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Taiwan's High Tech Race (Int'l Edition)


Int'l Cover Story--Asia

TAIWAN'S HIGH-TECH RACE (int'l edition)

Taiwanese companies are looking over their shoulders as China catches up in high tech. The lesson: Don't just supply, innovate

Calm has returned to Taiwan. From the bustling convention floors and overbooked hotels that are teeming with foreign executives, it is hard to imagine that just one month ago it seemed to the outside world that Taiwan was at the brink of war with China.

But inside the labs and corner offices in Hsinchu, the site of Taiwan's version of Silicon Valley, a sober reassessment of the island's industrial future is under way. To many business leaders and government officials, China's menacing war games underscored vulnerabilities of Taiwan's $21.3 billion information-technology industry. For the past five years, Taiwan has been going gangbusters exporting computers, peripherals, and chips to the West and Japan (chart, page 26). Its industry is now as large as France's and Germany's combined.

Taiwan's success rests on its role as a low-cost contract manufacturer to foreign companies. The whiff of military conflict, says Shintay Shih, president of the Industrial Technology Research Institute (ITRI), may cause foreigners to "question their confidence in Taiwan as a supplier." The crisis also raised doubts about whether it is wise for Taiwan manufacturers to locate operations on the mainland to take advantage of its immense lower-cost labor pool. At the same time, it's increasingly clear that the Chinese are challenging Taiwan's manufacturing prowess for many commodity-type electronics products such as motherboards, certain peripherals, and for personal-computer assembly.

Add it all up, and the message to Taiwan Inc. is now clear: To guarantee the island's economic relevance to the world, it must move toward the top of the technology food chain. Instead of merely supplying commodity items such as computer hardware and printed-circuit boards, Taiwan must rely more on its innovation. And rather than simply catching up to Japanese, American, and European rivals, Taiwanese want to be on technology's cutting edge. Says Vincent Siew, a key adviser to President Lee Teng-hui: "The more we operate the economy on a high-tech basis, the less we rely on China."

At government-backed research labs, the push is on for the next leap ahead. ITRI labs are trying to bring Taiwan to the forefront in fields ranging from next-generation computer display panels and semiconductor materials to virtual reality and sophisticated sensors that mimic human taste and smell (table, page 25).

ONE GIANT. At the same time, private-sector companies are gaining some much-needed heft. Known for its legion of small family companies, Taiwan finally has a bona fide global giant, the $5.8 billion Acer Group. Meanwhile, companies such as Umax, Mitac International, First International Computer, and GVC are taking shape as diversified, multibillion-dollar powers. Their goal is to use Taiwan's trademark speed and flexibility to outmaneuver bigger Japanese and American competitors.

These growing companies are starting to make capital-intensive investments in key sectors such as semiconductors, where Taiwan has lagged behind Japan and South Korea. Barely a factor in the global market five years ago, the output of Taiwan's semiconductor industry soared 43% last year, to $4.4 billion, and a dozen companies have earmarked $15 billion to bring 15 new silicon-wafer fabs online within two years. The old tightwad approach to R&D is fading, too, as captains of mainline industries finance next-generation products such as flat-panel displays.

As it pursues these new products, the Taiwanese electronics industry is intent on replicating the strategy that has made it so dominant in personal computers. Just as they succeeded in PCs by being the low-cost original-equipment manufacturers (OEM) for others, Taiwan's companies are doing OEM work in other electronics and telecommunications gear. For instance, Taiwanese suppliers make more than half of the world's modems, optical scanners, and local-area-network (LAN) circuit cards. Now, Taiwan's legion of engineers, component suppliers, and entrepreneurs are positioning themselves to release a torrent of OEM Internet appliances, digital cameras, and multimedia gadgets. Taiwan's "whole high-tech infrastructure is nearly complete," says Wen Ko, a former Hewlett-Packard Co. executive who now runs a $110 million venture-capital fund with stakes in 40 local electronics companies.

The increasingly symbiotic relationship between Taiwan and America's high-tech industry may be one reason why Washington cited "vital strategic interests" when the U.S. sent aircraft carriers to cool tensions in the Taiwan Strait. Besides serving as an important silicon pipeline to fabless chip companies, the island is a major behind-the-scenes supplier to U.S. computer giants such as Compaq, Apple, and Hewlett-Packard that need huge volumes of low-cost products. Their reliance on Taiwan-made notebook PCs is now so heavy, says AST Research Inc. CEO Ian Diery, that a Chinese invasion would have "enormous" impact on the industry. "Most major U.S. manufacturers would not be shipping notebooks within a month," Diery says.

