SoonmylateststopinTaipei,Idecidedtosetupacoupleofmeetingstohearaboutrecenttrendsinthissector。

Inparticular,Ihadachancetositdownwithsomeanalystsfromthehighly-ratedtechteamatYuantaSecuritiesandaskedthemforsomeoftheirtopideasforthelongrun…

Thefirmsbehindthebrandonyourlaptop

Unlessyoufollowtechclosely,youprobablywontknowthenamesofmanyTaiwanesefirms。

Incomputing,youmightrecogniseAcerandAsus,whichhavedevelopedintoreasonablyrespectedbrands。

Morerecently,youmighthavebecomefamiliarwithHTC,whichhasusedgooddesignandtie-upswithGoogletobecomethethirdlargestsmartphonefirmafterAppleandBlackberrymakerResearchinMotion。

Butthesethreefirmsareunusualinthattheyvegonesomewaydownthepathtobuildingmajorconsumerbrands。

ManyotherTaiwanesefirmsremainveryanonymouseventotheusersoftheirproducts。

Forexample,ifyourereadingthisonalaptop,theresaveryhighchancethatitcomesfromaTaiwanese-ownedfactoryevenifitdoesntcarryanAcerorAsusbadge。

Taiwaneseoriginaldesignmanufacturers(ODMs)suchasQuantaandCompalbuild,and,tovaryingextents,designthenotebooksthatcarrythenameofHewlettPackard,Fuijitsu,Lenovoandothers。

Andofcourse,eachassembledproductcontainscomponentsfrommanyotherfirms,manyofwhicharealsoTaiwanese。

TheprocessorinyourlaptopmightbedesignedbytheUSfirmAMD–butitmaybefabricatedbyTSMCandpackagedandtestedbyASE。

ThescreenpanelmightbemadebyAUOptronics,thebacklightbyRadiant…andsoonthroughhundredsofparts,eachsourcedfromadifferentsupplier。

EventhehingesmaycomefromaTaiwanesefirm。

Theydontdominateeverything:thememoryismorelikelytocomefromaKoreanfirmsuchasHynix,orevenaJapaneseone。

ButthenotebooksupplychaininvariablyinvolvesmanyanonymousTaiwanesestocks。

Thesameistruetovaryingextentsinmanyotherelectronicsectors:mobilephones,TVs,DVDplayersandmanyotherproducts。

Apple,forexample,doesabsolutelynoneofitsownmanufacturing。

AlltheassemblyworkiscarriedoutbyTaiwansHonHai/Foxconngroup,withcomponentssourcedfromhundredsofotherfirms。

Whichfirmsarefeelingthepressure?

Techisalwaysacompetitive,high-pressurebusiness。

Sowhatkindsofchallengesarethesetechfirmsfacingatthemoment?

Oneiscost。

ManyTaiwanesetechfirmshavegainedtheircompetitiveadvantagethroughusinglow-costmanufacturinginmainlandChinawhileretainingmanagementandresearchfunctionsinTaiwan。

ThisallowsthemtomakeuseofChinaslowlabourcosts。

Asharedlanguageandculturehasgiventhemadvantagesovercompaniesfromothercountriesinrunningfactoriesonthemainland。

Butasyouveprobablyheard,wagesarerisingsharplyinChina,pushingupcosts。

Andmanufacturersmustadapttothisasbesttheycan。

Onewayistorelocatefactoriestocheaperareas。

FirmssuchasQuantahavebeenestablishingnewplantsinareassuchasChongqinginthewestofChina,ratherthanonthecoast,hometoexistingplants。

Butthisapparentlyisntsavingthemmuchinwages,sincecostsaregoingupacrossChina。

Buttheyareatleastpickinguptaxbreaksfromlocalgovernmentskeentolurethemin。

Anotheroptionistoincreaseautomationandproductivity–whenlabourgetsmoreexpensive,youtrytosqueezemorefromasmallerworkforce。

Insomeareas,theresscopeforthis–butinothersitstricky。

Forexample,assemblingiPhonesisalwayslabourintensiveandHonHaisworkforcejustkeepsgrowingandgrowing。

