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 ☐
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
Item 16H. Mine Safety Disclosure
Part III
Item 17. Financial Statements
Item 18. Financial Statements
Item 19. Exhibits
Note 1: Unless Stated Otherwise, The Above New Ifrss Are Effective for Annual Periods Beginning on or After Their Respective Effective Dates.
Note 3: The Company Shall Apply These Amendments Prospectively for Annual Reporting Periods Beginning on or After January 1, 2020.
Note 4: The Company Shall Apply These Amendments To Plan Amendments, Curtailments or Settlements Occurring on or After January 1, 2019.
EX-4.2 d665387dex42.htm
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EX-12.1 d665387dex121.htm
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EX-13.1 d665387dex131.htm
EX-13.2 d665387dex132.htm

TSMC Earnings 2018-12-31

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

20-F 1 d665387d20f.htm FORM 20-F FORM 20-F
Table of Contents

 

 

UNITED STATES

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

 

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

For the fiscal year ended December 31, 2018

OR

 

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

OR

 

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

Date of event requiring this shell company report                     

For the transition period from                      to                     

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)

Lora Ho, Senior Vice President & Chief Financial Officer & Spokesperson

Telephone: 886-3-5054602 / Email: invest@tsmc.com

No. 8, Li-Hsin Road 6, Hsinchu Science Park, Hsinchu, Taiwan, Republic of China

(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)

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, 2018, 25,930,380,458 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  ☒    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  

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  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes  ☒    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer      Accelerated Filer      Non-Accelerated Filer       Emerging Growth Company   

If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 13(a) of the Exchange Act.   ☐

†The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.

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  ☐

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  ☐

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  

 

*

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      45  

ITEM 8.

   FINANCIAL INFORMATION      47  

ITEM 9.

   THE OFFER AND LISTING      48  

ITEM 10.

   ADDITIONAL INFORMATION      48  

ITEM 11.

   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS      62  

ITEM 12D.

   DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES      63  
PART II      64  

ITEM 13.

   DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES      64  

ITEM 14.

   MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS      64  

ITEM 15.

   CONTROLS AND PROCEDURES      64  

ITEM 16A.

   AUDIT COMMITTEE FINANCIAL EXPERT      66  

ITEM 16B.

   CODE OF ETHICS      66  

ITEM 16C.

   PRINCIPAL ACCOUNTANT FEES AND SERVICES      66  

ITEM 16D.

   EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES      66  

ITEM 16E.

   PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS      66  

ITEM 16F.

   CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT      66  

ITEM 16G.

   CORPORATE GOVERNANCE      67  

ITEM 16H.

   MINE SAFETY DISCLOSURE      70  
PART III      71  

ITEM 17.

   FINANCIAL STATEMENTS      71  

ITEM 18.

   FINANCIAL STATEMENTS      71  

ITEM 19.

   EXHIBITS      71  

 

EX-4.2 LAND LEASE WITH SOUTHERN TAIWAN SCIENCE PARK ADMINISTRATION

EX-4.37 LAND LEASE WITH SOUTHERN TAIWAN SCIENCE PARK ADMINISTRATION

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

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

 

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

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

EX-101.INS XBRL INSTANCE DOCUMENT

EX-101.SCH XBRL TAXONOMY EXTENSION SCHEMA DOCUMENT

EX-101.CAL XBRL TAXONOMY EXTENSION CALCULATION LINKBASE DOCUMENT

EX-101.DEF XBRL TAXONOMY EXTENSION DEFINITION LINKBASE DOCUMENT

EX-101.LAB XBRL TAXONOMY EXTENSION LABEL LINKBASE DOCUMENT

EX-101.PRE XBRL TAXONOMY EXTENSION PRESENTATION LINKBASE DOCUMENT

“TSMC”, “tsmc”, “Open Innovation Platform”, “CyberShuttle”, and “CoWoS” are some of our registered trademarks used by us in various jurisdictions, including the United States of America. 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,” “could,” “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 electronics industry;

 

   

overcapacity in the semiconductor industry;

 

   

outlook of the major and emerging end markets for our products, such as mobile devices, personal computers, consumer electronics, high-performance computing, automotive electronics and Internet of things (the “IoT”);

 

   

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

 

   

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

 

   

our ability to maintain control over expansion and facility modifications;

 

   

our reliance on certain major customers;

 

   

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;

 

   

fluctuations in foreign currency rates, in particular, any material appreciation of the NT dollar against the U.S. dollar, and our ability to manage such risks;

 

   

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 7-nanometer and more advanced technologies, technological upgrades, investment in research and development, future market demand, future regulatory or other developments in our industry, business expansion plans or new investments as well as business acquisitions and financing plans. 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 consolidated statements of profit or loss and other comprehensive income data and other consolidated financial data for the years ended December 31, 2016, 2017 and 2018, and the selected consolidated statements of financial position data as of December 31, 2017 and 2018, 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, which have been prepared in accordance with International Financial Reporting Standards (IFRS), International Accounting Standards (IAS), IFRIC Interpretations (IFRIC), and SIC Interpretations (SIC) issued by the International Accounting Standards Board (IASB) (collectively, “IFRSs”). The selected consolidated statements of profit or loss and other comprehensive income data and other consolidated financial data for the year ended December 31, 2014 and 2015 and the selected consolidated statements of financial position data as of December 31, 2014, 2015 and 2016 set forth below are derived from our audited consolidated financial statements not included herein.

In addition to preparing financial statements in accordance with IFRSs included in this annual report, we also prepare financial statements in accordance with the IFRSs as adopted for use in Taiwan (“Taiwan-IFRSs”), which we are required to file with the Financial Supervisory Commission (“FSC”) of the Republic of China (“R.O.C.” or “Taiwan”) and Taiwan Stock Exchange (“TWSE”) under the applicable regulations and listing rules of TWSE. The English translation of such financial statements is furnished to the Securities and Exchange Commission (“SEC”) on Form 6-K, which is not incorporated by reference to this or any of our previous annual reports on Form 20-F.

 

     Year ended and as of December 31,  
     2014     2015     2016     2017     2018  
     NT$     NT$     NT$     NT$     NT$     US$  
     (in millions, except for earnings per share and per ADS)  

Consolidated Statements of Profit or Loss and Other Comprehensive Income Data:

 

Net revenue

     762,806       843,497       947,938       977,447       1,031,474       33,697  

Cost of revenue

     (385,113     (433,117     (473,077     (482,616     (533,488     (17,428

Gross profit before realized (unrealized) gross profit on sales to associates

     377,693       410,380       474,861       494,831       497,986       16,269  

Realized (unrealized) gross profit on sales to associates

     29       15       (29     (5     (112     (4

Gross profit

     377,722       410,395       474,832       494,826       497,874       16,265  

Operating expenses

     (80,849     (88,467     (96,904     (107,902     (112,149     (3,664

Other operating income and expenses, net

     (1,002     (1,880     30       (1,365     (2,101     (68

Income from operations

     295,871       320,048       377,958       385,559       383,624       12,533  

Non-operating income and expenses, net

     6,203       30,430       7,964       10,603       13,919       454  

Income before income tax

     302,074       350,478       385,922       396,162       397,543       12,987  

Income tax expense

     (47,890     (47,645     (54,125     (51,123     (34,437     (1,125

Net income

     254,184       302,833       331,797       345,039       363,106       11,862  

Other comprehensive income (loss) for the year, net of income tax

     11,805       (14,714     (11,067     (28,822     9,837       322  

Total comprehensive income for the year

     265,989       288,119       320,730       316,217       372,943       12,184  

Net income attributable to shareholders of the parent

     254,302       302,851       331,714       344,998       363,053       11,861  

Net income (loss) attributable to non-controlling interests

     (118     (18     83       41       53       1  

Total comprehensive income attributable to shareholders of the parent

     266,091       288,145       320,653       316,182       372,887       12,182  

Total comprehensive income (loss) attributable to non-controlling interests

     (102     (26     77       35       56       2  

Basic/Diluted earnings per share

     9.81       11.68       12.79       13.30       14.00       0.46  

Basic/Diluted earnings per ADS equivalent

     49.04       58.40       63.96       66.52       70.01       2.29  

Basic weighted average shares outstanding

     25,929       25,930       25,930       25,930       25,930       25,930  

Diluted weighted average shares outstanding

     25,930       25,930       25,930       25,930       25,930       25,930  

 

2


Table of Contents
     Year ended and as of December 31,  
     2014     2015     2016     2017     2018  
     NT$     NT$     NT$     NT$     NT$     US$  
     (in millions, except for cash dividend per common share)  

Consolidated Statements of Financial Position Data:

            

Current assets

     626,566       746,744       817,729       857,203       951,680       31,090  

Long-term investments(1)

     29,860       34,873       45,995       41,439       29,208       954  

Property, plant and equipment

     818,199       853,470       997,778       1,062,543       1,072,050       35,023  

Intangible assets

     13,531       14,066       14,615       14,175       17,002       555  

Total assets

     1,494,853       1,657,397       1,886,297       1,991,732       2,090,031       68,279  

Current liabilities

     224,785       239,772       348,286       386,890       356,837       11,657  

Guarantee deposits

     25,538       21,565       14,670       7,587       3,353       109  

Long-term bonds payable

     213,674       191,965       153,094       91,800       56,900       1,859  

Net defined benefit liability

     6,568       7,448       8,551       8,851       9,652       315  

Total liabilities

     472,492       462,427       526,451       497,285       428,926       14,012  

Capital stock

     259,297       259,304       259,304       259,304       259,304       8,471  

Equity attributable to shareholders of the parent

     1,022,234       1,194,008       1,359,051       1,493,747       1,660,429       54,245  

Non-controlling interests

     127       962       795       700       676       22  

Cash dividend paid per common share(2)

     3.0       4.5       6.0       7.0       8.0       0.3  
     Year ended and as of December 31,  
     2014     2015     2016     2017     2018  
     NT$     NT$     NT$     NT$     NT$     US$  
     (in millions, except for percentages and operating data)  

Other Consolidated Financial Data:

            

Gross margin

     49.5%       48.7%       50.1%       50.6%       48.3%       48.3%  

Operating margin

     38.8%       37.9%       39.9%       39.4%       37.2%       37.2%  

Net margin

     33.3%       35.9%       35.0%       35.3%       35.2%       35.2%  

Capital expenditures

     288,540       257,517       328,045       330,588       315,582       10,310  

Depreciation and amortization

     200,252       222,506       223,828       260,143       292,546       9,557  

Cash generated by operating activities

     421,524       529,879       539,835       585,318       573,954       18,751  

Cash used in investing activities

     (282,421     (217,246     (395,440     (336,165     (314,269     (10,267

Cash used in financing activities

     (32,328     (116,734     (157,800     (215,697     (245,124     (8,008

Effect of exchange rate changes and others

     8,979       8,341       (8,030     (21,318     9,862       322  

Net increase (decrease) in cash

     115,754       204,240       (21,435     12,138       24,423       798  

Operating Data:

            

Wafer (12-inch equivalent) shipment(3)

     8,263       8,763       9,606       10,449       10,752       10,752  

Billing utilization rate(4)

     97%       93%       92%       91%       87%       87%  

 

(1) 

Data as of December 31, 2014, 2015, 2016 and 2017 included investments accounted for using equity method, noncurrent available-for-sale financial assets, and noncurrent held-to-maturity financial assets. Starting from 2018, upon initial application of IFRS 9 “Financial Instruments” (“IFRS 9”), the category included investments accounted for using equity method, noncurrent financial assets at fair value through other comprehensive income, and noncurrent financial assets at amortized cost. See note 4 to our consolidated financial statements included herein for further information regarding the initial application of IFRS 9.

(2) 

“Cash dividend paid per common share” was approved at our annual shareholders’ meeting. The numbers are rounded to one decimal point.

(3) 

In thousands.

(4) 

“Billing utilization rate” is equal to annual wafer shipment divided by annual capacity. Annual capacity includes wafers committed by Vanguard International Semiconductor Corporation (“VIS”) and Systems on Silicon Manufacturing Company Pte. Ltd. (“SSMC”). Please see “Item 7. Major Shareholders and Related Party Transactions – Related Party Transactions”.

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 were made by the exchange rate as set forth in the statistical release of the Federal Reserve Board. Unless otherwise noted, all translations for the year 2018 were made at the exchange rate as of December 31, 2018, which was NT$30.61 to US$1.00.

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.

 

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Table of Contents

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 (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 political, economic and financial crises negatively affected global business, banking and financial sectors, including the semiconductor industry and markets. Most recently, since 2018, there have been political and trade tensions among a number of the world’s major economies. These types of crises, including the prolonged decrease in economic growth or insolvency of major countries, could cause turmoil in global markets that often result in declines in electronic products sales from which we generate our income through our products and services. For example, there could be 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; customer insolvencies; and counterparty failures negatively impacting our treasury operations. Any future systemic political, economic or financial crisis could cause revenue for the semiconductor industry as a whole to decline dramatically, and if the economic conditions or financial conditions of our customers were to deteriorate, additional accounting related allowances may be required in the future and such additional allowances could reduce our operating income and net income. Further, in times of market instability, sufficient external financing may not be available to us on a timely basis, on commercially reasonable terms to us, or at all. If sufficient external financing is not available when we need such financing to meet our capital requirements, we may be forced to curtail our expansion, modify plans or delay the deployment of new or expanded services until we obtain such financing. Thus, any future global systemic crisis could materially and adversely affect our results of operations.

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

The majority of our principal executive officers and our principal production facilities are located in the R.O.C., and the majority of our net revenue is 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 laws, rules, regulations and the enforcements of such laws, rules and regulations in certain key areas that would have a material impact on our operations, such as intellectual property, antitrust, export control, import restrictions, and trade barriers or disputes, as well as the general political, economic and social conditions, outbreak of war or hostilities, terrorism, security risks, social unrests, protests, strikes, health conditions and possible disruptions in transportation networks, in the various jurisdictions in which we operate, which could result in an adverse effect on our business operations in such jurisdictions and our results of operations as well as the market price and the liquidity of our ADSs and common shares. Any major change in economic, fiscal and/or trade policies in the U.S. from which we derive a substantial portion of our revenue or in another major jurisdiction could severely affect our business, financial condition and results of operations. For example, recent political and trade tensions among major economies have resulted in and could escalate trade barriers, including higher tariffs on certain products and other protectionist measures that could reduce overall consumer demand, increase our manufacturing costs and make our pricing less competitive. If and to the extent certain countries adopt further protectionist measures such as import and export controls, our ability to offer our products and services in some markets may be limited, which may have adverse effects directly and indirectly on our sales.

 

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In addition, any U.S. law or government incentive policy that encourages our U.S. customers to relocate their manufacturing capacity or supply chain to the U.S. or require their respective contractors, subcontractors and relevant agents to do so could impair our ability to sustain our current level of productivity and manufacturing efficiency. Our business model is intertwined with an ecosystem of semiconductor suppliers in the R.O.C. that permits thousands of our engineers and other relevant personnel to commute from one manufacturing site to another for purposes of refining specific designs and manufacturing processes in a timely manner. These advantages permit us to operate our manufacturing fabs efficiently and resolve any technical or commercial difficulties quickly to maintain our competitive edge. If these advantages are impaired or lost, we may be unable to sustain our current ability to supply our customers with goods and services at the current level of cost, quality, quantity and delivery schedule to which our customers have been accustomed.

As another example, the financial markets have viewed certain past developments in relations between the R.O.C. and P.R.C. 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 P.R.C. Our plans, investment applications and/or any relevant regulatory approvals to establish or possibly expand operations in P.R.C. may be delayed, interrupted, suspended or cancelled due to unforeseeable social and political factors in R.O.C. or P.R.C.

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 revenue and earnings.

A vast majority of our revenue is derived from customers who use our services in communication products, computing products, consumer electronics products and industrial/standard products. The demand for our products is significantly affected by the outlook of the major and emerging end markets for our products, such as smartphones, high-performance computing, automotive electronics and the IoT. Any deterioration in or a slowdown in the growth of such end markets resulting in a substantial decrease in the demand for overall global semiconductor foundry services, including our products and services, could adversely affect our revenue. Further, 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 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 revenue, margin and earnings.

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

The electronics industries and semiconductor market are cyclical and subject to significant and often rapid fluctuations in product demand, which could impact our semiconductor foundry business. Variations in order levels from our customers may result in volatility in our revenue and earnings. From time to time, the electronics and semiconductor industries have experienced significant, occasionally prolonged periods of downturns and overcapacity. Because we are, and will continue to be, dependent on the requirements of electronics and semiconductor companies for our services, periods of downturns and overcapacity in the general electronics and semiconductor industries could 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 revenue, margin and earnings will likely suffer during periods of downturns and overcapacity.

