Company Quick10K Filing
TSMC
Price36.58 EPS2
Shares25,930 P/E22
MCap948,430 P/FCF13
Net Debt-16,606 EBIT49,055
TEV931,824 TEV/EBIT19
TTM 2018-12-31, in MM, except price, ratios
20-F 2019-12-31 Filed 2020-04-15
20-F 2018-12-31 Filed 2019-04-17
20-F 2017-12-31 Filed 2018-04-19
20-F 2016-12-31 Filed 2017-04-13
20-F 2015-12-31 Filed 2016-04-11
20-F 2014-12-31 Filed 2015-04-13
20-F 2013-12-31 Filed 2014-04-14
20-F 2012-12-31 Filed 2013-04-02
20-F 2011-12-31 Filed 2012-04-13
20-F 2010-12-31 Filed 2011-04-15
20-F 2009-12-31 Filed 2010-04-15

TSM 20F Annual Report

Item 17 Item 18 ü
Part I
Item 1. Identity of Directors, Senior Management and Advisors
Item 2. Offer Statistics and Expected Timetable
Item 3. Key Information
Item 4. Information on The Company
Item 4A. Unresolved Staff Comments
Item 5. Operating and Financial Reviews and Prospects
Item 6. Directors, Senior Management and Employees
Item 7. Major Shareholders and Related Party Transactions
Item 8. Financial Information
Item 9. The Offer and Listing
Item 10. Additional Information
Item 11. Quantitative and Qualitative Disclosures About Market Risks
Item 12D. Description of Securities Other Than Equity Securities
Part II
Item 13. Defaults, Dividend Arrearages and Delinquencies
Item 14. Material Modifications To The Rights of Security Holders and Use of Proceeds
Item 15. Controls and Procedures
Item 16A. Audit Committee Financial Expert
Item 16B. Code of Ethics
Item 16C. Principal Accountant Fees and Services
Item 16D. Exemptions From The Listing Standards for Audit Committees
Item 16E. Purchases of Equity Securities By The Issuer and Affiliated Purchasers
Item 16F. Change in Registrant's Certifying Accountant
Item 16G. Corporate Governance
Part III
Item 17. Financial Statements
Item 18. Financial Statements
Item 19. Exhibits
EX-12.1 d331461dex121.htm
EX-12.2 d331461dex122.htm
EX-13.1 d331461dex131.htm
EX-13.2 d331461dex132.htm
EX-99.1 d331461dex991.htm

TSMC Earnings 2011-12-31

Balance SheetIncome StatementCash Flow
705642281402012201420172020
Assets, Equity
35282114702012201420172020
Rev, G Profit, Net Income
20136-1-8-152012201420172020
Ops, Inv, Fin

20-F 1 d331461d20f.htm FORM 20-F Form 20-F
Table of Contents

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 20-F

 

¨ REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2011

OR

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

OR

¨ SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 1-14700

台灣積體電路製造股份有限公司

(Exact Name of Registrant as Specified in Its Charter)

 

Taiwan Semiconductor Manufacturing Company Limited   Republic of China
(Translation of Registrant’s Name Into English)   (Jurisdiction of Incorporation or Organization)

No. 8, Li-Hsin Road 6

Hsinchu Science Park

Hsinchu, Taiwan

Republic of China

(Address of Principal Executive Offices)

 

 

Securities registered or to be registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

  

Name of Each Exchange
on Which Registered

Common Shares, par value NT$10.00 each*    The New York Stock Exchange, Inc.

 

 

Securities registered or to be registered pursuant to Section 12(g) of the Act:

None

(Title of Class)

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:

None

(Title of Class)

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.

As of December 31, 2011, 25,916,222,575 Common Shares, par value NT$10 each were outstanding.

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.   Yes    ü   No         

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or (15)(d) of the Securities Exchange Act of 1934. Yes          No     ü 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes    ü   No        

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes          No        

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large Accelerated Filer    ü             Accelerated Filer                   Non-Accelerated Filer       

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

U.S. GAAP          

International Financial Reporting Standards as issued       

by the International Accounting Standards Board

   Other   ü 

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.

Item 17         Item 18   ü 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes          No   ü 

 

* Not for trading, but only in connection with the listing on the New York Stock Exchange, Inc. of American Depositary Shares representing such Common Shares


Table of Contents

TABLE OF CONTENTS

Taiwan Semiconductor Manufacturing Company Limited

 

          Page  

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION

     1   

PART I

     2   

ITEM 1.

   IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS      2   

ITEM 2.

   OFFER STATISTICS AND EXPECTED TIMETABLE      2   

ITEM 3.

   KEY INFORMATION      2   

ITEM 4.

   INFORMATION ON THE COMPANY      13   

ITEM 4A.

   UNRESOLVED STAFF COMMENTS      23   

ITEM 5.

   OPERATING AND FINANCIAL REVIEWS AND PROSPECTS      23   

ITEM 6.

   DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES      35   

ITEM 7.

   MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS      44   

ITEM 8.

   FINANCIAL INFORMATION      46   

ITEM 9.

   THE OFFER AND LISTING      48   

ITEM 10.

   ADDITIONAL INFORMATION      49   

ITEM 11.

   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS      64   

ITEM 12D.

   DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES      66   

PART II

     67   

ITEM 13.

   DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES      67   

ITEM 14.

   MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS      67   

ITEM 15.

   CONTROLS AND PROCEDURES      67   

ITEM 16A.

   AUDIT COMMITTEE FINANCIAL EXPERT      69   

ITEM 16B.

   CODE OF ETHICS      69   

ITEM 16C.

   PRINCIPAL ACCOUNTANT FEES AND SERVICES      69   

ITEM 16D.

   EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES      70   

ITEM 16E.

   PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS      70   

ITEM 16F.

   CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT      70   

ITEM 16G.

   CORPORATE GOVERNANCE      70   

PART III

     73   

ITEM 17.

  

FINANCIAL STATEMENTS

     73   

ITEM 18.

  

FINANCIAL STATEMENTS

     73   

ITEM 19.

  

EXHIBITS

     73   

 

i


Table of Contents
          Page

EX-12.1 CERTIFICATION OF CEO - RULE 13A-14(A)

EX-12.2 CERTIFICATION OF CFO - RULE 13A-14(A)

EX-13.1 CERTIFICATION OF CEO - RULE 13A-14(B)

EX-13.2 CERTIFICATION OF CFO - RULE 13A-14(B)

EX-99.1 CONSENT OF DELOITTE & TOUCHE

“TSMC”, “tsmc”, NEXSYS, NEXSYS Technology for SoC, EFOUNDRY, VIRTUAL FAB, TSMC-YOUR VIRTUAL FAB, TSMC-YOUR VIRTUAL FAB IN SEMICONDUCTOR MANUFACTURING, OPEN INNOVATION and OPEN INNOVATION PLATFORM ARE OUR REGISTERED TRADEMARKS IN VARIOUS JURISDICTIONS INCLUDING THE UNITED STATES OF AMERICA USED BY US. ALL RIGHTS RESERVED.

 

ii


Table of Contents

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION

This annual report includes statements that are, or may be deemed to be, “forward-looking statements” within the meaning of U.S. securities laws. The terms “anticipates,” “expects,” “may,” “will,” “should” and other similar expressions identify forward-looking statements. These statements appear in a number of places throughout this annual report and include statements regarding our intentions, beliefs or current expectations concerning, among other things, our results of operations, financial condition, liquidity, prospects, growth, strategies and the industries in which we operate.

By their nature, forward-looking statements involve risks and uncertainties because they relate to events and depend on circumstances that may or may not occur in the future. Forward-looking statements are not guarantees of future performance and our actual results of operations, financial condition and liquidity, and the development of the industries in which we operate may differ materially from those made in or suggested by the forward-looking statements contained in this annual report. Important factors that could cause those differences include, but are not limited to:

 

   

the volatility of the semiconductor and microelectronics industry;

 

   

overcapacity in the semiconductor industry;

 

   

the increased competition from other companies and our ability to retain and increase our market share;

 

   

our ability to develop new technologies successfully and remain a technological leader;

 

   

our ability to maintain control over expansion and facility modifications;

 

   

our ability to generate growth and profitability;

 

   

our ability to hire and retain qualified personnel;

 

   

our ability to acquire required equipment and supplies necessary to meet business needs;

 

   

our reliance on certain major customers;

 

   

the political stability of our local region; and

 

   

general local and global economic conditions.

Forward-looking statements include, but are not limited to, statements regarding our strategy and future plans, future business condition and financial results, our capital expenditure plans, our capacity management plans, expectations as to the commercial production using 20-nanometer and more advanced technologies, technological upgrades, investment in research and development, future market demand, future regulatory or other developments in our industry. Please see “Item 3. Key Information — Risk Factors” for a further discussion of certain factors that may cause actual results to differ materially from those indicated by our forward-looking statements.

 

1


Table of Contents

PART I

 

ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS

Not applicable.

 

ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE

Not applicable.

 

ITEM 3. KEY INFORMATION

Selected Financial and Operating Data

The selected income statement data, cash flow data and other financial data for the years ended December 31, 2009, 2010 and 2011, and the selected balance sheet data as of December 31, 2010 and 2011, set forth below, are derived from our audited consolidated financial statements included herein, and should be read in conjunction with, and are qualified in their entirety by reference to, these consolidated financial statements, including the notes thereto. The selected income statement data, cash flow data and other financial data for the years ended December 31, 2007 and 2008 and the selected balance sheet data as of December 31, 2007, 2008 and 2009, set forth below, are derived from our audited consolidated financial statements not included herein. The consolidated financial statements have been prepared and presented in accordance with accounting principles generally accepted (“GAAP” or “R.O.C. GAAP”) in the Republic of China (“R.O.C.” or “Taiwan”), which differ in some material respects from accounting principles generally accepted in the United States of America (“U.S. GAAP”) as further explained under note 34 to our consolidated financial statements.

 

    Year ended and as of December 31  
            2007                    2008                    2009                     2010                       2011                           2011              
    NT$     NT$     NT$     NT$     NT$     US$  
   

(in millions, except for percentages,

earnings per share and per ADS, and operating data)

 

Income Statement Data:

           

R.O.C. GAAP

           

Net sales

    322,630         333,158         295,742         419,538         427,081         14,109    

Cost of sales(6)

    (180,280)         (191,408)         (166,413)         (212,484)         (232,938)         (7,695)    

Gross profit before affiliates elimination

    142,350         141,750         129,329         207,054         194,143         6,414    

Unrealized gross profit from affiliates

    —         —         —         —         (74)         (3)    

Gross profit

    142,350         141,750         129,329         207,054         194,069         6,411    

Operating expenses(6)

    (30,628)         (37,315)         (37,367)         (47,879)         (52,512)         (1,735)    

Income from operations

    111,722         104,435         91,962         159,175         141,557         4,676    

Non-operating income and gains

    11,934         10,822         5,654         13,136         5,359         177    

Non-operating expenses and losses

    (2,014)         (3,785)         (2,153)         (2,041)         (1,768)         (58)    

Income before income tax

    121,642         111,472         95,463         170,270         145,148         4,795    

Income tax expense

    (11,710)         (10,949)         (5,997)         (7,988)         (10,695)         (353)    

Net income

    109,932         100,523         89,466         162,282         134,453         4,442    

Net income attributable to minority interests

    (755)         (590)         (248)         (677)         (252)         (8)    

Net income attributable to shareholders of the parent

    109,177         99,933         89,218         161,605         134,201         4,434    

Basic earnings per share(1)

    4.04         3.84         3.45         6.24         5.18         0.17    

Diluted earnings per share(1)

    4.04         3.81         3.44         6.23         5.18         0.17    

Basic earnings per ADS equivalent(1)

    20.21         19.19         17.27         31.19         25.89         0.86    

Diluted earnings per ADS equivalent(1)

    20.20         19.05         17.22         31.17         25.88         0.86    

Basic weighted average shares outstanding(1)

    27,005         26,039         25,836         25,906         25,914         25,914    

Diluted weighted average shares outstanding(1)

    27,025         26,234         25,912         25,920         25,925         25,925    

U.S. GAAP

           

Net sales

    323,221         334,340         296,109         419,988         427,488         14,123    

Cost of sales

    (202,046)         (203,734)         (167,122)         (212,771)         (232,989)         (7,697)    

Gross profit before affiliates elimination

    121,175         130,606         128,987         207,217         194,499         6,426    

Unrealized gross profit from affiliates

    —         —         —         —         (74)         (3)    

Gross profit

    121,175         130,606         128,987         207,217         194,425         6,423    

Operating expenses

    (44,775)         (44,424)         (37,627)         (48,434)         (52,405)         (1,731)    

Income from operations

    76,400         86,182         91,360         158,783         142,020         4,692    

Income before income tax

    85,973         91,884         94,253         170,088         149,238         4,930    

Income tax expense

    (14,012)         (10,062)         (4,960)         (5,768)         (12,135)         (401)    

 

2


Table of Contents
    Year ended and as of December 31  
              2007                            2008                               2009                               2010                              2011                                2011                 
    NT$     NT$     NT$     NT$     NT$     US$  
   

(in millions, except for percentages,

earnings per share and per ADS, and operating data)

 

Net income

    71,961         81,822         89,293         164,320         137,103         4,529    

Net income attributable to shareholders of the parent

    71,658         81,473         89,102         163,639         136,873         4,522    

Basic earnings per share(2)

    2.71         3.15         3.45         6.32         5.28         0.17    

Diluted earnings per share(2)

    2.71         3.13         3.44         6.31         5.28         0.17    

Basic earnings per ADS equivalent(2)

    13.57         15.77         17.24         31.58         26.41         0.87    

Diluted earnings per ADS equivalent(2)

    13.56         15.66         17.19         31.57         26.40         0.87    

Basic weighted average shares outstanding(2)

    26,409         25,826         25,836         25,906         25,914         25,914    

Diluted weighted average
shares outstanding(2)

    26,429         26,021         25,912         25,920         25,925         25,925    

Balance Sheet Data:

           

R.O.C. GAAP

           

Working capital

    201,116         195,812         180,671         138,328         108,253         3,576    

Long-term investments

    36,461         39,982         37,845         39,776         34,459         1,138    

Properties

    260,252         243,645         273,675         388,444         490,375         16,200    

Goodwill

    5,988         6,044         5,931         5,705         5,694         188    

Total assets

    570,865         558,917         594,696         718,929         774,265         25,579    

Long-term bank borrowing

    1,722         1,420         579         302         1,588         52    

Long-term bonds payable

    12,500         4,500         4,500         4,500         18,000         595    

Guaranty deposit-in and other  liabilities(3)

    17,251         15,817         11,436         12,231         5,627         186    

Total liabilities

    80,179         78,544         95,648         140,224         142,221         4,699    

Capital stock

    264,271         256,254         259,027         259,101         259,162         8,562    

Cash dividend on common shares

    77,489         76,881         76,876         77,708         77,730         2,568    

Shareholders’ equity attributable to shareholders of the parent

    487,092         476,377         495,083         574,145         629,594         20,799    

Minority interests in subsidiaries

    3,594         3,996         3,965         4,560         2,450         81    

U.S. GAAP

           

Goodwill

    46,926         47,028         46,825         46,419         46,399         1,533    

Total assets

    610,843         599,484         635,275         759,266         818,774         27,049    

Total liabilities

    94,021         84,424         99,278         144,109         147,161         4,862    

Capital Stock

    264,271         256,254         259,027         259,101         259,162         8,562    

Shareholders’ equity attributable to common shareholders of the parent

    513,228         511,089         532,043         610,597         669,163         22,106    

Noncontrolling interests in subsidiaries

    3,594         3,971         3,954         4,560         2,450         81    

 

3


Table of Contents
    Year ended and as of December 31  
                2007                                2008                                  2009                              2010                          2011                         2011             
    NT$     NT$     NT$     NT$     NT$     US$  
   

(in millions, except for percentages,

earnings per share and per ADS, and operating data)

 

Other Financial Data:

           

R.O.C. GAAP

           

Gross margin

    44%                42%                    44%                    49%         45%         45%     

Operating margin

    35%                31%                    31%                    38%         33%         33%     

Net margin

    34%                30%                    30%                    39%         31%         31%     

Capital expenditures

    84,001                59,223                    87,785                    186,944         213,963         7,068     

Depreciation and amortization

    80,005                81,512                    80,815                    87,810         107,682         3,557     

Cash provided by operating activities

    183,766                221,494                    159,966                    229,476         247,587         8,179     

Cash used in investing activities

    (70,689)                (8,042)                    (96,468)                    (202,086)         (182,523)         (6,030)     

Cash used in financing activities

    (135,410)                (115,393)                    (85,471)                    (48,638)         (67,858)         (2,242)     

Net cash inflow (outflow)

    (22,851)                99,628                    (23,338)                    (23,389)         (4,415)         (146)     

Operating Data:

           

Wafer (200mm equivalent) shipment(4)

    8,005                8,467                    7,737                    11,860         12,549         12,549     

Billing Utilization Rate(5)

    93%                88%                    75%                    101%         91%         91%     

 

 

(1) 

Retroactively adjusted for stock dividends for earning year 2007 to earning year 2008 and profit sharing to employees in stock for earning year 2007.

(2) 

Retroactively adjusted for stock dividends for earning year 2007 to earning year 2008.

(3) 

Consists of other long-term payables, obligations under capital leases and total other liabilities.

(4) 

In thousands.

(5) 

“Billing Utilization Rate” is equal to annual wafer shipment divided by annual capacity. Capacity includes wafers committed by Vanguard and SSMC. Please see “Item 7. Major Shareholders and Related Party Transaction — Related Party Transactions.

(6) 

As a result of the adoption of Interpretation 2007-052, “Accounting for Bonuses to Employees, Directors and Supervisors,” the Company records profit sharing to employees and bonus to directors and supervisors as an expense rather than as an appropriation of earnings starting in 2008.

Exchange Rates

We publish our financial statements in New Taiwan dollars, the lawful currency of the R.O.C. In this annual report, “$”, “US$” and “U.S. dollars” mean United States dollars, the lawful currency of the United States, and “NT$” and “NT dollars” mean New Taiwan dollars. This annual report contains translations of certain NT dollar amounts into U.S. dollars at specified rates solely for the convenience of the reader. The translations from NT dollars to U.S. dollars and from U.S. dollars to NT dollars for periods through December 31, 2008 were made at the year-end noon buying rate in The City of New York for cable transfers in NT dollars per U.S. dollar as certified for customs purposes by the Federal Reserve Bank of New York. For January 1, 2009 and all later dates and periods, the exchange rate refers to the exchange rate as set forth in the statistical release of the Federal Reserve Board. Unless otherwise noted, all translations for the year 2011 were made at the exchange rate as of December 30, 2011, which was NT$30.27 to US$1.00. On April 6, 2012, the exchange rate was NT$29.50 to US$1.00.

 

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The following table sets forth, for the periods indicated, information concerning the number of NT dollars for which one U.S. dollar could be exchanged.

 

    NT dollars per U.S. dollar

 

          Average(1)                    High                        Low                    Period-End      

2007

  32.82   33.41   32.26   32.43

2008

  31.51   33.58   29.99   32.76

2009

  32.96   35.21   31.95   31.95

2010

  31.39   32.43   29.14   29.14

2011

  29.42   30.67   28.50   30.27

October 2011

  30.26   30.67   29.86   29.91

November 2011

  30.22   30.43   30.02   30.31

December 2011

  30.25   30.38   30.10   30.27

January 2012

  29.99   30.28   29.61   29.61

February 2012

  29.53   29.65   29.37   29.37

March 2012

  29.52   29.61   29.37   29.50

April 2012 (through April 6, 2012)

  29.49   29.52   29.46   29.50

 

 

(1) 

Annual averages calculated from month-end rates and monthly averages calculated from daily closing rates.

No representation is made that the NT dollar or U.S. dollar amounts referred to herein could have been or could be converted into U.S. dollars or NT dollars, as the case may be, at any particular rate or at all.

Capitalization and Indebtedness

Not applicable.

Reasons for the Offer and Use of Proceeds

Not applicable.

