Let other Taiwanese executives fret about slumping demand in the U.S. or mounting competition from China. Mingto Yu, finance director at MediaTek Inc., has other concerns, like what to do with all the profits his firm is making. The Hsinchu-based designer of semiconductors used in DVD players earned $180 million on $440 million in sales last year and is the hottest stock in Taiwan. So far this year, sales are up threefold. "We just pile up the money," Yu says.
Firms such as MediaTek may be just the answer for a Taiwan that is growing increasingly nervous about its economic future. For decades, Taiwan has been able to use its wealth of technical talent to stay ahead of regional rivals in the computer industry, even as the island's production costs have risen. But now China is rising fast as a cheap haven for the high-end electronics manufacturing at which Taiwan excels, such as the production of notebook computers and semiconductors. Meanwhile, Taiwan's economy shrunk by 2% last year. Many Taiwanese fear their high-tech center will wither unless the island can replace departing industries with innovative design companies such as those that thrive in Silicon Valley. "Everyone is talking about what our next step could be," says Steve C.H. Lin, a top official at the government-backed Industrial Technology Research Institute (ITRI).
That's why many tech watchers are hoping the growing squad of chip-design houses will be Taiwan's Next Big Thing. MediaTek, which has seen its stock price nearly triple in less than a year, controls one-third of the global market for the chips it makes; it competes against the likes of Sony Corp. (SNE) and Toshiba Corp. (TOSBF) Other hot upstarts include telecom-chip designer Realtek Semiconductor; Novatek Microelectronics, which specializes in devices used in computer displays; and Sunplus Technology, whose chips go into consumer products such as interactive toys and digital cameras. In fact, with $3.4 billion in sales last year, Taiwan ranked second behind the U.S. in revenues of chip-design companies (chart).
These firms are successfully mimicking a business model pioneered in Silicon Valley--the fabless chip company. They focus on designing specialty chips for an array of electronic products. Or they earn revenue by licensing their intellectual property to other semiconductor developers. But these firms don't own their own plants. Instead, they contract the manufacturing out to foundries, companies that own silicon-wafer-fabrication plants. That means they can focus their investment on research and development, rather than on expensive equipment. That's one reason MediaTek, for example, has $285 million in cash. Taiwan now has some 200 fabless chip companies. The sector is "an accomplished success" in Taiwan, says Morris Chang, chairman of Taiwan Semiconductor Manufacturing Co. (TSM), the world's biggest foundry. "And it will continue to grow."
Whether chip design will be a powerful engine for the island's flagging economy is another question. True, these companies are hiring hundreds of highly skilled engineers each year, helping Taiwan make the transition to an economy driven by knowledge-based industries and services. But it will take time to make a dent in Taiwan's near-record 5.2% unemployment rate, caused in part by a flight of factory jobs to China as both the mainland and Taiwan join the World Trade Organization. And competition is fierce. At the high end, Silicon Valley remains the center of innovation. And the first movers tend to reap the fattest profits. Taiwanese start-ups tend to wait until there's already a proven market for a device, then swoop in with a similar product and compete on price. Meanwhile, China, which boasts an army of young micro-electronics engineers and is a rising force in low-cost chip manufacturing, should make big strides in design as well.
Still, Taiwan has several advantages. It is home to the world's two premier foundries, TSMC and United Microelectronics Corp. (UMC) Both have state-of-the-art wafer fabs located near many chip-design firms in the Hsinchu science park, Taiwan's high-tech hub. UMC has stakes in several firms, including MediaTek and Novatek, guaranteeing the smaller firms continuing access to its plants if a recovery in the global electronics industry leads to a capacity crunch. Taiwan also is home to major semiconductor testing and assembly companies. "There's every kind of service you need as a design house," says Novatek Chairman Tai-Shung Ho.
It also helps that Taiwan is close to Asian manufacturers of PCs, digital telecom devices, and other products that use cutting-edge chips. And it has a large pool of electronics engineers earning, on average, one-third less than those in the U.S.
One firm that has benefited from all this is Sunplus. The 12-year-old company hit it big a few years ago by developing chips that allow the Furby stuffed-animal toy to talk. Today, more sophisticated Sunplus devices go into everything from handheld computers to cameras. Analysts estimate Sunplus earned $61 million on sales of $190 million in 2001. Its stock has doubled in the past four months. This year, Sunplus expects to boost its workforce by 30%, to around 600. President Yan-Chen Chen says operating in Taiwan gives his company an edge. "All the resources are within this town," says Chen. "And because of our lower expenses, design houses in Taiwan need lower margins than those in Silicon Valley."
It will take a while before Taiwan can match the U.S. as a source of innovation, however. While some Taiwanese companies are leaders in producing inexpensive chips for consumer products, they lag in high-end devices that power the latest communications and computer equipment. U.S. companies have accused some Taiwan chipmakers of stealing their intellectual property--a charge they strongly deny. Another downside of producing me-too chips is that margins shrink drastically once a product becomes a commodity. Still, Executive Vice-President Jessy Chen of Realtek, whose chips primarily are used in circuit boards for network equipment, maintains that jumping into an established market remains a profitable business model for many Taiwanese companies. "We can always give our customers a lower price than the original players," Chen boasts.
But Taiwan can't count on keeping a low-cost advantage forever. China will also be able to play the fabless game once its engineers get up to speed. Several big semiconductor plants are rising on the mainland, and Chinese engineers are paid even less. As a result, says Sunplus' Chen, "we need to push ourselves to move into high-end segments." In fact, some execs say China's emergence could be a boon as long as Taiwan companies stay well ahead. Because China has a huge domestic market of its own for consumer electronics, Taiwan designers could collaborate with mainland companies on chips used in products tailored to Chinese needs and tastes.
Taiwan's government is searching for ways to help the chip-design industry advance. It wants to build a new industrial park where chip designers can work alongside manufacturers, for instance. Also, universities are increasing the number of training programs for engineers. ITRI has launched an effort to help companies collaborate on complex "system-on-a-chip" devices that include several functions on one piece of silicon. Thirty companies have joined the consortium.
If past experience with government-backed consortiums is any guide, getting Taiwanese entrepreneurs to collaborate will be tough. Besides, the threat of competition from China is still off in the future--and the opportunities for exploiting niches in chips are immense. So for now, it looks like Taiwan's scrappy electronics industry has found a lucrative new source of growth. By Bruce Einhorn in Hsinchu, Taiwan