 

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If we are unable to remain a technological leader in the semiconductor industry, unable to timely respond to fast-changing semiconductor market dynamics, or unable to maintain our edge in product quality, 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. In addition, our customers have significantly decreased the time in which their products or services are launched into the market. If we are unable to meet these shorter product time-to-market, we risk losing these customers. These factors have also been intensified by the shift of the global technology market to consumer driven products such as mobile devices, and increasing concentration of customers and competition (all further discussed among these risk factors). Also, the uncertainty and instability inherent in advanced technologies also impose challenges for achieving expected product quality and product yield. If we fail to maintain quality, it may result in loss of revenue and additional cost, as well as loss of business or customer trust. For example, in January 2019, we discovered the yield problems in 12- and 16-nanometer wafers caused by a batch of photoresist, which resulted in delayed delivery of products and are expected to have a negative effect on our gross margin and operating margin. We have strengthened inline wafer inspection and tightened control of incoming material to deal with the increasing complexity of leading-edge technologies. If we are unable to innovate new technologies that meet the demands of our customers or overcome the above factors, we may become less competitive and our revenue may decline significantly.

In light of the rise of new foundry service providers worldwide, 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. We compete with other foundry service providers, as well as a number of integrated device manufacturers. Some of these companies may have access to more advanced technologies than us. Other companies may have greater financial and other resources than us, such as the possibility of receiving direct or indirect government subsidy, economic stimulus funds, or other incentives that may be unavailable to us. For example, Chinese companies are expected to be key players for new semiconductor fab development and fab equipment spending through 2020 in part due to various incentives provided by the Chinese government. Furthermore, our competitors may, from time to time, also decide to undertake aggressive pricing initiatives in one or several technology nodes. These competitive activities may decrease our customer base, or our ASP, or both. If we are unable to compete effectively with these new and aggressive competitors on technology, manufacturing capacity, product quality and customer satisfaction, we risk losing customers to these new contenders.

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

We perform long-term market demand forecast for our products and services to manage our overall capacity. Because market conditions are dynamic, our market demand forecast may change significantly at any time. During periods of decreased demand, certain manufacturing lines or tools in some of our manufacturing facilities may be suspended or shut down temporarily. However, if subsequent demand increases rapidly in a short period of time, we may not be able to restore the capacity in a timely manner to take advantage of the upturn.

According to the market demand forecast, we have recently been adding capacity in our 300mm wafer fabs to meet market needs for our products and services. Expansion of our capacity will increase our costs. For example, we will need to purchase additional equipment, hire additional personnel and train personnel to operate the new equipment. If we do not increase our net revenue accordingly, our financial performance may be adversely affected by these increased costs. See “Item 4. Information on The Company — Capacity Management and Technology Upgrade Plans” for a further discussion.

 

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Having one or more large customers that account for a significant percentage of our revenue may render us vulnerable to the loss of or significant curtailment of purchases by such customers that could in turn adversely affect our results of operations. Similarly, the increasing consolidation of our customers may further increase our revenue concentration.

Over the years, our customer profile and the nature of our customers’ business have changed dramatically. While we generate revenue from hundreds of customers worldwide, our ten largest customers in 2016, 2017, and 2018 accounted for approximately 68%, 66%, and 68% of our net revenue in the respective year. Our largest customer in 2016, 2017, and 2018 accounted for 17%, 23% and 22% of our net revenue in the respective year. Our second largest customer in 2016 accounted for 11% of our net revenue. In 2017 and 2018, our second largest customer accounted for less than 10% of our net revenue. A more concentrated customer base will subject our revenue to seasonal demand fluctuations from our large customers, and cause different seasonal patterns of our business. This customer concentration results in part from the changing dynamics of the electronics industry with the structural shift to mobile devices and applications and software that provide the content for such devices. There are only a limited number of customers who are successfully exploiting this new business model paradigm. Also, in order to respond to the new business model paradigm, we have seen the changes of nature in our customers’ business models. For example, there is a growing trend toward the system companies developing their own designs and working directly with semiconductor foundries which makes their products and services more marketable in a changing consumer market. Also, since the global semiconductor industry is becoming increasingly competitive, some of our customers have engaged in industry consolidations in order to remain competitive. Such consolidations have taken the form of mergers and acquisitions. If more of our major customers consolidate, this will further decrease the overall number of our customer pool. The loss of, or significant curtailment of purchases by, one or more of our top customers, including curtailments due to increased competitive pressures, industry 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, or change in our major customers’ business models may adversely affect our results of operations and financial condition.

If our information technology systems or those of our service providers with whom we share our confidential information succumb to cyber attacks by third parties worldwide, our business and operations may be severely interrupted or even be shut down, and our results of operations, financial condition, prospects and reputation may also be materially and adversely affected.

Even though we have established a comprehensive Internet and computing security network, we cannot guarantee that our computing systems which control or maintain vital corporate functions, such as our manufacturing operations and enterprise accounting, would be completely immune to crippling cyber attacks by any third party to gain unauthorized access to our internal network systems, to sabotage our operations and goodwill or otherwise. In the event of a serious cyber attack, our systems may lose important corporate data or our production lines may be shut down pending the resolution of such attack. While we seek to continuously review and assess our cybersecurity policies and procedures to ensure their adequacy and effectiveness, we cannot guarantee that we will not be susceptible to new and emerging risks and attacks in the evolving landscape of cybersecurity threats. These cyber attacks may also attempt to steal our trade secrets and other sensitive information, such as proprietary information of our customers and other stakeholders and personal information of our employees.

Malicious hackers may also try to introduce computer viruses, corrupted software or ransomware into our network systems to disrupt our operations, blackmail us to regain control of our computing systems, or spy on us for sensitive information. These attacks may result in us having to pay damages for our delayed or disrupted orders or incur significant expenses in implementing remedial and improvement measures to enhance our cybersecurity network, and may also expose us to significant legal liabilities arising from or related to legal proceedings or regulatory investigations associated with, among other things, leakage of employee, customer or third party information which we have an obligation to keep confidential.

We may also be attacked by malicious software contained in the equipment we purchase and install. In August 2018, we experienced a computer virus outbreak, which caused the malfunction of a number of our computer systems and fab tools in Taiwan and interrupted the operations of certain equipment. The virus incident was due to a misoperation by our staff when installing a new equipment that contained malicious software unknown to us. Also, our firewall controls did not effectively prevent the software from propagating. While neither data integrity nor confidential information were compromised, the incident caused shipment delays and a loss of NT$2,596 million (US$85 million) classified as the cost of revenue in the third quarter of 2018. Remedial actions have since been taken, such as implementation of an automated system to prevent unprotected tool installation, and strengthening of firewall and network control to prevent computer viruses from spreading among tools and fabs, and enhancements to further improve our protection against malicious software are ongoing. We have additionally budgeted an adequate amount for IT security solution enhancement. However, there can be no assurance that we are no longer subject to malicious software attacks.

 

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In addition, we employ certain third party service providers for us and our affiliates worldwide with whom we need to share highly sensitive and confidential information to enable them to provide the relevant services. Despite that we require the third party service providers to comply with the confidentiality and/or Internet security requirements in our service agreements with them, there is no assurance that each of them will strictly fulfill such obligations, or at all. The on-site network systems of and the off-site cloud computing networks such as servers maintained by such service providers and/or its contractors are also subject to risks associated with cyber attacks. If we or our service providers are not able to timely resolve the respective technical difficulties caused by such cyber attacks, or ensure the integrity and availability of our data (and data belonging to our customers and other third parties) or control of our or our service providers’ computing systems, our commitments to our customers and other stakeholders may be materially impaired and our results of operations, financial condition, prospects and reputation may also be materially and adversely affected as a result.

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 key executives, managers and skilled technical and service personnel.

We rely 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. 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 in a timely manner.

We may be unable to obtain in a timely manner and at a reasonable cost equipment that are 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 from time to time 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. Further, the growing complexities especially in advanced lithographic technologies may delay the timely availability of the equipment and parts needed to exploit time sensitive business opportunities and also increase the market price for such equipment and parts. If we are unable to obtain equipment in a timely manner to fulfill our customers’ demands on technology and production capacity, or at a reasonable cost, our financial condition and results of operations could be negatively impacted.

 

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Our revenue and profitability may decline if we are unable to obtain adequate supplies of raw materials in a timely manner and at commercially 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 and at commercially reasonable prices. In the past, shortages in the supply of some materials, whether by specific vendors or by the semiconductor industry generally, have resulted in occasional industry-wide price adjustments and delivery delays. For example, the increase in silicon wafer prices due to increased demand for such wafers across the industry had a negative impact on our gross margin in 2018. Moreover, major natural disasters, political or economic turmoil occurring within the country of origin of such raw materials may also significantly disrupt the availability of such raw materials or increase their prices. Also, since we procure some of our raw materials from sole-sourced suppliers, there is a risk that our need for such raw materials may not be met or that back-up supplies may not be readily available. In addition, recent trade tensions could result in increased prices or even unavailability of raw materials due to tariffs, sanctions or other non-tariff barriers. 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.

Any inability to obtain, preserve, enforce, defend and protect our technologies, intellectual property rights and third-party licenses could harm our competitive position.

Our ability to compete successfully and to achieve future growth depends 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, software, trade secrets or know-how. Also, we cannot assure you that, as our business or business models expand into new areas, we will be able to develop independently the technologies, patents, software, trade secrets 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 on, to a certain degree, 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, our manufacturing processes, or the design IPs of the semiconductors made by us or the use of those semiconductors by our customers may infringe their patents or other intellectual property rights. Because of the nature of the industry, we may continue to receive such communications in the future. These assertions have at times resulted in litigation. Recently, there has been a notable increase within the industry in the number of assertions made and lawsuits initiated by certain litigious, non-practicing entities and these litigious, non-practicing entities are also becoming more aggressive in their monetary demands and requests for court-issued injunctions. Such lawsuits or assertions may increase our cost of doing business and may potentially be extremely disruptive if these non-practicing entities succeed in blocking the trade of products and services offered by us. See “Item 8. Financial Information — Legal Proceedings” for a further discussion. Also, as we expanded our manufacturing operations into certain non-R.O.C jurisdictions, we have faced increasing challenges to manage risks of intellectual property misappropriation. Despite our efforts to adopt robust measures to mitigate the risk of intellectual property misappropriation in such new jurisdictions, we cannot guarantee that the protection measures we adopted will be sufficient to prevent us from potential infringements by others, or at all.

If we fail to obtain or maintain certain technologies or intellectual property licenses or fail to prevent our intellectual property from being misappropriated and, if litigation relating to alleged intellectual property matters occurs, it could: (i) prevent us from manufacturing particular products or selling particular services or applying particular technologies; and (ii) reduce our ability to compete effectively against entities benefiting from our misappropriated intellectual property, which could reduce our opportunities to generate revenue.

 

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Our operational results could also be materially and adversely affected by catastrophic events, such as earthquakes, in the locations in which we, our customers or our suppliers operate or by industrial accidents, fires or explosions.

The frequency and severity of catastrophic events, including natural disasters and severe weather has been increasing, in part due to climate change or systemic regional geological changes that manifest in damaging earthquakes. We have manufacturing and other operations in locations subject to natural disasters, such as flooding, earthquakes, tsunamis, typhoons, and droughts that may cause interruptions or shortages in the supply of utilities, such as water and electricity, that could disrupt operations. 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 that may cause shortages in electricity and water or interruptions to our operations.

Thus, if one or more natural disasters that result in a prolonged disruption to our operations or those of our customers or suppliers, or if any of our fabs or vendor facilities were to be damaged or cease operations as a result of an explosion or fire, it could reduce our manufacturing capacity and may cause us to lose important customers, thereby having a potentially adverse and material impact on our operational and financial performance.

Our operation may be interrupted, and our expansion may be limited, by power or utility shortage.

We have occasionally suffered power outages or surges 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 operations. Such shortages or interruptions in our electricity supply could further be exacerbated by changes in the energy policy of the government which will make Taiwan a nuclear-free country by 2025. If we are unable to secure reliable and uninterrupted supply of electricity to power our manufacturing fabs within Taiwan, our ability to satisfy the orders of our customers will be severely undercut.

Future expansions of our operations in the R.O.C. could be limited by shortages in water and electricity, and the limited availability of commercial-use land.

Adverse fluctuations in exchange rates could decrease our operating margin and/or revenue.

More than 90% of our sales are denominated in U.S. dollar and over one-half of our capital expenditures are denominated in currencies other than NT dollar, primarily in U.S. dollar, Japanese yen and Euro. Because our functional currency is denominated in NT dollar, any significant fluctuation to our disadvantage in such exchange rates would have an adverse effect on our financial condition. For example, every 1% depreciation of the U.S. dollar against the NT dollar would result in approximately 0.4 percentage point decrease in our operating margin based on our 2018 results.

Conversely, if the U.S. dollar appreciates significantly versus other major currencies, the demand for the products and services of our customers and for our goods and services will likely decrease, which will negatively affect our revenue. Please see “Item 11. Quantitative and Qualitative Disclosures About Market Risk” for a further discussion.

Our failure to comply with applicable laws and regulations material to our operations such as export control, environmental and climate related laws and regulations, or the inability to timely obtain requisite approvals necessary for the conduct of our business, such as fab land and construction approvals, could harm our business and operational results or subject us to potential significant legal liability.

Because we engage in manufacturing activities in multiple jurisdictions and conduct business with our customers located worldwide, such activities are subject to a myriad of governmental regulations. For example, the manufacturing, assembling and testing of our products require the use of metals, chemicals, and materials that are subject to environmental, climate-related, health and safety, and humanitarian conflict-free sourcing laws, regulations and guidelines issued worldwide. Our failure to comply with any such laws or regulations, as amended from time to time, and our failure to comply with any information and document sharing requests from the relevant authorities in a timely manner could result in:

 

   

significant penalties and legal liabilities, such as the denial of import permits or third party private lawsuits, criminal or administrative proceedings;

 

   

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

 

   

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

 

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challenges from our customers that place us at a significant competitive disadvantage, such as loss of actual or potential sales contracts in case we are unable to satisfy the applicable legal standard or customer requirement;

 

   

restrictions on our operations or sales;

 

   

loss of tax benefits, including termination of current tax incentives, disqualification of tax credit application and repayment of the tax benefits that we are not entitled to; and

 

   

damages to our goodwill and reputation.

Complying with applicable laws and regulations, such as environmental and climate related laws and regulations, could also require us, among other things, to do the following: (a) purchase, use or install remedial equipment; (b) implement remedial programs such as climate change mitigation programs; (c) modify our product designs and manufacturing processes, or incur other significant expenses such as obtaining substitute raw materials or chemicals that may cost more or be less available for our operations.

Our inability to timely obtain approvals necessary for the conduct of our business could impair our operational and financial results. For example, if we are unable to timely obtain environmental related approvals needed to undertake the development and construction of a new fab or expansion project, then such inability may delay, limit, or increase the cost of our expansion plans that could also in turn adversely affect our business and operational results. In light of increased public interest in environmental issues, our operations and expansion plans may be adversely affected or delayed responding to public concern and social environmental pressures even if we comply with all applicable laws and regulations.

For further details, please see our compliance record with Taiwan and international environmental and climate related laws and regulations as well as our business continuity management of climate change policy in “Item 4. Information on The Company — Environmental and Climate Related Laws and Regulations”.

Any adverse results of our pending antitrust proceeding or other similar proceedings that we may be subject to could harm our business and operational results or subject us to potential significant legal liability.

We are subject to antitrust laws and regulations in multiple jurisdictions, and from time to time receive related inquiries from enforcement agencies. For example, on September 28, 2017, we were contacted by the European Commission, which has asked us for information and documents concerning alleged anti-competitive practices in relation to semiconductor sales. We are cooperating with the European Commission to provide the requested information and documents. In light of the fact that this proceeding is still in its preliminary stage, it is premature to predict how the case will proceed, the outcome of the proceeding or its impact. Any adverse results of such proceeding or other similar proceedings that may arise in other jurisdictions could harm our business and distract our management, and thereby have a material adverse effect on our results of operations or prospects, and subject us to potential significant legal liability.

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

Under IFRSs, we are required to evaluate our investments in debt securities, investments accounted for using equity method, tangible assets and intangible assets for impairment whenever triggering events or changes in circumstances indicate that the asset may be impaired. If certain criteria are met, we are required to record an impairment charge. We are also required under IFRSs 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 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 the projected results of operations over several years subsequent to that time. Consequently, 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 Reviews and Prospects — Critical Accounting Policies and Judgments” for a discussion of how we assess if an impairment charge is required and, if so, how the amount is determined.

 

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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. But 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. If we fail to maintain the adequacy of our internal controls, 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.

Any amendments to existing tax regulations or the implementation of any new tax laws in the R.O.C., the United States or other jurisdictions in which we operate our business may have an adverse effect on our net income.

While we are subject to tax laws and regulations in various jurisdictions in which we operate or conduct business, our principal operations are in the R.O.C. and we are exposed primarily to taxes levied by the R.O.C. government. Any unfavorable changes of tax laws and regulations in this jurisdiction could increase our effective tax rate and have an adverse effect on our operating results. See “Item 5. Operating and Financial Reviews and Prospects — Taxation” for further discussion of significant tax regulation changes.

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

The global economy is becoming more vulnerable to sudden unexpected fluctuations in inflationary and deflationary expectations and conditions. Expectations of high inflation or deflation each adversely affects the economy, at both macro and micro levels, by reducing economic efficiency and disrupting investment decisions. Recently, higher interest rates in the U.S., international trade tensions, and the possible changes in economic, fiscal and monetary policies in major economies have exacerbated, and may further exacerbate, fluctuations in inflationary or deflationary expectations. Such volatility may 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 economy. Therefore, the demand for our products and services could unexpectedly fluctuate severely in accordance with expectations of inflation or deflation as affected by market volatility. Please see “Item 5. Operating and Financial Reviews 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.