Risk Factors

We wish to caution readers that the following important factors, and those important factors described in other reports submitted to, or filed with, the Securities and Exchange Commission, among other factors, could affect our actual results and could cause our actual results to differ materially from those expressed in any forward-looking statements made by us or on our behalf, and that such factors may adversely affect our business and financial status and therefore the value of your investment:

Risks Relating to Our Business

Any global systemic political, economic and financial crisis or catastrophic natural disasters (as well as the indirect effects flowing therefrom) could negatively affect our business, results of operations, and financial condition.

In recent times, several major systemic economic and financial crises and natural disasters negatively affected global business, banking and financial sectors, including the semiconductor industry and markets. These types of crises cause turmoil in global markets that often result in declines in electronic products sales from which we generate our income through our goods and services. In addition, these crises may cause a number of indirect effects such as undermining the ability of our customers to remain competitive vis-à-vis the financial and economic challenges created by insolvent countries and companies still struggling to survive in the wake of these crises. For example, there could be in the future knock-on effects from these types of crises on our business, including significant decreases in orders from our customers; insolvency of key suppliers resulting in product delays; inability of customers to obtain credit to finance purchases of our products and/or customer insolvencies; and counterparty failures negatively impacting our treasury operations. Even though the Tohoku earthquake and tsunami in Northeastern Japan of March 2011, and the 2011 Thailand flooding caused the global electronics supply-chain to suffer a tighter supply in silicon wafers and electronic components, those natural disasters did not have a material impact on our past and current operations. Any future systemic political, economic or financial crisis or catastrophic natural disaster (as well as the indirect effects flowing from these crises or disasters) could cause revenues for the semiconductor industry as a whole to decline dramatically, and if the economic conditions or financial condition of our customers were to deteriorate, additional accounting related allowances may be required in the future and such additional allowances could increase our operating expenses and therefore reduce our operating income and net income. Thus, any future global economic crisis or catastrophic natural disaster (and their indirect effects) could materially and adversely affect our results of operations.

 

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Since we are dependent on the highly cyclical semiconductor and microelectronics industries, which have experienced significant and sometimes prolonged periods of downturns and overcapacity, our revenues, earnings and margins may fluctuate significantly.

The semiconductor market and microelectronics industries have historically been cyclical and subject to significant and often rapid increases and decreases in product demand. Our semiconductor foundry business is affected by market conditions in such highly cyclical semiconductor and microelectronics industries. Most of our customers operate in these industries. Variations in order levels from our customers result in volatility in our revenues and earnings. From time to time, the semiconductor and microelectronics industries have experienced significant and sometimes prolonged periods of downturns and overcapacity. Any systemic economic, political, or financial crisis, such as the one that occurred in 2008-2009, could create significant volatility and uncertainty within the semiconductor and microelectronics industries which may disrupt traditional notions of cyclicality within such industries. As such, the nature, extent and scope of such periods of downturns and overcapacity may vary drastically in accordance with the degree of volatility of market demand. Because we are, and will continue to be, dependent on the requirements of semiconductor and microelectronics companies for our services, periods of downturns and overcapacity in the general semiconductor and microelectronics industries lead to reduced demand for overall semiconductor foundry services, including our services. If we cannot take appropriate actions such as reducing our costs to sufficiently offset declines in demand, our revenues, margin and earnings will suffer during periods of downturns and overcapacity. Furthermore, due to the increasingly complex technological nature of our products and services and the ever uncertain global economic environment, we may need to provide higher accounting provisions on potential sales returns and allowances by our customers that may adversely affect the results of our operations.

Decreases in demand and average selling prices for products that contain semiconductors may adversely affect demand for our products and may result in a decrease in our revenues and earnings.

A vast majority of our sales revenue is derived from customers who use our services in communication devices, personal computers, consumer electronics products and other categories, such as industrial products. Any decrease in the demand for the products may decrease the demand for overall global semiconductor foundry services, including our services and may adversely affect our revenues. Further, because we own most of our manufacturing capacities, a significant portion of our operating costs is fixed. In general, these costs do not decline when customer demand or our capacity utilization rates drop, and thus declines in customer demand, among other factors, may significantly decrease our margins. Conversely, as product demand rises and factory utilization increases, the fixed costs are spread over increased output, which can improve our margins. In addition, the historical and current trend of declining average selling prices (or “ASP”) of end use applications places downward pressure on the prices of the components that go into such applications. If the ASP of end use applications continues decreasing, the pricing pressure on components produced by us may lead to a reduction of our revenues, margin and earnings.

If we are unable to compete effectively in the highly competitive foundry segment of the semiconductor industry, we may lose customers and our profit margin and earnings may decrease.

The markets for our foundry services are highly competitive both in Taiwan and internationally. We compete with other dedicated foundry service providers, as well as integrated device manufacturers. Some of these companies may have access to more advanced technologies and greater financial and other resources than us, (such as the possibility of receiving direct or indirect government bailout/economic stimulus funds or other incentives that may be unavailable to us). Our competition may, from time to time, also decide to undertake aggressive pricing initiatives in one or more technology nodes. Competitive activities may decrease our customer base, or our ASP, or both.

If we are unable to remain a technological leader in the semiconductor industry, we may become less competitive.

The semiconductor industry and its technologies are constantly changing. We compete by developing process technologies using increasingly advanced nodes and on manufacturing products with more functions. We also compete by developing new derivative technologies. If we do not anticipate these changes in technologies and rapidly develop new and innovative technologies, or our competitors unforeseeably gain sudden access to additional technologies, we may not be able to provide foundry services on competitive terms. Although we have concentrated on maintaining a competitive edge in research and development, if we fail to achieve advances in technologies or processes, or to obtain access to advanced technologies or processes developed by others, we may become less competitive.

 

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If we are unable to manage our capacity and the streamlining of our production facilities effectively, our competitiveness may be weakened.

We perform periodic long term market demand forecasts to estimate market and general economic conditions for our products and services. Based upon these estimates, we manage our overall capacity which may increase or decrease in accordance with market demand. Because market conditions may vary significantly and unexpectedly, our market demand forecast may change significantly at any time. Further, since certain manufacturing lines or tools in some of our manufacturing facilities may be suspended or shut down temporarily during periods of decreased demand, we may not be able to ramp up in a timely manner during periods of increased demand. During periods of continued decline in demand, our operating facilities may not be able to absorb and complete in a timely manner outstanding orders re-directed from shuttered facilities. Based on demand forecasts, we have been adding capacity to our 300mm wafer fabs in the Hsinchu Science Park, Tainan Science Park and Central Taiwan Science Park, respectively. Total monthly capacity for 300mm wafer fabs was increased from 171,400 wafers as of December 31, 2009 to 244,600 wafers as of December 31, 2010 and to 290,100 wafers as of December 31, 2011. Expansion and modification of our production facilities will, among other factors, increase our costs. For example, we will need to purchase additional equipment, train personnel to operate the new equipment or hire additional personnel. If we do not increase our net sales accordingly, in order to offset these higher costs, our financial performance may be adversely affected. See “Item 4. Information on the Company — Capacity Management and Technology Upgrade Plans” for a further discussion.

We may not be able to implement our planned growth or development if we are unable to obtain sufficient financial resources to meet our future capital requirements.

Capital requirements are difficult to plan in the highly dynamic, cyclical and rapidly changing semiconductor industry. From time to time, we will continue to need significant capital to fund our operations and manage our capacity in accordance with market demand. Our continued ability to obtain sufficient external financing is subject to a variety of uncertainties, including:

 

   

our future financial condition, results of operations and cash flow;

 

   

general market conditions for financing activities;

 

   

market conditions for financing activities of semiconductor companies; and

 

   

social, economic, financial, political and other conditions in Taiwan and elsewhere.

Sufficient external financing may not be available to us on a timely basis, on reasonable market terms, or at all. As a result, we may be forced to curtail our expansion and modification plans or delay the deployment of new or expanded services until we obtain such financing.

We may not be able to implement our planned growth and development or maintain our leading position if we are unable to recruit and retain qualified executives, managers and skilled technical and service personnel or suffer production disruptions caused by labor disputes.

We depend on the continued services and contributions of our executive officers and skilled technical and other personnel. Our business could suffer if we lose, for whatever reasons, the services and contributions of some of these personnel and we cannot adequately replace them, or if we suffer disruptions to our production operations arising from labor or industrial disputes. We may be required to increase or reduce the number of employees in connection with any business expansion or contraction, in accordance with market demand for our products and services. Since there is intense competition for the recruitment of these personnel, we cannot ensure that we will be able to fulfill our personnel requirements, or rehire such reduced personnel on comparable terms in a timely manner during an economic upturn.

 

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We may be unable to obtain in a timely manner and at a reasonable cost the equipment necessary for us to remain competitive.

Our operations and ongoing expansion plans depend on our ability to obtain an appropriate amount of equipment and related services from a limited number of suppliers in a market that is characterized by limited supply and long delivery cycles. During such times, supplier-specific or industry-wide lead times for delivery can be as long as six months or more. To better manage our supply chain, we have implemented various business models and risk management contingencies with suppliers to shorten the procurement lead time. We also provide our projected demand for various items to many of our equipment suppliers to help them plan their production in advance. We have purchased used tools and continue to seek opportunities in acquiring relevant used tools. If we are unable to obtain equipment in a timely manner to fulfill our customers’ orders, or at a reasonable cost, our financial condition and results of operations could be negatively impacted.

Our revenue and profitability may decline if we are unable to obtain adequate supplies of raw materials in a timely manner and at reasonable prices.

Our production operations require that we obtain adequate supplies of raw materials, such as silicon wafers, gases, chemicals, and photoresist, on a timely basis. Shortages in the supply of some materials experienced by specific vendors or by the semiconductor industry generally have in the past resulted in occasional industry-wide price adjustments and delivery delays. Also, since we procure some of our raw materials from sole-source suppliers, there is a risk that our need for such raw materials may not be met when needed or that back-up supplies may not be readily available. Our revenue and earnings could decline if we are unable to obtain adequate supplies of the necessary raw materials in a timely manner or if there are significant increases in the costs of raw materials that we cannot pass on to our customers.

If the Ministry of Economic Affairs uses a substantial portion of our production capacity, we will not be able to service our other customers.

According to our agreement with the Industrial Technology Research Institute of Taiwan, or ITRI, the Ministry of Economic Affairs of the R.O.C., or an entity designated by the Ministry of Economic Affairs, has an option to purchase up to 35% of certain of our capacity, if our outstanding commitments to our customers are not prejudiced. Although the Ministry of Economic Affairs has never exercised this option, if this option is exercised to any significant degree during tight market conditions, we may not be able to provide services to all of our other customers unless we are able to increase our capacity accordingly or outsource such increased demand and in a timely manner.

Any inability to obtain, preserve and defend our technologies and intellectual property rights could harm our competitive position.

Our ability to compete successfully and to achieve future growth will depend in part on the continued strength of our intellectual property portfolio. While we actively enforce and protect our intellectual property rights, there can be no assurance that our efforts will be adequate to prevent the misappropriation or improper use of our proprietary technologies, trade secrets, software or know-how. Also, we cannot assure you that, as our business or business models expand into new areas, or otherwise, we will be able to develop independently the technologies, trade secrets, patents, software or know-how necessary to conduct our business or that we can do so without unknowingly infringing the intellectual property rights of others. As a result, we may have to rely increasingly on licensed technologies and patent licenses from others. To the extent that we rely on licenses from others, there can be no assurance that we will be able to obtain any or all of the necessary licenses in the future on terms we consider reasonable or at all. The lack of necessary licenses could expose us to claims for damages and/or injunctions from third parties, as well as claims for indemnification by our customers in instances where we have contractually agreed to indemnify our customers against damages resulting from infringement claims.

We have received, from time-to-time, communications from third parties asserting that our technologies, manufacturing processes, the design of the integrated circuits made by us or the use by our customers of semiconductors made by us may infringe their patents or other intellectual property rights. And, because of the nature of the industry, we may continue to receive such communications in the future. In some instances, these disputes have resulted in litigation. Recently, there has been a notable increase in the number of claims or lawsuits initiated by certain litigious, non-practicing entities and these non-practicing entities are also becoming more aggressive in their monetary demands and requests for court-issued injunctions. Such lawsuits or claims may increase our cost of doing business and may potentially be extremely disruptive if the plaintiffs succeed in blocking the trade of our products and services. If we fail to obtain or maintain certain government, technologies or intellectual property licenses and, if litigation relating to alleged intellectual property matters occurs, it could prevent us from manufacturing or selling particular products or applying particular technologies, which could reduce our opportunities to generate revenues. See “Item 8. Financial Information — Legal Proceedings” for a further discussion.

 

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We are subject to the risk of loss due to explosion and fire because some of the materials we use in our manufacturing processes are highly combustible.

We and many of our suppliers use highly combustible and toxic materials in our manufacturing processes and are therefore subject to the risk of loss arising from explosion, fire, or environmental influences which cannot be completely eliminated. Although we maintain many overlapping risk prevention and protection systems, as well as comprehensive fire and casualty insurance, including insurance for loss of property and loss of profit resulting from business interruption, our risk management and insurance coverage may not be sufficient to cover all of our potential losses. If any of our fabs or vendor facilities were to be damaged, or cease operations as a result of an explosion, fire, or environmental influences, it could reduce our manufacturing capacity and may cause us to lose important customers, thereby having a potentially adverse and material impact on our financial performance.

Any impairment charges may have a material adverse effect on our net income.

Under R.O.C. GAAP and U.S. GAAP, we are required to evaluate our long-lived assets and intangible assets for impairment whenever triggering events or changes in circumstances indicate that the asset may be impaired and carrying value may not be recoverable. If certain criteria are met, we are required to record an impairment charge. We are also required under R.O.C. GAAP and U.S. GAAP to evaluate goodwill for impairment at least on an annual basis or more frequently whenever triggering events or changes in circumstances indicate that goodwill may be impaired and the carrying value may not be recoverable.

We currently are not able to estimate the extent or timing of any impairment charge for future years. Any impairment charge required may have a material adverse effect on our net income.

The determination of an impairment charge at any given time is based significantly on our expected results of operations over a number of years subsequent to that time. As a result, an impairment charge is more likely to occur during a period when our operating results are otherwise already depressed. See “Item 5. Operating and Financial Review and Prospects — Critical Accounting Policies” for a discussion of how we assess if an impairment charge is required and, if so, how the amount is determined.

The loss of or significant curtailment of purchases by any of our largest customers could adversely affect our results of operations.

While we generate revenue from hundreds of customers worldwide, our ten largest customers accounted for approximately 53%, 54% and 56% of our net sales in 2009, 2010 and 2011, respectively. Our largest customer accounted for 10%, 9% and 14% of our net sales in 2009, 2010 and 2011, respectively. The loss of, or significant curtailment of purchases by, one or more of our top customers, including curtailments due to increased competitive pressures, industrial consolidation, a change in their designs, or change in their manufacturing sourcing policies or practices of these customers, or the timing of customer or distributor inventory adjustments, may adversely affect our results of operations and financial condition.

Any failure to achieve and maintain effective internal controls could have a material adverse effect on our business and results of operations.

Effective internal controls are necessary for us to provide reasonable assurance with respect to our financial reports and to effectively prevent fraud. If we cannot provide reasonable assurance with respect to our financial reports and effectively prevent fraud and corruption, our reputation and results of operations could be harmed.

We are required to comply with various R.O.C. and U.S. laws and regulations on internal controls. For example, pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, beginning with the Annual Report on Form 20-F for the fiscal year ended December 31, 2006, we are required to furnish a report by management on our internal control over financial reporting, including management’s assessment of the effectiveness of our internal control over financial reporting. Moreover, R.O.C. law requires us to establish internal control systems that would reasonably ensure the effectiveness and efficiency of operations, reliability of financial reporting, and compliance with applicable laws and regulations. We are also required under R.O.C. law to file an internal control declaration within four months of the end of each fiscal year.

 

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Internal controls may not prevent or detect misstatements because of their inherent limitations, including the possibility of human error, the circumvention or overriding of controls, fraud or corruption. Therefore, even effective internal controls can provide only reasonable assurance with respect to the preparation and fair presentation of financial statements. In addition, projections of any evaluation of effectiveness of internal controls to future periods are subject to the risk that the internal controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. If we fail to maintain the adequacy of our internal controls, including any failure to implement required new or improved controls, or if we experience difficulties in their implementation, our business and operating results could be harmed, we could fail to meet our reporting obligations, and there could be a material adverse effect on the market price of our common shares and ADSs.

Our global manufacturing, design and sales activities subject us to risks associated with legal, political, economic or other conditions or developments in various jurisdictions, including in particular the R.O.C., which could negatively affect our business and financial status and therefore the market value of your investment.

Our principal executive officers and our principal production facilities are located in the R.O.C., and a substantial majority of our net revenues are derived from our operations in the R.O.C. In addition, we have operations worldwide and a significant percentage of our revenue comes from sales to locations outside the R.O.C. Operating in the R.O.C. and overseas exposes us to changes in policies and laws, as well as the general political and economic conditions, security risks, health conditions and possible disruptions in transportation networks, in the various countries in which we operate, which could result in an adverse effect on our business operations in such countries and our results of operations as well as the market price and the liquidity of our ADSs and common shares.

For example, even though the R.O.C. and the PRC have co-existed for the past 62 years and significant economic and cultural relations have been established during that time, the financial markets have viewed certain past developments in relations between the two sides as occasions to depress general market prices of the securities of Taiwanese companies, including our own. In addition, the R.O.C. government has not lifted some trade and investment restrictions imposed on Taiwanese companies on the amount and types of certain investments that can be made in Mainland China.

Our operational results could also be materially and adversely affected by natural disasters or interruptions in the supply of utilities (such as water or electricity), in the locations in which we, our customers or our suppliers operate.

The apparent frequency and severity of natural disasters has increased recently. We have manufacturing and other operations in locations subject to natural disasters, such as severe weather, flooding, earthquakes and tsunamis, as well as interruptions or shortages in the supply of utilities, such as water and electricity, which could disrupt operations. We have operations in earthquake-prone locations and any major natural disaster occurring in any such locations may cause severe disruptions to our business operations and financial performance. In addition, our suppliers and customers also have operations in such locations. For example, most of our production facilities, as well as those of many of our suppliers and customers and upstream providers of complementary semiconductor manufacturing services, are located in Taiwan and Japan, which are susceptible to earthquakes, tsunamis, flooding, typhoons, and droughts from time to time. In addition, we have sometimes suffered power outages in Taiwan caused by difficulties encountered by our electricity supplier, the Taiwan Power Company, or other power consumers on the same power grid, which have resulted in interruptions to our production schedule. While our business continuity management and emergency response plans are intended to prevent or minimize losses in the future, there is no assurance that the measures will fully eliminate the losses or the insurance will fully cover any losses. One or more natural disasters or interruptions to the supply of utilities that results in a prolonged disruption to our operations, or the operations of our customers or suppliers, may adversely affect the results of our operations and financial conditions.

 

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Our failure to comply with applicable environmental and climate related laws and regulations, as well as international accords to which we are subject, could also harm our business and operational results.

The manufacturing, assembling and testing of our products require the use of chemicals and materials that are subject to environmental, climate-related, and health and safety laws and regulations issued worldwide. Although we may be eligible for various exemptions and/or extensions of time for compliance, our failure to comply with any of these applicable laws or regulations could result in:

 

   

significant penalties and legal liabilities, such as the denial of import permits;

 

   

the temporary or permanent suspension of production of the affected products;

 

   

unfavorable alterations in our manufacturing, fabrication and assembly and test processes; and

 

   

restrictions on our operations or sales.

Existing and future environmental and climate related laws and regulations as well as applicable international accords to which we are subject, could also require us, among other things, to do the following: (a) purchase, use or install expensive pollution control, reduction or remediation equipment; (b) implement climate change mitigation programs and “abatement or reduction of greenhouse gas emissions” programs, or “carbon credit trading” programs; (c) modify our product designs and manufacturing processes, or incur other significant expenses associated with such laws and regulations such as obtaining substitute raw materials or chemicals that may cost more or be less available for our operations. It is still unclear whether such necessary actions would affect the reliability or efficiency of our products and services.

