays such a critical role in the competitiveness of Taiwanese industry, the Financial Supervisory Commission formally submitted a report to the Executive Yuan in mid-November recommending that the government provide assistance to Taiwanese DRAM vendors.

According to the report, the local DRAM sector has outstanding debts of NT$420 billion, with NT$250 billion of that in bank loans and the balance of nearly NT$200 billion in convertible bonds, depositary receipts, corporate bonds and other financial instruments.

The Financial Supervisory Commission recommended that the government rescue this industry buried under a mountain of debt precisely because it is so indebted. If DRAM companies lose the ability to service their debts, many domestic financial institutions would not be able to absorb the blow, triggering Taiwan's own financial meltdown.

Also, Huang estimates that the domestic DRAM industry employs directly and indirectly a total of 80,000 people. Topology Research Institute chairman C.W. Chen says that were the DRAM sector to collapse, the unemployment rate, which is already giving the government a headache, would explode.

Conundrum 2: Serious Shortage of Operating Cash

How truly serious are the DRAM industry's problems? According to market intelligence provider DRAMeXchange Tech Inc., DRAMs have been selling below cost since the beginning of 2008, leading to deep losses and negative operating cash flow among DRAM vendors.

Scott Chen, vice president for the Asia-Pacific Business Department at Kingston Technology Company, the world's largest third-party DRAM module supplier and a prime customer of DRAM wafer plants, says DRAM fabs have always been highly leveraged operations. Thus, as soon as a negative cash flow situation arises, not only do DRAM companies lose money because they sell chips below cost, but they constantly face the real threat of going bankrupt as a succession of corporate bonds and convertible debt notes approach their maturity dates.

Powerchip's Huang estimates that supply exceeds demand by 15 percent in the DRAM market, which means DRAM fabs lose money every day they open their doors. Even if the industry scales back production and forces employees to take extended leave, it will still be extremely difficult to reverse the sector's declining trend.

Conundrum 3: Dearth of Homegrown Technology

In recent years, DRAM companies have expanded their capacity as a way to enhance their competitiveness. In 2005 when DRAM prices soared, manufacturers began to make money, "but it wasn't enough to continue to finance new factories," admits one DRAM operator. As a result, everybody borrowed without restraint to erect fabs, and while the frenzied build-up earned Taiwan the title of being the land with the densest concentration of 12-inch wafer fabs, it also created a mountain of debt. According to figures from the Taiwan Semiconductor Industry Association, the debts of the big five conglomerates, including Powerchip, Nanya Technology Corporation and ProMOS, have reached NT$377.5 billion. (Table 1)

Yet the most fundamental problem for Taiwan's DRAM manufacturers, who have invested more than a trillion Taiwan dollars in their race to increase capacity, lies in their lack of independently developed technologies, leaving a perpetual technological gap between them and Samsung. As a result, not only are Taiwan's fabs the first to be affected when price wars break out, sacrificed on the front lines of battle in resisting the Koreans, but they are forced to the brink of survival when an economic downturn hits.  

Rethinking Industrial Policy

As the government considers how and when to get involved in helping DRAM vendors, a diverse range of opinions on the issue is emerging. Acer founder Stan Shih is cautioning the government to go slow. He believes that while the DRAM sector needs to rebuild itself, it should not be simply bailed out. Instead, the government, Shih argues, should first consider Taiwan's overall industrial competitiveness and then decide how to invest its resources.

"Let the industry develop naturally. The government shouldn't be in a rush to intervene," the high-tech veteran says in articulating his basic stance. Shih believes that Taiwan has already invested an excessive amount of resources in the capital-intensive DRAM industry, resources that include both capital and talent.

"Industrial development policy should not be so skewed," a worried Shih says. 

Powerchip's Huang disagrees. "This is not a problem of skewed development," he contends. "It's because everybody has run to China to invest," leaving only the DRAM and TFT-LCD panel industries in Taiwan. It is unfair to approve and praise aggressive DRAM investment when the economy is strong, and then turn around and blame the DRAM industry for borrowing too much money when the economy turns sour, Huang complains.

An even more important question, however, is if Taiwan cannot bear the consequences of the DRAM bubble bursting, what should the government do?

At this point, time is running out for the government to consider how and when it will rescue the industry. ProMOS is in the most imminent danger. With cash on hand of around NT$2.9 billion, ProMOS has US$330 million (NT$10.5 billion) in corporate bonds coming due in February 2009.

In other words, if by February the government still does not have a concrete bailout plan in place, ProMOS may face a serious debt crisis.

Citing a company prohibition on employees discussing its finances at present, ProMOS spokesman Ben Tseng would not comment on the issue. But sources close to the company say ProMOS has two alternatives to raise funds – either redeem the US$330 million in corporate bonds or convert them into equity. Under the first alternative, ProMOS could issue options to redeem the bonds. However, the company seems more disposed to the second path and is currently planning to issue NT$16.7 billion in depositary receipts and convertible bonds overseas to raise funds. If the strategy is successful, ProMOS will not have a problem meeting its maturing bond obligations.

A Bailout Is Only a Short-term Measure

With DRAMs a key part of the computer supply chain and an important semiconductor industry cluster, Taiwan, whether as a "PC island" or "IC island," cannot do without DRAM manufacturers. But behind this battle to preserve the DRAM industry, the government should consider how to thoroughly transform the sector's fragile structure. Aside from improving the competitiveness of its manufacturing efficiency, Taiwan's DRAM industry needs to develop its own technologies if it is to avoid becoming an eternal money-pit industry.

Translated from the Chinese by Luke Sabatier


Chinese Version: 政府該救DRAM產業嗎?

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