 

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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. Accordingly, holders of ADSs may be unable to participate in our rights offerings and may experience dilution of their holdings as a result.

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 or fluctuations in foreign exchange.

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 6.38% of TSMC’s outstanding shares as of February 28, 2019, had from time to time in the past sold our shares in the form of ADSs in several transactions.

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 sales, 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. 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 the U.S. dollar value of any cash dividends paid in NT dollars on our common shares represented by ADSs.

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

The Taiwan Stock Exchange has experienced 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 had 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 had in the past purchased, and may from time to time purchase, shares of Taiwan companies on the Taiwan Stock Exchange or other markets. These funds had disposed and may from time to time dispose shares of Taiwan companies so purchased at a later time. In the future, market activity by government entities, or the perception that such activity is taking place, may take place or cease, may cause fluctuations in the market prices of our ADSs and common shares.

 

ITEM 4.

INFORMATION ON THE COMPANY

Our History and Structure

Our legal and commercial name is 台灣積體電路製造股份有限公司 (Taiwan Semiconductor Manufacturing Company Limited). 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 and other private investors and were incorporated in the R.O.C. as a company limited by shares 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 is not incorporated herein by reference and does not constitute part of this annual report.

 

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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 complementary metal oxide silicon (“CMOS”) logic, mixed-signal, radio frequency (“RF”), embedded memory, bipolar complementary metal oxide silicon (“BiCMOS”, which uses CMOS transistors in conjunction with bipolar junction transistor) mixed-signal and other semiconductors. We estimate that our revenue market segment share among total foundries worldwide was 56% in 2018. We also offer design, mask making, bumping, advanced packaging, and testing services.

We believe that our large capacity, particularly for advanced technologies, is a major competitive advantage. Please see “— Semiconductor 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 companies, system companies to integrated device manufacturers, including, but not limited to, Advanced Micro Devices, Inc., Broadcom Limited, Hisilicon Technologies Co., Ltd., Intel Corporation, Marvell Technology Group Ltd., MediaTek Inc., NVIDIA Corporation, NXP Semiconductors N.V., Qualcomm Inc., Sony Corporation and Texas Instruments Inc.

Growth Opportunities

In light of the rapid growth in four major markets, namely mobile, high-performance computing, automotive electronics, and IoT, and the fact that focus of customer demand is shifting from process-technology-centric to product-application-centric, we have constructed four different technology platforms to provide customers with the most comprehensive and competitive logic process technologies, specialty technologies, intellectual properties, and packaging and testing technologies to shorten customers’ time-to-design and time-to-market.

Mobile platform: We offer leading process technologies such as 5-nanometer Fin Field-Effect Transistor (“FinFET”), 7-nanometer FinFET Plus, 7-nanometer FinFET, 10-nanometer FinFET, 16-nanometer FinFET Plus (“16FF+”) technology, and 20-nanometer system-on-chip (“SoC”) logic process technologies, as well as comprehensive intellectual properties for premium product applications to further enhance chip performance, reduce power consumption, and decrease chip size. For low-end to high-end product applications, we offer leading process technologies such as 12-nanometer FinFET compact technology (“12FFC”), 16-nanometer FinFET compact technology (“16FFC”), 28-nanometer high performance compact (“HPC”), 28-nanometer high performance mobile compact plus (“28HPC+”), and 22-nanometer ultra-low power (“22ULP”) logic process technologies, in addition to comprehensive intellectual properties, to satisfy customer needs for high-performance and low-power chips. Furthermore, for premium, high-end, mid-end, and low-end product applications, we also offer the most competitive, leading-edge specialty technologies, including RF, embedded flash memory, emerging memory technologies, power management, sensors, and display chips as well as advanced packaging technologies such as the leading integrated fan-out (“InFO”) technology.

High-performance computing platform: We provide customers with leading process technologies such as 5-nanometer FinFET, 7-nanometer FinFET Plus, 7-nanometer FinFET and 16-nanometer FinFET (“16FF”), as well as comprehensive intellectual properties, including high-speed interconnect intellectual properties, to meet customers’ high-performance computing and communication requirements. We also offer multiple advanced packaging technologies such as chip on wafer on substrate (“CoWoS®”), InFO, and three-dimensional integrated circuits technologies to enable homogeneous and heterogeneous chip integration to meet customers’ performance, power, and system footprint requirements. We will continue to optimize our high-performance computing platform offerings to help customers capture market growth driven by data explosion and application innovation.

Automotive electronics platform: We offer industry’s leading automotive technology to support the three megatrends — safety, connectivity and green — in the automotive industry. We also provide a robust automotive IP ecosystem, which covers 16-nanometer FinFET first and extends to 7-nanometer FinFET, for advanced driver-assistance systems (ADAS), the most computation-demanding system in the automotive industry. In addition to the advanced logic technology platform, we offer broad and competitive specialty technologies, including 40-nanometer embedded flash memory, 28-nanometer and 22-nanometer millimeter wave RF, high sensitivity CMOS Image/Lidar sensors, and power management IC technologies. All these automotive technologies are applied to our automotive process qualification standards based on AEC-Q100 standards.

 

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Internet of things (“IoT”) platform: We provide industry’s leading and comprehensive ultra-low power (“ULP”) technology platform to support innovations for IoT and wearable applications. Our industry-leading offerings, including 55-nanometer ULP, 40-nanometer ULP, 28-nanometer ULP, 22-nanometer ULP/ultra-low leakage (“ULL”), have been widely adopted by various IoT and wearable applications. We also extend our low Vdd (low operating voltage) offerings for extreme low-power applications. To support the ever-increasing demand in IoT edge computing and wireless connectivity, we also offer the most competitive and comprehensive leading-edge specialty technologies in RF, embedded flash memory, emerging memory, sensors, and display chips, as well as multiple advanced packaging technologies including leading InFO technology.

Our Semiconductor Facilities

We currently operate one 150mm wafer fab, six 200mm wafer fabs, four 300mm wafer fabs, and four advanced backend fabs. Our corporate headquarters and seven of our fabs are located in the Hsinchu Science Park, two fabs are located in the Central Taiwan Science Park, three fabs are located in the Southern Taiwan Science Park, one fab is located in the United States, one fab is located in Shanghai, and one fab is located in Nanjing. Our corporate headquarters and our seven fabs in Hsinchu occupy parcels of land of a total of approximately 627,111 square meters. We have leased these parcels from the Hsinchu Science Park Administration in Hsinchu under agreements that will be up for renewal between May 2019 and March 2037. We have leased from the Central Taiwan Science Park Administration a parcel of land of approximately 564,619 square meters for our Taichung fabs under agreements that will be up for renewal between September 2029 and December 2034. We have leased from the Southern Taiwan Science Park Administration approximately 1,219,885 square meters of land for our fabs in the Southern Taiwan Science Park under agreements that will be up for renewal between October 2019 and November 2038. We also own approximately 143,215 square meters of land located in Miaoli, Taiwan. WaferTech, LLC (“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 369,087 square meters of land in Shanghai, where Fab 10 and related offices are located. TSMC Nanjing owns the land use rights of 453,401 square meters of land in Nanjing, where Fab 16 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.

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 revenue of advanced semiconductors with a resolution of 28-nanometer and below, and are one of the leaders in the semiconductor manufacturing industry generally. In 2018, we successfully commenced volume production of 7-nanometer technology, transferred from R&D to manufacturing of 7-nanometer Plus technology, which is an enhanced version of 7-nanometer, and continued full development of 5-nanometer technology, which is on track for risk production in 2019.

The following table lists our fabs and those of our subsidiaries in operation as of February 28, 2019, together with the year of commencement of commercial production, wafer size and the most advanced technology for volume production:

 

Fab(1)

   Year of
commencement
of commercial
production
   Wafer size    The most advanced technology for volume production(2)

 2

   1990    6-inch    450

 3

   1995    8-inch    150

 5

   1997    8-inch    150

 6

   2000    8-inch    110

 8

   1998    8-inch    110

 10

   2004    8-inch    150

 

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Fab(1)

   Year of
commencement
of commercial
production
   Wafer size    The most advanced technology for volume production(2)

 11

   1998    8-inch    150

 12

   2001    12-inch        7

 14

   2004    12-inch      16

 15

   2012    12-inch        7

 16

   2018    12-inch      16

 

(1) 

Fabs 2, 3, 5, 8 and Fab 12 are located in Hsinchu Science Park. Fab 6 and Fab 14 are located in the Southern Taiwan Science Park. Fab 15 is located in Central Taiwan Science Park. Fab 11 is located in the Washington State, United States. Fab 10 is located in Shanghai, China and Fab 16 is located in Nanjing, China.

(2) 

In nanometers, as of 2018 year-end.

In 2018, our annual capacity (in 12-inch equivalent wafers) was approximately 12 million wafers, compared to approximately 11 million wafers in 2017. This increase was primarily from the expansion of our 7-nanometer advanced technology.

Capacity Management and Technology Upgrade Plans

We manage our overall capacity and technology upgrade plans based on long term market demand forecast for our products and services. According to our current market demand forecast, we intend to maintain the strategy of expanding manufacturing capacity and upgrading manufacturing technologies to meet both the fabrication and the technology needs of our customers.

Our capital expenditures in 2016, 2017 and 2018 were NT$328,045 million, NT$330,588 million, and NT$315,582 million (US$10,463 million, translated from a weighted average exchange rate of NT$30.16 to US$1.00), respectively. Our capital expenditures in 2019 are expected to be between US$10 billion to US$11 billion, which, depending on market conditions, may be adjusted later. Our capital expenditures for 2016, 2017 and 2018 were funded by operating cash flow. Our capital expenditures for 2019 are expected to be funded primarily by our operating cash flow. In 2019, we anticipate our capital expenditures to focus primarily on the following:

 

   

installing and expanding capacity, mainly for 7-nanometer and 5-nanometer nodes;

 

   

expanding capacity for advanced packaging and mask operations;

 

   

expanding buildings/facilities for Fab 15 in Central Taiwan Science Park and establishing Fab 18 in Southern Taiwan Science Park; and

 

   

research and development projects for new process technologies.

These investment plans are preliminary and may change according to market conditions.

Markets and Customers

We categorize our net revenue mainly based on the countries where our customers are headquartered, which may be different from the countries to which we actually sell or ship our products or different from where products are actually ordered. Under this approach, the following table presents a geographic breakdown of our net revenue during the last three years:

 

     Year ended December 31,  
     2016      2017      2018  

Geography

   Net Revenue(3)      Percentage      Net Revenue(3)      Percentage      Net Revenue(3)      Percentage  
     (NT$ in millions, except percentages)  

North America

     628,489        66.3%        638,895        65.3%        637,051        61.8%  

China

     82,634        8.7%        110,201        11.3%        175,794        17.0%  

Asia Pacific(1)

     134,330        14.2%        98,676        10.1%        89,434        8.7%  

EMEA(2)

     58,112        6.1%        69,047        7.1%        71,069        6.9%  

Japan

     44,373        4.7%        60,628        6.2%        58,126        5.6%  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

     947,938        100.0%        977,447        100.0%        1,031,474        100.0%  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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(1)

China and Japan are excluded from Asia Pacific.

(2)

EMEA stands for Europe, Middle East, and Africa.

(3)

Commencing in 2018, we began to break down our net revenue by geography based on a new method which associates most estimated sales returns and allowances with individual sales transactions, as opposed to the previous method which allocated sales returns and allowances based on gross revenue. We believe the new method provides a more relevant breakdown than the previous one. On a comparable basis, the classifications of 2016 and 2017 have been revised accordingly.

In 2018, our net revenue increased by NT$54,027 million from 2017, which was mainly due to an increase in orders from China of NT$65,593 million, or a 60% year-over-year increase, and from EMEA of NT$2,022 million, or a 3% year-over-year increase. The increase was partially offset by a decrease in orders from Asia Pacific of NT$9,242 million, or a 9% year-over-year decrease and from Japan of NT$2,502 million, or a 4% year-over-year decrease. In 2017, our net revenue increased by NT$29,509 million from 2016, which was mainly due to an increase in orders from China of NT$27,567 million, or a 33% year-over-year increase, from Japan of NT$16,255 million, or a 37% year-over-year increase, and from EMEA of NT$10,935 million, or a 19% year-over-year increase. The increase was partially offset by a decrease in orders from Asia Pacific of NT$35,654 million, or a 27% year-over-year decrease.

We provide worldwide customer support. Our office in Hsinchu and wholly-owned subsidiaries in the United States, Canada, Japan, China, the Netherlands and South Korea 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.

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 would engage in discussions with customers regarding their expected manufacturing requirements in advance of the placement of purchase orders.

Some of our customers have entered into arrangements with us to ensure that they have access to specified capacity. These arrangements are mostly in the form of deposit agreements, and advanced cash deposits are made by customers for specified capacity at our fabs. Deposits are generally refunded when the terms and conditions set forth in the deposit agreements are satisfied and shipments have been made. As of December 31, 2018, we held approximately US$302 million of deposit from customers to reserve future capacity. See note 24 to our consolidated financial statements for further information.

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 following processes cover assembly, packaging, and testing of the semiconductor devices. 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 CMOS and the 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, mixed-signal/radio frequency 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.

 

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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 thousands 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. Our semiconductors are used for a variety of different applications. The principle applications include: communication, computer, consumer, and industrial/standard applications.

Communication. Semiconductors for communication applications are primarily used in mobile devices (including smartphone), wireless infrastructure and wireline infrastructure. Communication semiconductor products include, among others, baseband processor, application processor, radio-frequency IC, image sensor, small panel driver, fingerprint sensor, connectivity IC, network processor and ethernet switch.

Computer. Semiconductors for computer applications are mainly used in personal computers and servers. Computer semiconductor products include, among others, central processing unit (CPU), graphic processing unit (GPU), hard disk drive controller and application specific integrated circuits (“ASICs”) for machine learning, blockchain, and cryptocurrency mining.

Consumer. Semiconductors for consumer applications are used in various consumer electronics, such as digital televisions, set-top-box, digital cameras and game consoles. Consumer semiconductor products include, among others, application specific standard product (ASSP) for digital televisions, set-top-box, digital cameras, and game consoles.

Industrial/standard. Semiconductors for industrial/standard applications are used in a wide range of end systems. Industrial/standard semiconductor products include, among others, micro controller unit (MCU), power management IC, data converter, programmable logic device (PLD) and flash controller.

The following table presents a breakdown of our net revenue by application type during the last three years:

 

     Year ended December 31,  
     2016      2017      2018  

Application Type

   Net Revenue(1)      Percentage      Net Revenue(1)      Percentage      Net Revenue(1)      Percentage  
     (NT$ in millions, except percentages)  

Communication

     585,205        61.7%        570,483        58.4%        578,924        56.1%  

Computer

     72,757        7.7%        90,096        9.2%        144,614        14.0%  

Consumer

     91,243        9.6%        89,348        9.1%        73,783        7.2%  

Industrial/Standard

     198,733        21.0%        227,520        23.3%        234,153        22.7%  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

     947,938        100.0%        977,447        100.0%        1,031,474        100.0%  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1)

Commencing in 2018, we began to break down our net revenue by application type based on a new method which associates most estimated sales returns and allowances with the individual sales transactions, as opposed to the previous method which allocated sales returns and allowances based on gross wafer revenue. We believe the new method provides a more relevant breakdown than the previous one. On a comparable basis, the classifications of 2016 and 2017 have been revised accordingly.

In terms of the products made for different applications, the increase in our net revenue from 2017 to 2018 mainly came from products for computer applications of NT$54,518 million, or a 61% year-over-year increase, primarily driven by cryptocurrency mining. However, we expect the demand of cryptocurrency mining to slow down significantly in 2019 compared to 2018. The increase in our net revenue from 2016 to 2017 mainly came from products for industrial/standard applications of NT$28,787 million, or a 14% year-over-year increase, and from products for computer applications of NT$17,339 million, or a 24% year-over-year increase.

 

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Design and Technology Platforms. Modern integrated circuit designers need sophisticated design infrastructure to optimize productivity and cycle time. Such infrastructure includes design flow for electronic design automation (“EDA”), silicon proven building blocks such as libraries and intellectual properties, simulation and verification design kits such as process design kit (“PDK”) and technology files. All of this infrastructure is 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, we and our alliance partners have spent considerable effort, time and resources to build our technology platforms. We unveiled an Open Innovation Platform® (“OIP”) initiative in 2008 to further enhance our technologies offerings. More OIP deliverables were introduced over the years, as well as in 2018. In the design methodology area, we announced EDA and IP readiness of 5-nanometer, 7-nanometer, 7-nanometer Plus as well as the availability of various 3-Dimensional Integrated Circuit reference flows covering a wide range of applications.