Any of the above contingencies resulting from the actual and potential impact of local or international laws and regulations, as well as international accords on environmental or climate change, could harm our business and operational results by increasing our expenses or requiring us to alter our manufacturing and assembly and test processes. For further details, please see our compliance record with Taiwan and international environmental and climate related laws and regulations in “Item 4. Information on the Company — Environmental Regulations”.

Climate change, other environmental concerns and green initiatives also present other commercial challenges, economic risks and physical risks that could harm our operational results or affect the manner in which we conduct our business.

Increasing climate change and environmental concerns could affect the results of our operations if any of our customers request that we exceed any standard(s) set for environmentally compliant products and services. For example, we have been working with our suppliers, customers, and several industry consortia to develop and provide products that are compliant with the EU “RoHS” (European Union Restriction of Hazardous Substances) Directive. Even though we are entitled to rely on various exemptions under RoHS, some of our customers might request that we provide products that exceed the legal standard set by RoHS without using any of the exemptions still permitted under RoHS. If we are unable to offer such products or offer products that are compliant, but are not as reliable due to the lack of reasonably available alternative technologies or materials, we may lose market share to our competitors.

Further, energy costs in general could increase significantly due to climate change and other regulations. Therefore, our energy costs may increase significantly if utility or power companies pass on their costs, either fully or partially, such as those associated with carbon taxes, emission cap and carbon credit trading programs. For further details, please see details of our business continuity management of climate change policy in “Item 4. Information on the Company — Environmental Regulation”.

In order to mitigate risks resulting from climate change, we continue to actively carry out energy conservation measures, implement voluntary perfluorinated compounds (“PFCs”) emission reduction projects and conduct greenhouse gas inventories and verification every year. Since 2005, we have publicly disclosed climate change information every year through participation in the annual survey conducted by the nonprofit carbon disclosure project, which includes greenhouse gas emission and reduction information for all of our fabs.

 

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Adverse fluctuations in exchange rates could decrease our operating margin.

Over one-half of our capital expenditures and manufacturing costs are denominated in currencies other than NT dollars, primarily in U.S. dollars, Japanese yen and Euros. More than 90% of our sales are denominated in U.S. dollars and currencies other than NT dollars. Therefore, any significant fluctuation to our disadvantage in such exchange rates would have an adverse effect on our financial condition. For example, during the period from September 1, 2010 to December 30, 2010, the U.S. dollar depreciated 8.9% against the NT dollar, which had a negative impact on our results of operations. Specifically, every 1% depreciation of the U.S. dollar against the NT dollar exchange rate results in approximately 0.4 percentage point decrease in our operating margin. In addition, fluctuations in the exchange rate between the U.S. dollar and the NT dollar may affect the U.S. dollar value of our common shares and the market price of the ADSs and of any cash dividends paid in NT dollars on our common shares represented by ADSs. Please see “Item 11. Quantitative and Qualitative Disclosures About Market Risk” for a further discussion on the possible impact of other market factors on our results of operations.

Fluctuations in inflationary and deflationary market expectations could negatively affect costs of and demand for our products and services, which may harm our financial results.

The world economy is becoming more vulnerable to sudden unexpected fluctuations in inflationary and deflationary market expectations and conditions. For example, certain structural changes that resulted from the 2008-2009 and recent EU financial crises may cause variations in the expectation of inflation or deflation. Both high inflation and deflation adversely affect an economy, at both the macro and micro levels, by reducing economic efficiency, disrupting saving and investment decisions and reducing the efficiency of the market prices as a mechanism to allocate resources. Such fluctuations are likely to negatively affect the costs of our operations and the business operations of our customers who may be forced to plan their purchases of our goods and services within an uncertain macro and micro economy. Therefore, the demand for our products and services could unexpectedly fluctuate severely in accordance with market and consumer expectations of inflation or deflation. Please see “Item 5. Operating and Financial Review and Prospects — Inflation & Deflation” for a further discussion.

Risks Relating to Ownership of ADSs

Your voting rights as a holder of ADSs will be limited.

Holders of American Depositary Receipts (ADRs) evidencing ADSs may exercise voting rights with respect to the common shares represented by these ADSs only in accordance with the provisions of our ADS deposit agreement. The deposit agreement provides that, upon receipt of notice of any meeting of holders of our common shares, the depositary bank will, as soon as practicable thereafter, mail to the holders (i) the notice of the meeting sent by us, (ii) voting instruction forms and (iii) a statement as to the manner in which instructions may be given by the holders.

ADS holders will not generally be able to exercise the voting rights attaching to the deposited securities on an individual basis. According to the provisions of our ADS deposit agreement, the voting rights attaching to the deposited securities must be exercised as to all matters subject to a vote of shareholders collectively in the same manner, except in the case of an election of directors. Election of directors is by means of cumulative voting. See “Item 10. Additional Information — Voting of Deposited Securities” for a more detailed discussion of the manner in which a holder of ADSs can exercise its voting rights.

You may not be able to participate in rights offerings and may experience dilution of your holdings.

We may, from time to time, distribute rights to our shareholders, including rights to acquire securities. Under our ADS deposit agreement, the depositary bank will not distribute rights to holders of ADSs unless the distribution and sale of rights and the securities to which these rights relate are either exempt from registration under the United States Securities Act of 1933, as amended, (the “Securities Act”), with respect to all holders of ADSs, or are registered under the provisions of the Securities Act. Although we may be eligible to take advantage of certain exemptions for rights offerings by certain foreign companies, we can give no assurance that we can establish an exemption from registration under the Securities Act, and we are under no obligation to file a registration statement with respect to any such rights or underlying securities or to endeavor to have such a registration statement declared effective. In addition, if the depositary bank is unable to obtain the requisite approval from the Central Bank of the Republic of China (Taiwan) for the conversion of the subscription payments into NT dollars or if the depositary determines that it is unlikely to obtain this approval, we may decide with the depositary bank not to make the rights available to holders of ADSs. See “Item 10. Additional Information — Foreign Investment in the R.O.C.” and “Item 10. Additional Information — Exchange Controls in the R.O.C.”. Accordingly, holders of ADSs may be unable to participate in our rights offerings and may experience dilution of their holdings as a result.

 

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If the depositary bank is unable to sell rights that are not exercised or not distributed or if the sale is not lawful or reasonably practicable, it will allow the rights to lapse, in which case you will receive no value for these rights.

The value of your investment may be reduced by possible future sales of common shares or ADSs by us or our shareholders.

One or more of our existing shareholders may, from time to time, dispose of significant numbers of our common shares or ADSs. For example, the National Development Fund of Taiwan, R.O.C. which owned 6.4% of TSMC’s outstanding shares as of February 29, 2012, has sold our shares in the form of ADSs in several transactions during the period between 1997 and 2005.

We cannot predict the effect, if any, that future sales of ADSs or common shares, or the availability of ADSs or common shares for future sale, will have on the market price of ADSs or common shares prevailing from time to time. Sales of substantial amounts of ADSs or common shares in the public market, or the perception that such sales may occur, could depress the prevailing market price of our ADSs or common shares.

The market value of our shares may fluctuate due to the volatility of, and government intervention in, the R.O.C. securities market.

Because the Taiwan Stock Exchange experiences from time to time substantial fluctuations in the prices and volumes of sales of listed securities, there are currently limits on the range of daily price movements on the Taiwan Stock Exchange. In response to past declines and volatility in the securities markets in Taiwan, and in line with similar activities by other countries in Asia, the government of the R.O.C. formed the Stabilization Fund, which has purchased and may from time to time purchase shares of Taiwan companies to support these markets. In addition, other funds associated with the R.O.C. government have in the past purchased, and may from time to time purchase, shares of Taiwan companies on the Taiwan Stock Exchange or other markets. In the future, market activity by government entities, or the perception that such activity is taking place, may take place or has ceased, may cause fluctuations in the market prices of our ADSs and common shares.

 

ITEM 4. INFORMATION ON THE COMPANY

Our History and Structure

We believe we are currently the world’s largest dedicated foundry in the semiconductor industry. We were founded in 1987 as a joint venture among the R.O.C. government, Philips and other private investors and were incorporated in the R.O.C. on February 21, 1987. Our common shares have been listed on the Taiwan Stock Exchange since September 5, 1994, and our ADSs have been listed on the New York Stock Exchange since October 8, 1997.

Our Principal Office

Our principal executive office is located at No. 8, Li-Hsin Road 6, Hsinchu Science Park, Hsinchu, Taiwan, Republic of China. Our telephone number at that office is (886-3) 563-6688. Our web site is www.tsmc.com. Information contained on our website does not constitute part of this annual report.

Business Overview of the Company

As a foundry, we manufacture semiconductors using our manufacturing processes for our customers based on their own or third parties’ proprietary integrated circuit designs. We offer a comprehensive range of wafer fabrication processes, including processes to manufacture CMOS logic, mixed-signal, radio frequency, embedded memory, BiCMOS mixed-signal and other semiconductors. We estimate that our revenue market segment share among total foundries worldwide was 48% in 2011. We also offer design, mask making, probing, testing and assembly services.

 

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We believe that our large capacity, particularly for advanced technologies, is a major competitive advantage. Please see “— Manufacturing Capacity and Technology” and “— Capacity Management and Technology Upgrade Plans” for a further discussion of our capacity.

We count among our customers many of the world’s leading semiconductor companies, ranging from fabless semiconductor and system companies such as Advanced Micro Devices, Inc., Altera Corporation, Broadcom Corporation, Marvell Semiconductor Inc., MediaTek Inc., nVidia Corporation and Qualcomm Incorporated, to integrated device manufacturers such as LSI Corporation, STMicroelectronics and Texas Instruments Inc. Fabless semiconductor and system companies accounted for approximately 81%, and integrated device manufacturers accounted for approximately 19% of our net sales in 2011.

Our Semiconductor Facilities

We currently operate one 150mm wafer fab, six 200mm wafer fabs and three 300mm wafer fabs, including Fab 15, where we commenced production in the first quarter of 2012. Our corporate headquarters and five of our fabs are located in the Hsinchu Science Park, two fabs are located in the Tainan Science Park, one fab is located in the Central Taiwan Science Park, one fab is located in the United States, and one fab is located in Shanghai. Our corporate headquarters and our five fabs in Hsinchu occupy parcels of land of a total of approximately 555,300 square meters. We lease these parcels from the Hsinchu Science Park Administration in Hsinchu under agreements that will be up for renewal between May 2013 and December 2029. We have leased from the Central Taiwan Science Park Administration a parcel of land of approximately 184,400 square meters for our Taichung fabs under agreements that will be up for renewal in December 2028. We have leased from the Southern Taiwan Science Park Development Office approximately 612,700 square meters of land for our fabs in the Tainan Science Park under agreements that will be up for renewal between July 2017 and January 2032. WaferTech owns a parcel of land of approximately 1,052,186 square meters in the State of Washington in the United States, where the WaferTech fab and related offices are located. TSMC China owns the land use rights of 369,100 square meters of land in Shanghai, where Fab 10 and related offices are located. Other than certain equipment under leases located at testing areas, we own all of the buildings and equipment for our fabs. We are expanding our 300mm fabrication capacity and research and development through Fab 12 in the Hsinchu Science Park, Fab 14 in the Tainan Science Park and Fab 15 in the Central Taiwan Science Park. Total monthly capacity for 300mm wafer fabs was increased from 171,400 wafers as of December 31, 2009 to 244,600 wafers as of December 31, 2010 and to 290,100 wafers as of December 31, 2011. We will continuously evaluate our capacity in light of prevailing market conditions.

Semiconductor Manufacturing Capacity and Technology

We manufacture semiconductors on silicon wafers based on proprietary circuitry designs provided by our customers or third party designers. Two key factors that characterize a foundry’s manufacturing capabilities are output capacity and fabrication process technologies. Since our establishment, we have possessed the largest capacity among the world’s dedicated foundries. We also believe that we are the technology leader among the dedicated foundries in terms of our net sales of advanced semiconductors with a resolution of 65-nanometer and below, and are one of the leaders in the semiconductor manufacturing industry generally. We are the first semiconductor foundry with proven low-k interconnect technology in commercial production from the 0.13 micron node down to 28-nanometer node. Following our commercial production based on 65-nanometer Nexsys® process technology in 2006, we also unveiled 55-nanometer Nexsys® process technology in 2007. Our 65-nanometer and 55-nanometer Nexsys® technologies are the third-generation proprietary processes that employ low-k dielectrics. In 2008, we also qualified our 45-nanometer and 40-nanometer process technologies with ultra low-k dielectrics and advanced immersion lithography. In the fourth quarter of 2011, we have begun volume production of 28-nanometer products with first-generation high-k/metal gate transistor.

 

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The following table lists our fabs and those of our affiliates, together with the year of commencement of commercial production, technology and capacity during the last five years:

 

Fab(1)

   Year of
  commencement  
       Current most    
advanced
technology for
volume
production(2)
     Monthly capacity(3)(4)  
                         2007                      2008                      2009                      2010                      2011          

2

   1990      0.45                 51,685                51,609                53,649              48,244          48,244     

3

   1995      0.15                 90,500                92,400                95,377              100,957          102,173     

5

   1997      0.15                 55,800                54,200                48,600              47,500          42,740     

6

   2000      0.11                 94,000                95,100                96,800              94,997          96,282     

8

   1998      0.11                 89,400                91,600                85,750              85,753          85,737     

10

   2004      0.15                 31,000                43,000                45,500              49,600          77,500     

11

   1998      0.15                 35,500                35,500                36,565              36,300          36,500     

12

   2001      0.028               160,755                167,910                199,283              238,927          265,419     

14

   2004      0.04                 133,279                179,258                186,443              311,447          387,206     

SSMC(5)

   2000      0.15                 20,700                24,600                22,010              23,146          21,907     

Total

           762,619                835,177                869,977              1,036,871          1,163,708     

 

 

(1) 

Fab 2 produces 150mm wafers. Fabs 3, 5, 6, 8, 10, Fab 11 (WaferTech) and SSMC produce 200mm wafers. Fab 12 and Fab 14 produce 300mm wafers. Fabs 2, 3, 5, 8 and 12 are located in Hsinchu Science Park. Fab 6 and Fab 14 are located in the Tainan Science Park. WaferTech is located in the United States, SSMC is located in Singapore and Fab 10 is located in Shanghai.

(2) 

In microns, as of year-end.

(3) 

Estimated capacity in 200mm equivalent wafers as of year-end for the total technology range available for production.

(4) 

Under an agreement with Vanguard, TSMC is required to use its best commercial efforts to maintain utilization of a fixed amount of reserved capacity and will not increase or decrease the stipulated quantity by more than 5,000 wafers per month. Please see “Item 7. Major Shareholders and Related Party Transactions — Related Party Transactions — Vanguard International Semiconductor Corporation” for a discussion of certain of the Vanguard contract terms. The amounts to be used at Vanguard are not included in our monthly capacity figures.

(5) 

Represents that portion of the total capacity that we had the option to utilize as of December 31, 2007, December 31, 2008, December 31, 2009, December 31, 2010 and December 31, 2011. This fab commenced production in September 2000.

As of December 31, 2011, our monthly capacity (in 200mm equivalent wafers) was 1,163,708 wafers, compared to 1,036,871 wafers at the end of 2010. This increase was primarily due to the expansion of our 28/40/65-nanometer advanced technologies. Our semiconductor manufacturing facilities require substantial investment to construct and are largely fixed-cost assets once they are in operation. Because we own most of our manufacturing capacity, a significant portion of our operating costs is fixed. In general, these costs do not decline when customer demand or our capacity utilization rates drop, and thus declines in customer demand, among other factors, may significantly decrease our margins. Conversely, as product demand rises and factory utilization increases, the fixed costs are spread over increased output, which can improve our margins.

Capacity Management and Technology Upgrade Plans

We periodically perform long term market demand forecasts to estimate market and general economic conditions for our products and services. Based upon these estimates, we manage our overall capacity which may increase or decrease in accordance with market demand. Because market conditions may vary significantly and unexpectedly, our market demand forecast may change significantly at any time. Based on current demand forecasts, we intend to maintain our strategy of expanding manufacturing capacity and improving manufacturing process technologies to meet both the fabrication and the technological needs of our customers.

Our capital expenditures in 2009, 2010 and 2011 were NT$87,785 million, NT$186,944 million and NT$213,963 million (US$7,286 million, translated from a weighted average exchange rate of NT$29.367 to US$1.00), respectively. Our capital expenditures in 2012 are expected to be approximately US$6 billion, which, depending on market conditions, may be adjusted upwards later. For the past few years, our capital expenditures were funded by our operating cash flow. The capital expenditures for 2012 are also expected to be funded by our operating cash flow. In 2012, we anticipate our capital expenditures to focus primarily on the following:

 

   

adding production capacity to our 300mm wafer fabs;

 

   

expanding buildings/facilities for Fab 12, Fab 14 and Fab 15;

 

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developing new process technologies in 20nm and 14nm nodes;

 

   

capacity expansion for mask and backend operations;

 

   

other research and development projects; and

 

   

solar and solid state lighting businesses.

These investment plans are still preliminary and may change per market conditions.

Markets and Customers

The primary customers of our foundry services are fabless semiconductor companies/systems companies and integrated device manufacturers. The following table presents the breakdown of net sales by type of customers during the last three years:

 

     Year ended December 31  
      2009      2010      2011  

Customer Type

       Net Sales            Percentage            Net Sales            Percentage            Net Sales            Percentage    
     (in millions, except percentages)  

Fabless semiconductor companies/systems companies

     NT$237,572          80.3%             NT$331,264          78.9%          NT$346,615            81.2%    

Integrated device manufacturers

     58,108          19.7%             88,054          21.0%          80,431            18.8%    

Others

     62          0.0%             220          0.1%          35            0.0%    

Total

     NT$295,742          100.0%             NT$419,538          100.0%          NT$427,081            100.0%    

We categorize our net sales based on the country in which the customer is headquartered, which may be different from the net sales for the countries to which we actually sell or ship our products. Under this approach, the following table presents a regional geographic breakdown of our net sales during the last three years:

 

     Year ended December 31  
     2009      2010      2011  

Region

       Net Sales           Percentage           Net Sales            Percentage            Net Sales             Percentage     
     (in millions, except percentages)  

North America

     NT$203,870          69.0%          NT$282,498          67.3%          NT$294,858           69.0%    

Asia Pacific

     41,554          14.0%          60,796          14.5%          59,618           14.0%    

Europe

     30,407          10.3%          44,360          10.6%          39,440           9.2%    

Japan

     10,124          3.4%          18,539          4.4%          17,093           4.0%    

China

     9,787          3.3%          13,345          3.2%          16,072           3.8%    

Total

     NT$295,742          100.0%          NT$419,538          100.0%          NT$427,081           100.0%    

A significant portion of our net sales are attributable to a relatively small number of customers. In 2009, 2010 and 2011, our ten largest customers accounted for approximately 53%, 54% and 56% of our net sales, respectively. Our largest customer accounted for 10%, 9% and 14% of our net sales in 2009, 2010 and 2011, respectively.

Over the years, we have attempted to strategically manage our exposure to commodity memory semiconductor manufacturing services. This policy has successfully shielded us from significant adverse effects resulting from the previous precipitous price drops in the commodity memory semiconductor market.

We provide worldwide customer support. Our office in Hsinchu and wholly-owned subsidiaries in the United States, Japan, Mainland China, the Netherlands, South Korea and India are dedicated to serving our customers worldwide. Foundry services, which are both technologically and logistically intensive, involve frequent and in-depth interaction with customers. We believe that the most effective means of providing foundry services is by developing direct and close relationships with our customers. Our customer service and technical support managers work closely with the sales force to offer integrated services to customers. To facilitate customer interaction and information access on a real-time basis, a suite of web-based applications have also been offered to provide more active interactions with customers in design, engineering and logistics, collectively branded as eFoundry® service.