Anotherproblemisthatbecausetechisbuiltaroundinnovation,itcanbehardtoestablishandmaintainmarketleadership。

Foracurrentexample,takeMediatek,whichdesignssystem-on-a-chipsolutionsformobilephones,amongotherproducts。

Tosumitupsimply,Mediatekfoundaprofitablenicheproducingthecoreofamobilephone–asimplepackagethatanyonecouldbuy,stickashinycasearoundandhaveaworkingproductwithouthavingtodoanyrealtechdesignwork。

Theseweresoldtolow-techmanufacturerswhousedthemtoproducelow-costlookalikeproductsfortheiPhoneorwhatevermodelwashotatthetimeinChinaandotheremergingmarkets。

Mediatekdidverywellforawhile。

Butnowthefirmisbeingsqueezed。

Spreadtrum,amainlandChinesefirmwithgovernmentsupport,hasworkedouthowtodothesamethingwiththe2GsystemsMediatekproducesandisundercuttingit。

MeanwhileQualcomm,theUSfirmbehindthechipsformoresophisticatedphones–includingHTCs–isnowselling3GkitsforthesamepricesasMediatekshigher-end2Gones。

SoitsnosurprisethatMediatekssharepricehascollapsedasinvestorswaittoseehowitwillresponse。

Athirdissueistheever-presentthreatofdisruptivetechnologies。

Formanyyears,laptopswereagrowthsector,poweringbrandssuchasAcerandODMssuchasQuanta。

Butlaptopsalesarenowslowing。

FollowingthesuccessofApplesiPad,thenewgrowthmarketistablets。

ForbrandedfirmssuchasAcerandHTC,aswellasrivalssuchasSamsungandMotorola,therushisontogettheirowntabletsontothemarket。

Theirsaleswillsufferiftheyreunabletoproduceahitproduct。

ForODMsgearedtowardsnotebookssuchasQuantaandCompal,thismeanstheyllneedtolookfornewgrowthsectorssuchastabletsandhandhelds,orperhapsmoveintonewareassuchascloudcomputingservers。

WhiletheyhadastrongpositioninthehighlyconsolidatednotebookODMmarket,theyfacealotmorecompetition?

establishingthemselvesinthesenewemergingareas。

Andfurtherdownthechain,somecomponentsupplierswillbeinserioustroublefromtheshift。

Tabletsdontrequirehinges,forexample。

Soafirmthatsuppliesthemhasnothingtogainfromthetabletboom。

Threefirmsinpoleposition

Allinallthen,techinvestingisahighlycomplexareathatrequiresalotofworktokeepontopoftrends。

Inaddition,itshighlycyclical,sotherearemanycompaniesthatareeffectivelyalwaysinplay。

Youonlybuythemwhentheresadowncycleandyousellthemwhentimesaregood–theyrenotbuyandholdinvestments。

Idonthavethatsortofexpertise,soIaskedthelocaltechteamsforsomeideasaboutTaiwanesefirmsreallystoodoutintermsofthestrengthoftheirposition。

Notsimplywhichmightdowellinthenearterm,butwhicharewellplacedtothriveandaddvalueoverafewyears,eveniftheyrenotthecheapeststocksaround。

Unsurprisingly,topofthelistwasTSMC(TT:2330,NYSE:TSM)。

Thisfirmisagloballeaderincustomchipmanufacturing。

TheseareproducedtoorderaccordingtodesignsfromfablessfirmssuchasAMDorQualcomm,whodonthavetheirownfabricationfacilities。

Itdoesntproducememorychips(DRAM),whichisacommoditybusinesswheresuppliersareunderalotmorepressure。

Butitdoesproducethemorecomplexandsophisticatedprocessingchipsattheheartofmodernelectronicsystems。

TSMCiswellplacedtobenefitfromtheshiftinlaptopsthatuseIntelprocessorstohandheldsandtabletsbasedoninfrastructurefromARM。

Intelmostlymakesitsownprocessors,whereasARMdoesnomanufacturing。

ThismeansincreasedordersforindependentfoundriessuchasTSMC。

Ofcourse,chip-makingisacapital-intensivebusinessandrequiresfrequentinvestmentinthenextgenerationofchips。