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 intellectual property partners using our broad selection of process technologies, ranging from the latest 7-, 12-, 16-, 22-, 28-, 40-, 45-, 55-, 65- and 90-nanometer processes to 0.13-, 0.18-, 0.25-, 0.35- and 0.5-micron. This extension offers a routinely scheduled multi-project wafer run to customers on a shared-cost basis for prototyping and verification.

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 intellectual properties 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 dedication 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 products of consistent quality, competitive ramp-up speed and fast yield improvement;

 

   

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

 

   

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 our online service which provides 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 are adequately understood and addressed. Continuous improvement plans based upon customer feedback are an integral part of this business process. We use data derived from the survey as a base to identify future focus areas. We believe that satisfaction leads to better customer relationships, which would result in more business opportunities.

 

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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$71,208 million, NT$80,733 million and NT$85,895 million (US$2,806 million) in 2016, 2017 and 2018, respectively, on research and development, which represented 7.5%, 8.2% and 8.3% of our net revenue, respectively. We plan to continue to invest significant amounts on research and development in 2019, 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 28-, 20-, 16-, 10- and 7-nanometer 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 5- and 3-nanometer and below in the coming years to maintain our technology leadership. We will also continue to invest in research and development for our mature 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 wafer level system integration solutions, including Integrated Fan-Out (“InFO”) and Chip-on-Wafer-on-Substrate (“CoWoS®”) technologies. Fab-related research and development activities mostly focus on upgrading the manufacturing process technologies.

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 research and development consortia.

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

Competition

We compete internationally and domestically with other foundry service providers, as well as with a number of integrated device manufacturers. We compete primarily on process technologies, manufacturing excellence, customer trust and service quality, such as earlier technology readiness, better quality, faster yield improvement and shorter cycle time. The level of competition varies with the process technologies involved. For example, in more mature technologies, competitors tend to be numerous and offer specialized processes. Some companies compete with us in selected geographic regions or niche application markets. In recent years, substantial investments have been made by others to establish new foundry capacities worldwide, or to transform certain manufacturing operations of integrated device manufacturers into foundry capacities.

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. We have periodic meetings with important suppliers with respect to co-developing next-generation equipment.

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, chemical vapor deposition (CVD) equipment, chemical mechanism polish (CMP) 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.

 

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Table of Contents

Raw Materials

Our manufacturing processes use many raw materials, primarily silicon wafers, chemicals, gases and various types of precious metals. Raw materials costs constituted 10.6%, 12.0%, and 12.4% of our net revenue in 2016, 2017 and 2018, respectively. 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 whenever possible 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 Formosa SUMCO Technology Corporation of Taiwan, GlobalWafers of Taiwan, Shin-Etsu Handotai of Japan, Siltronic AG of Germany, and SUMCO Corporation of Japan. Together they supplied approximately 94.7%, 92.9%, and 91.7% of our total wafer needs in 2016, 2017 and 2018, respectively. The increase in silicon wafer prices due to increased demand for such wafers across the industry had a negative impact on our gross margin in 2018. We have in the past obtained, and believe we will continue to be able to obtain, a sufficient supply of wafers. 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 future years. Also, we actively address supply chain issues and bring together fab operations, materials management, quality system and risk management teams to mitigate potential supply chain risks and enhance supply chain agility. This taskforce works with our primary suppliers to review their business continuity plans, qualify their dual-plant materials, prepare safety inventories, improve the quality of their products and manage the supply chain risks of their suppliers. Please see “Item 3. Key Information — Risk Factors — Risks Relating to Our Business” for a discussion of the risk related to raw materials, including the fluctuation of prices of our main raw materials.

Environmental and Climate Related Laws and Regulations

The semiconductor production process generates gaseous chemical wastes, greenhouse gases (“GHG”), 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 and liquid chemical wastes and wastewater, equipment for GHG emission reduction and equipment for the recycling of used chemicals and treated water. Operations at our fabs are subject to regulations and periodic monitoring by the R.O.C. Environmental Protection Administration, the U.S. Environmental Protection Agency and the State Environmental Protection Administration of China, and local environmental protection authorities in Taiwan, the U.S. and China.

We have adopted pollution control and GHG emission reduction measures to ensure compliance with environmental protection and climate related standards consistent with the practice of the semiconductor industry in Taiwan, the U.S. and China. We conduct environmental audits at least once annually to ensure that we are in compliance in all material respects with applicable environmental and climate related laws and regulations. An environmental, safety and health (“ESH”) team operates at the corporate level that is responsible for policy establishment and enforcement, coordination with ESH teams located at each manufacturing facility and for coordination and interaction with government agencies worldwide.

Electricity and Water

We use electricity supplied by the Taiwan Power Company in our manufacturing process in Taiwan. We have occasionally suffered power outages or surges caused by difficulties encountered by the Taiwan Power Company, which have led to interruptions in our production schedule. The semiconductor manufacturing process uses extensive amounts of electricity and fresh water. Due to changes in the energy policy of the government, the growth of manufacturers in the Hsinchu Science Park, Southern Taiwan 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 electricity and fresh water and the potential impact that insufficient electricity and water supplies may have on our semiconductor production. To help address these potential shortages, we have adopted various natural resources conservation methodologies. Please see “Item 3. Key Information — Risk Factors — Risks Relating to Our Business” for a discussion of the risk related to shortage in electricity and water.

 

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Risk Management

We employ an enterprise risk management system to integrate the prevention and control of risk. We have also prepared emergency response, crisis management and business continuity plans to respond to natural disasters and other disruptive events such as cyber attacks that could interrupt the operation of our business. These plans have been developed in order to prevent or reduce 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 limit 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 reducing losses in the future.

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

Our Subsidiaries and Affiliates

Vanguard International Semiconductor Corporation (“VIS”). In 1994, we, the R.O.C. Ministry of Economic Affairs and other investors established VIS, then an integrated dynamic random access memory (“DRAM”) manufacturer. VIS commenced volume commercial production in 1995 and listed its shares on the R.O.C. Over-the-Counter (Taipei Exchange) in March 1998. In 2004, VIS completely terminated its DRAM production and became a dedicated foundry company. As of February 28, 2019, we owned approximately 28.3% of the equity interest in VIS. Please see “Item 7. Major Shareholders and Related Party Transactions” for a further discussion.

WaferTech. 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 foundry in the United States. Initial trial production at WaferTech commenced in July 1998 and commercial production commenced in October 1998. As of February 28, 2019, 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 Koninklijke Philips NV (“Philips”) and EDB Investment Pte. Ltd. to found a joint venture, SSMC, and build a fab in Singapore. The SSMC fab commenced production in December 2000. As of February 28, 2019, 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 SoC design service company that provides large scale SoC implementation services. GUC has been listed on Taiwan Stock Exchange since November 3, 2006. As of February 28, 2019, we owned approximately 34.8% of the equity interest in GUC. Please see “Item 7. Major Shareholders and Related Party Transactions” for a further discussion.

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 manufacture and sale of integrated circuits. TSMC China commenced production in late 2004.

VisEra Technologies Company, Ltd. (“VisEra Technologies”). In October 2003, we and OmniVision Technologies Inc. (“OVT”), entered into an agreement to form VisEra Technologies, a joint venture in Taiwan, for the purpose of providing back-end manufacturing service. On November 20, 2015, we obtained an additional 42.7% beneficial equity interest in VisEra Technologies from OVT when OVT was acquired by a Chinese consortium. As of February 28, 2019, we owned approximately 86.9% of the equity interest in VisEra Technologies.

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 CMOS image sensor manufacturing business. Since June 2013, we no longer consolidated Xintec in our financial statements as the number of our appointed directors on Xintec’s board comprised less than a majority. In March 2015, Xintec listed its shares on the R.O.C. Over-the-Counter (Taipei Exchange). Subsequent to Xintec’s IPO, our shareholding in Xintec was diluted to approximately 41.2%. As of February 28, 2019, we owned approximately 41.0% of the equity interest in Xintec. Please see “Item 7. Major Shareholders and Related Party Transactions” for a further discussion.

 

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TSMC Nanjing. In May 2016, we established TSMC Nanjing (of which the manufacturing entity is Fab 16), a wholly-owned subsidiary primarily engaged in the manufacture and sale of integrated circuits, to help us meet the strong demands for advanced technologies from the China market and to further increase our access to business opportunities in China. TSMC Nanjing commenced commercial production in April 2018.

 

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.” As the leader of the foundry segment, our net revenue and net income attributable to shareholders of the parent were NT$947,938 million and NT$331,714 million in 2016, NT$977,447 million and NT$344,998 million in 2017, and NT$1,031,474 million (US$33,697 million) and NT$363,053 million (US$11,861 million) in 2018, respectively. Our net revenue in 2017 increased by 3.1% compared to 2016, mainly due to the introduction of 10-nanometer products, and the continuing strong demand for 16-nanometer products. Our net revenue in 2018 increased by 5.5% compared to 2017, mainly attributed to the introduction of 7-nanometer products, and the continuing strong demand for 10-nanometer and 16-nanometer products. In 2017 and 2018, increases in our net revenue were partially offset by the appreciation of NT dollar against the US dollar on a weighted average basis from 2016 to 2017 and from 2017 to 2018.

The principal source of our revenue is wafer fabrication, which accounted for approximately 88% of our net revenue in 2018. The rest of our net revenue was mainly derived from packaging and testing services, mask making, design, and royalty income. Factors that significantly impact our revenue include:

 

   

worldwide demand and capacity supply for semiconductor products;

 

   

pricing;

 

   

capacity utilization;

 

   

availability of raw materials and supplies;

 

   

technology migration; and

 

   

fluctuation in foreign currency exchange rate.

While the above factors are significant factors, four of which are elaborated as follows:

Pricing. We establish pricing levels for specific periods of time with our customers, some of which are subject to adjustment during the course of that period to take into account market conditions and other factors. We believe that customers find value in our flexible manufacturing capabilities, focus on customer service and timely delivery of high yield products, and this value is reflected in our pricing. Our pricing enables us to continue to invest significantly in research and development to deliver ever-improving products to our customers.

Production Capacity. We currently own and operate our semiconductor manufacturing facilities. The aggregate production capacity had been expanded from approximately 10 million 12-inch equivalent wafers in 2016, to approximately 11 million in 2017 and approximately 12 million in 2018.

 

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Technology Migration. Our operation utilizes a variety of process technologies, ranging from mature process technologies of 0.25 micron or above circuit resolutions to advanced process technologies of 7-nanometer circuit resolutions. The table below presents a breakdown of wafer revenue by circuit resolution during the last three years:

 

     Year ended December 31,  
     2016      2017      2018  

Resolution

   Percentage of
total wafer
revenue(1)
     Percentage of
total wafer
revenue(1)
     Percentage of
total wafer
revenue(1)
 

7-nanometer

     —          —          9%  

10-nanometer

     —          10%        11%  

16/20-nanometer

     28%        25%        23%  

28-nanometer

     26%        23%        20%  

40/45-nanometer

     14%        12%        11%  

65-nanometer

     11%        10%        8%  

90-nanometer

     5%        4%        4%  

0.11/0.13 micron

     2%        3%        2%  

0.15/0.18 micron

     10%        10%        9%  

³0.25 micron

     4%        3%        3%  

Total

     100%        100%        100%  

 

(1) 

The figure represents wafer revenue from a certain technology as a percentage of the total wafer revenue. Commencing in 2017, revenue from packaging and testing services was reclassified from wafer revenue to non-wafer revenue. The above breakdown by circuit resolution for 2016 has been reclassified on the same basis.

In 2018, the 7-nanometer revenue reached 9% of total wafer revenue. The 10-nanometer revenue was 11% and the combined 16/20-nanometer revenue represented 23% of total wafer revenue. Advanced technologies (28-nanometer and below) accounted for 63% of total wafer revenue, up from 58% in 2017.

In 2017, the 10-nanometer revenue reached 10% of total wafer revenue. The combined 16/20-nanometer revenue represented 25% of total wafer revenue. Advanced technologies (28-nanometer and below) accounted for 58% of total wafer revenue, up from 54% in 2016.

Foreign Currency Exchange Rate. More than 90% of our sales are denominated in U.S. dollars while we publish our financial statements in NT dollars. As a result, fluctuations in exchange rates of NT dollar against U.S. dollar would have a significant impact on our reported revenue. Continuous NT dollar appreciation in 2017 and 2018 had an unfavorable effect on our revenue, with weighted average exchange rates of NT dollar per U.S. dollar appreciating from NT$32.21 in 2016 to NT$30.45 in 2017 and further to NT$30.16 in 2018.

Critical Accounting Policies and Judgments

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 us 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. With the initial application of IFRS 15 “Revenue from Contracts with Customers” (“IFRS 15”) in 2018, we recognize revenue when performance obligations are satisfied. Our performance obligations are satisfied when customers obtain control of the promised goods which is generally when the goods are delivered to our customers’ specified locations. The initial application of IFRS 15 had no material impact on our revenue in 2018. See note 4 to our consolidated financial statements included herein for further information regarding the initial application of IFRS 15.

 

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Prior to 2018, we recognized revenue from the sale of goods when the goods are delivered and titles have passed, at which time all the following conditions are satisfied:

 

   

We have transferred to the buyer the significant risks and rewards of ownership of the goods;

 

   

We retain neither continuing managerial involvement to the degree usually associated with ownership nor effective control over the goods sold;

 

   

The amount of revenue can be measured reliably;

 

   

It is probable that the economic benefits associated with the transaction will flow to us; and

 

   

The costs incurred or to be incurred in respect of the transaction can be measured reliably.

We record estimated future returns and other allowances in the same period the related revenue is recorded. Estimated sales returns and other allowances are generally made and adjusted based on historical experience and the consideration of varying contractual terms, and we periodically review the adequacy of the estimation 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 liability, which would have a negative impact on our recorded revenue and gross margin. For further information, please refer to note 21 and note 26 to the consolidated financial statements.

Timing to commence depreciation of property, plant and equipment. Property, plant and equipment are carried at cost, less any recognized impairment loss. Depreciation of property, plant and equipment begins when the assets are available for use, and in the condition necessary for the assets to be capable of operating in the intended manner. The criteria to determine whether assets are available for their intended use vary within categories of assets as well as involve subjective judgments, thus the validity of the timing to commence depreciation of property, plant and equipment could have a material impact on our financial performance.

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 is fixed because our extensive manufacturing facilities (which provide us 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.

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.

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.

Realization of Deferred Income Tax Assets. When we have temporary differences in the amount of tax expenses recorded for tax purposes and financial reporting purposes, we may be able to reduce the amount of tax that we would otherwise be required to pay in future periods. We generally recognize deferred tax assets to the extent that it is probable that sufficient taxable income will be available in the future to utilize such assets. The income tax benefit or expense is recorded 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 temporary differences may be utilized. Specifically, the realization of deferred income tax assets is impacted by our expected future revenue growth and profitability, tax holidays, Alternative Minimum Tax (“AMT”), the surtax imposed on unappropriated earnings and the amount of tax credits that can be utilized within the statutory period. In determining the amount of deferred tax assets as of December 31, 2018, we considered past performance, the general outlook of the semiconductor industry, business conditions, future taxable income and prudent and feasible tax planning strategies.

 

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Because the determination of the amount of deferred tax assets that can be realized 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 deferred tax assets that we have recorded. As of December 31, 2017 and 2018, deferred tax assets were NT$12,106 million and NT$16,806 million (US$549 million), respectively. Deferred tax assets increased by NT$4,700 million in 2018, mainly due to depreciation of certain fixed assets that resulted in temporary differences between the carrying value of these fixed assets and their tax basis, which may be deductible for tax purposes in the future.

Impairment of Tangible and Intangible Assets other than Goodwill. We assess the impairment of tangible and intangible assets other than goodwill whenever triggering events or changes in circumstances indicate that the asset may be impaired and the carrying value may not be recoverable. Our tangible and intangible assets other than goodwill subject to this evaluation include property, plant and equipment and amortizable intangible assets.

Indicators we consider important which could trigger an impairment review include, but are not limited to, the following:

 

   

significant underperformance 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 tangible and intangible assets may not be recoverable based upon the existence of one or more of the above indicators of impairment, we measure any impairment for tangible and intangible assets based on projected future cash flow. If the tangible or intangible assets are determined to be impaired, we recognize an impairment loss through a charge to our operating results to the extent the recoverable amount, measured at the present value of discounted cash flows attributable to the assets, is 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 and record an impairment charge to the extent that the carrying amount of the tangible and intangible assets exceeds the recoverable amount. If the recoverable amount subsequently increases, the impairment loss previously recognized will be reversed to the extent of the increase in the recoverable amount, provided that the increased carrying amount does not exceed the carrying amount that would have been determined had no impairment loss been recognized for the asset in prior years.

The process of evaluating the potential impairment of tangible and intangible assets other than goodwill 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 judgment in determining the independent cash flows that can be related to specific asset groups. In addition, because we must make subjective judgment 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 lower 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.

There was no impairment loss recorded in 2016 and 2017. In 2018, we recognized an impairment loss of NT$423 million (US$14 million) for certain machinery and equipment that was assessed to have no future use, and the recoverable amount of which was nil. As of December 31, 2017 and 2018, net tangible and intangible assets amounted to NT$1,071,069 million and NT$1,083,257 million (US$35,389 million), respectively.