 

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Commitments by Customers. Because of the fast-changing technology and functionality in semiconductor design, foundry customers generally do not place purchase orders far in advance to manufacture a particular type of product. However, we engage in discussions with customers regarding their expected manufacturing requirements in advance of the placement of purchase orders.

Several of our customers have entered into arrangements with us to ensure that they have access to specified capacity at our fabs. These arrangements are primarily in the form of deposit agreements. In a deposit agreement, the customer makes an advance cash deposit for an option on a specified capacity at our fabs. Deposits are generally refunded as shipments are made. As of December 31, 2011, our customers had on deposit an aggregate of approximately US$13 million to reserve future capacity.

The Semiconductor Fabrication Process

In general, the semiconductor manufacturing process begins with a thin silicon wafer on which an array of semiconductor devices is fabricated. The wafer is then tested, cut into dice, and assembled into packages that are then individually retested. Our focus is on wafer fabrication although we also provide all other services either directly or through outsourcing arrangements.

Our Foundry Services

Range of Services. Because of our ability to provide a full array of services, we are able to accommodate customers with a variety of needs at every stage of the overall foundry process. The flexibility in input stages allows us to cater to a variety of customers with different in-house capabilities and thus to service a wider class of customers as compared to a foundry that cannot offer design or mask making services, for example.

Fabrication Processes. We manufacture semiconductors using the complementary metal oxide silicon, CMOS and BiCMOS processes. The CMOS process is currently the dominant semiconductor manufacturing process. The BiCMOS process combines the high speed of the bipolar circuitry and the low power consumption and high density of the CMOS circuitry. We use the CMOS process to manufacture logic semiconductors, memory semiconductors including static random access memory (“SRAM”), flash memory, mixed-signal/radio frequency (“RF”) semiconductors, which combine analog and digital circuitry in a single semiconductor, micro-electro-mechanical-system (“MEMS”), which combines micrometer featured mechanical parts, analog and digital circuitry in a single semiconductor, and embedded memory semiconductors, which combine logic and memory in a single semiconductor. The BiCMOS process is used to make high-end mixed-signal and other types of semiconductors.

Types of Semiconductors We Manufacture. We manufacture different types of semiconductors with different specific functions by changing the number and the combinations of conducting, insulating and semiconducting layers and by defining different patterns in which such layers are applied on the wafer. At any given point in time, there are hundreds of different products in various stages of fabrication at our fabs. We believe that the keys to maintaining high production quality and utilization rates are our effective management and control of the manufacturing process technologies which comes from our extensive experience as the longest existing dedicated foundry and our dedication to quality control and process improvements.

The following is a general, non-exhaustive description of the key types of semiconductors that we currently manufacture. Depending on future market conditions, we may provide other services or manufacture other types of products that may differ significantly from the following:

Logic Semiconductors. Logic semiconductors process digital data to control the operation of electronic systems. The largest segment of the logic market, standard logic devices, includes microprocessors, microcontrollers, digital signal processors (“DSP”), graphic chips and chip sets.

Mixed-Signal/RF Semiconductors. Analog/digital semiconductors combine analog and digital devices on a single semiconductor to process both analog and digital data. We make mixed-signal/RF semiconductors using both the CMOS and BiCMOS processes. We currently offer CMOS mixed-signal process down to the 28-nanometer Nexsys® technology for manufacturing mixed-signal/RF semiconductors. The primary uses of mixed-signal/RF semiconductors are in hard disk drives, wireless communications equipment and network communications equipment, with those made with the BiCMOS process occupying the higher end of the mixed-signal/RF market.

 

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Memory Semiconductors. Memory semiconductors, which are used in electronic systems to store data and program instructions, are generally classified as either volatile memories (which lose their data content when power supplies are switched off) or nonvolatile memories (which retain their data content without the need for a constant power supply). We currently offer CMOS process for the manufacture of SRAM, embedded DRAM as volatile memories, and for the manufacture of flash memory and embedded flash as nonvolatile memories.

CMOS Image Sensor Semiconductors. Image sensors are primarily used in camera phones and tablets. We are currently the leading foundry for the production of CMOS image sensors, characterized by technology features including low dark current, high sensitivity, small pixel size and high dynamic range achieved through integration with mixed mode processes.

High Voltage Semiconductors. We currently offer a range of high-voltage processes including high voltage CMOS (“HVCMOS”), bipolar-CMOS-DMOS (“BCD”) and ultra-high voltage technology (“UHV”), ranging from 5V to 700V, which are suitable for various panel-size display driver and power IC applications.

The table below presents a breakdown of our net sales during the last three years by each semiconductor type:

 

     Year ended December 31  
     2009(3)      2010(3)      2011  

Semiconductor Type  

       Net Sales            Percentage            Net Sales            Percentage            Net Sales          Percentage    
     (in millions, except percentages)  

CMOS

                 

Logic

     NT$213,160             72.1%          NT$300,405          71.6%          NT$297,775          69.7%    

Memory

     2,068             0.7%          2,297          0.6%          1,023          0.2%    

Mixed-Signal(1)

     77,427             26.2%          112,715          26.9%          124,469          29.1%    

BiCMOS(2)

     2,912             1.0%          3,548          0.8%          2,769          0.7%    

Others

     175             0.0%          573          0.1%          1,045          0.3%    

Total

     NT$295,742             100.0%          NT$419,538          100.0%          NT$427,081          100.0%    

 

 

(1) 

Mixed-signal semiconductors made with the CMOS process.

(2) 

Mixed-signal and other semiconductors made with the BiCMOS process.

(3) 

The net sales of Logic and Memory semiconductors in 2009 and 2010 have been reclassified to follow 2011 category.

Design and Technology Platforms. Modern IC designers need sophisticated design infrastructure to optimize productivity and cycle time. Such infrastructures include design flow for electronic design automation (EDA), silicon proven building blocks such as libraries and IPs, simulation and verification design kits such as process design kit (PDK) and tech files. All of these infrastructures are built on top of the technology foundation, and each technology needs its own design infrastructure to be usable for designers. This is the concept of our technology platforms.

For years, TSMC and its alliance partners spent considerable effort, time and resources to build our technology platforms. We unveiled our Open Innovation Platform® (“OIP”) initiative in 2008 to further enhance our technologies offerings. More OIP deliverables were introduced in 2011. In the design methodology area, in addition to the introduction of the 12th release of Reference Flow, we also announced the second release of Analog/Mixed Signal (AMS) Reference Flow, and the third release of the Radio Frequency Reference Design Kit (RF RDK).

Multi-project Wafers Program (“CyberShuttle”). To help our customers reduce costs, we offer a dedicated multi-project wafer processing service that allows us to provide multiple customers with circuits produced with the same mask. This program reduces mask costs by a very significant amount, resulting in accelerated time-to-market for our customers. We have extended this program to all of our customers and library and IP partners using our broad selection of process technologies, ranging from the latest 20-, 28-, 40-, 45-, 55- and 65-nanometer processes to 0.18-, 0.25- and 0.35-micron. This extension offers a routinely scheduled multi-project wafer run to customers on a shared-cost basis for prototyping and verification.

 

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We developed our multi-project wafer program in response to the current system-on-chip development methodologies, which often require the independent development, prototyping and validation of several IPs before they can be integrated onto a single device. By sharing mask costs among our customers to the extent permissible, the system-on-chip supplier can enjoy reduced prototyping costs and greater confidence that the design will be successful.

Customer Service

We believe that our devotion to customer service has been an indispensable factor in attracting new customers, helping to ensure the satisfaction of existing customers, and building a mutually beneficial relationship with our customers. The key elements are our:

 

   

customer-oriented culture through multi-level interaction with customers;

 

   

ability to deliver wafers of consistent quality, competitive ramp-up speed and fast yield improvement;

 

   

responsiveness to customer’s issues and requirements, such as engineering change orders and special wafer handling;

 

   

flexibility in manufacturing processes, supported by our competitive technical capability and production planning;

 

   

dedication to help reduce customer costs through collaboration and services, such as our multi-project wafer program, which combines multiple designs on a single mask set for cost-saving; and

 

   

availability of eFoundry®, the online service which provides real-time necessary information in design, engineering, and logistics to ensure seamless services to our customers throughout product life cycle.

We also conduct an annual customer satisfaction survey to assess customer satisfaction and to ensure that their needs and wants are adequately understood and addressed. Continual improvement plans based upon customer feedback are an integral part of this business process. We use data derived from the survey as a key indicator of our corporate performance as well as a leading indicator of future performance. We believe that satisfaction leads to better customer relationships, which would result in more business opportunities.

Research and Development

The semiconductor industry is characterized by rapid changes in technology, frequently resulting in the introduction of new technologies to meet customers’ demands and in the obsolescence of recently introduced technology and products. We believe that, in order to stay technologically ahead of our competitors and to maintain our market position in the foundry segment of the semiconductor industry, we need to maintain our position as a technology leader not only in the foundry segment but in the semiconductor industry in general. We spent NT$21,593 million, NT$29,707 million and NT$33,830 million (US$1,118 million) in 2009, 2010 and 2011, respectively, on research and development, which represented 7.3%, 7.1% and 7.9% of our net sales for these periods. We plan to continue to invest significant amounts on research and development in 2012, with the goal of maintaining a leading position in the development of advanced process technologies. Our research and development efforts have allowed us to provide our customers access to certain advanced process technologies, such as 65-nanometer, 55-nanometer, 45-nanometer, 40-nanometer and 28-nanometer Nexsys® technology for volume production, prior to the implementation of those advanced process technologies by many integrated device manufacturers and our competitors. In addition, we expect to advance our process technologies further down to 20/14-nanometer and below in the coming years to maintain our technology leadership. We will also continue to invest in research and development for our mainstream technologies offerings to provide function-rich process capabilities to our customers. Our research and development efforts are divided into centralized research and development activities and research and development activities undertaken by each of our fabs. Our centralized research and development activities are principally directed toward developing new Logic, system-on-chip (“SOC”), derivatives and package/system-in-package (“SIP”) technologies, and cost-effective 3D IC Chip on Wafer on Substrate (“CoWoS”) solutions. Fab-related research and development activities mostly focus on upgrading the manufacturing process technologies.

 

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In continuing to advance our process technologies, we intend to rely primarily on our internal engineering capability and know-how and our research and development efforts, including collaboration with our customers, equipment vendors and R&D consortia.

We also continuously create in-house inventions and know-how. Since our inception, every year we apply for and are issued a substantial number of United States and other patents, the majority of which are semiconductor-related.

Equipment

The quality and technology of the equipment used in the semiconductor manufacturing process are important in that they effectively define the limits of our process technologies. Advances in process technologies cannot be brought about without commensurate advances in equipment technology. The principal pieces of equipment used by us to manufacture semiconductors are scanners, cleaners and track equipment, inspection equipment, etchers, furnaces, wet stations, strippers, implanters, sputterers, CVD equipment, testers and probers. Other than certain equipment under leases located at testing areas, we own all of the equipment used at our fabs.

In implementing our capacity management and technology advancement plans, we expect to make significant purchases of equipment required for semiconductor manufacturing. Some of the equipment is available from a limited number of vendors and/or is manufactured in relatively limited quantities, and certain equipment has only recently been developed. We believe that our relationships with our equipment suppliers are good and that we have enjoyed the advantages of being a major purchaser of semiconductor fabrication equipment. We work closely with manufacturers to provide equipment customized to our needs for certain advanced technologies.

Raw Materials

Our manufacturing processes use many raw materials, primarily silicon wafers, chemicals, gases and various types of precious metals. Raw materials costs constituted 13.0% of our net sales in 2010 and 12.6% of our net sales in 2011. Although most of our raw materials are available from multiple suppliers, some materials are purchased through sole-sourced vendors. Our raw material procurement policy is to select only those vendors who have demonstrated quality control and reliability on delivery time and to maintain multiple sources for each raw material so that a quality or delivery problem with any one vendor will not adversely affect our operations. The quality and delivery performance of each vendor is evaluated quarterly and quantity allocations are adjusted for subsequent periods based on the evaluation.

The most important raw material used in our production is silicon wafers, which is the basic raw material from which integrated circuits are made. The principal suppliers for our wafers are Shin-Etsu Handotai and SUMCO Corporation of Japan, MEMC Electronic Materials, Inc. of the United States, Siltronic AG of Germany and Formosa Sumco Technology Corporation of Taiwan. Together they supplied approximately 96.7%, 96.8% and 96.0% of our total wafer needs in 2009, 2010 and 2011, respectively. We have in the past obtained, and believe we will continue to be able to obtain, a sufficient supply of 150mm, 200mm and 300mm wafers. Please see “Item 3. Key Information - Risk Factors - Risks Relating to Our Business” for a discussion of the risk related to raw materials. The price of silicon wafers decreased during 2009 due to the severe economic downturn. However, the continued market recovery after 2009 has increased demand. The 2011 Tohoku earthquake and tsunami also resulted in a tighter supply in silicon wafers and a higher price for such items. In order to secure a reliable and flexible supply of high quality wafers, we have entered into long-term agreements and intend to continue to develop strategic relationships with major wafer vendors to cover our anticipated wafer needs for the next three to five years. Also, we have established a special cross-function taskforce comprised of individuals from our fab operations, materials management, risk management and quality system management divisions to reduce our supply chain risks. This taskforce works with our primary suppliers to develop their business continuity plans, qualify their dual-plant materials, prepare safety inventories, improve the quality of their products and manage the supply chain risk of their suppliers.

 

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Competition

We compete internationally and domestically with dedicated foundry service providers, as well as with integrated device manufacturers that devote a significant portion of their manufacturing capacity to foundry operations. We compete primarily on the basis of process technologies, manufacturing excellence and customer service. The level of competition differs according to the process technologies involved. For example, in more mature technologies, the competition tends to be more intense. Some companies compete with us in selected geographic regions or application end markets. In recent years, substantial investments have been made by others to establish new dedicated foundry companies worldwide.

Environmental Regulations

The semiconductor production process generates gaseous chemical wastes, liquid wastes, wastewater and other industrial wastes in various stages of the manufacturing process. We have installed in our fabs various types of pollution control equipment for the treatment of gaseous chemical wastes and wastewater and equipment for the recycling of treated water. Operations at our fabs are subject to regulation and periodic monitoring by the R.O.C. Environmental Protection Administration, the U.S. Environmental Protection Agency or the State Environmental Protection Administration of mainland China, and local environmental protection authorities, including the various science park administrations in the R.O.C., the Washington State Department of Ecology or the Shanghai Environmental Protection Bureau.

We have adopted pollution control measures that are expected to result in the effective maintenance of environmental protection standards consistent with the practice of the semiconductor industry in Taiwan, the U.S. and mainland China. We conduct an annual environmental audit to ensure that we are in compliance in all material respects with, and we believe that we are in compliance in all material respects with, applicable environmental laws and regulations.

Electricity and Water

We use electricity supplied by the Taiwan Power Company in our manufacturing process. Businesses in the Hsinchu Science Park, Tainan Science Park and Central Taiwan Science Park, such as ours, enjoy preferential electricity supply. We have sometimes suffered power outages caused by difficulties encountered by our electricity supplier, the Taiwan Power Company, which have led to interruptions in our production schedule. The semiconductor manufacturing process also uses extensive amounts of fresh water. Due to the growth of the semiconductor manufacturers in the Hsinchu Science Park, Tainan Science Park and Central Taiwan Science Park, and the droughts that Taiwan experiences from time to time, there is concern regarding future availability of sufficient fresh water and the potential impact that insufficient water supplies may have on our semiconductor production.

Risk Management

We employ an enterprise risk management system to integrate the prevention and control of risk that TSMC or our subsidiaries may face. We have also prepared emergency plans to respond to natural disasters and other disruptive events that could interrupt the operation of our business. These emergency plans have been developed in order to prevent or minimize the loss of personnel or damage to our facilities, equipment and machinery caused by natural disasters and other disruptive events. We also maintain insurance with respect to our facilities, equipment and inventories. The insurance for the fabs and their equipment covers, subject to some limitations, various risks, including fire, typhoons, earthquakes and other risks generally up to the respective policy limits for their replacement values and lost profits due to business interruption. In addition, we have insurance policies covering losses with respect to the construction of all our fabs. Equipment and inventories in transit are also insured. No assurance can be given, however, that insurance will fully cover any losses and our emergency response plans will be effective in preventing or minimizing losses in the future.

For further information, please see detailed risk factors related to the impact of climate change regulations and international accords, and business trends on our operations in “Item 3. Key Information - Risk Factors - Risks Relating to Our Business”.

 

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Our Subsidiaries and Affiliates

Vanguard International Semiconductor Corporation (“VIS”). In 1994, we, the R.O.C. Ministry of Economic Affairs and other investors established Vanguard, then an integrated dynamic random access memory (“DRAM”) manufacturer. Vanguard commenced volume commercial production in 1995 and listed its shares on the GreTai Securities Market in March 1998. In 2004, Vanguard completely terminated its DRAM production and became a pure foundry company. As of February 29, 2012, we owned approximately 38.8% of the equity interest in Vanguard. Please see “Item 7. Major Shareholders and Related Party Transactions” for a further discussion.

WaferTech in the United States. In 1996, we entered into a joint venture called WaferTech (of which the manufacturing entity is Fab 11) with several U.S.-based investors to construct and operate a US$1.2 billion foundry in the United States. Initial trial production at WaferTech commenced in July 1998 and commercial production commenced in October 1998. As of February 29, 2012, we owned 100% of the equity interest in WaferTech.

Systems on Silicon Manufacturing Company Pte. Ltd. (“SSMC”). In March 1999, we entered into an agreement with Philips and EDB Investment Pte. Ltd. to found a joint venture, SSMC, to build a fab in Singapore. The SSMC fab commenced production in December 2000. As of February 29, 2012, we owned approximately 38.8% of the equity interest in SSMC. Please see “Item 7 Major Shareholders and Related Party Transactions” for a further discussion.

Global Unichip Corporation (“GUC”). In January 2003, we acquired a 52.0% equity interest in GUC, a System-on-Chip (SoC) design service company that provides large scale SOC implementation services. GUC has been listed on Taiwan Stock Exchange since November 3, 2006. Since July 2011, we are no longer deemed to be a controlling entity of GUC and its subsidiaries due to the termination of a Shareholders’ Agreement. As a result, we no longer consolidate GUC and its subsidiaries in our financial statements. As of February 29, 2012, we owned approximately 34.8% of the equity interest in GUC.

TSMC China. In August 2003, we established TSMC China (of which the manufacturing entity is Fab 10), a wholly-owned subsidiary primarily engaged in the manufacturing and selling of integrated circuits. TSMC China commenced production in late 2004.

VisEra Technologies Company, Ltd. (“VisEra”). In October 2003, we and OmniVision Technologies Inc., entered into a shareholders’ agreement to form VisEra Technologies Company, Ltd., a joint venture in Taiwan, for the purpose of providing back-end manufacturing service. As of February 29, 2012, we owned approximately 43.2% of the equity interest in VisEra Technologies Company Ltd. Please see “Item 7. Major Shareholders and Related Party Transactions for a further discussion.”

Xintec, Inc. (“Xintec”). In January 2007, we acquired a 51.2% equity interest in Xintec, a supplier of wafer level packaging service, to support our complementary metal oxide silicon (“CMOS”) image sensor manufacturing business. As of February 29, 2012, we owned approximately 40.2% combined equity interest in Xintec.

Mcube Inc. (“Mcube”). In September 2009, we acquired preferred and common equity interest in Mcube, a U.S. company engaged in the business of MEMS (“Micro Electro Mechanical Systems”) applications. As of February 29, 2012, we owned approximately 24.9% of the equity interest in Mcube.

Motech Industries Inc. (“Motech”). In February 2010, we acquired a 20.0% equity interest in Motech, a Taiwan solar cell manufacturer. Motech has been a publicly traded company on Taiwan’s GreTai Security Market since May 2003. In August 2011, we transferred our 20.0% equity interest in Motech to TSMC Solar Ltd., our newly incorporated subsidiary.