"CRITICAL MASS." Taiwan's importance won't diminish with by the Internet revolution, either. Design teams at Acer are looking into making an Internet terminal for $500, while dozens of other Taiwanese companies are tinkering with prototypes of cheap Internet PCs, TVs, and personal digital assistants. Oracle's Lawrence J. Ellison and Sun Microsystems' Scott G. McNealy made the rounds of Taiwanese manufacturers in recent months to whip up interest in budget Net appliances. Says Douglas Farber, Oracle's director of Asia online services: "The Taiwanese have the critical mass to speed up the development of the Internet and help it take off."

Taiwan did that in PCs and is repeating that success in other hardware. Take optical scanners, which involve the digitalization of images and can be a springboard into such sectors as digital cameras. Taiwan has spawned nearly a dozen scanner makers, grabbing 64% of the $840 million world market by turning what once was an expensive piece of office equipment into an affordable commodity. Taiwan's specialty: the mechanical engineering that goes into designing compact units that quickly handle documents and photographs.

A good example is Avision Inc., a 35-engineer firm started in 1991 by former Xerox Corp. optomechanical engineer Philip Chen, the father of Taiwan's scanner industry. Avision makes a small, sheet-fed color scanner for Fujitsu Ltd. that retails for $400. Its current hot product is a scanning module that is found inside Xerox's new WorkCenter 250, which is a $600 combination phone, fax, copying, and scanning machine. Last year, Avision's sales grew 250% to $24 million. Now, with more customers lining up, it is adding a new factory to increase output from 15,000 units monthly to 100,000.

STAR IS BORN. Taiwanese companies also are trying to make their mark in telecom hardware. Microelectronics Technology Inc., founded in 1982 by eight Taiwanese engineers who returned from the U.S., first got attention when it helped develop the portable satellite communications system used by Cable News Network (CNN) in Baghdad during the gulf war. Now, the $115 million company has a full range of wireless communications systems. MTI makes digital microwave systems for rural phone networks, reception equipment for cable operators, and a small flat antenna for receiving up to 31 satellite-TV channels in the home. The flat antenna could compete with rooftop satellite dishes and will retail for under $100 in the U.S.

MTI has struggled in the U.S., its top market, where losses in its operations involving portable telecom systems helped pull down net profits by 31%, to $7.5 million. So MTI Chairman Patrick H. Wang has boosted the R&D budget to focus on new wireless technologies, such as rural digital microwave systems, which are especially suitable for big emerging markets in Asia. The strategy is to compete with U.S. and Japanese rivals by constantly coming out with smaller and cheaper products and to put greater emphasis on cracking promising emerging markets in Asia.

Even in areas where Taiwan isn't making an impact with its own designs, it helps foreign companies establish their innovations as industry standards. Wafer fabs owned by companies such as Taiwan Semiconductor Manufacturing (TSMC), United Microelectronics, and Winbond Technology occupy an important niche as semiconductor foundries. If a fabless Silicon Valley chip company has an exciting new design, it can often quickly get it into production in Taiwan, sometimes with runs as low as several hundred a month. If the product takes off, Taiwanese fabs can ramp production up to 100,000 a month.

The foundries make it possible for chip startups to "jump on a freight train moving 150 miles an hour," asserts TSMC President Donald Brooks. He argues that without Taiwanese foundries, which handle 40% of the output of U.S. fabless chipmakers, it would have been difficult for such companies as Cirrus Logic, S3, and Trident to come on as strongly and establish their chips as standards. "Taiwan is critical to us," explains Fred S.L. Chan, head of ESS Technology Inc., based in Fremont, Calif.

ESS is a good example of how reliant U.S. companies have become on Taiwan. In 1994, ESS decided to plunge into the market for audio chips. Chan had the wafer produced by TSMC. When computing went multimedia, ESS's 16-bit stereo chip quickly became a standard, and the company's sales tripled in 1995, to $106 million. Now, ESS has big hopes for its new telephony device, which combines voice, data, and video functions on a single chip, competing with rivals like AT&T.

Taiwanese foundries are hardly irreplaceable. Singapore, South Korea, Scotland, and the U.S. are also adding such fabs. And there could be overcapacity if the semiconductor market falls short of expectations. But rivals in other countries still would be hard-pressed to take on the Taiwanese. "The entry barriers to new companies are high, and the learning curve is steep," says Dataquest Inc. semiconductor analyst Benjamin F.T. Lee.

One of the greatest challenges the Taiwanese face is marketing. With a few exceptions, Taiwanese companies have yet to demonstrate that they can make it globally with their own brands and product designs, much less establish new industry standards. Despite its success in serving some of America's most innovative chipmakers, for example, Taiwan has produced few important design houses of its own. Even though Taiwan-made scanners account for two thirds of the world market, most Taiwanese brand names have failed to impress U.S. consumers, says William Krause, chairman of Mountain View (Calif.)-based photo imaging company Storm Software Inc. "They design things too quickly," he says. "So when they try selling directly to the consumer, they fall on their face."