Impairment of Goodwill. Goodwill arising on an acquisition of a business is carried at cost as established at the date of acquisition of the business less accumulated impairment losses, if any. We assess the impairment of goodwill on an annual basis, or more frequently when there is an indication that goodwill may be impaired. Indicators we consider important which could trigger an impairment review include, but are not limited to, the following:

 

   

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

 

   

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

 

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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 recoverable amount of the relevant cash generating units. Our assessment of recoverable amount 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, and future economic and market conditions. The recoverable amount of the cash generating units is compared to the associated carrying value including goodwill and an impairment charge is recorded to the extent, if any, that the carrying value exceeds the recoverable amount.

Goodwill recorded mainly from the acquisition of TSMC-Acer and WaferTech is evaluated for impairment on an annual basis. In 2016 and 2018, we did not recognize any impairment loss on goodwill. For the year ended December 31, 2017, we assessed goodwill impairment and recognized an impairment loss of NT$14 million related to a subsidiary whose operating results were lower than expected and the recoverable amount of the goodwill recorded was nil. As of December 31, 2017 and 2018, goodwill amounted to NT$5,649 million and NT$5,795 million (US$189 million), respectively. The change in the NT dollar amount of goodwill was due to changes in the exchange rate between NT dollar and U.S. dollar.

Impairment Assessment on Investments Accounted for Using Equity Method. We assess the impairment of investments accounted for using equity method whenever triggering events or changes in circumstances indicate that an investment may be impaired and its carrying value may not be recoverable. The recoverable amount is determined by taking into consideration the discounted cash flow projections of the investee and the investee’s market price, if available. The underlying assumptions of the future cash flow projections of the investees are formulated by the investees’ internal management team, taking into account market conditions for the industries which the investees operate in to ensure the reasonableness of such assumptions. An impairment charge is recorded to the extent, if any, that the carrying amount of the investments accounted for using equity method exceeds the recoverable amount. If the recoverable amount subsequently increases, the impairment loss previously recognized will be reversed to the extent of the increase in the recoverable amount.

We did not record any impairment loss in 2016, 2017, and 2018. As of December 31, 2017 and 2018, investments accounted for using equity method amounted to NT$17,732 million and NT$17,769 million (US$580 million), respectively.

Fair Value Measurement of Non-publicly Traded Equity Investments. The fair value measurement for non-publicly traded equity investments is determined by the estimated fair value under appropriate valuation methods primarily based on investees’ financial positions, operation results and recent financing activities, the market transaction prices of similar investments, market conditions and the required discount factors. As such, the estimated fair value may be different from the actual disposal price in the future. We assess the fair value quarterly based on market conditions to ensure the appropriateness of fair value measurement of non-publicly traded equity investments.

Recognition and Measurement of Defined Benefit Plans. We use the Projected Unit Credit Method for net defined benefit liability and the resulting defined benefit costs under defined benefit pension plans. The discount rate, rate of employee turnover, and long-term average future salary increase are included in actuarial assumptions. The discount rate assumption is determined by reference to yields on government bonds of appropriate duration at the end of the maturity of the pension benefits. We assume the average remaining years of service and rate of increase in compensation levels based on historical data. Due to changing market and economic conditions, the underlying key assumptions may differ from actual developments and may lead to significant changes in pension and defined benefit obligations.

As of December 31, 2017 and 2018, the net defined benefit liability was NT$8,851 million and NT$9,652 million (US$315 million), respectively.

 

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Results of Operations

The following table sets forth, for the periods indicated, certain financial data from our consolidated statements of profit or loss and other comprehensive income, expressed in each case as a percentage of net revenue:

 

     For the year ended December 31,
     2016   2017   2018

Net revenue

       100.0 %       100.0 %       100.0 %

Cost of revenue

       (49.9 )%       (49.4 )%       (51.7 )%

Gross profit

       50.1 %       50.6 %       48.3 %

Operating expenses

            

Research and development

       (7.5 )%       (8.2 )%       (8.3 )%

General and administrative

       (2.1 )%       (2.2 )%       (2.0 )%

Marketing

       (0.6 )%       (0.6 )%       (0.6 )%

Total operating expenses

       (10.2 )%       (11.0 )%       (10.9 )%

Other operating income and expenses, net

       0.0 %       (0.2 )%       (0.2 )%

Income from operations

       39.9 %       39.4 %       37.2 %

Income before income tax

       40.7 %       40.5 %       38.5 %

Income tax expense

       (5.7 )%       (5.2 )%       (3.3 )%

Net income

       35.0 %       35.3 %       35.2 %

Other comprehensive income (loss) for the year, net of income tax

       (1.2 )%       (2.9 )%       1.0 %

Total comprehensive income for the year

       33.8 %       32.4 %       36.2 %

Net income attributable to shareholders of the parent

       35.0 %       35.3 %       35.2 %

Net income attributable to non-controlling interests

       0.0 %       0.0 %       0.0 %

Year to Year Comparisons

Net Revenue and Gross Margin

 

     For the year ended December 31,  
     2016     2017     % Change
in NT$
from 2016
     2018     % Change
in NT$
from 2017
 
     NT$     NT$            NT$     US$        
     (in millions, except percentages)  

Net revenue

     947,938       977,447       3.1%        1,031,474       33,697       5.5%  

Cost of revenue

     (473,077     (482,616     2.0%        (533,488     (17,428     10.5%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Gross profit before realized (unrealized) gross profit on sales to associates

     474,861       494,831       4.2%        497,986       16,269       0.6%  

Realized (unrealized) gross profit on sales to associates

     (29     (5     (82.8)%        (112     (4     2,140.0%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Gross profit

     474,832       494,826       4.2%        497,874       16,265       0.6%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Gross margin percentage

     50.1%       50.6%       —          48.3%       48.3%       —    

Net Revenue

Our net revenue in 2018 increased by 5.5% from 2017, which was mainly attributed to 2.9% increase in wafer shipments and 2.5% increase in average selling price due to higher advanced technology revenue weighting, partially offset by 0.9% appreciation in NT dollar against US dollar. We shipped approximately 10.8 million 12-inch equivalent wafers in 2018 compared to 10.4 million in 2017. Meanwhile, newly commercialized 7-nanometer accounted for 9% of our total wafer revenue in 2018.

Our net revenue in 2017 increased by 3.1% from 2016, which was mainly attributed to 8.8% increase in wafer shipments, partially offset by 5.5% appreciation in NT dollar against US dollar. We shipped approximately 10.4 million 12-inch equivalent wafers in 2017 compared to 9.6 million in 2016. Meanwhile, 10-nanometer accounted for 10% of our total wafer revenue in 2017.

 

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Gross Margin

Our gross margin fluctuates with the level of capacity utilization, price change, cost improvement, product mix and exchange rate, among other factors. Furthermore, our gross margin would be negatively impacted in the year when a new technology is introduced.

In 2018, our gross margin declined to 48.3% of net sales from 50.6% in 2017, mainly attributed to lower capacity utilization, unfavorable product mix and unfavorable exchange rate.

In 2017, our gross margin increased to 50.6% of net sales from 50.1% in 2016, mainly attributed to continuing cost improvement and higher capacity utilization, partly offset by an unfavorable exchange rate. We started shipment of 10-nanometer products in 2017, and our gross margin in 2017 was diluted by about 2 percentage points from 10-nanometer products.

Operating Expenses

 

     For the year ended December 31,  
     2016      2017      % Change
in NT$
from 2016
     2018      % Change
in NT$
from 2017
 
     NT$      NT$             NT$      US$         
     (in millions, except percentages)  

Research and development

     71,208        80,733        13.4%        85,895        2,806        6.4%  

General and administrative

     19,795        21,197        7.1%        20,266        662        (4.4)%  

Marketing

     5,901        5,972        1.2%        5,988        196        0.3%  
  

 

 

    

 

 

       

 

 

    

 

 

    

Total operating expenses

     96,904        107,902        11.3%        112,149        3,664        3.9%  
  

 

 

    

 

 

       

 

 

    

 

 

    

Percentage of net revenue

     10.2%        11.0%        —          10.9%        10.9%        —    

Other operating income and expenses, net

     30        (1,365)        (4,650.0)%        (2,101)        (68)        (53.9)%  

Income from operations

     377,958        385,559        2.0%        383,624        12,533        (0.5)%  
  

 

 

    

 

 

       

 

 

    

 

 

    

Operating Margin

     39.9%        39.4%        —          37.2%        37.2%        —    

Operating expenses increased by NT$4,247 million in 2018, or 3.9%, following an increase of NT$10,998 million in 2017, or 11.3%, from NT$96,904 million in 2016.

Research and Development Expenses

We remain strongly committed to being the leader in advanced process technologies development. We believe that continuing investment in process technologies is essential for us to remain competitive in the markets we serve.

Research and development expenditures increased by NT$5,162 million in 2018, or 6.4%, from NT$80,733 million in 2017, after an increase of NT$9,525 million in 2017, or 13.4%, from NT$71,208 million in 2016. The increases in 2018 were mainly attributed to a higher level of research activities for 3-nanometer and 5-nanometer process technologies, as we continued to advance to smaller processing nodes, partially offset by a lower level of research activities for 7-nanometer and 10-nanometer compared to 2017. While in 2017, we had a higher level of research activities for 5-nanometer and 7-nanometer and a lower level of research activities for 10-nanometer compared to 2016.

We plan to continue our investment in technology research and development in 2019.

 

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General and Administrative and Marketing Expenses

General and administrative expenses in 2018 decreased by NT$931 million, or 4.4% from 2017, mainly reflecting the absence of fab opening expenses for 10-nanometer, partially offset by higher fab opening expenses for 7-nanometer and below. Marketing expenses in 2018 increased slightly by NT$16 million, or 0.3% from 2017.

General and administrative and marketing expenses in 2017 increased by NT$1,473 million, or 5.7%, from 2016, mainly reflecting higher fab opening expenses for 7-nanometer.

Other Operating Income and Expenses

Net other operating income and expenses in 2018 decreased by NT$736 million from 2017 to a net loss of NT$2,101 million, mainly due to impairment losses on property, plant and equipment of NT$423 million.

Net other operating income and expenses in 2017 decreased by NT$1,395 million from 2016 to a net loss of NT$1,365 million, mainly reflecting a disposal loss of property, plant and equipment of NT$1,098 million, which was a one-off loss resulting from disposal of certain obsolete equipment.

Non-Operating Income and Expenses

 

     For the year ended December 31,  
     2016     2017     % Change
in NT$
from 2016
     2018     % Change
in NT$
from 2017
 
     NT$     NT$            NT$     US$        
     (in millions, except percentages)  

Share of profits of associates and joint venture

     3,458       3,015       (12.8)%        3,091       101       2.5%  

Other income

     6,455       9,610       48.9%        14,853       485       54.6%  

Foreign exchange gain (loss), net

     1,161       (1,509     (230.0)%        2,438       80       —    

Finance costs

     (3,306     (3,330     0.7%        (3,052     (100     (8.3)%  

Other gains and losses, net

     196       2,817       1,337.2%        (3,411     (112     (221.1)%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Net non-operating income

     7,964       10,603       33.1%        13,919       454       31.3%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Net non-operating income in 2018 increased by NT$3,316 million, or 31.3%, from NT$10,603 million in 2017, mainly due to higher interest income of NT$5,230 million and a foreign exchange gain of NT$2,438 million resulted mainly from NT dollar’s depreciation against U.S. dollar since April 2018 compared to a foreign exchange loss of NT$1,509 million in 2017. The increases were partially offset by a loss on financial instruments at fair value through profit or loss of NT$2,294 million, compared to a gain on financial instruments at fair value through profit or loss of NT$2,384 million in 2017.

Net non-operating income in 2017 increased by NT$2,639 million, or 33.1%, from NT$7,964 million in 2016, mainly due to higher interest income of NT$3,147 million and higher gain on financial instruments at fair value through profit or loss of NT$1,955 million. The increases were partially offset by a foreign exchange loss of NT$1,509 million due to NT dollar’s appreciation against U.S. dollar, compared to a foreign exchange gain of NT$1,161 million in 2016.

 

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Income Tax Expense

 

     For the year ended December 31,  
     2016     2017     % Change
in NT$
from 2016
     2018     % Change
in NT$
from 2017
 
     NT$     NT$            NT$     US$        
     (in millions, except percentages)  

Income tax expense

     (54,125     (51,123     (5.5)%        (34,437     (1,125     (32.6)%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Net income

     331,797       345,039       4.0%        363,106       11,862       5.2%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Net income attributable to shareholders of the parent

     331,714       344,998       4.0%        363,053       11,861       5.2%  
  

 

 

   

 

 

      

 

 

   

 

 

   

Net margin attributable to shareholders of the parent

     35.0%       35.3%       —          35.2%       35.2%       —    

Income tax expenses decreased by NT$16,686 million in 2018, or 32.6%, from 2017. The decrease was mainly due to the statutory rate of surtax imposed on unappropriated earnings reduced from 10% to 5% and the increased tax benefits from five-year tax exemption for additional capital investments, partially offset by the statutory rate of corporate income tax increased from 17% to 20% in 2018.

Income tax expenses decreased by NT$3,002 million in 2017, or 5.5%, from 2016. The decrease was mainly related to lower surtax imposed on unappropriated earnings, partially offset by higher corporate income tax due to higher taxable income.

Liquidity and Capital Resources

Our sources of liquidity include cash flow from operations, cash and cash equivalents, and current portion of marketable financial assets. Issuance of corporate bonds may be another source of fund, if needed.

Our primary source of liquidity is cash flow from operations. Cash flow from operations for 2018 was NT$573,954 million (US$18,751 million), a decrease of NT$11,364 million from 2017.

Our cash, cash equivalents and current portion of marketable financial assets increased to NT$695,182 million (US$22,711 million) as of December 31, 2018, from NT$649,358 million as of December 31, 2017 and NT$632,110 million as of December 31, 2016. The current portion of marketable financial assets primarily consisted of fixed income securities.

We believe that our cash generated from operations, cash and cash equivalents, current portion of marketable financial assets, and ability to access capital market will be sufficient to fund our working capital needs, capital expenditures, debt repayments, dividend payments and other business requirements associated with existing operations over the next 12 months.

 

     For the year ended December 31,  
     2016      2017      2018  
     NT$      NT$      NT$      US$  
     (in millions)  

Net cash generated by operating activities

     539,835        585,318        573,954        18,751  

Net cash used in investing activities

     (395,440      (336,165      (314,269      (10,267

Net cash used in financing activities

     (157,800      (215,697      (245,124      (8,008

Effect of exchange rate changes on cash and cash equivalents

     (8,030      (21,318      9,862        322  

Net increase (decrease) in cash and cash equivalents

     (21,435      12,138        24,423        798  

Cash and cash equivalents increased by NT$24,423 million in 2018, following an increase of NT$12,138 million, and a decrease of NT$21,435 million in 2017 and 2016, respectively.

 

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Operating Activities

In, 2018, we generated NT$573,954 million (US$18,751 million) net cash from operating activities, as compared to NT$585,318 million and NT$539,835 million in 2017 and 2016, respectively. The net cash generated from operating activities was primarily from NT$397,543 million in income before income tax and NT$292,546 million in non-cash depreciation and amortization expenses, partially offset by income tax payment, change in working capital and others of NT$116,135 million. The higher depreciation and amortization expenses in 2018 were mainly related to our investment in production capacity for advanced technologies.

In 2017, net cash generated from operating activities was primarily from NT$396,162 million in income before income tax and NT$260,143 million in non-cash depreciation and amortization expenses, partially offset by change in working capital and others of NT$70,987 million. The higher depreciation and amortization expenses in 2017 were mainly attributed to continuing investment in production capacity for advanced technologies.

In 2016, net cash generated from operating activities was primarily from NT$385,922 million in income before income tax and NT$223,828 million in non-cash depreciation and amortization expenses, partially offset by change in working capital and others of NT$69,915 million. The higher depreciation and amortization expenses in 2016 were mainly the result of expansion of production capacity in advanced technologies.

Investing Activities

In 2018, net cash used in investing activities was NT$314,269 million (US$10,267 million), as compared to NT$336,165 million and NT$395,440 million in 2017 and 2016, respectively. The primary use of cash in investing activities in 2018 was for capital expenditures of NT$315,582 million.

In 2017, net cash used in investing activities was mainly for capital expenditures of NT$330,588 million.

In 2016, net cash used in investing activities was primarily for capital expenditures of NT$328,045 million and net purchase of NT$76,756 million in marketable securities mainly in fixed income securities.

Our capital expenditures for 2018 were primarily related to:

 

   

installing and expanding capacity, mainly for 7-nanometer and 5-nanometer nodes;

 

   

expanding buildings/facilities for Fab 15 in Central Taiwan Science Park and establishing Fab 18 in Southern Taiwan Science Park;

 

   

research and development projects for new process technologies; and

 

   

expanding capacity for advanced packaging and mask operations.