TSMC Solar Ltd. (“TSMC Solar”). To foster a stronger sense of corporate entrepreneurship and facilitate business specializations in order to strengthen overall profitability and operational efficiency, TSMC transferred its solar businesses into its newly incorporated subsidiary, TSMC Solar, in August 2011. TSMC Solar is engaged in research, development, design, manufacture and sales of technologies and products related to renewable energy and energy saving. As of February 29, 2012, we owned approximately 98.6% of the equity interest in TSMC Solar.

TSMC Solid State Lighting Ltd. (“TSMC SSL”). To foster a stronger sense of corporate entrepreneurship and facilitate business specializations in order to strengthen overall profitability and operational efficiency, TSMC transferred its solid state lighting businesses into its newly incorporated subsidiary, TSMC SSL, in August 2011. TSMC SSL is engaged in research, development, design, manufacture and sales of solid state lighting devices and related application products and systems. As of February 29, 2012, we owned approximately 95.0% of the equity interest in TSMC SSL.

 

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ITEM 4A.            UNRESOLVED  STAFF COMMENTS

None.

 

ITEM 5. OPERATING AND FINANCIAL REVIEWS AND PROSPECTS

Overview

We manufacture a variety of semiconductors based on designs provided by our customers. Our business model is commonly called a “dedicated semiconductor foundry.” The foundry segment of the semiconductor industry as a whole experienced rapid growth over the last 25 years since our inception. As the leader of the foundry segment of the semiconductor industry, our net sales and net income were NT$295,742 million and NT$89,218 million in 2009, NT$419,538 million and NT$161,605 million in 2010, and NT$427,081 million (US$14,109 million) and NT$134,201 million (US$4,434 million) in 2011, respectively. The sales in 2010 increased by 41.9% from 2009, mainly due to continuous growth in the semiconductor industry and customer demand, partially offset by the effect of U.S. dollar depreciation and a decline in ASP. Our sales in 2011 increased slightly by 1.8% from 2010, mainly due to growth in customer demand and more favorable product mix, partially offset by the effect of U.S. dollar depreciation.

The principal source of our revenue is wafer fabrication, which accounted for approximately 90% of our net sales in 2011. The rest of our net sales were derived from design, mask making, probing, and testing and assembly services. Factors that significantly impact our revenue include:

 

   

the worldwide demand for semiconductor products;

 

   

pricing;

 

   

the worldwide semiconductor production capacity as well as our production capacity;

 

   

capacity utilization;

 

   

availability of raw materials and supplies;

 

   

technology migration; and

 

   

fluctuation in foreign currency exchange rate.

Though equally important, three of the above factors are discussed as follows:

Pricing. We establish pricing levels for a specific period with our customers, subject to adjustment during the course of that period to take into account market developments and other factors. We believe that our large capacity, flexible manufacturing capabilities, focus on customer service and ability to deliver high yields in a timely manner have contributed to our ability to obtain premium pricing for our wafer production.

Production Capacity. Our production capacity affects our business as follows:

We currently own and operate our semiconductor manufacturing facilities, the aggregate production capacity for which had been expanded from 869,977 200mm equivalent wafers per month as of the end of 2009 to 1,036,871 200mm equivalent wafers per month as of the end of 2010 and 1,163,708 200mm equivalent wafers per month as of the end of 2011.

 

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Technology Migration.

Our operations utilize a variety of process technologies, ranging from mainstream process technologies of 0.5 micron or above circuit resolutions to advanced process technologies of 28-nanometer and below circuit resolutions. The table below presents a breakdown of wafer sales by circuit resolution during the last three years:

 

    Year ended December 31  
    2009     2010     2011  

Resolution

    Percentage of  
total wafer

revenue(1)
      Percentage of  
total wafer

revenue(1)
      Percentage of  
total wafer

revenue(1)
 

£28-nanometer

                  1%    

40/45-nanometer

    4%         17%         26%    

65-nanometer

    29%         29%         29%    

90-nanometer

    20%         14%         9%    

0.11/0.13 micron

    14%         12%         8%    

0.15 micron

    4%         4%         6%    

0.18 micron

    17%         13%         12%    

0.25 micron

    5%         4%         4%    

0.35 micron

    4%         4%         3%    

³0.5 micron

    3%         3%         2%    

Total

    100%         100%         100%    

 

 

(1) 

Percentages represent wafer revenue by technology as a percentage of total revenue from wafer sales, which exclude revenue not associated with wafer sales, such as revenue from testing and masks. Total wafer revenue excludes sales returns and allowances.

Critical Accounting Policies

Summarized below are our accounting policies that we believe are important to the portrayal of our financial results and also involve the need for management to make estimates about the effect of matters that are uncertain in nature. Actual results may differ from these estimates, judgments and assumptions. Certain accounting policies are particularly critical because of their significance to our reported financial results and the possibility that future events may differ significantly from the conditions and assumptions underlying the estimates used and judgments made by our management in preparing our financial statements. The following discussion should be read in conjunction with the consolidated financial statements and related notes, which are included in this annual report.

Revenue Recognition. We recognize revenue when evidence of an arrangement exists, the rewards of ownership and significant risk of the goods have been transferred to the buyer, price is fixed or determinable, and the collectability is reasonably assured. We record a provision for estimated future returns and other allowances in the same period the related revenue is recorded. Provision for estimated sales returns and other allowances is generally made and adjusted at a specific percentage based on historical experience, our management’s judgment, and any known factors that would significantly affect the allowance, and our management periodically reviews the adequacy of the percentage used. However, because of the inherent nature of estimates, actual returns and allowances could be different from our estimates. If the actual returns are greater than our estimated amount, we could be required to record an additional provision, which would have a negative impact on our recorded revenue and gross margin.

As of December 31, 2009, 2010 and 2011, the amount recorded as sales returns and allowances in the accompanying consolidated statements of income was NT$13,913 million, NT$12,093 million and NT$3,410 million (US$113 million), respectively, representing 4.5%, 2.8% and 0.8% of our gross sales for the years ended December 31, 2009, 2010 and 2011. The higher percentage in 2009 was mainly attributed to higher sales incentives offered to certain customers in 2009 due to the economic downturn, compounded by an increased level of credits to customers for product related issues. The decline in 2010 percentage was the result of over 40% growth in sales, lower sales incentives offered as compared to 2009 and a return of our product related issues back to normal level. The 2011 percentage was further reduced as both sales incentives and product related issues were reduced.

Allowance for Doubtful Accounts. We determine provision for doubtful accounts by examining our historical collection experience and current trends in the credit quality of our customers as well as our internal credit policies. If economic conditions or financial conditions of our customers deteriorate, additional allowance may be required in the future and such additional allowance would increase our operating expenses and therefore reduce our operating income and net income.

 

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Prior to January 1, 2011, we record provision for doubtful accounts based on a percentage of accounts receivable due from our customers. Effective on January 1, 2011, we evaluate for indication of impairment of accounts receivable based on an individual and collective basis at the end of each reporting period according to the third revision of Statement of Financial Accounting Standards (SFAS) No. 34. When objective evidence indicates that the estimated future cash flow of accounts receivable decreases as a result of one or more events that occurred after the initial recognition of the accounts receivable, such accounts receivable are deemed to be impaired.

Because of the short average collection period, the amount of the impairment loss recognized is the difference between the carrying amount of accounts receivable and estimated future cash flows without considering the discounting effect. Changes in the carrying amount of the allowance account are recognized as bad debt expense which is recorded in the operating expenses - general and administrative. When accounts receivable are considered uncollectable, the amount is written off against the allowance account.

As of December 31, 2010 and 2011, the allowance set aside for doubtful receivables was NT$504 million and NT$491 million (US$16 million), respectively, representing 1.0% and 1.1% of our gross notes and accounts receivables as of those dates.

Inventory valuation. Inventories are stated at the lower of cost or net realizable value for finished goods, work-in-progress, raw materials, supplies and spare parts. Inventory write-downs are made on an item-by-item basis, except where it may be appropriate to group similar or related items.

A significant amount of our manufacturing costs are fixed because our extensive manufacturing facilities (which provide us such large production capacity) require substantial investment to construct and are largely fixed-cost assets once they become operational. When the capacity utilization increases, the fixed manufacturing costs are spread over a larger amount of output, which would lower the inventory cost per unit thereby improving our gross margin.

We evaluate our ending inventory based on standard cost under normal capacity utilization, and reduce the carrying value of our inventory when the actual capacity utilization is higher than normal capacity utilization. No adjustment is made to the carrying value of inventory when the actual capacity utilization is at or lower than normal capacity utilization. Normal capacity utilization is established based on historic loadings compared to total available capacity in our wafer manufacturing fabs.

Due to rapid technology changes, we also evaluate our ending inventory and reduce the carrying value of inventory for estimated obsolescence and unmarketable inventory by an amount that is the difference between the cost of the inventory and the net realizable value. The net realizable value of the inventory is mainly determined based on assumptions of future demand within a specific time horizon, which is generally 180 days or less.

Valuation allowance for deferred tax assets. When we have net operating loss carry forwards, investment tax credits or temporary differences in the amount of tax recorded for tax purposes and accounting purposes, we may be able to reduce the amount of tax that we would otherwise be required to pay in future periods. We recognize all existing future tax benefits arising from these tax attributes as deferred tax assets and then establish a valuation allowance equal to the extent, if any, that it is more likely than not that such deferred tax assets will not be realized. We record an income tax benefit or expense when there is a net change in our total deferred tax assets and liabilities in a period. The ultimate realization of the deferred tax assets depends upon the generation of future taxable income during the periods in which the net operating losses and temporary differences become deductible or the investment tax credits may be utilized. Specifically, our valuation allowance is impacted by our expected future revenue growth and profitability, tax holidays, Alternative Minimum Tax, 10% tax imposed on unappropriated earnings and the amount of tax credits that can be utilized within the statutory period. In determining the amount of valuation allowance for deferred tax assets as of December 31, 2011, we considered past performance, the general outlook of the semiconductor industry, business conditions, future taxable income and prudent and feasible tax planning strategies.

Because the determination of the amount of valuation allowance is based, in part, on our forecast of future profitability, it is inherently uncertain and subjective. Changes in market conditions and our assumptions may cause the actual future profitability to differ materially from our current expectation, which may require us to increase or decrease the amount of valuation allowance that we have recorded.

 

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As of December 31, 2010 and 2011, the ending balances for valuation allowance were NT$16,423 million and NT$13,531 million (US$447 million), respectively, representing 56.3% and 50.3% of gross deferred tax assets as of those dates. In 2011, we evaluated the effect of Alternative Minimum Tax and the application of tax exemptions for a five-year period. As we plan to apply the tax-exempt income in later years, income tax payable is anticipated to increase and we will utilize available investment tax credits as an offset against income taxes. Since more investment tax credits can be utilized, valuation allowance has been adjusted down in 2011 accordingly.

Valuation of long-lived assets and intangible assets. We assess the impairment of long-lived assets and intangible assets whenever triggering events or changes in circumstances indicate that the asset may be impaired and carrying value may not be recoverable. Our long-lived assets subject to this evaluation include property, plant and equipment and amortizable intangible assets. Factors we consider important which could trigger an impairment review include, but are not limited to, the following:

 

   

significant under performance relative to historical or projected future operating results;

 

   

significant changes in the manner of our use of the acquired assets or our overall business strategy; and

 

   

significant unfavorable industry or economic trends.

When we determine that the carrying value of intangible assets and other long-lived assets may not be recoverable based upon the existence of one or more of the above indicators of impairment, we measure any impairment for long-lived assets based on a projected future cash flow. If the long-lived or intangible assets that are determined to be impaired, we recognize an impairment loss through a charge to our operating results to the extent the present value of discounted cash flows attributable to the assets are less than their carrying value. Such cash flow analysis includes assumptions about expected future economic and market conditions, the applicable discount rate, and the future revenue generation from the use or disposition of the assets. We also perform a periodic review to identify assets that are no longer used and are not expected to be used in future periods. An impairment charge is recorded to the extent, if any, that the carrying amount of the idle assets exceeds their fair value. Under R.O.C. GAAP, if the recoverable amount increases in a future period, the amount previously recognized as impairment will be reversed and recognized as a gain. However, the adjusted amount may not exceed the carrying amount that would have been determined, net of depreciation, as if no impairment loss had been recognized. Under U.S. GAAP, the reversal of impairment charges is prohibited.

The process of evaluating the potential impairment of long-lived assets requires significant judgment. We are required to review for impairment groups of assets related to the lowest level of identifiable independent cash flows. Due to our asset usage model and the interchangeable nature of our semiconductor manufacturing capacity, we must make subjective judgments in determining the independent cash flows that can be related to specific asset groups. In addition, because we must make subjective judgments regarding the remaining useful lives of assets and the expected future revenue and expenses associated with the assets, changes in these estimates based on changed economic conditions or business strategies could result in material impairment charges in future periods. Our projection for future cash flow is generally less during periods of reduced earnings. As a result, an impairment charge is more likely to occur during a period when our operating results are already otherwise depressed.

For purposes of evaluating the recoverability of long-lived assets, assets purchased for use in the business but subsequently determined to have no future economic benefits are written down to their fair value and recorded as either idle assets or assets held for disposition. In 2010 and 2011, an impairment loss for idle assets of NT$0.3 million and NT$98 million (US$3 million) was recorded, respectively. No impairment loss for idle assets was recorded in 2009. As of December 31, 2010 and 2011, net long-lived assets and intangible assets amounted to NT$394,471 million and NT$495,542 million (US$16,371 million), respectively.

 

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Goodwill. Goodwill is recorded when the purchase price paid for an acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired. Under U.S. GAAP, and effective on January 1, 2005 under R.O.C. GAAP, we assess the impairment of goodwill on an annual basis, or more frequently whenever triggering events or changes in circumstances indicate that goodwill may be impaired and carrying value may not be recoverable. Moreover, effective on January 1, 2006, goodwill is no longer amortizable under R.O.C. GAAP. Factors we consider important which could trigger an impairment review include, without limitation, the following:

 

   

significant decline in our stock price for a sustained period; and

 

   

significant decline in our market capitalization relative to net book value.

Application of the goodwill impairment test is also highly subjective and requires significant judgment, including the identification of cash generating units, assigning assets and liabilities to the relevant cash generating units, assigning goodwill to the relevant cash generating units, and determining the fair value of the relevant cash generating units. Our assessment of fair value is based upon a cash flow analysis that includes assumptions about expected future operating performance, such as revenue growth rates and operating margins, risk-adjusted discount rates, future economic and market conditions, and determination of appropriate market comparables. Under R.O.C. GAAP, the fair value of the cash generating units is compared to the associated carrying value including goodwill. On the other hand, under U.S. GAAP, the fair value of the reporting units is compared to the associated carrying value including goodwill.

Under R.O.C. GAAP, goodwill recorded from the acquisition of TSMC-Acer and WaferTech is evaluated for impairment on an annual basis. Based on our most recent evaluation, the fair value calculated by discounting projected cash flow in five years was higher than the associated carrying value. As a result, we did not record any impairment charge under R.O.C. GAAP. Under U.S. GAAP, goodwill recorded from the acquisition of TSMC-Acer and WaferTech is evaluated for impairment on an annual basis. Based on our most recent evaluation, the fair value calculated by using the discounted cash flow method was higher than the associated carrying value. As a result, we did not record any impairment charge under U.S. GAAP either.

As of December 31, 2010 and 2011, goodwill amounted to NT$5,705 million and NT$5,694 million (US$188 million), respectively, under R.O.C. GAAP. The change in the NT dollar amount of goodwill was due to changes in the exchange rate between NT dollar and U.S. dollar.

Valuation of investments accounted for using the equity method. We assess the impairment of investments accounted for using the equity method whenever triggering events or changes in circumstances indicate that an investment may be impaired and carrying value may not be recoverable. We measure the impairment based on a projected future cash flow of the investees, the underlying assumptions for which had been formulated by such investees’ internal management team, taking into account market conditions for the industries which the investees operate in to ensure the reasonableness of such assumptions. If an investment is determined to be impaired, we recognize an impairment loss through a charge to our operating results to the extent the present value of discounted cash flows attributable to the investee is less than the carrying value of the investment.

For the years ended December 31, 2009, 2010 and 2011, no impairment loss was recorded as the value determined based on the discounted cash flow of the investees was higher than the carrying value of the investments accounted for using the equity method.

Accounting for investments in private and publicly-traded securities. We hold equity interests in companies, some of which are publicly traded and have highly volatile share prices. We also hold investments in debt securities, such as corporate bonds, government bonds, and etc. We review all of our investments for impairment quarterly and record an impairment charge when we believe an investment has experienced an other-than-temporary decline in value. Determining whether an other-than-temporary decline in value of the investment has occurred is highly subjective. Such evaluation is dependent on the specific facts and circumstances. Factors we consider include, but are not limited to, the following: the market value of the security in relation to its cost basis, the duration of the decline in value, the financial condition of the investees and our intent and ability to retain the investment for a sufficient period of time to allow for recovery in the market value of the investment. Impairment reviews with respect to private security investments also require significant judgment. Factors indicative of an other-than-temporary decline in value include recurring operating losses, credit defaults and subsequent rounds of financing at valuation below the cost basis of the investment.

We have experienced declines in the value of certain privately held investments and publicly traded securities and recorded impairment loss of NT$913 million, NT$160 million and NT$266 million (US$9 million) in 2009, 2010 and 2011, respectively. While we have recognized all declines that are currently believed to be other-than-temporary as a charge to income, adverse changes in market conditions or poor operating results of underlying investments could result in further losses in future periods.

 

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Results of Operations

The following table sets forth, for the periods indicated, certain financial data from our consolidated statements of income, expressed in each case as a percentage of net sales:

 

                      For the year ended December 31                   
              2009                          2010                      2011        

Net sales

    100.0%         100.0%         100.0%    

Cost of sales

    (56.3)%         (50.6)%         (54.6)%    

Gross profit

    43.7%         49.4%         45.4%    

Operating expenses

     

General and administrative

    (3.8)%         (3.1)%         (3.3)%    

Sales and marketing

    (1.5)%         (1.3)%         (1.1)%    

Research and development

    (7.3)%         (7.1)%         (7.9)%    

Total operating expenses

    (12.6)%         (11.5)%         (12.3)%    

Income from operations

    31.1%         37.9%         33.1%    

Non-operating income and gains

    1.9%         3.2%         1.3%    

Non-operating expenses and losses

    (0.7)%         (0.5)%         (0.4)%    

Income before income tax

    32.3%         40.6%         34.0%    

Income tax expense

    (2.0)%         (1.9)%         (2.5)%    

Net income

    30.3%         38.7%         31.5%    

Net income attributable to minority interests

    (0.1)%         (0.2)%         (0.1)%    

Net income attributable to shareholders of the parent

    30.2%         38.5%         31.4%    

Year to Year Comparisons

Net Sales and Gross Margin

 

    For the year ended December 31  
        2009             2010         % Change
  from  2009  
              2011                % Change
     from 2010  
 
    NT$     NT$           NT$     US$        
    (in millions)           (in millions)        

Net sales

    295,742        419,538        41.9%         427,081        14,109        1.8%    

Cost of sales

      (166,413       (212,484     27.7%           (232,938       (7,695     9.6%    
 

 

 

   

 

 

     

 

 

   

 

 

   

Gross profit before affiliates elimination

    129,329        207,054        60.1%         194,143        6,414        (6.2)%    
 

 

 

   

 

 

     

 

 

   

 

 

   

Unrealized gross profit from affiliates

    —          —         —         (74     (3     —    
 

 

 

   

 

 

     

 

 

   

 

 

   

Gross profit

    129,329        207,054        60.1%         194,069        6,411        (6.3)%    
 

 

 

   

 

 

     

 

 

   

 

 

   

Gross margin percentage

    43.7%        49.4%        —         45.4%        45.4%        —    

Net Sales

Our net sales in 2011 increased by 1.8% from 2010, which was mainly attributable to the growth in customer demand. The overall wafer shipments increased by 5.8%, from 11,860 thousand 200mm equivalent wafers in 2010 to 12,549 thousand 200mm equivalent wafers in 2011. Furthermore, we had a more favorable product mix in 2011 as the portion of wafer sales from 65 nanometer and below circuit resolutions reached 56% compared to 46% in 2010. However, as a significant portion of our sales were denominated in U.S. dollars, our net sales in 2011 were negatively impacted by a stronger weighted average NT dollar against U.S. dollar, which appreciated against the U.S. dollar by 6.7% to NT$29.367 to US$1.00 in 2011 from NT$31.491 to US$1.00 in 2010.