AndTSMCfacescompetitionfromrivalssuchasGlobalfoundriesandSamsung(whichmostlyproducescommoditychips,butisexpandingitscontractchipmanufacturingdivision)。

However,TSMCistechnologicallyattheheadofthepack。

Andthefactthatitsnottiedtoanelectronicsmanufacturer(unlikeSamsungsdivision)shouldhelpitwinbusinessfromSamsungsrivals。

Onap/eof11。

7andayieldofabout4。

1%,TSMClooksgoodvalueforthelongrun。

Elsewhere,conditionsarelookingtoughforTFTflatscreenmanufacturers。

NotebooksalesgrowthandthereplacementofoldTVswithflatscreenoneshavedrivenearningsinrecentyears。

Butthesetrendsdontlooksoencouragingforthefuture。

Meanwhile,competitioninthisareaisheatingup。

MeanwhiletouchscreensareakeypartoftabletssuchastheiPadandarelikelytocontinuespreadingintootherareas。

ProducingtheseismorecomplexthanaTFTscreen。

AndafirmssuccesscomesdowntobeingabletomakescreensthatmeettheexactingstandardsofclientssuchasApple,whilebeingabletogettheyieldratefromeachpaneofglassuphighenoughtomakemoney。

TPK(TT:3673)istheindustryleaderinthisarea,supplying50%ofscreensforApplesproducts。

Itfacesgrowingcompetition,includingeffortsbyFoxconn-controlledTFTscreenmanufacturerChimeiInnoluxtoexpandintomakingtouchscreensforApple。

Butatrickylearningcurveonthecruciallaminationprocess,amovetowardsusinglargertouchscreens(whicharehardertomake)andthefirmsexceptionallyhighyieldsshouldseeitdowellfromacomingtouchscreenboom。

Althoughitsonahightrailingp/eof35,theYuantaanalyststhinkthatitsplacedtodowellforthenextfewyears?

AthirdinterestingideawassomethingIdneverthoughtaboutatall:chipdistributors。

ThesearethefirmswhodistributeproductsfromvendorssuchasTexasInstruments,IntelandQualcommtosmallandmediumsizedmanufacturerswhodontdealwiththemdirectly。

AsiaandinparticularChinaisafast-growingmarketfortheseintegratedcomponents(IC)anddistributorsshouldbeabletoaddalotofvaluehereinthefuture。

Butatpresent,distributionisstillfragmentedwithmanysmallplayers,whilemajorUSdistributorssuchasArrowandAvnetcomefromaverydifferentcultureandarestrugglingtogainmarketshare。

ThiscouldofferagreatopportunityforTaiwanesedistributors。

Thetechnicalbarrierstoentryinthisbusinessareobviouslynothigh。

Butsuccesswillbedowntonetworks,culturalunderstandingandefficientworkingcapitalmanagementtogetthebestoutofrelativelylowgrossmargins(5-6%)。

WPGisthelargestdistributorinAsiaandlooksinprimeplaceforthisinthelongrun。

Onap/eof11。

7andayieldof3。

2%,itseemsreasonablypriced。

However,ithassomeworktodointegratingarecentmajoracquisition。

SosmallerTaiwaneserivalWTMicro(TT:3036)mayoutperformintheshortrun。

Ittradesonap/eof8。

3andayieldof4。

25%。

ThesnagwithTaiwanesesharesisthat,likeKorealastweek,thisisnottheeasiestmarkettoinvestin。

Afewtechfirms,includingTSMC,haveliquidUSorUKsecondarylistings,makingthemeasytobuy。

Butitisasmallminorityoflargercompanies;evenHTCdoesnthaveoneatpresent。

SoifyouhaveaparticularinterestintechandwanttobeabletobuymostleadingTaiwanesefirms,youmightneedtolookatbrokerswhowilltradethismarketdirectly。

Inmyview,thisismosteasilyandcosteffectivelydonethroughanAsianfirmthatoffersmostregionalmarketsandcaterstointernationalinvestors,suchasOCBCinSingaporeorBoominHongKong。

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