Our capital expenditures for 2016, 2017 and 2018 were funded by operating cash flow. The capital expenditures for 2019 are expected to be funded mainly by our operating cash flow. See “Item 3. Risk Factors” section for the risks associated with the inability of raising the requisite funding for our expansion programs. Please also 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 2018, net cash used by financing activities was NT$245,124 million (US$8,008 million), as compared to net cash used of NT$215,697 million in 2017 and NT$157,800 million in 2016. The net cash used by financing activities in 2018, 2017 and 2016 were mainly for cash dividend payments and repayments of corporate bonds, partially offset by the increases in short-term loans.

 

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As of December 31, 2018, our short-term loans were NT$88,755 million (US$2,900 million). A significant majority of the short-term loans were denominated in U.S. dollars. As a substantial portion of our receivables was denominated in U.S. dollars, we used short-term loans denominated in U.S. dollars to naturally hedge the fluctuation of foreign exchanges rates. See “Item 11. Quantitative and Qualitative Disclosures about Market Risks” for a discussion of the hedging instruments used. Our aggregate long-term debt was NT$91,800 million (US$2,999 million), of which NT$34,900 million (US$1,140 million) was classified as current. The long-term debt was NT dollar corporate bonds with fixed interest rates ranging from 1.35% to 2.10% and tenors ranging from 5.5 years to 10 years.

Cash Requirements

The following table sets forth the maturity of our long-term debt, including relevant interest payments outstanding as of December 31, 2018:

 

     Long-term debt  
     (in NT$ millions)  

During 2019

     36,040  

During 2020

     32,339  

During 2021

     3,002  

During 2022

     4,776  

During 2023 and thereafter

     18,203  

The following table sets forth information on our material contractually obligated payments (including principals and interests) for the periods indicated as of December 31, 2018:

 

     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)

     88,811        88,811        —          —          —    

Long-Term Debt(2)

     94,360        36,040        35,341        22,979        —    

Operating Leases(3)

     20,850        5,824        3,439        2,396        9,191  

Other Obligations(4)

     9,944        6,802        2,767        375        —    

Capital Purchase or Other Purchase Obligations(5)

     329,120        307,665        18,880        1,345        1,230  

Total Contractual Cash Obligations

     543,085        445,142        60,427        27,095        10,421  

 

(1) 

The maximum amount and average amount of short-term loans outstanding during the year ended December 31, 2018 were NT$91,368 million and NT$60,940 million, respectively. See note 20 to our consolidated financial statements for further information regarding interest rates and future repayment dates.

(2) 

Represents corporate bonds payable. See note 22 to our consolidated financial statements for further information regarding interest rates and future repayment of long-term debts.

(3) 

Operating lease obligations are described in note 4 and note 39 to our consolidated financial statements.

(4) 

Other obligations represent refundable customer deposit. See “Item 4. Information on The Company — Commitments by Customers” and note 24 to our consolidated financial statements for further information regarding deposit.

(5) 

Represents commitments for construction or purchase of equipment, raw material and other property or services. These commitments were not recorded on our statement of financial position as of December 31, 2018, as we had not received related goods or taken title of the property.

During 2018, we used derivative financial instruments to partially hedge the currency exchange rate risk related to foreign-currency denominated receivables and payables and interest rate risk related to our fixed income investments. As of December 31, 2018, we anticipated our cash requirements in 2019 for outstanding forward exchange agreements and cross currency swaps to be approximately NT$27,221 million, US$621 million, and RMB668 million and our expected cash receipts to be approximately JPY36,589 million, NT$3,909 million, EUR639 million, RMB2,189 million, and US$97 million. See “Item 11. Quantitative and Qualitative Disclosures about Market Risk” for a further discussion. See also note 5 to the consolidated financial statements for our accounting policy of derivative financial instruments, and note 8, note 13 and note 36 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 amount of capital is required to build, expand, and upgrade our production facilities and equipment. Our capital expenditures for 2019 are expected to be between US$10 billion to US$11 billion, which, depending on market conditions, may be adjusted later.

Taxation

Effective from 2018, the R.O.C. Income Tax Law was amended, which abolished the imputation system, raised the corporate income tax rate from 17% to 20%, and reduced the rate of surtax imposed on unappropriated earnings from 10% to 5%.

The alternative minimum tax (“AMT”) imposed under the R.O.C. AMT Act is a supplemental income tax which applies if the amount of regular income tax calculated pursuant to the R.O.C. Income Tax Act and relevant laws and regulations is below the amount of basic tax prescribed under the R.O.C. AMT Act. The taxable income for calculating AMT includes most income that is exempt from income tax under various legislations, such as tax holidays. The prevailing AMT rate for business entities is 12%. As we are eligible for tax holidays, AMT is generally applicable to us.

We are eligible for five-year tax holidays for income generated from construction and capacity expansions of production facilities according to regulations 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 Statute for Upgrading Industries expired at the end of 2009. However, under the Grandfather Clause, we can continue to be eligible for five-year tax holidays if the relevant investment plans were approved by R.O.C. tax authority before the expiration of the Statute. Pursuant to the Grandfather Clause, we commenced the exemption period for part of Fab 12 (Phase IV) and part of Fab 14 (Phase III to VI) in 2014, part of Fab 12 (Phase IV to V) and part of Fab 14 (Phase III to IV) in 2015, and part of Fab 15 (Phase I to IV) and part of Fab 14 (Phase III to IV) in 2018. The aggregate tax benefits of such exemption periods in 2016, 2017 and 2018 were NT$19,595 million, NT$16,901 million, and NT$33,088 million (US$1,081 million), net of AMT effect, respectively.

Pursuant to regulations promulgated under the R.O.C. Statute for Industries Innovation, we are eligible for 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.

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, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.

Inflation & Deflation

During 2018, neither inflation nor deflation had a material impact on our operations, or the business operations of our customers and suppliers.

However, in light of the uncertain global political and economic 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. For example, higher interest rates in the U.S., international trade tensions, and the possible changes in economic, fiscal and monetary policies in major economies have exacerbated, and may further exacerbate, fluctuations in inflationary or deflationary expectations. In addition, any increase in electricity and water prices in Taiwan may negatively affect our operating margins, resulting in lower margins on our products and services.

Recent Accounting Pronouncements

Please refer to note 4 to the consolidated financial statements.

 

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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 Paris Agreement. 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 “Greenhouse Gas Reduction and Management Act” became effective on July 1, 2015. Although certain of its relevant regulations have been promulgated since then, we expect to see more of its relevant regulations be promulgated by the regulators in the future. Also, the R.O.C. legislative authority is reviewing, at all times, various environmental issues to develop laws and regulations relating to environmental protection and climate related changes. The impact of such laws and regulations is indeterminable at the moment. Please see detailed risk factors related to the impact of climate change regulations and international accords 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 and Climate Related Laws and Regulations”.

 

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 eight directors. Of our current eight directors, four 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 Act and other laws applicable to the supervisors are also applicable to the audit committee. Pursuant to R.O.C. Securities and Exchange Law, effective from March 18, 2011, we are also required to establish a compensation committee which must be composed of qualified independent members as defined under local law. TSMC established its audit committee and compensation committee in 2002 and 2003, respectively (several years before being legally required to do so). The audit committee is now composed entirely of independent directors. The Compensation Committee now comprises all four independent directors and one independent non-director member.

Pursuant to the R.O.C. Company Act, 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. Ms. Mei-ling Chen has been the representative of the National Development Fund since November 7, 2017.

After having led the Company for over 31 years, our Founder, Dr. Morris Chang, retired from the Company after the annual general meeting of shareholders on June 5, 2018. At the meeting, our shareholders elected a new board of directors, which then convened to elect Dr. Mark Liu as Chairman, and Dr. C.C. Wei as Chief Executive Officer and Vice Chairman, completing the transition of responsibilities.

As of the end of 2018, our board of directors consisted of nine members. Five of those nine members were independent directors: Sir Peter L. Bonfield, Mr. Stan Shih, Mr. Thomas J. Engibous, Ms. Kok-Choo Chen, and Mr. Michael R. Splinter. Mr. Thomas J. Engibous resigned due to health reasons, effective as of January 1, 2019. There will be a by-election for one independent director at the 2019 annual general meeting of shareholders. Our board of directors approved at its meeting in the first quarter of 2019 the nomination of Mr. Moshe N. Gavrielov as a candidate for independent director.

 

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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 28, 2019. 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
 

Mark Liu(1)

   Chairman      2021        25  

C.C. Wei(2)

   Vice Chairman/ Chief Executive Officer      2021        21  

Mei-ling Chen

   Director (Representative of the National Development Fund)      2021        2  

F.C. Tseng

   Director      2021        32  

Sir Peter Leahy Bonfield

   Independent Director      2021        17  

Stan Shih

   Independent Director      2021        19  

Kok-Choo Chen

   Independent Director      2021        8  

Michael R. Splinter

   Independent Director      2021        4  

Lora Ho

   Senior Vice President, Finance and Europe & Asia Sales/ Chief Financial Officer/ Spokesperson      —          20  

Wei-Jen Lo

   Senior Vice President, Research & Development/ Technology Development      —          15  

Rick Cassidy

   Senior Vice President, Corporate Strategy Office      —          22  

Y.P. Chin

   Senior Vice President, Operations/ Product Development      —          32  

Y.J. Mii

   Senior Vice President, Research & Development/ Technology Development      —          25  

J.K. Lin

   Senior Vice President, Information Technology and Materials Management & Risk Management      —          32  

J.K. Wang

   Senior Vice President, Operations/ Fab Operations      —          32  

N.S. Tsai

   Vice President, Quality & Reliability      —          30  

Irene Sun

   Vice President, Corporate Planning Organization      —          15  

Cliff Hou

   Vice President, Research & Development/ Technology Development      —          22  

Sylvia Fang

   Vice President, Legal & General Counsel      —          24  

Connie Ma

   Vice President, Human Resources      —          5  

Y.L. Wang

   Vice President, Operations/ Fab Operations      —          27  

Doug Yu

   Vice President, Research & Development/ Integrated Interconnect & Packaging      —          25  

Alexander Kalnitsky

   Vice President & TSMC Fellow, Operations/ Product Development/ More-than-Moore Technologies      —          10  

Kevin Zhang

   Vice President, Business Development      —          3  

T.S. Chang

   Vice President & TSMC Fellow, Operations/ Product Development      —          24  

Michael Wu

   Vice President, Research & Development/ Technology Development/ N3 Platform Development Division      —          22  

Min Cao

   Vice President, Research & Development/ Technology Development/ Pathfinding      —          17  

H.-S. Philip Wong

   Vice President, Research & Development/ Corporate Research      —          1  

Marvin Liao

   Vice President, Operations/ Product Development/ Advanced Packaging Technology and Service      —          17  

Y.H. Liaw

   Vice President, Operations/ Fab Operations/ FAB 15B      —          31  

 

(1) 

Mark Liu was elected as the Chairman in June 2018; before that, Morris Chang was the Chairman.

(2) 

C.C. Wei was elected as the Vice Chairman in June 2018; before that, F.C Tseng was the Vice Chairman.

 

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Mark Liu is the Chairman. Before elected as the Chairman in June 2018, Dr. Mark Liu was our President and Co-Chief Executive Officer. Prior to that, he was our Executive Vice President and Co-Chief Operating Officer from March 2012 to November 2013, Senior Vice President of Operations from 2009 to 2012, Senior Vice President of Advanced Technology Business from 2008 to 2009. From 2005 to 2008, Dr. Liu was Senior Vice President of Operations II. He served in a number of executive positions at TSMC Fabs and the Operations organization from 1999 to 2005. From 1999 to 2000, he served as the President of Worldwide Semiconductor Manufacturing Company. Prior to joining us in 1993, from 1987 to 1993, Dr. Liu was with AT&T Bell Laboratory, Holmdel, NJ, as a research manager for the High Speed Electronics Research Laboratory, working on optical fiber communication systems. From 1983 to 1987, he was a process integration manager of CMOS technology development at Intel Corporation, Santa Clara, CA, developing silicon process technologies for Intel microprocessor. He holds a Ph.D. in electrical engineering and computer science from University of California, Berkeley.

C.C. Wei is the Vice Chairman and Chief Executive Officer. Before elected as the Vice Chairman in June 2018, Dr. C.C. Wei was our President and Co-Chief Executive Officer. He also serves as the Chairman of TSMC Nanjing Co., Ltd. and the Chairman of TSIA. Dr. Wei was our Executive Vice President and Co-Chief Operating Officer from March 2012 to November 2013, Senior Vice President of Business Development from 2009 to 2012, and Senior Vice President of Mainstream Technology Business from 2008 to 2009. From 2005 to 2008, Dr. Wei was Senior Vice President of Operations I. He served in a number of executive positions at TSMC Fabs and the Operations organization from 1998 to 2005. Before joining us in 1998, he was Senior Vice President of Technology at Chartered Semiconductor Manufacturing Ltd. in Singapore and Senior Manager for Logic and SRAM technology development at STMicroelectronics N.V. in Texas. He holds a Ph.D. in electrical engineering from Yale University.

Mei-ling Chen, the representative of the National Development Fund, is a director. Dr. Mei-ling Chen is the Minister without Portfolio, R.O.C. Executive Yuan and concurrently Minister, National Development Council. She served as the Secretary-General of Executive Yuan from May 2016 to September 2017, the Secretary-General of Tainan City Government from 2010 to 2016, the Deputy Secretary-General of Executive Yuan from 2006 to 2008, the Chairperson of Legal Affairs Commission and concurrently Chairperson of Petition Reviewing Commission, Executive Yuan from 2002 to 2006, and the Director-General of Department of Legal Affairs, Ministry of Justice from 2000 to 2002. Dr. Chen was also an Associate Professor of Law at Chinese Culture University from 2008 to 2010. Dr. Chen holds a Ph.D. in Law from National Chengchi University.

F.C. Tseng is a director. Previously Dr. F.C. Tseng served as our Vice Chairman from July 2005 to June 2018. Prior to that, he was Deputy Chief Executive Officer from August 2001 to June 2005. He is also the Chairman of TSMC China Co., Ltd. and Global Unichip Corp., and the Vice Chairman of VIS. He also serves as an independent director, Chairman of Audit Committee and a member of Compensation Committee of Acer Inc. He formerly served as the President of VIS from 1996 to 1998 and our President from May 1998 to August 2001. Prior to his presidency at VIS, 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 47 years.

Sir Peter L. 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, and the Vice President of the British Quality Foundation from its creation in 1993 until 2012. He also served as director of L.M. Ericsson in Sweden, Chairman of GlobalLogic Inc. in the U.S. and senior advisor to Hampton Group in London. He is currently the Chairman of the Board of Directors of NXP Semiconductor N.V. in the Netherlands. He is also a member of the Longreach Group Advisory Board. He also serves as a board mentor of CMi, a senior advisor to Alix Partners in London and a board member of EastWest Institute in New York. He is a fellow of The Royal Academy of Engineering and the Chair of Council and Senior Pro-Chancellor at Loughborough University in UK. He holds an honors degree in engineering from Loughborough University.

Stan Shih is an independent director. He is the 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. He is currently the Director and Honorary Chairman of Acer Inc., and the Chairman of Stan Shih Foundation and a director of Nan Shan Life Insurance Co., Ltd., Egis Technology Inc., Digitimes Inc. and Chinese Television System Inc. 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.

 

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Kok-Choo Chen is an independent director. Ms. Chen served as the Chairman of National Performing Arts Center from 2014 to January 2017, and an advisor to the R.O.C. Executive Yuan from 2009 to 2016. She was the founder and Executive Director of Taipei Story House from 2003 to 2015. She served as our Senior Vice President and General Counsel from 1997 to 2001. Currently, Ms. Chen is the Founder and Executive Director of the Museum207 located in Taipei. Ms. Chen has over 24 years of experience working in international law firms. She had also taught law at Soochow University, National Chengchi University and National Tsing Hua University in Taiwan for over 28 years. Ms. Chen is licensed to practice law in England, Singapore and California.

Michael R. Splinter is an independent director. Mr. Splinter served as Chief Executive Officer of Applied Materials from 2003 to 2012 and as Chairman of the Board of Directors since 2009 and retired in June 2015. Prior to that, he served at Intel Corp. as Executive Vice President of Sales and Marketing from 2001 to 2003, and Executive Vice President of Technology and Manufacturing group from 1996 to 2001. Mr. Splinter currently serves as Chairman of NASDAQ, Inc. and Director of Pica8, Inc., Meyer Burger Technology Ltd. and Gogoro Inc. He is also a General Partner of WISC Partners LP. and Chairman of the Board of US-Taiwan Business Council. Mr. Splinter holds a master degree in electrical engineering, and an honorary Ph.D. in engineering from the University of Wisconsin Madison.

Lora Ho is our Senior Vice President of Finance and Europe & Asia Sales/ Chief Financial Officer/ 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.

Wei-Jen Lo is our Senior Vice President of Research & Development/ Technology Development. He was promoted to Senior Vice President of Research & Development in February 2014. He was Vice President of Research & Development from February 2013 to February 2014, Vice President of Operations/ Manufacturing Technology from October 2009 to February 2013, 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 joining us in 2004, 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.

Rick Cassidy is our Senior Vice President, Corporate Strategy Office. Prior to that, he served as Chief Executive Officer of TSMC North America from 2017 to January 2019. He was promoted to Senior Vice President in February 2014, Vice President in February 2008 and had led TSMC North America from January 2005 to 2018. 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.