 

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Our net sales in 2010 increased by 41.9% from 2009, which was largely due to the overall growth in industry and customer demand. The overall wafer shipments increased by 53.3%, from 7,737 thousand 200mm equivalent wafers in 2009 to 11,860 thousand 200mm equivalent wafers in 2010. However, as a significant portion of our sales were denominated in U.S. dollars, our net sales in 2010 were negatively impacted by a stronger weighted average NT dollar against the U.S. dollar, which appreciated by 4.2% to NT$31.491 to US$1.00 in 2010 from NT$32.868 to US$1.00 in 2009. Furthermore, our ASP declined in 2010.

Gross Margin

Our gross margin fluctuated with the level of capacity utilization, price change and product mix, among other factors. In 2011, our gross margin decreased to 45.4% of net sales from 49.4% of net sales in 2010. The lower margin in 2011 was primarily due to lower capacity utilization as we increased our capacity in 2011, price decline and a stronger NT dollar against the U.S. dollar, which negatively impacted our gross margin by 7.1, 2.8 and 2.4 percentage points, respectively, offset in part by cost improvements and others which contributed favorably to a 8.3 percentage points increase in the gross margin.

In 2010, our gross margin increased to 49.4% of net sales from 43.7% of net sales in 2009. The higher margin in 2010 was primarily due to higher capacity utilization and cost reductions, which contributed favorably to 6.8 and 3.6 percentage points increase, respectively, in the gross margin, offset in part by price declines and a stronger NT dollar against the U.S. dollar, which negatively impacted our gross margin by 3.6 and 1.5 percentage points, respectively.

Operating Expenses

 

    For the year ended December 31  
          2009             2010     % Change
     from 2009    
    2011     % Change
  from  2010  
 
    NT$     NT$           NT$     US$        
    (in millions)           (in millions)        

Research and development

    21,593        29,707        37.6%            33,830        1,118        13.9%      

General and administrative

    11,286        12,804        13.5%            14,164        468        10.6%      

Sales and marketing

    4,488        5,368        19.6%            4,518        149        (15.8)%      
 

 

 

   

 

 

     

 

 

   

 

 

   

Total operating expenses

    37,367        47,879        28.1%            52,512        1,735        9.7%      
 

 

 

   

 

 

     

 

 

   

 

 

   

Percentage of net sales

    12.6%        11.5%        —             12.3%        12.3%        —           

Income from operations

        91,962            159,175            73.1%                141,557              4,676        (11.1)%      
 

 

 

   

 

 

     

 

 

   

 

 

   

Operating Margin

    31.1%        37.9%        —             33.1%        33.1%        —           

Operating expenses increased by NT$4,633 million in 2011, or 9.7%, from NT$47,879 million in 2010, after an increase in operating expenses of NT$10,512 million in 2010, or 28.1%, from 2009.

Research and Development Expenses

We remain strongly committed to being the leader in developing advanced process technologies. We believe that continued investments in process technologies are essential for us to remain competitive in the markets we serve. Research and development expenditures increased by NT$4,123 million in 2011, or 13.9%, from 2010, mainly due to higher spending in further developing 20nm technology, partially offset by lower employee profit sharing expenses and bonus. In 2010, research and development expenditures increased by NT$8,114 million, or 37.6%, from 2009, mainly reflecting higher spending in further developing 28nm and 20nm technologies and higher employee profit sharing expenses and bonuses in 2010. We plan to continue to invest significant amounts in research and development in 2012.

General and Administrative, Sales and Marketing Expenses

General and administrative, sales and marketing expenses in 2011 increased by NT$510 million, or 2.8% from 2010, due to an increase in general and administrative expenses by NT$1,360 million, or 10.6%, and a decrease of sales and marketing expenses by NT$850 million, or 15.8%. The net increase was primarily due to higher opening expenses for Fab15 (Phase I) and Fab10 (Phase II), partially offset by lower employee profit sharing expenses and bonus in 2011.

 

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General and administrative, sales and marketing expenses in 2010 increased by NT$2,398 million, or 15.2%, from 2009, due to an increase in general and administrative expenses and sales and marketing expenses by NT$1,518 million and NT$880 million, or 13.5% and 19.6%, respectively. The increase was mainly due to higher employee profit sharing expenses and bonuses in 2010, higher labor costs due to business scale expansion, and more opening expenses for Fab14 (Phase IV) and Fab12 (Phase V), partially offset by lower legal fees due to litigation concluded in 2009.

Non-Operating Income and Expenses

 

    For the year ended December 31  
          2009                       2010             % Change
     from 2009  
                  2011                    % Change 
from  2010
 
    NT$     NT$           NT$     US$        
    (in millions)           (in millions)        

Non-operating income and gains

    5,654         13,136         132.3%         5,359         177         (59.2)%   

Non-operating expenses and losses

    (2,153)        (2,041)        (5.2)%                 (1,768)        (58)       
(13.4)%
  
 

 

 

   

 

 

     

 

 

   

 

 

   

Net non-operating income (expenses)

    3,501         11,095         216.9%         3,591                   119         (67.6)%   
 

 

 

   

 

 

     

 

 

   

 

 

   

Net non-operating income in 2011 decreased by NT$7,504 million, or 67.6% from NT$11,095 million in 2010 primarily due to a NT$5,993 million decrease in settlement income from SMIC as we received less settlement payment in cash and absence of receipt of SMIC shares in 2011 pursuant to the settlement agreement. In addition, equity in earnings of equity method investees declined by NT$1,400 million as a result of weakened operating performance of such equity method investees in 2011.

Net non-operating income in 2010 increased by NT$7,594 million, or 216.9%, from NT$3,501 million in 2009 primarily due to a NT$5,475 million increase in settlement income from SMIC, a NT$2,252 million increase in equity in earnings of equity method investees, a NT$753 million decrease in loss on impairment of financial assets and a NT$721 million increase in net gain on settlement and disposal of financial assets, partially offset by a NT$936 million decrease in interest income and a NT$781 million increase in loss on disposal of property and equipment. Equity in earnings generated from equity method investees increased, reflecting business improvement of such equity method investees in 2010. The decrease in loss on impairment of financial assets was primarily due to an increase in the fair value of financial assets in 2010. The increase in net gain on settlement and disposal of financial assets was mainly due to higher disposal gain on debt and equity securities. Interest income decreased primarily due to lower interest rates in 2010. The increase in loss on disposal of property and equipment mainly resulted from the disposal of steel frame in a newly-acquired, partially-constructed memory fab.

Income Tax Benefit (Expense)

 

    For the year ended December 31  
          2009                 2010         % Change
  from  2009    
    2011     % Change
  from  2010  
 
    NT$     NT$           NT$     US$        
    (in millions)           (in millions)        

Income tax expense

              (5,997)                  (7,988)        33.2%               (10,695)                   (353)        33.9%    
 

 

 

   

 

 

     

 

 

   

 

 

   

Net income attributable to shareholders of the parent

    89,218         161,605             81.1%         134,201         4,434         (17.0)%    
 

 

 

   

 

 

     

 

 

   

 

 

   

Net margin

    30.2%         38.5%         —         31.4%             31.4%         —    

 

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Income tax expenses increased by NT$2,707 million in 2011, or 33.9%, from 2010. The increase was mainly related to increase in tax on unappropriated earnings as a result of higher unappropriated earnings in 2011 compared to 2010.

Income tax expenses increased by NT$1,991 million in 2010, or 33.2%, from 2009. The increase was mainly due to an increase in taxable income, partially offset by lower statutory tax rate, from 25% to 17%. See “— Taxation” below for further discussion.

Liquidity and Capital Resources

Our sources of liquidity include cash flow from operations, cash and cash equivalents, short-term investments and revolving credit facilities provided by multiple banks.

Our primary source of liquidity is cash flow from operations. Cash flow from operations for 2011 was NT$247,587 million (US$8,179 million), an increase of NT$18,111 million from 2010.

Our cash, cash equivalents and current investments in financial instruments amounted to NT$150,622 million (US$4,976 million) as of December 31, 2011, down from NT$181,574 million as of December 31, 2010. The current investments in financial instruments primarily consist of corporate bonds, publicly-traded stocks, government bonds, and money market funds.

As of December 31, 2011, we also had an aggregate unused short-term credit lines of approximately NT$63,708 million (US$2,105 million) and an aggregate unused long-term credit lines of approximately NT$2,050 million (US$68 million).

We believe that our cash generated from operations, cash and cash equivalents, short-term investments, ability to access capital market and revoling credit facilities will be sufficient to fund our working capital needs, capital expenditures, dividend payments and other business requirements associated with existing operations over the next 12 months.

 

     For the year ended December 31  
                 2009                         2010                             2011                   
     NT$      NT$     NT$     US$  
     (in millions)      (in millions)     (in millions)  

Net cash provided by operating activities

     159,966               229,476        247,587        8,179   

Net cash used in investing activities

     (96,468)              (202,086     (182,523     (6,030

Net cash used in financing activities

     (85,471)              (48,638     (67,858     (2,242

Net decrease in cash

     (23,338)              (23,389     (4,415     (146

Cash and cash equivalents decreased by NT$4,415 million in 2011, or 3.0%, from 2010, following a decrease of NT$23,389 million in 2010, or 13.7%, from 2009.

Operating Activities

In 2011, we generated NT$247,587 million (US$8,179 million) net cash from operating activities, as compared to NT$229,476 million and NT$159,966 million in 2010 and 2009, respectively. In 2011, net cash generated from operating activities increased primarily due to an increase of NT$19,872 million in non-cash depreciation and amortization expenses, the absence of non-cash gain of NT$4,434 million from SMIC shares received as litigation compensation and from change in inventories and notes and accounts receivables, partially offset by a decrease of NT$27,404 million in net income.

In 2010, net cash generated from operating activities increased primarily due to an increase of NT$72,387 million in net income and an increase of NT$6,995 million in non-cash depreciation and amortization expenses, partially offset by the NT$5,341 million change in accrual for employee profit sharing and bonus and non-cash gain from SMIC shares as litigation compensation in the amount of NT$4,434 million.

In 2011, depreciation and amortization expenses were NT$107,682 million (US$3,557 million), as compared to NT$87,810 million and NT$80,815 million in 2010 and 2009, respectively. Higher depreciation and amortization expenses in 2011 and 2010 were mainly attributable to increase in capital expenditures to expand production capacity in advanced technologies.

 

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Investing Activities

In 2011, net cash used in investing activities was NT$182,523 million (US$6,030 million), as compared to NT$202,086 million and NT$96,468 million in 2010 and 2009, respectively. The decrease in 2011 was primarily due to lower investment in financial assets, higher disposal or redemption of investment in financial assets, lower refundable deposits and the absence of new investment in equity method investees, partially offset by higher spending on capital expenditures during the year. The increase in 2010 was primarily due to the significantly higher spending on capital expenditures, an increase in investment in equity method investees and an increase in refundable deposits, partially offset by higher amount of cash received from disposal or redemption of investments in financial assets during the year.

Capital expenditures in 2011 were primarily related to:

 

   

adding production capacity to 300mm and 200mm wafer fabs;

 

   

expanding buildings/facilities for Fab 12, Fab 14 and Fab 15;

 

   

developing process technologies including 28nm node and below;

 

   

capacity expansion for mask and backend operations;

 

   

other research and development projects; and

 

   

solar and solid state lighting businesses.

During the past few years, our capital expenditures were funded by our operating cash flow. The capital expenditures for 2012 are also expected to be funded by our operating cash flow. See “Item 4. Information on the Company — Capacity Management and Technology Upgrade Plans” for discussion of our capacity management and capital expenditures.

Financing Activities

In 2011, net cash used in financing activities was NT$67,858 million (US$2,242 million), as compared to NT$48,638 million and NT$85,471 million in 2010 and 2009, respectively. In 2011, net cash used in financing activities increased primarily due to the change from NT$31,214 million cash provided by short-term loans in 2010 to NT$5,287 million cash used to repay short-term loans in 2011 and the higher repayment of other long-term liabilities of NT$2,526 million, partially offset by the proceeds from issuance of corporate bonds amounting to NT$18,000 million and increase in long-term debts of NT$2,250 million. In 2010, net cash used in financing activities decreased primarily due to an increase of NT$31,214 million in short-term debt mainly to naturally hedge a portion of our accounts receivable denominated in U.S. dollars and the repayment in 2009 of corporate bonds amounting to NT$8,000 million, partially offset by repayment in 2010 of other long-term liabilities of NT$1,107 million.

As of December 31, 2011, our short-term loans were NT$25,927 million (US$856 million, translated from 2011 year-end revaluation exchange rate of NT$30.288 to US$1.00), and our aggregate long-term debt was NT$24,150 million (US$798 million) of which NT$4,563 million (US$151 million) was classified as current. The short-term loans were denominated in U.S. dollars. To protect against reductions in value and the volatility of asset value caused by changes in foreign exchange rates, we utilized short-term loans and derivative financial instruments, including currency forward contracts and cross currency swaps, to hedge our currency exposure. See “Item 11. Quantitative and Qualitative Disclosures About Market Risk” for a discussion of the hedging instruments used. The long-term debt included NT$22,500 million of the long-term bonds with fixed interest rates ranging from 1.40% to 3.00%.

 

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Cash Requirements

The following table sets forth the maturity of our long-term debt (bank loans and bonds) outstanding as of December 31, 2011:

 

        Long-term debt     
     (in NT$ millions)  

During 2012

     4,563                 

During 2013

     625                 

During 2014

     125                 

During 2015

     125                 

During 2016 and thereafter

       18,712                 

The following table sets forth information on our material contractually obligated payments for the periods indicated as of December 31, 2011:

 

      

Payments Due by Period

Contractual Obligations

    

      Total      

    

   Less than   

1 Year

    

   1-3 Years   

    

   4-5 Years   

    

  More than  

5 Years

       (in NT$ millions)               

Short-Term Loans(1)

     25,927        25,927        -        -        -  

Long-Term Debt(2)

     24,150        4,563        750        11,337        7,500  

Capital Lease Obligations(3)

     871        138        51        49        633  

Operating Leases(4)

     6,757        628        1,158        1,101        3,870  

Other Payments(5)

     3,400        3,400        -        -        -  

Capital Purchase or other Purchase Obligations(6)

     55,462        54,238        1,224        -        -  

Total Contractual Cash Obligations(7)

     116,567        88,894        3,183        12,487        12,003  

 

 

(1) The maximum amount and average amount of short-term loans outstanding during the year ended December 31, 2011 were NT$36,020 million and NT$33,582 million, respectively. The purpose of the short-term loans was mainly to naturally hedge a portion of our accounts receivable. As a substantial portion of our accounts receivable was denominated in U.S. dollars, we use short-term loans denominated in U.S. dollars to naturally hedge the fluctuation of foreign exchanges rates. See note 16 to our consolidated financial statements for further information regarding interest rates and future repayment dates.
(2) Includes loan payable and bond payable but excludes relevant interest payments which are not expected to be material in any given period in the future. See notes 17 and 18 to our consolidated financial statements for further information regarding interest rates and future repayment of long-term debts.
(3) Capital lease obligations represent our commitment for leases of property, which are described in note 14 to our consolidated financial statements.
(4) Operating lease obligations are described in note 29 to our consolidated financial statements.
(5) Other payments represent payables for acquisition of property, plant and equipment.
(6) Represents commitments for construction or purchase of equipment, raw material and other property or services. These commitments are not recorded on our balance sheet as of December 31, 2011, as we have not received related goods or taken title of the property.
(7) Minimum pension funding requirement is not included since such amounts have not been determined. We made pension contributions of approximately NT$212 million in 2011 and estimate that we will contribute approximately NT$220 million to the pension fund in 2012. See note 20 to our consolidated financial statements for additional details regarding our pension plan.

During 2011, we entered into derivative financial instruments transactions to manage exposures related to foreign-currency denominated receivables or payables and interest rate fluctuations. As of December 31, 2011, we anticipated our cash requirements in 2012 for outstanding forward exchange agreements and cross currency swaps of approximately NT$584 million, RMB1,119 million, EUR39 million, and US$22 million with our expected cash receipts of approximately JPY260 million, US$196 million, and NT$2,038 million, and EUR2 million. See “Item 11. Quantitative and Qualitative Disclosures about Market Risk” for more information regarding our derivative financial instruments transactions. See also note 2 to the consolidated financial statements for our accounting policy of derivative financial instruments, and note 6 and note 26 to the consolidated financial statements for additional details regarding our derivative financial instruments transactions.

 

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Generally, we do not provide letters of credit to, or guarantees for any entity other than our consolidated subsidiaries.

Significant amounts of capital are required to build, expand, and upgrade our production facilities and equipment. Our capital expenditures for 2012 are expected to be approximately US$6 billion, which, depending on market conditions, may be adjusted upwards later.

U.S. GAAP Reconciliation

Our consolidated financial statements are prepared in accordance with R.O.C. GAAP, which differs in certain material aspects from U.S. GAAP. The following table sets forth a comparison of our net income and shareholders’ equity in accordance with R.O.C. GAAP and U.S. GAAP for the periods indicated:

 

     For the year ended December 31  
             2009                      2010              2011  
     NT$      NT$              NT$                      US$          
     (in millions)  

Net income attributable to the shareholders of the parent in accordance with:

           

R.O.C. GAAP

     89,218          161,605          134,201         4,434   

U.S. GAAP

     89,102          163,639          136,873         4,522   

Shareholders’ equity attributable to the shareholders of the parent in accordance with:

           

R.O.C. GAAP

     495,083          574,145          629,594         20,799   

U.S. GAAP

     532,043          610,597          669,163         22,106   

Differences between R.O.C. GAAP and U.S. GAAP that have a material effect on our net income and shareholders’ equity as reported under R.O.C. GAAP include compensation expense pertaining to stock bonuses to employees, recognition of and subsequent accounting for goodwill, 10% tax imposed on unappropriated earnings, stock-based compensation and deconsolidation of investees. Please refer to note 34 to the consolidated financial statements, which provides a description of the principal differences between R.O.C. GAAP and U.S. GAAP as they relate to us and a reconciliation to U.S. GAAP of certain items, including net income and shareholders’ equity.

Taxation

In 2010, the R.O.C. government reduced the corporate income tax rate from 25% to 17% effective from 2010. In the same year, the “Statute for Industries Innovation” was passed to replace the “Statute for Upgrading Industries” in tax incentives. Under the new statute, the research and development expenditure tax credit rate was reduced from 30% to 15%, and the 7% tax credit incentive for purchased equipment was terminated.

We are eligible for five-year tax holidays for income generated from construction and capacity expansions of production facilities according to the regulation under the Statute for Upgrading Industries of the R.O.C. The exemption period may begin at any time within five years, as applicable, following the completion of a construction or expansion of production facilities. The aggregate tax benefits of such exemption periods in 2009, 2010 and 2011 were NT$8,652 million, NT$17,410 million and NT$13,832 million (US$457 million), respectively. We commenced the exemption period for part of Fab 14 (Phase III), part of Fab 12 (Phase III) and others in 2010; part of Fab 12 (Phase IV), part of Fab 14 (Phase III and IV) in 2011. The Statute for Upgrading Industries expired at the end of 2009. However, under the Grandfather Clause, we can continue to enjoy five-year tax holidays if the relevant investment plans were approved by R.O.C. tax authority before the expiration of the Statute.

Under regulations promulgated under the R.O.C. Statute for Industries Innovation, we were eligible for a tax credit for specified percentages of research and development expenditures. The tax credit rate of research and development expenditures is 15% during the period from 2010 to 2019.