Part of the problem is that most Taiwanese companies are too small to afford extensive product development and distribution networks in the U.S., where the real action is. Moreover, they are too timid to hand the marketing ball to U.S. specialists. Another problem is Taiwan's relative weakness in software, which is critical in the image- and document-processing business.

All this is starting to change. Acer has done the most to shatter Taiwan's reputation for lightweight, no-name cloners. After years of pounding away with its own brand in the U.S., Acer finally hit it big last year with its contoured, charcoal-gray home PC, the Aspire. Acer now ranks No.7 in U.S. computer sales. Acer also challenged the myth that Taiwan's family-dominated business scene would never produce world-class electronics conglomerates to rival the likes of Hitachi, Sony, and Samsung. Acer now has major divisions making everything from chips and monitors to fax machines and cellular phones. Chairman Stan Shih's goal: To double group revenue, to $10 billion, by 2000.

CLONER HEAVEN. Acer's success has spawned a pack of imitators. First International Computer Inc., which made its mark as a global supplier of motherboards, now is one of the largest notebook-PC makers, while sister companies produce thin-film transistor LCD screens and memory chips. GVC Corp., a leader in modems, motherboards, and notebook PCs, aims to become a $1 billion conglomerate this year by diversifying into wireless fax modems, multimedia cards, palmtop computers, and monitors. It even plans to become more self-reliant by building its own chip plant. Says Deputy Finance Manager Dave C.K. Hsu: "We are going the Acer way."

Perhaps the most ambitious would-be giant is the Umax Group, the world's No.2 optical-scanner producer, behind Hewlett-Packard. To get in the chip business, it teamed up with Mitsubishi Electric Corp. in 1994 to build a $1 billion 16-megabit dynamic random access memory (DRAM) chip plant. Then it took over the Macintosh-cloning business of Sunnyvale, (Calif.)-based Radius Inc., one of the first computer companies licensed by Apple Computer Inc. to make clones. Umax Chairman Frank Huang hopes the deal will lead to a full-blown strategic alliance to make a range of affordable computer products for Apple, which he says might make a comeback if it can find partners to produce products costing under $2,000. "To be reborn, Apple can't design everything itself," Huang says. "It needs Taiwan."

Not to be outdone, Acer plans still wider diversification--aiming to be a 21st century multimedia giant. In addition to its computer, microelectronics, and peripherals operations, Acer has added telecom and consumer-appliance divisions. Now that Acer has gotten into American households with the Aspire, the company wants to secure its position in consumer appliances.

In the coming digital revolution, the Taiwanese assert that even the Japanese may have to come to them for technological help. "The applications are so broad that they will need to find partners," says Acer Senior Vice-President George Huang. Over the next two years, Acer plans to roll out digital videodisk players, computer televisions, videophones, and other gadgets under its own brand. Its R&D labs also are laboring on prototypes of appliances for accessing the Internet, including bare-bones terminals, Web-accessible TVs, and set-top boxes.

Just as Taiwan's government is attempting to strike a delicate balance in ties with China, so too are Taiwan technology companies attempting to sell to China and tap its enormous technical resources--but without being trapped. Before the recent tensions between Beijing and Taipei, the integration of Taiwanese industry with China was seen as benefiting both sides. Taiwanese companies had shifted much production of motherboards, monitors, and keyboards. Last year, Dataquest estimates, one-third of Taiwan's computers were assembled in China. Numerous companies that had large engineering teams on the mainland were even petitioning their government to make it easier for Chinese engineers to work in Taiwan.

That momentum has stopped in its tracks, at least for now. Several computer makers say they were so disgusted at Beijing that they will shelve major new investments and instead look at countries such as the Philippines, or even the U.S. "Suddenly, diversification away from China has become very important," says the president of one leading computer company. Other Taiwanese businessmen are arguing that getting the relationship back on track as soon as possible is in everyone's interest.

For the time being, those companies are confident that their customers aren't about to bolt--if for no other reason than there are few alternatives. That's the way Taiwan hopes to keep it, no matter what China does. Other Asian manufacturing havens such as Malaysia, Singapore, and Thailand lack enough skilled engineers. South Korea and Japan aren't as flexible. And China's coastal cities seem years away from matching Taiwan's high-tech infrastructure. So even though Taiwan's electronics mavens are feeling jitters, the odds are that they will continue sprinting toward the top of the technology heap.By Pete Engardio in Hsinchu, with Margaret Dawson in Taipei, Robert D. Hof in San Francisco, and bureau reportsReturn to top


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