Y.P. Chin is our Senior Vice President of Operations/ Product Development. He was promoted to Senior Vice President in November 2016. He was Vice President of Operations from October 2009 to November 2016, 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.

Y.J. Mii is our Senior Vice President of Research & Development/ Technology Development. He was promoted to Senior Vice President in November 2016. He was Vice President of Research & Development from August 2011 to November 2016. Prior to that, he was our Senior Director of Platform I Division from 2006 to 2011. He joined us in 1994 and has been involved continuously in the development and manufacturing of advanced CMOS technologies in both Operations and Research & Development. He holds a Ph.D. in electrical engineering from the University of California, Los Angeles.

J.K. Lin is our Senior Vice President of Information Technology and Materials Management & Risk Management. He led the organization since August 2018 and was promoted to Senior Vice President in November 2018. Prior to that, he was our Vice President of Operations/ Mainstream Fabs from August 2010 to August 2018. 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 Senior Vice President of Operations/ Fab Operations. He was promoted to Senior Vice President of Operations in November 2018. Prior to that, he was Vice President of Operations/ 300mm Fabs from August 2010 to August 2018 and Operations/ Fab Operations from August to November 2018. He joined us in 1987 and held various positions in manufacturing and research and development functions. He holds a master degree in chemical engineering from National Cheng-Kung University.

 

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N.S. Tsai is our Vice President of Quality & Reliability. He was promoted to Vice President of Quality & Reliability in 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 VIS from 1997 to 2000. He joined us in 1989 and held various positions in research and development and manufacturing functions. He holds a Ph.D. in material science from Massachusetts Institute of Technology.

Irene Sun is our Vice President of Corporate Planning Organization. She was promoted to Vice President of Corporate Planning Organization in August 2010. Prior to that, she was Senior Director of Corporate Planning Organization 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.

Cliff Hou is our Vice President of Research & Development/ Technology Development. He was promoted to Vice President of Research & Development/ Design and Technology Platform in August 2011 and led the organization until his transfer to Technology Development. Prior to that, he was Senior Director of Design and Technology Platform from 2010 to 2011. He joined us 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.

Sylvia Fang is our Vice President of Legal and General Counsel. She was promoted to Vice President and General Counsel of Legal Organization in August 2014. She joined us in 1995 and held various positions in legal functions. She holds a master degree in comparative law from University of Iowa. Ms. Fang is licensed to practice law in Taiwan.

Connie Ma is our Vice President of Human Resources. She was promoted to Vice President of Human Resources in August, 2014. Prior to joining us as Director of Human Resources in June 2014, she was a Senior Vice President of Global Human Resources at Trend Micros, Inc. She holds an EMBA from National Taiwan University.

Y.L. Wang is our Vice President of Operations/ Fab Operations. Prior to that, he was Vice President of Research & Development/ Technology Development after his promotion to this position in November 2015. He joined us in 1992 and held various positions in manufacturing functions. He holds a Ph.D. in electronics engineering from National Chiao Tung University.

Doug Yu is our Vice President of Research & Development/ Integrated Interconnect & Packaging. He was promoted to Vice President of Research & Development in November 2016. Prior to that, he was our Senior Director of Integrated Interconnect & Packaging Division. He joined us in 1994 and was in charge of development of interconnect technology for integrated circuits. He holds a Ph.D. in materials engineering from Georgia Institute of Technology.

Alexander Kalnitsky is our Vice President & TSMC Fellow of Operations/ Product Development/ More-than-Moore Technologies. Prior to that, he was Vice President of Research & Development from 2016 to 2018 since his promotion to the position in November 2016. He joined us in 2009 and was in charge of HV/Power/Analog/RF/CIS/MEMS processes development. He holds a Ph.D. in electrical engineering from Carleton University.

Kevin Zhang is our Vice President of Business Development. He joined us in November 2016 as Vice President of Research & Development/ Design and Technology Platform. Prior to joining us in November 2016, he was a Vice President of Technology and Manufacturing Group of Circuit Technology at Intel. He holds a Ph.D. in electrical engineering from Duke University.

T.S. Chang is our Vice President & TSMC Fellow of Operations/ Product Development. He was promoted to Vice President of Operations/ 300mm Fabs/ Fab 12B in February 2018 and held the position until his transfer to Product Development in November 2018. Prior to that, he was our Senior Director of Fab 12B. He joined us in 1995 and held various positions in manufacturing functions. He holds a Ph.D. in Electrical Engineering from National Tsing Hua University.

Michael Wu is our Vice President of Research & Development/ Technology Development/ N3 Platform Development Division. He was promoted to Vice President in February 2018. Prior of that, he was our Senior Director of N3 Platform Development Division. He joined us in 1996 and participated in advanced CMOS technology development. He holds a Ph.D. in Electrical Engineering from University of Wisconsin-Madison.

 

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Min Cao is our Vice President of Research & Development/ Technology Development/ Pathfinding. He was promoted to Vice President in February 2018. Prior to that, he was our Senior Director of Path-finding Division. He joined us in 2002 and participated in development of multiple generations of advanced CMOS technology. He holds a Ph.D. in Physics from Stanford University.

H.-S. Philip Wong is our Vice President of Research & Development/ Corporate Research. Prior to joining us in 2018 as Vice President, he had served as Willard R. and Inez Kerr Bell Professor in the School of Engineering, Stanford University and Senior Manager at IBM Research. He holds a Ph.D. in Electrical Engineering from Lehigh University.

Marvin Liao is our Vice President of Operations/ Product Development/ Advanced Packaging Technology and Service. He was promoted to Vice President in November 2018. Prior to that, he was Technical Director in Fab 6 upon joining us in 2002 and later Senior Director of Backend Technology and Service Division. He holds a Ph.D. in Materials Science from University of Texas-Arlington.

Y.H. Liaw is our Vice President of Operations/ Fab Operations/ Fab 15B. He was promoted to Vice President in February 2019. Prior to that, he was our Senior Director of Fab 15B. He joined us in 1988 and held various positions in manufacturing functions. He holds a M.S. degree in Chemical Engineering from National Tsing Hua University.

There is no family relationship between any of the persons named above. Other than that one of our Directors, Ms. Mei-Ling Chen, is the representative of our shareholder, National Development Fund of the Executive Yuan, there is no arrangement or understanding with major shareholders, customers, suppliers or others, pursuant to which any person referred to above was selected as a director or member of senior management.

Share Ownership

The following table sets forth certain information as of February 28, 2019 with respect to our common shares owned by our directors and executive officers.

 

Name of Shareholders(1)

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

Mark Liu, Chairman

     12,913,114        0.05%  

C.C. Wei, Vice Chairman and Chief Executive Officer

     7,179,207        0.03%  

Mei-Ling Chen, Director (Representative of the  National Development Fund) (3)

     1,653,709,980        6.38%  

F.C. Tseng, Director

     34,472,675        0.13%  

Stan Shih, Independent Director

     1,480,286        0.01%  

Sir Peter Leahy Bonfield, Independent Director

     —          —    

Kok-Choo Chen, Independent Director

     —          —    

Michael R. Splinter, Independent Director

     —          —    

Lora Ho, Senior Vice President & Chief Financial Officer/ Spokesperson

     4,511,080        0.02%  

Wei-Jen Lo, Senior Vice President

     1,444,127        0.01%  

Rick Cassidy, Senior Vice President

     —          —    

Y.P. Chin, Senior Vice President

     6,922,122        0.03%  

Y.J. Mii, Senior Vice President

     1,000,419        0.00%  

J.K. Lin, Senior Vice President

     12,518,018        0.05%  

J.K. Wang, Senior Vice President

     2,553,947        0.01%  

N.S. Tsai, Vice President

     1,925,180        0.01%  

Irene Sun, Vice President

     420,709        0.00%  

Cliff Hou, Vice President

     352,532        0.00%  

Sylvia Fang, Vice President & General Counsel

     700,285        0.00%  

Connie Ma, Vice President

     117,000        0.00%  

Y.L. Wang, Vice President

     218,535        0.00%  

 

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Name of Shareholders(1)

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

Doug Yu, Vice President

     225,000        0.00%  

Alexander Kalnitsky, Vice President & TSMC Fellow

     —          —    

Kevin Zhang, Vice President

     —          —    

T.S. Chang, Vice President & TSMC Fellow

     200,781        0.00%  

Michael Wu, Vice President

     478,501        0.00%  

Min Cao, Vice President

     363,152        0.00%  

H.-S. Philip Wong, Vice President

     —          —    

Marvin Liao, Vice President

     50,485        0.00%  

Y.H. Liaw, Vice President

     370,000        0.00%  

 

(1) 

None of our directors and executive officers owned any stock option as of February 28, 2019.

(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 did not include any common shares held in the form of ADS by such individuals as such individual ownership of ADSs had not been disclosed or otherwise made public. The disclosed number of share owned by the directors and executive officers also did not include shares owned by their related parties. Each of these individuals owned less than one percent of all common shares outstanding as of February 28, 2019.

(3) 

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

Compensation

According to our Articles of Incorporation, not more than 0.3 percent of our annual profits (defined under local law), after recovering any losses incurred in prior years, if any, may be distributed as compensation to our directors and at least one percent of our annual profits may be distributed as profit sharing bonuses to employees, including executive officers. Compensation to directors is 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 job responsibility, contribution and performance. See note 37 to our consolidated financial statements. Under our Articles of Incorporation, directors who also serve as executive officers are not entitled to any director compensation.

Remuneration Paid to Directors

The following table presents the remuneration paid and benefits in kind granted to our non-employee directors in 2018:

 

Name/Title

   Fees Earned or
Paid in Cash
     Stock
Awards
     All Other
Compensation(5)
     Total  
     NT$      NT$      NT$      NT$      US$  
     (in millions)  

Morris Chang, Founder and Former Chairman(1)

     133.5        —          1.2        134.7        4.4  

Mark Liu, Chairman(2)

     148.7        —          1.2        149.9        4.9  

F.C. Tseng, Director(3)(4)

     14.5        —          1.9        16.3        0.5  

Mei-ling Chen, Director (Representative of National  Development Fund, Executive Yuan)

     9.6        —          —          9.6        0.3  

Sir Peter L. Bonfield, Independent Director

     14.5        —          —          14.5        0.5  

Stan Shih, Independent Director

     12.0        —          —          12.0        0.4  

Thomas J. Engibous, Independent Director

     14.5        —          —          14.5        0.5  

Kok-Choo Chen, Independent Director

     12.0        —          —          12.0        0.4  

Michael R. Splinter, Independent Director

     14.5        —          —          14.5        0.5  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

     373.7        —          4.3        378.1        12.4  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1)

Morris Chang retired on June 5, 2018.

(2)

Mark Liu was elected by the Board of Directors as Chairman on June 5, 2018.

(3)

F.C. Tseng served as the Vice Chairman until June 5, 2018 and serves as a director thereafter.

 

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(4)

In addition to the above, F.C. Tseng received NT$6.8 million of compensation from non-consolidated affiliates and NT$9.3 million of Advisor Fee from TSMC.

(5)

Included pensions funded according to applicable law and expenses for company cars, but did not include compensation paid to car drivers made available to directors. In accordance with TSMC Procedure of Retirement, we made the pension payment of NT$76.2 million to Morris Chang.

Compensation Paid to Executive Officers(1)

The following table presents the compensation paid and benefits in kind granted to our executive officers in 2018:

 

Name/Title

   Salary      Bonus(4)      Stock
Awards
     All Other
Compensation(5)
     Total  
     NT$      NT$      NT$      NT$      NT$      US$  
     (in millions)  

C.C. Wei, Chief Executive Officer

     9.5        222.8        —          4.3        236.6        7.7  

Lora Ho, Senior Vice President/ Chief Financial Officer/ Spokesperson

     5.5        90.3        —          1.7        97.6        3.2  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Stephen T. Tso, Senior Vice President(2)

                 

Wei-Jen Lo, Senior Vice President

                 

Rick Cassidy, Senior Vice President

                 

Y.P. Chin, Senior Vice President

                 

Y.J. Mii, Senior Vice President

                 

J.K. Lin, Senior Vice President(8)

                 

J.K. Wang, Senior Vice President

                 

M.C. Tzeng, Vice President(2)

                 

Jack Sun, Vice President(2)

                 

N.S. Tsai, Vice President

     96.7        1,064.7        —          41.9        1,203.3        39.3 (6) 

Irene Sun, Vice President

                 

Cliff Hou, Vice President

                 

Been-Jon Woo, Vice President(2)

                 

Sylvia Fang, Vice President & General Counsel

                 

Connie Ma, Vice President

                 

Y.L. Wang, Vice President

                 

Doug Yu, Vice President

                 

Alexander Kalnitsky, Vice President & TSMC Fellow

                 

Kevin Zhang, Vice President

                 

T.S. Chang, Vice President & TSMC Fellow(3)

                 

Michael Wu, Vice President(3)

                 

Min Cao, Vice President(3)

                 

H.-S. Philip Wong, Vice President(3)

                 

Marvin Liao, Vice President(3)

                 

Y.H. Liaw, Vice President(6)

                 
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total(7)

     111.8        1,377.9        —          47.8        1,537.5        50.2  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) 

The total compensation paid to the executive officers is decided based on their job responsibility, contribution, company performance and projected future risks the Company will face. It is reviewed by the Compensation Committee then submitted to the Board of Directors for approval.

(2) 

Stephen T. Tso, Jack Sun, M.C. Tzeng and Been-Jon Woo retired in 2018.

(3)

T.S. Chang, Michael Wu, Min Cao, H.-S. Philip Wong and Marvin Liao were promoted to Vice President in 2018.

(4) 

Included cash bonus and profit sharing bonus.

(5) 

Included pensions funded according to applicable law and expenses for company cars, but did not include compensation paid to car drivers made available to certain officers. In accordance with TSMC Procedure of Retirement, we made the pension payment of NT$60.8 million to Stephen T. Tso, M.C. Tzeng, Jack Sun and Been-Jon Woo.

 

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(6) 

Aggregate amount for executive officers other than C.C. Wei and Lora Ho. Compensation paid to Y.H. Liaw was not included since he was promoted to Vice President on February 19, 2019.

(7) 

These amounts did not include Mark Liu’s compensation for the period from January 1, 2018 to June 4, 2018 when he served as President and Co-CEO of TSMC. During this period, Mark Liu’s salary was NT$4.2 million, bonus was NT$82.3 million, stock award was nil, all other compensation was NT$0.1 million, and the total was NT$86.6 million (US$2.8 million). Therefore, TSMC’s Total Compensation Paid to Executive Officers including Mark Liu was NT$1,624 million (US$53 million).

(8)

In addition to the above, J.K. Lin received NT$0.1 million of compensation from non-consolidated affiliates.

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 four members comprising all of our independent directors (after Mr. Thomas J. Engibous resigned from our Board, Audit Committee and Compensation Committee effective as of January 1, 2019 due to health reason). The members of the Audit Committee are Sir Peter L. Bonfield, the Chairman of our Audit Committee, Mr. Stan Shih, Ms. Kok-Choo Chen and Mr. Michael R. Splinter. In addition, Mr. Jan C. Lobbezoo was appointed to serve as a 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 and one special meeting in 2018. In addition to these meetings, the Audit Committee members and consultant participated in three telephone conferences to discuss our Annual Report to be filed with the Taiwan and U.S. authorities and investor conference materials with management.

As part of its risk oversight of our operations and financial controls, our Audit Committee receives and reviews periodic reports from the head of our IT operations relating to our information technology and security matters, including any cybersecurity incidents, assessment of new and emerging cybersecurity risks and threats and their proposed improvement measures. Based on such reviews and their discussions with the head of our IT operations, our Audit Committee assists our Board to review, assess, and enhance the adequacy and effectiveness of our cybersecurity policies and procedures on an ongoing basis.

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.

 

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The members of the Compensation Committee are appointed by the Board as required by R.O.C. law. The Compensation Committee, by its charter, shall consist of no fewer than three independent directors of the Board. Currently, the Compensation Committee comprises all four independent directors (after Mr. Thomas J. Engibous resigned from our Board, Audit Committee and Compensation Committee effective as of January 1, 2019 due to health reason) and Mr. Moshe N. Gavrielov, the former Chief Executive Officer of Xilinx, Inc., an independent non-director member who was appointed pursuant to R.O.C. law. The members of the Compensation Committee are Mr. Michael R. Splinter, the Chairman of our Compensation Committee, Sir Peter L. Bonfield, Mr. Stan Shih, Ms. Kok-Choo Chen, and Mr. Moshe N. Gavrielov.

The Compensation Committee convened four regular meetings in 2018.