The R.O.C. government enacted the R.O.C. Alternative Minimum Tax Act (“AMT Act”) which became effective on January 1, 2006. The alternative minimum tax (“AMT”) imposed under the R.O.C. AMT Act is a supplemental tax which is payable if the income tax payable pursuant to the R.O.C. Income Tax Act is below the minimum amount prescribed under the R.O.C. AMT Act. The taxable income for calculating the AMT includes most income that is exempted from income tax under various legislations, such as tax holidays and investment tax credits. The AMT rate for business entities is 10%. However, the R.O.C. AMT Act grandfathered certain tax exemptions and tax credits granted prior to the enactment of the R.O.C. AMT. We currently expect the AMT to have a small effect on our income tax expense in 2012.

 

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Off-Balance Sheet Arrangements

There are no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.

Inflation & Deflation

During 2011, neither inflation nor deflation had a material impact on our operations, or the business operations of our customers and suppliers. However, with uncertain global economy outlook, we cannot assure that there will be no significant variations in the future, which may have a material impact on our results of operations.

Recent Accounting Pronouncements

For R.O.C. GAAP, please refer to note 4 to the consolidated financial statements. For U.S GAAP, please refer to note 35 to the consolidated financial statements.

Climate Change Related Issues

The manufacturing, assembling and testing of our products require the use of chemicals and materials that are subject to environmental, climate related, health and safety laws and regulations issued worldwide as well as international accords such as the Kyoto Protocol. Climate change related laws or regulations currently are too indefinite for us to assess the impact on our future financial condition with any degree of reasonable certainty. For example, the Taiwan legislative authority has been studying relevant laws relating to environmental protection and climate related changes, such as the “Greenhouse Gas Reduction Act” and “Energy Tax”. Since there has been no concrete guidance or laws issuing from the Taiwan government as of the date of this filing, the impact of such laws is indeterminable at the moment. Please see detailed risk factors related to the impact of climate change regulations and international accords, and business trends on our operations in “Item 3. Key Information - Risk Factors - Risks Relating to Our Business”. Please also see our compliance record with Taiwan and international environmental and climate related laws and regulations in “Item 4. Information on the Company — Environmental Regulation”.

 

ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

Directors and Executive Officers

MANAGEMENT

Members of our board of directors are elected by our shareholders. Our board of directors is currently composed of nine directors. Of our current nine directors, five are independent directors. The chairman of the board of directors is elected by the directors. The chairman of the board of directors presides at all meetings of the board of directors, and also has the authority to act as our representative. The term of office for directors is three years.

Pursuant to R.O.C. Securities and Exchange Law, effective from January 1, 2007, a public company is required to either establish an audit committee or to have supervisors. A public company’s audit committee should be composed of all of its independent directors but not less than three, of which at least one member should have accounting or related financial management expertise, and the relevant provisions under the R.O.C. Securities and Exchange Law, the R.O.C. Company Law and other laws applicable to the supervisors are also applicable to the audit committee.

Prior to January 1, 2007, we had two supervisors. The supervisors’ major duties and powers included, but were not limited to (i) investigation of our financial condition; (ii) inspection of corporate records; (iii) giving reports in connection with the company’s financial statements at shareholders’ meetings. Beginning from January 1, 2007, the duties and powers of our supervisors are being exercised by our Audit Committee which is composed of all of our independent directors, and supersedes and replaces the office of supervisors.

 

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Pursuant to the R.O.C. Company Law, a person may serve as our director in his personal capacity or as the representative of another legal entity. A director who serves as the representative of a legal entity may be removed or replaced at any time at the discretion of that legal entity, and the replacement director may serve the remainder of the term of office of the replaced director. For example, the National Development Fund of Taiwan, R.O.C., one of our largest shareholders, has served as our director since our founding. As a corporate entity, the National Development Fund is required to appoint a representative to act on its behalf in discharging its directorial duties. Mr. Johnsee Lee has been our representative of the National Development Fund since August 6, 2010.

The following table sets forth the name of each director and executive officer, their positions, the year in which their term expires and the number of years they have been with us as of February 29, 2012. On March 2, 2012, Senior Vice President of R&D Dr. Shang-yi Chiang, Senior Vice President of Operations Dr. Mark Liu, and Senior Vice President of Business Development Dr. C.C. Wei were appointed as Executive Vice Presidents and Co-Chief Operating Officers. The business address for each of our directors and executive officers is No. 8, Li Hsin Road 6, Hsinchu Science Park, Hsinchu, Taiwan, Republic of China.

 

Name

  

Position with our company

  

Term

 Expires 

  

Years

with our

 company 

Morris Chang    Chairman & Chief Executive Officer    2012    25
F.C. Tseng    Vice Chairman    2012    25
Johnsee Lee    Director (Representative of the National Development Fund)    2012    2
Stan Shih    Independent Director    2012    12
Sir Peter Leahy Bonfield    Independent Director    2012    10
Thomas J. Engibous    Independent Director    2012    3
Gregory C. Chow(1)    Independent Director    2012    1
Kok-Choo Chen(1)    Independent Director    2012    1
Rick Tsai(2)    Director    2012    22
Shang-yi Chiang    Executive Vice President & Co-Chief Operating Officer       12
Mark Liu    Executive Vice President & Co-Chief Operating Officer       18
C.C. Wei    Executive Vice President & Co-Chief Operating Officer       14
Stephen T. Tso    Senior Vice President & Chief Information Officer       15
Richard Thurston    Senior Vice President & General Counsel       10
Lora Ho    Senior Vice President, Chief Financial Officer & Spokesperson       13
Jason C.S. Chen    Senior Vice President of Worldwide Sales & Marketing       7
M.C. Tzeng    Vice President of Operations/Affiliate Fabs       25
Wei-Jen Lo    Vice President of Operations/Manufacturing Technology       8
Jack Sun    Vice President of Research & Development & Chief Technology Officer       15
Y.P. Chin    Vice President of Operations/Product Development       25
N.S. Tsai    Vice President of Quality & Reliability       23
Rick Cassidy    Vice President & President of TSMC North America       15
L.C. Tu    Vice President of Human Resources       25
J.K. Lin    Vice President of Operations/Mainstream Fabs       25
J.K. Wang    Vice President of Operations/300mm Fabs       25
Irene Sun    Vice President of Corporate Planning       8
Burn J. Lin    Vice President of Research & Development       12
Y. J. Mii(3)    Vice President of Research & Development       18
Cliff Hou(3)    Vice President of Research & Development       15

 

 

(1) Mr. Gregory C. Chow and Ms. Kok-Choo Chen were elected as our independent directors in our Annual Shareholders’ Meeting held on June 9, 2011.
(2) Rick Tsai is the Chairman and Chief Executive Officer of two of our subsidiaries, TSMC Solar Ltd. and TSMC Solid State Lighting Ltd. Before taking these positions, he was TSMC’s President of New Businesses.
(3) Y.J. Mii and Cliff Hou were promoted to Vice President on August 9, 2011.

Morris Chang is the Chairman and Chief Executive Officer. He has been the founding Chairman of our board of directors since our establishment and was our Chief Executive Officer from March 1998 to June 2005. He resumed his position as our Chief Executive Officer on June 12, 2009. From 1985 to 1994, he was President and then Chairman of the board of directors of ITRI. Prior to that, Dr. Chang was President and Chief Operating Officer of General Instrument Corporation; Corporate Group and Senior Vice-President for Texas Instruments. He holds a bachelor’s degree and a master’s degree in mechanical engineering from the Massachusetts Institute of Technology and a Ph.D. in electrical engineering from Stanford University and has been active in the international semiconductor industry for over 56 years.

 

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F.C. Tseng is the Vice Chairman. He has been our Vice Chairman since July 2005. He was Deputy Chief Executive Officer from August 2001 to June 2005. He is also the Chairman of Global Unichip Corp., a director of Digimax, Inc. and an independent director of Acer Inc. He formerly served as the President of Vanguard from 1996 to 1998 and our President from May 1998 to August 2001. Prior to his presidency at Vanguard, Dr. Tseng served as our Senior Vice President of Operations. He holds a Ph.D. in electrical engineering from National Cheng-Kung University and has been active in the semiconductor industry for over 40 years.

Johnsee Lee is a director. He is the Chairman of the Development Center for Biotechnology. He also serves as the President of Taiwan Bio Industry Organization and an independent director of Taiwan Polysilicon Corp. and Zhen Ding Technology Holding Limited. He was the President of ITRI from 2003 to 2010 and has also served on many government and industrial boards and committees. Before returning to Taiwan, he held various technical and managerial positions at Argonne National Laboratory and Johnson Matthey Inc. in the U.S. from 1981 to 1990. He holds a Ph.D. in chemical engineering from the Illinois Institute of Technology, and a MBA from the University of Chicago. He is also a graduate of Harvard Business School’s Advanced Management Program.

Stan Shih is an independent director. He is the Group Chairman of iD SoftCapital and a director of Acer Inc., Qisda Corp., Wistron Corp. and Nan Shan Life Insurance Company, Ltd. He is also co-founder and Chairman Emeritus of the Acer Group. He served as the Chairman and Chief Executive Officer of the Acer Group from 1976 to 2004. Mr. Shih holds a bachelor’s degree, a master’s degree and an honorary Ph.D. in electrical engineering from National Chiao Tung University. He also holds an honorary doctoral degree in technology from the Hong Kong Polytechnic University, an honorary fellowship from the University of Wales and an honorary doctoral degree in international law from the Thunderbird, American Graduate School of International Management.

Sir Peter Leahy Bonfield is an independent director. Sir Peter Bonfield was the Chief Executive Officer and Chairman of the Executive Committee of British Telecommunications from January 1996 to January 2002. He is currently the non-executive director and Chairman of the Board of Directors of NXP Semiconductor in the Netherlands. He is also a director of L.M. Ericsson in Sweden, Mentor Graphics Corporation Inc. in U.S., Sony Corporation in Japan and Actis Capital LLP in London. He is a member of the Sony Corporation Advisory Board, The Longreach Group Advisory Board, and New Venture Partners LLP Advisory Board. He is the Vice President of the British Quality Foundation and Fellow of The Royal Academy of Engineering. He holds an honors degree in engineering from Longhborough University.

Thomas J. Engibous is an independent director. He joined Texas Instruments (“TI”) in 1976 and served there until retirement in 2008. During his 32-year career at TI, his duties included Chairman from 2004 to 2008, Chairman, President and Chief Executive Officer from 1998 to 2004, President and Chief Executive Officer from 1996 to 1998 and Executive Vice President and President of the company’s Semiconductor Group from 1993 to 1996. Mr. Engibous currently serves as the Chairman of J.C. Penney Company Inc., Trustee of the Southwestern Medical Foundation, and a member of the Business Council. He holds a master’s degree in electrical engineering and an honorary doctorate in engineering from Purdue University.

Gregory C. Chow is an independent director. He is currently Professor of Economics and Class of 1913 Professor of Political Economy, Emeritus, and Lecture with the Rank at Princeton University. He is a member of the Taiwan Academia Sinica and the American Philosophical Society, and a fellow of the American Statistical Association and of the Econometric Society. Professor Chow has over 50 years of teaching experience at such institutes as the Sloan School of Management of M.I.T., Cornell University, IBM Thomas Watson Research Center, Columbia University and Princeton University. Professor Chow also served as an adviser on economic policy, economic reform and economic education in Taiwan and China. He holds a Ph.D. and master degree in Economics from Chicago University and an honorary Doctorate of Business Administration from Hong Kong University of Science and Technology. He also holds honorary professorships at various major universities in China and the City University of Hong Kong. His publications include 14 books and over 200 articles.

Kok-Choo Chen is an independent director. She served as our Senior Vice President and General Counsel from 1997 to 2001. Currently, Ms. Chen is an advisor to the Taiwan Executive Yuan and the Taipei City Government. Ms. Chen has over 24 years of experience working in international law firms. She has also taught law at Soochow University, National Chengchi University and National Tsing-Hua University in Taiwan for over 28 years. In addition, Ms. Chen is the founder of two Taiwan heritage site museums (Taipei Story House and Futai Street Mansion), as well as a director of the TSMC Education and Culture Foundation. Ms. Chen is licensed to practice law in England, Singapore and California.

 

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Rick Tsai is a director. He is also the Chairman and Chief Executive Officer of two TSMC subsidiaries, “TSMC Solar Ltd.” and “TSMC Solid State Lighting Ltd.”. Dr. Tsai was TSMC’s President of New Businesses from June 12, 2009 to July 31, 2011, President and Chief Executive Officer from July 2005 to June 11, 2009, President & Chief Operating Officer from August 2001 to June 2005 and Executive Vice President of Worldwide Marketing and Sales from September 2000 to August 2001. Prior to that, he served as our Executive Vice President of Operations. He also served as the President of Vanguard from 1999 to 2000. He joined us in 1989 as Deputy Director of our Fab 2 operations. He holds a Ph.D. in material science from Cornell University.

Shang-yi Chiang is our Executive Vice President and Co-Chief Operating Officer. Dr. Chiang re-joined us as Senior Vice President of Research and Development in September 2009. He was also Chairman of VisEra Technologies Company and Xintec Inc. from August 2006 to July 2010. He was Senior Vice President of Research and Development from November 2000 to August 2006. He joined us as Vice President of Research and Development in 1997. Prior to that, he worked at Hewlett Packard. Dr. Chiang holds a Ph.D. in electrical engineering from Stanford University.

Mark Liu is our Executive Vice President and Co-Chief Operating Officer. Prior to that, he was our Senior Vice President of Operations. From March 2008 to October 2009, he served as Senior Vice President of Advanced Technology Business. From January 2002 to March 2008, he was Senior Vice President of Operations II. He was Vice President of our Fab 8 and Fab 12 Sites Operations from July 2000 to January 2002 and Vice President of South Sites Operations from 1999 to July 2000. Dr. Liu joined us in 1993 and held the positions as Director of Fab 3 Operations and Senior Director of South Sites Operations. He holds a Ph.D. in electrical engineering and computer science from University of California, Berkeley.

C.C. Wei is our Executive Vice President and Co-Chief Operating Officer. Prior to that, he was our Senior Vice President of Business Development. From March 2008 to October 2009, he was Senior Vice President of Mainstream Technology Business. From January 2002 to March 2008, Dr. Wei was Senior Vice President of Operations I. He was Vice President of South Sites Operations from April 2000 to January 2002 and Vice President of North Sites Operations from February 1998 to April 2000. Prior to that, he was Senior Vice President at Chartered Semiconductor Manufacturing Ltd. in Singapore starting from 1993. He holds a Ph.D. in electrical engineering from Yale University.

Stephen T. Tso is our Senior Vice President of Information Technology, Material Management and Risk Management and Chief Information Officer. He joined us as Vice President of Research and Development in December 1996. Prior to that, he was General Manager of Metal CVD Products in Applied Materials. He was assigned as the President of WaferTech in November 2001. Dr. Tso holds a Ph.D. in material science and engineering from University of California, Berkeley.

Richard Thurston is our Senior Vice President and General Counsel. Prior to joining us in January 2002, he was a partner with Kelt Capital Partners, LP, in Addison, Texas, and a senior partner with the Dallas Texas-based law firm of Haynes and Boone. Dr. Thurston was also Vice President and Assistant General Counsel, and the Asia Pacific Regional Counsel for TI from 1984 to 1996. Dr. Thurston holds a Ph.D. in East Asian studies from University of Virginia and a J.D. from Rutgers School of Law.

Lora Ho is our Senior Vice President, Chief Financial Officer and Spokesperson. Prior to joining us in 1999 as controller, she had served as Vice President of Finance and Chief Financial Officer at Acer Semiconductor Manufacturing Inc. since 1990. Ms. Ho holds an MBA from National Taiwan University.

Jason C.S. Chen is our Senior Vice President of Worldwide Sales and Marketing. He joined us as Vice President of Corporate Development in March 2005. Prior to that, he was Vice President and Co-Director of Marketing and Sales group with Intel Corporation. Mr. Chen holds an MBA degree from University of Missouri, Columbia.

 

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M.C. Tzeng is our Vice President of Operations/Affiliate Fabs. From March 2008 to October 2009, he was Vice President of Mainstream Technology Business. Prior to that, he was Vice President of Operations I from January 2002 to March 2008. He was the Senior Director of Fab 2 Operations from 1997 to January 2002. He joined us in 1987 and has held various positions in manufacturing functions. He holds a master degree in applied chemistry from Chung Yuan University.

Wei-Jen Lo is our Vice President of Operations/Manufacturing Technology. He was Vice President of Advanced Technology Business from September 2009 to October 2009, Vice President of Research & Development from June 2006 to September 2009 and Vice President of Operations from July 2004 to June 2006. Prior to that, he was Director in charge of advanced technology development with Intel Corporation. Dr. Lo holds a Ph.D. in solid state physics & surface chemistry from University of California, Berkeley.

Jack Sun is our Chief Technology Officer, effective November 2009, and also has been our Vice President of Research and Development since 2006. He was promoted to Senior Director in 2000. He joined us in 1997 as Director of Advanced Module Technology Division before taking the position of Director, Logic Technology Development Division. Prior to that, he served at International Business Machines for 14 years in Research and Development. Dr. Sun holds a Ph.D. in electrical engineering from University of Illinois at Urbana-Champaign.

Y.P. Chin is Vice President of Operations/Product Development. He was Vice President of Advanced Technology Business from March 2008 to October 2009. Prior to that, he was Senior Director of Operations II from June 2006 to March 2008 and Product Engineering & Services from 2000 to 2006. He joined us in 1987 and has held various positions in product and engineering functions. He holds a master degree in electrical engineering from National Cheng Kung University.

N.S. Tsai has been Vice President of Quality & Reliability since February 2008. Prior to that, he was Senior Director of Quality & Reliability since 2004, Senior Director of Assembly Test Technology & Service from 2002 to 2004. Dr. Tsai also served as a Vice President of Vanguard from 1997 to 2000. He joined us in 1989 and held various positions in R&D and manufacturing functions. He holds a Ph.D. in material science from Massachusetts Institute of Technology.

Rick Cassidy was promoted as Vice President in February 2008. He has been President of TSMC North America since January 2005. He joined us in 1997 and has held various positions in TSMC North America, including Business Operations, Field Technical Support, and Business Management. He holds a B.A. degree in engineering technology from United States Military Academy at West Point.

L.C. Tu has been Vice President of Human Resources since August 2009. Prior to that, he was Senior Director of Corporate Planning Organization from 2002 to 2009. He joined us in 1987 and held various positions in engineering functions. He holds a master degree in business administration from Tulane University.

J.K. Lin is our Vice President of Operations/Mainstream Fabs. He was promoted as Vice President of Operations in August 2010. Prior to that, he was Senior Director of Mainstream Fabs from May to August in 2010. He joined us in 1987 and held various positions in manufacturing functions. He holds a B.S. degree from National Changhua University of Education.

J.K. Wang is our Vice President of Operations/300mm Fabs. He was promoted as Vice President of Operations in August 2010. Prior to that, he was Senior Director of 300mm Fabs from May to August in 2010. He joined us in 1987 and held various positions in manufacturing functions and R&D technology development. He holds a master degree in chemical engineering from National Cheng-Kung University.

Irene Sun is our Vice President of Corporate Planning. She was promoted as Vice President of Corporate Planning in August 2010. Prior to that, she was Senior Director of Corporate Planning from 2009 to 2010. She joined us in 2003 and held various positions in Corporate Planning Organization. She holds a Ph.D. in materials science and engineering from Cornell University.

Burn J. Lin is our Vice President of Research & Development. He was promoted as Vice President of Research & Development in February 2011. Prior to that, he was our Senior Director of Nanopatterning Technology Division from 2000 to 2011. He joined us in 2000. Dr. Lin is the editor in chief of the Journal of Micro/nanolithography, MEMS, and MOEMS, a fellow of IEEE and of SPIE. He holds a Ph.D. in electrical engineering from Ohio State University.

 

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Y. J. Mii is our Vice President of Research and Development. He was promoted as Vice President of Research and Development in August 2011. Prior to that, he was our Senior Director of Platform I Division from 2006 to 2011. He joined TSMC in 1994 and has been involved continuously in the development and manufacturing of advanced CMOS technologies in both Operations and R&D. He holds a Ph.D. in electrical engineering from the University of California, Los Angeles.

Cliff Hou is our Vice President of Design and Technology Platform. He was prompted as Vice President of Design and Technology Platform in August 2011. Prior to that, he was Senior Director of Design and Technology Platform from 2010 to 2011. He joined TSMC in 1997 and established the Company’s technology design kit and reference flow development organizations. He holds a Ph.D. in electrical and computer engineering from Syracuse University.

There is no family relationship between any of our directors or executive officers and any other director or executive officer.

Share Ownership

The following table sets forth certain information as of February 29, 2012 with respect to our common shares owned by our directors and executive officers.

 

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Name of Shareholders

        Number of Common     
Shares Owned(2)
       Percentage of    
Outstanding
Common

Shares(2)
  Number of
Common
Shares
    Underlying    
Stock
Options(3)

Morris Chang, Chairman & CEO

       123,137,914          0.48 %       -    

F.C. Tseng, Vice Chairman

       34,662,675          0.13 %       -    

Johnsee Lee, Director(1)

       1,653,709,980          6.38 %       -    

Stan Shih, Independent Director

       1,480,286          0.01 %       -    

Sir Peter Leahy Bonfield, Independent Director

       -          -         -    

Thomas J. Engibous, Independent Director

       -          -         -    

Gregory C. Chow, Independent Director

       -          -         -    

Kok-Choo Chen, Independent Director

       -          -         -    

Rick Tsai, Director

       33,871,046          0.13 %       -    

Shang-yi Chiang, Executive Vice President & Co-Chief Operating Officer

       2,192,481          0.01 %       -    

Mark Liu, Executive Vice President & Co-Chief Operating Officer

       13,462,114          0.05 %       -    

C.C. Wei, Executive Vice President & Co-Chief Operating Officer

       8,183,325          0.03 %       276,882    

Stephen T. Tso, Senior Vice President & CIO

       14,875,064          0.06 %       -    

Richard Thurston, Senior Vice President & General Counsel

       1,569,892          0.01 %       87,710    

Lora Ho, Senior Vice President, CFO & Spokesperson

       6,381,080          0.02 %       -    

Jason C.S. Chen, Senior Vice President

       2,317,320          0.01 %       -    

M.C. Tzeng, Vice President

       7,618,595          0.03 %       -    

Wei-Jen Lo, Vice President

       2,324,127          0.01 %       -    

Jack Sun, Vice President & CTO

       4,568,831          0.02 %       -    

Y.P. Chin, Vice President

       7,875,122          0.03 %       -    

N.S. Tsai, Vice President

       2,051,180          0.01 %       -    

Rick Cassidy, Vice President

       -          -         570,907    

L.C. Tu, Vice President

       9,371,440          0.04 %       -    

J.K. Lin, Vice President

       12,182,118          0.05 %       218,900    

J.K. Wang, Vice President

       2,553,947          0.01 %       -    

Irene Sun, Vice President

       1,349,709          0.01 %       -    

Burn J. Lin, Vice President

       3,026,746          0.01 %       -    

Y.J. Mii, Vice President

       434,841          0.00 %       -    

Cliff Hou, Vice President

       752,532          0.00 %       -    

 

 

(1) 

Represents shares held by the National Development Fund of the Executive Yuan.

(2) 

Except for the number of shares held by the National Development Fund of the Executive Yuan, the disclosed number of shares owned by the directors and executive officers does not include any common shares held in ADS form by such individuals as such individual ownership of ADSs has not been disclosed to shareholders or otherwise made public and each of these individuals owns less than one percent of all common shares outstanding as of February 29, 2012.

(3) 

The numbers of the common shares underlying the stock options and the exercise prices were adjusted for the cash and stock dividends distributed from 2003 to 2011, according to the terms of the 2002 Employee Stock Option Plan. The options were granted to certain of our officers except Rick Cassidy as a result of their voluntary selection to exchange part of their profit sharing to stock options.

Compensation

The aggregate compensation paid and benefits in kind granted to our directors and executive officers in 2011, which included a cash bonus to the directors, was NT$1,408 million (US$47 million). According to our Articles of Incorporation, not more than 0.3 percent of our annual net earnings (after recovering any losses incurred in prior years and deducting the legal reserve and special reserve provisions, if any) may be distributed as bonuses to our directors and at least one percent of our annual net earnings (after recovering any losses incurred in prior years and deducting the legal reserve and special reserve provisions, if any) is distributed as a bonus to employees, including executive officers. Bonuses to directors are always paid in cash, while bonuses to our executive officers may be granted in cash, stock, or stock options or the combination of all these three. Individual awards are based on each individual’s responsibility, contribution and performance. See note 23 to our consolidated financial statements. Under our Articles of Incorporation, directors who also serve as executive officers are not entitled to any director bonuses.

 

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Board Practices

General

For a discussion of the term of office of the board of directors, see “— Directors and Executive Officers — Management”. No benefits are payable to members of the Board upon termination of their relationship with us.

Audit Committee

Our Audit Committee was established on August 6, 2002 to assist our board of directors in the review and monitoring of our financial and accounting matters, and the integrity of our financial reporting process and controls.

All members of the Audit Committee must have a basic understanding of finance and accounting and at least one member must have accounting or related financial management expertise.

Currently, the Audit Committee consists of five members comprising all of our independent directors. The members of the Audit Committee are Sir Peter Bonfield, the Chairman of our Audit Committee, Mr. Stan Shih, Mr. Thomas J. Engibous, Mr. Gregory C. Chow and Ms. Kok-Choo Chen. In addition, Mr. J. C. Lobbezoo was appointed to serve as financial expert consultant to the Audit Committee from February 14, 2006 onwards. See “Item 16A. Audit Committee Financial Expert”. The Audit Committee is required to meet at least once every quarter. Our Audit Committee charter grants the Audit Committee the authority to conduct any investigation which it deems appropriate to fulfill its responsibilities. It has direct access to all our books, records, facilities, and personnel, as well as our registered public accountants. It has the authority to, among other things, appoint, terminate and approve all fees to be paid to our registered public accountants, subject to the approval of the board of directors as appropriate, and to oversee the work performed by the registered public accountants. The Audit Committee also has the authority to engage special legal, accounting, or other consultants it deems necessary in the performance of its duties. Beginning on January 1, 2007, the Audit Committee also assumed the responsibilities of supervisors pursuant to the R.O.C. Securities and Exchange Law.

The Audit Committee convened four regular meetings in 2011. In addition to these meetings, the Audit Committee members and consultant participated in five telephone conferences to discuss the Company’s Annual Report to be filed with the Taiwan and U.S. authorities and investor conference materials with management.

Compensation Committee

Our board of directors established a Compensation Committee in June 2003 to assist our board of directors in discharging its responsibilities related to our compensation and benefit policies, plans and programs, and the compensation of our directors of the Board and executives.

The Compensation Committee, by its charter, shall consist of no fewer than three independent directors of the Board. Currently, the Compensation Committee is comprised of all five independent directors. The members of the Compensation Committee are Mr. Stan Shih, the Chairman of our Compensation Committee, Sir Peter Bonfield, Mr. Thomas J. Engibous, Mr. Gregory C. Chow and Ms. Kok-Choo Chen.

The Compensation Committee convened four regular meetings in 2011.

 

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Employees

The following table sets out, as of the dates indicated, the number of our full-time employees serving in the capacities indicated.

 

     As of December 31,  

Function

           2009                     2010                      2011(1)          

Managers

     2,792                3,142             3,601          

Professionals

     9,861                12,729             13,665          

Assistant Engineers/Clericals

     761                2,650             2,796          

Technicians

     11,052                14,711             15,395          

Total

     24,466                33,232             35,457          

The following table sets out, as of the dates indicated, a breakdown of the number of our full-time employees by geographic location:

 

     As of December 31,  

Location of Facility and Principal Offices

           2009                     2010                      2011(1)          

Hsinchu Science Park, Taiwan

     16,010                20,703             20,107          

Tainan Science Park, Taiwan

     5,920                9,158             9,041          

Taichung Science Park, Taiwan

     -                29             1,410          

Taoyuan County, Taiwan

     -                -             1,333          

China

     1,270                1,903             2,134          

North America

     1,198                1,355             1,343          

Europe

     36                48             53          

Japan

     29                32             32          

Korea

     3                4             4          

Total

     24,466                33,232             35,457          

 

 

(1) Including employees of our subsidiaries Xintec Inc. and Mutual-Pak Technology Co., Ltd.

As of December 31, 2011, our total employee population was 35,457 with an educational makeup of 3.5 % Ph.Ds, 33.0% masters, 25.9% university bachelors, 13.8% college degrees and 23.8% others. Among this employee population, 48.7% were at a managerial or professional level. Continuous learning is the cornerstone of our employee development strategy. Individual development plans for each employee are customized and tailored to their individual development needs. Employee development is further supported and enforced by a comprehensive and integrated network of resources including on-the-job training, coaching, mentoring, job rotation, on-site courses, e-learning and external learning opportunities.

Pursuant to our Articles of Incorporation, our employees participate in our profits by way of a bonus. Employees in the aggregate are entitled to not less than 1% of our net income after the deduction for prior years’ losses and contributions to legal and special reserves. Our practice in the past has been to determine the amount of the bonus based on our operating results and industry practice in the R.O.C. In 2010 and 2011, we distributed an employees’ cash bonus of NT$ 10,908 million (US$360 million) and an employees’ cash profit sharing of NT$10,908 million (US$360 million) to our employees in relation to year 2010 earnings. In 2011 and 2012, we also distributed an employees’ cash bonus of NT$8,990 million (US$297 million) to our employees in relation to year 2011 earnings.

In June 2002, we adopted the 2002 Employee Stock Option Plan that authorizes the grant of options exercisable for up to 100 million common shares (approximately 0.5% of our total then outstanding common shares). These options vested between two and four years after the date of grant, with 50% of the option granted being exercisable two years after the grant, 75% exercisable three years after the grant and 100% exercisable four years after the grant. Any options granted will expire ten years after the date of grant. Under the 2002 Employee Stock Option Plan, a total of 48,137,264 options were granted, of which 2,726,796 options were originally granted to certain of our officers as a result of their voluntary election to exchange part of their profit sharing for stock options. The remaining balance of options under the 2002 Employee Stock Option Plan expired on June 25, 2003. As of December 31, 2011, 10,584,755 options were outstanding under the 2002 Employee Stock Option Plan.

In September 2003, we adopted the 2003 Employee Stock Option Plan that authorizes the grant of the options exercisable for up to 120 million common shares (approximately 0.6% of our total then outstanding common shares) in one or more tranches before October 29, 2004, when the 2003 Employee Stock Option Plan expired. These options vested between two and four years after the date of grant, with 50% of the options granted being exercisable two years after the grant, 75% exercisable three years after the grant and 100% exercisable four years after the grant. Any options granted will expire ten years after the date of grant. Under the 2003 Employee Stock Option Plan, a total of 12,055,735 options have been granted. The remaining balance under the 2003 Employee Stock Option Plan expired on October 29, 2004. As of December 31, 2011, 1,576,377 options were outstanding under the 2003 Employee Stock Option Plan.

 

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In November 2004, we adopted the 2004 Employee Stock Option Plan that authorizes the grant of options exercisable for up to 11 million common shares (approximately 0.05% of our total then outstanding common shares) in one or more tranches before January 6, 2006, when the 2004 Employee Stock Option Plan expired. These options will vest between two and four years after the date of grant, with 50% of the options granted being exercisable two years after the grant, 75% exercisable three years after the grant and 100% exercisable four years after the grant. Any options granted will expire ten years after the date of grant. Under the 2004 Employee Stock Option Plan, a total of 10,374,550 options have been granted. The remaining balance under the 2004 Employee Stock Option Plan expired on January 6, 2006. As of December 31, 2011, 2,132,422 options were outstanding under the 2004 Employee Stock Option Plan.

The following table provides information with respect to outstanding stock options held by our current officers as of December 31, 2011 under the 2002 Employee Stock Option Plan. The numbers of the common shares underlying the stock options and the exercise prices were adjusted for the cash and stock dividends distributed from 2003 to 2011, according to the terms of the 2002 Employee Stock Option Plan.

 

Outstanding Stock Options under the 2002 Employee Stock Option Plan

Name    Grant Date   

Number of

Common Shares

Underlying

Unexercised

Options

(#)

  

Option Adjusted

Exercise Price

(NT$)

   Expiration Date    

C.C. Wei

   03/07/2003    276,882    20.9    03/06/2013    

Richard Thurston

   03/07/2003    87,710    20.9    03/06/2013    

Rick Cassidy

   06/06/2003    570,907    29.3    06/05/2013    

J.K. Lin

   03/07/2003    218,900    20.9    03/06/2013    

In order to attract qualified senior management, we maintain a sign-on bonus plan, under which selected newly hired senior employees, upon approval by our senior management, receive a hiring bonus with the general condition of staying in our employment for at least one year (based on the quantum of sign-on bonus). In 2011, a total of NT$15 million (US$0.5 million) was distributed to our senior management under our sign-on bonus plan.

We value two-way communication and are committed to keeping our communication channels open and transparent between the management level and their subordinates. In addition, we are dedicated to providing diverse employee engagement programs, which support our goals in reinforcing close rapport with employees and maintaining harmonious labor relations.

 

ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

Major Shareholders

The following table sets forth certain information as of February 29, 2012, with respect to our common shares owned by (i) each person who, according to our records, beneficially owned five percent or more of our common shares and by (ii) all directors and executive officers as a group.

 

Names of Shareholders

    

    Number of Common    

Shares Owned

    

    Percentage of Total    

Outstanding

Common Shares

National Development Fund(1)

     1,653,709,980                   6.4%              

Directors and executive officers as a group(2)

     296,242,385                   1.1%              

 

 

(1) 

Excludes any common shares that may be owned by other funds controlled by the R.O.C. government. The National Development Fund was previously named Development Fund.

 

(2) 

Excludes ownership of the National Development Fund.

 

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As of February 29, 2012 a total of 25,917,753,612 common shares were outstanding. With certain limited exceptions, holders of common shares that are not R.O.C. persons are required to hold their common shares through a brokerage account in the R.O.C. As of February 29, 2012, 5,459,243,328 common shares were registered in the name of a nominee of Citibank, N.A., the depositary under our ADS deposit agreement. Citibank, N.A., has advised us that, as of February 29 2012, 1,091,848,660 ADSs, representing 5,459,243,328 common shares, were held of record by Cede & Co. and 271 other registered shareholders domiciled in and outside of the United States. We have no further information as to common shares held, or beneficially owned, by U.S. persons.

Our major shareholders have the same voting rights as our other shareholders. For a description of the voting rights of our shareholders see “Item 10. Additional Information — Description of Common Shares — Voting Rights”.

We are not aware of any arrangement that may at a subsequent date result in a change of control of us.

Related Party Transactions

Vanguard International Semiconductor Corporation

In 1994, we, the R.O.C. Ministry of Economic Affairs and other investors established Vanguard, then an integrated DRAM manufacturer. Vanguard commenced volume commercial production in 1995 and listed its shares on the GreTai Securities Market in March 1998. In 2004, Vanguard completely terminated its DRAM production and became a pure-play foundry company. As of February 29, 2012, we owned approximately 38.8% of Vanguard.

On April 1, 2004, we entered into an agreement with Vanguard with an initial term of two years. During the term of this agreement, Vanguard is obligated to use its best commercial efforts to manufacture wafers at specified yield rates for us up to a fixed amount of reserved capacity per month, and TSMC is required to use its best commercial efforts to maintain utilization of such reserved capacity within a specified range of wafers per month. Pursuant to its terms, upon expiration of its initial two-year term, this agreement is to be automatically renewed for additional one year periods unless earlier terminated by the parties. This Agreement has been so renewed per its terms. We pay Vanguard at a fixed discount to the actual selling price as mutually agreed between the parties in respect of each purchase order. We also agreed to license Vanguard certain of our process technologies and transfer certain technical know-how and information. TSMC receives from Vanguard certain royalty payments for granting such licenses. In 2009, 2010 and 2011, we had total purchases of NT$3,330 million, NT$4,959 million, and NT$5,598 million, (US$185 million) from Vanguard, representing 2.0%, 2.3% and 2.4% of our total cost of sales, respectively.

Systems on Silicon Manufacturing Company Pte. Ltd. (“SSMC”)

SSMC is a joint venture in Singapore that we established with Philips and EDB Investment Pte. Ltd. to produce integrated circuits by means of advanced submicron manufacturing processes. These integrated circuits are made pursuant to the product design specifications provided primarily by us and Philips under an agreement with Philips, and EDB Investment Pte. Ltd. (the “SSMC Shareholders Agreement”) in March 1999 and, primarily by us and NXP, subsequent to the assignment by Philips of its rights to NXP and NXP’s assumption of Philips’ obligations under the SSMC Shareholders Agreement pursuant to the Assignment and Assumption Agreement effective September 25, 2006. SSMC’s business is limited to manufacturing wafers for us, our subsidiaries, NXP and NXP’s subsidiaries. In November 15, 2006, we and NXP exercised the option rights under the SSMC Shareholders Agreement to purchase all of the SSMC shares owned by EDB Investment Pte. Ltd. As a result, we now own 38.8%, and NXP owns 61.2% of SSMC. While we, together with NXP, have the right to purchase up to 100% of SSMC’s annual capacity, we and NXP are required to purchase, in the aggregate, at least 70% of SSMC’s full capacity; we, alone, are required to purchase up to 28% of the annual installed capacity. As of February 29, 2012, we owned approximately 38.8% of the equity interest in SSMC. See below for a detailed discussion of the contract terms we entered into with SSMC.

 

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We entered into a technology cooperation agreement with SSMC effective March 30, 1999 in which SSMC agreed to base at least a major part of its production activities on processes compatible to those in use in our MOS integrated circuits wafer volume production fabs. In return, we have agreed to provide SSMC with access to and benefit of the technical knowledge and experience relating to certain processes in use in our MOS integrated circuits wafer volume production fabs and to assist SSMC by rendering certain technical services in connection with its production activities. In addition, we granted to SSMC limited licenses of related intellectual property rights owned or controlled by us for the purpose of MOS integrated circuit production for the sole use in manufacturing products for us. SSMC pays to us during, and up to three years after, the term of this agreement a remuneration of a fixed percentage of the net selling price of all products manufactured by SSMC. In 2009, 2010 and 2011, we had total purchases of NT$3,538 million, NT$4,521 million and NT$3,949 million (US$130 million) from SSMC, representing 2.1%, 2.1% and 1.7% of our total cost of sales, respectively.

VisEra Technologies Company, Ltd.

In October 2003, we and OmniVision Technologies, Inc. (“OVT”) entered into a shareholders’ agreement (the “VisEra Agreement”) to form VisEra Technologies Company, Ltd. (“VisEra”), a joint venture in Taiwan, for the purpose of providing back-end manufacturing services. In connection with the formation of VisEra, we and OVT each entered into separate nonexclusive license agreements with VisEra pursuant to which each party licenses certain intellectual property to VisEra relating to the manufacturing services. As of February 29, 2012, we owned a 43.2% equity interest in VisEra Technologies Company Ltd. through VisEra Cayman.

In August 2005, we entered into the first amendment to the VisEra Agreement (the “Amended VisEra Agreement”) with OVT, VisEra, and VisEra Cayman, pursuant to which VisEra became a subsidiary of VisEra Cayman. In accordance with the Amended VisEra Agreement, VisEra purchased color filter processing equipment and related assets from us for an aggregate price equivalent to US$16 million. In January 2007, we signed the second amendment and agreed to an expansion in VisEra’s manufacturing capacity. For the capacity expansion, we and OVT each agreed to make an additional US$27 million investment to VisEra. There were no significant sales to or purchases from VisEra from 2009 to 2011.

Global Unichip Corporation (“GUC”)

In January 2003, we acquired 52.0% equity interest in GUC, a System-on-Chip (SoC) design service company that provides large scale SoC implementation services. GUC has been listed on the Taiwan Stock Exchange since November 3, 2006. Since July 2011, we are no longer deemed to be a controlling entity of GUC and its su