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

   2016      2017      2018  

Managers

     4,909        5,107        5,294  

Professionals

     20,719        21,895        22,285  

Assistant Engineers/Clericals

     3,934        4,082        4,109  

Technicians

     17,406        17,518        17,064  
  

 

 

    

 

 

    

 

 

 

Total

     46,968        48,602        48,752  
  

 

 

    

 

 

    

 

 

 

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

   2016      2017      2018  

Hsinchu Science Park, Taiwan

     22,960        24,488        23,998  

Southern Taiwan Science Park, Taiwan

     11,715        10,276        11,157  

Central Taiwan Science Park, Taiwan

     6,003        6,825        6,868  

Taoyuan County, Taiwan

     1,842        1,804        1,482  

China

     2,868        3,598        3,634  

North America

     1,487        1,522        1,522  

Europe

     55        54        55  

Japan

     33        32        33  

Korea

     5        3        3  
  

 

 

    

 

 

    

 

 

 

Total

     46,968        48,602        48,752  
  

 

 

    

 

 

    

 

 

 

As of December 31, 2018, our total employee population was 48,752 with an educational makeup of 4.7% Ph.Ds, 42.6% masters, 25.9% university bachelors, 11.1% college degrees and 15.7% others. Among this employee population, 56.6% were at a managerial or professional level. Continuous learning is the cornerstone of our employee development strategy. Individual development plans are tailor-made to individual development needs for each employee. Employee development is further supported and enforced by a comprehensive network of resources including on the job training, coaching, mentoring, job rotation, classroom training, e-learning and external learning opportunities.

Pursuant to our Articles of Incorporation, our employees participate in our profits sharing program by way of a bonus. Employees in the aggregate are entitled to not less than 1% of our annual profits (defined under local law), after recovering any losses incurred in prior years, if any. Our practice has been to determine the amount of the bonus based on our operating results and industry practice in the R.O.C. In 2017 and 2018, we distributed an employees’ cash bonus of NT$23,019 million and an annual employees’ cash profit sharing bonus of NT$23,019 million to our employees in relation to year 2017 profits. In 2018 and 2019, we distributed an employees’ cash bonus of NT$23,570 million (US$770 million) to our employees in relation to year 2018 profits. Annual employees’ cash profit sharing bonus of NT$23,570 million (US$770 million) in relation to year 2018 profits will be distributed in July 2019.

 

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As to employee relations, 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 28, 2019, 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

   1,653,709,980    6.38%

BlackRock, Inc.(1)

   1,442,359,906    5.56%

Capital World Investors(2)

   1,380,420,495    5.32%

Directors and executive officers as a group(3)

        90,417,155    0.35%

 

(1) 

According to the Schedule 13G of BlackRock, Inc. filed with the Securities and Exchange Commission on February 6, 2019, BlackRock, Inc. is the parent holding company or control person of several entities with interests in TSMC. We do not have further information with respect to BlackRock, Inc.’s ownership in us subsequent to its Schedule 13G filed on February 6, 2019.

(2) 

According to the Schedule 13G of Capital World Investors filed with the Securities and Exchange Commission on February 14, 2019, Capital World Investors is deemed to be the beneficial owner of the number of common shares listed above as a result of Capital Research and Management Company acting as investment adviser to various investment companies registered under Section 8 of the Investment Company Act of 1940. We do not have further information with respect to Capital World Investors’ ownership in us subsequent to its Schedule 13G filed on February 14, 2019.

(3) 

Excluded ownership of the National Development Fund.

As of February 28, 2019, a total of 25,930,380,458 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 their custodians in the R.O.C. As of February 28, 2019, 5,340,256,863 common shares were registered in the name of a nominee of Citibank, N.A., the depositary under our ADS deposit agreement. Citibank, N.A., advised us that, as of February 28, 2019, 1,068,051,367 ADSs, representing 5,340,256,863 common shares, were held of record by Cede & Co. and 87 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 currently 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 (“VIS”)

In 1994, we, the R.O.C. Ministry of Economic Affairs and other investors established VIS, then an integrated DRAM manufacturer. VIS commenced volume commercial production in 1995 and listed its shares on the R.O.C. Over-the-Counter (Taipei Exchange) in March 1998. In 2004, VIS completely terminated its DRAM production and became a dedicated foundry company. As of February 28, 2019, we owned approximately 28.3% of the equity interest in VIS.

 

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On April 1, 2004, we entered into an agreement with VIS with an initial term of two years. During the term of this agreement, VIS was 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 was 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 VIS at a fixed discount to the actual selling price as mutually agreed between the parties in respect of each purchase order. In 2018, we had total purchases of NT$5,143 million (US$168 million) from VIS, representing 1.0% of our total cost of revenue.

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. See below for a detailed discussion of the contract terms we entered into with SSMC.

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 metal oxide semiconductor (“MOS”) integrated circuits wafer volume production fabs. In return, we 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 2018, we had total purchases of NT$3,667 million (US$120 million) from SSMC, representing 0.7% of our total cost of revenue.

Global Unichip Corporation (“GUC”)

In January 2003, we acquired a 52.0% equity interest in GUC, a 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 were 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 consolidated GUC and its subsidiaries in our financial statements. As of February 28, 2019, we owned approximately 34.8% of the equity interest in GUC.

In 2018, we had total sales of NT$8,370 million (US$273 million) to GUC, representing 0.8% of our total revenue.

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 CMOS image sensor manufacturing business. Since June 2013, we no longer consolidated Xintec in our financial statements as the number of our appointed directors on Xintec’s board consisted less than a majority. On March 30, 2015, Xintec listed its shares on the R.O.C. Over-the-Counter (Taipei Exchange). Subsequent to Xintec’s IPO, our shareholding in Xintec was diluted to approximately 41.2%. As of February 28, 2019, we owned approximately 41.0% of the equity interest in Xintec.

In 2018, we incurred total manufacturing expenses of NT$2,975 million (US$97 million) from Xintec, representing 0.6% of our total cost of revenue.

 

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ITEM 8.

FINANCIAL INFORMATION

Consolidated Financial Statements and Other Financial Information

Please see “Item 18. Financial Statements”. Other than as disclosed elsewhere in this annual report, no significant change has occurred since the date of the annual consolidated financial statements.

Legal Proceedings

As is the case with many companies in the semiconductor industry, we have received from time to time communications from third parties asserting that our technologies, our manufacturing processes, or the design of the semiconductors made by us or the use of those semiconductors by our customers may infringe upon their patents or other intellectual property rights. These assertions have at times resulted in litigation by or against us and settlement payments by us. Irrespective of the validity of these claims, we could incur significant costs in the defense thereof or could suffer adverse effects on our operations.

In May 2017, Uri Cohen filed a complaint in the U.S. District Court for the Eastern District of Texas alleging that TSMC, TSMC North America and other companies infringe four U.S. patents. Cohen’s case was transferred to and consolidated with the responsive declaratory judgment case for non-infringement of Cohen’s asserted patents filed by TSMC and TSMC North America in the U.S. District Court for the Northern District of California. In July 2018, all pending litigations between the parties in the U.S. District Court for the Northern District of California were dismissed.

On September 28, 2017, TSMC was contacted by the European Commission, which has asked us for information and documents concerning alleged anti-competitive practices in relation to semiconductor sales. We are cooperating with the European Commission to provide the requested information and documents. In light of the fact that this proceeding is still in its preliminary stage, it is premature to predict how the case will proceed, the outcome of the proceeding or its impact.

In February 2019, Innovative Foundry Technologies LLC (“IFT”) filed a complaint in the U.S. District Court for the District of Delaware alleging that TSMC and TSMC Technology Inc. infringe five U.S. patents. IFT also filed a complaint in the U.S. International Trade Commission (the “ITC”) alleging that TSMC, TSMC North America, TSMC Technology Inc., and other companies infringe the same patents. The ITC instituted an investigation on March 21. The outcome cannot be determined and we cannot make a reliable estimate of the contingent liability at this time.

Other than the matters described above, we were not a party to any other material litigation in 2018 and are not currently a party to any other material litigation.

Dividends and Dividend Policy

The following table sets forth the dividends per share paid during each of the years indicated in respect of common shares outstanding on the record dates eligible to the payments of those dividends. During 2016, 2017 and 2018, we paid cash dividends in the amounts of NT$155,582,282,748, NT$181,512,663,206, and NT$207,443,043,664 (US$6,776,969,737), respectively.

 

     Cash Dividends
Per Share
   Outstanding common
shares at year end
     NT$     

2016

       6.0000        25,930,380,458

2017

       7.0000        25,930,380,458

2018

       8.0000        25,930,380,458

Except as otherwise specified in the Articles of Incorporation or under the R.O.C. law, we will not pay dividends or make other distributions to shareholders in respect of any year in which we have no earnings or retained earnings. The R.O.C. Company Act also requires that 10% of annual net income (less prior years’ losses and outstanding taxes) be set aside as legal reserve until the accumulated legal reserve equals our paid-in capital. Our profits may be distributed by way of cash dividend, stock dividend, or a combination of cash and stock. On December 21, 2004, our shareholders approved amendments to our Articles of Incorporations pursuant to which distributions of profits shall be made preferably by way of cash dividend. In addition, pursuant to the amendments, the ratio for stock dividends shall not exceed 50% of the total distribution. Distribution of stock dividends is subject to approval by the R.O.C. FSC.

 

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Payment of dividends (including in cash and in stock) in respect of the prior year is made following approval by the annual general meeting of shareholders. The R.O.C. Company Act, amended in August 2018, allows a company, as authorized by its Articles of Incorporation, to distribute dividends on a quarterly basis or a semi-annual basis and to have its board of directors to approve the dividends in cash. On February 19, 2019, our board of directors adopted a proposal recommending distribution of a 2018 cash dividend of NT$8 per common share and resolved to submit the proposal for approval by the annual general meeting of shareholders to be held on June 5, 2019. Our board of directors also resolved to submit for approval at the annual general meeting of shareholders the proposed amendments to our Articles of Incorporation to authorize our board of directors to approve cash dividends after the close of each quarter. Subject to our shareholders’ approval of such amendments, our board of directors will approve each quarter’s dividend in the following quarter’s board meeting, after which the dividend will be distributed within six months. Our board of directors plans to approve a cash dividend of NT$2 per common share for the first quarter of 2019 in the second quarter of 2019, which will be paid in the fourth quarter of 2019. Subject to our shareholders’ approval, all shareholders of TSMC are therefore expected to receive a cash dividend of NT$10 per common share in total in 2019.

Holders of outstanding common shares on a dividend record date will be entitled to the full dividend declared without regard to any subsequent transfer of the common shares.

Holders of ADRs evidencing ADSs are entitled to receive dividends, subject to the terms of the deposit agreement, to the same extent as the holders of common shares. Cash dividends will be paid to the depositary and, after deduction of any applicable R.O.C. taxes and except as otherwise provided in the deposit agreement, will be paid to holders. Stock dividends will be distributed to the depositary and, except as otherwise provided in the deposit agreement, will be distributed to holders by the depositary in the form of additional ADSs.

For information relating to R.O.C. withholding taxes payable on cash and stock dividends, see “Item 10. Additional Information – Taxation – R.O.C. Taxation – Dividends”.

 

ITEM 9.

THE OFFER AND LISTING

The principal trading market for our common shares is the Taiwan Stock Exchange. Our common shares have been listed on the Taiwan Stock Exchange under the symbol “2330” since September 5, 1994, and the ADSs have been listed on the New York Stock Exchange under the symbol “TSM” since October 8, 1997. The outstanding ADSs are identified by the CUSIP number 874039100.

 

ITEM 10.

ADDITIONAL INFORMATION

Description of Common Shares

We are organized under the laws of the R.O.C. Set forth below is a description of our common shares, including summaries of the material provisions of our Articles of Incorporation, the R.O.C. Company Act, the R.O.C. Securities and Exchange Law and the regulations promulgated thereunder.

General

Our authorized share capital is NT$280,500,000,000, divided into 28,050,000,000 common shares, of which 500,000,000 common shares are reserved for the issuance for our employee stock options and among which 25,930,380,458 common shares were issued and outstanding both as of December 31, 2018 and February 28, 2019. No employee stock options were outstanding as of December 31, 2018 and February 28, 2019.

The R.O.C. Company Act, the R.O.C. Act for Establishment and Administration of Science Parks and the R.O.C. Securities and Exchange Law provide that any change in the issued share capital of a public company, such as us, requires the approval of its board of directors, (or, for capital reduction, a resolution of its shareholders meeting), the approval of, or the registration with, the R.O.C. FSC and the Ministry of Economic Affairs or the Science Park Administration (as applicable) and/or an amendment to its articles of incorporation (if such change also involves a change in the authorized share capital).

There are no provisions under either R.O.C. law or the deposit agreement under which holders of ADSs would be required to forfeit the common shares represented by ADSs.

 

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Dividends and Distributions

An R.O.C. company is generally not permitted to distribute dividends or to make any other distributions to shareholders in respect of any year for which it did not have either earnings or retained earnings. In addition, before distributing a dividend to shareholders following the end of a fiscal year, the company must recover any past losses, pay all outstanding taxes and set aside in a legal reserve, until such time as its legal reserve equals its paid-in capital, 10% of its net income for that fiscal year (less any past losses and outstanding tax), and may set aside a special reserve.

At the annual general meeting of our shareholders, the board of directors submits to the shareholders for their approval of our financial statements for the preceding fiscal year and any proposal for the distribution of a dividend or the making of any other distribution to shareholders from our earnings or retained earnings (subject to compliance with the requirements described above) at the end of the preceding fiscal year. All common shares outstanding and fully paid as of the relevant record date are entitled to share equally in any dividend or other distribution so approved. Dividends may be distributed in cash, in the form of common shares or a combination thereof, as determined by the shareholders at the meeting.

The R.O.C. Company Act, amended in August 2018, allows a company, as authorized by its Articles of Incorporation, to distribute dividends on a quarterly basis or a semi-annual basis and to have its board of directors to approve the dividends in cash. We will submit for approval at the 2019 Annual Shareholders’ Meeting the proposed amendments of Articles of Incorporation to authorize our board of directors to approve cash dividends after the close of each quarter.

In addition to permitting dividends to be paid out of earnings or retained earnings, the R.O.C. Company Act permits us to make distributions to our shareholders in cash or in the form of common shares from capital surplus and the legal reserve. However, dividend distribution out of our legal reserve can only be effected to the extent of the excessive amount of the accumulated legal reserve over 25% of our paid-in capital.

For information as to R.O.C. taxes on dividends and distributions, see “— Taxation — R.O.C. Taxation”.

Preemptive Rights and Issues of Additional Common Shares

Under the R.O.C. Company Act, when a public company, such as us, issues new shares of common stock for cash, 10% to 15% of the issue must be offered to its employees. The remaining new shares must be offered to existing shareholders in a preemptive rights offering, subject to a requirement under the R.O.C. Securities and Exchange Law that at least 10% of these issuances must be offered to the public. This percentage can be increased by a resolution passed at a shareholders’ meeting, thereby limiting or waiving the preemptive rights of existing shareholders. The preemptive rights provisions do not apply to limited circumstances, such as:

 

   

issuance of new shares upon conversion of convertible bonds; and

 

   

offerings of new shares through a private placement approved at a shareholders’ meeting.

Authorized but unissued shares of any class may be issued at such times and, subject to the above-mentioned provisions of the R.O.C. Company Act and the R.O.C. Securities and Exchange Law, upon such terms as the board of directors may determine. The shares with respect to which preemptive rights have been waived may be freely offered, subject to compliance with applicable R.O.C. law.

Meetings of Shareholders

Meetings of our shareholders may be general meetings or special meetings. General meetings of shareholders are generally held in Hsinchu, Taiwan, within six months after the end of each fiscal year. Special meetings of shareholders may be convened by resolution of the board of directors whenever it deems necessary, or under certain circumstances, by shareholders or the audit committee. For a public company such as us, notice in writing of shareholders’ meetings, stating the place, time and purpose thereof, must be sent to each shareholder at least thirty days (in the case of general meetings) and fifteen days (in the case of special meetings) prior to the date set for each meeting.

 

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Voting Rights

A holder of common shares has one vote for each common share. Except as otherwise provided by law, a resolution may be adopted by the holders of a simple majority of the total issued and outstanding common shares represented at a shareholders’ meeting at which a majority of the holders of the total issued and outstanding common shares are present. The election of directors at a shareholders’ meeting is by cumulative voting. As authorized under the R.O.C. Company Act, we have adopted a nomination procedure for election of our directors in our Articles of Incorporation. According to our Articles of Incorporation, ballots for the election of directors and independent directors are cast separately.

The R.O.C. Company Act also provides that in order to approve certain major corporate actions, including but not limited to, (i) any amendment to the articles of incorporation (which is required for, among other actions, any increase in authorized share capital), (ii) execution, modification or termination of any contracts regarding leasing of all business or joint operations or mandate of the company’s business to other persons, (iii) the dissolution, amalgamation or spin-off of a company or the transfer of the whole or an important part of its business or its properties or the taking over of the whole of the business or properties of any other company which would have a significant impact on the acquiring company’s operations or (iv) the removal of directors or supervisors or (v) the distribution of any stock dividend, a meeting of the shareholders must be convened with a quorum of holders of at least two-thirds of all issued and outstanding shares of common stock at which the holders of at least a majority of the common stock represented at the meeting vote in favor thereof. However, in the case of a publicly held company such as us, such a resolution may be adopted by the holders of at least two-thirds of the shares of common stock represented at a meeting of shareholders at which holders of at least a majority of the issued and outstanding shares of common stock are present.

A shareholder may be represented at a shareholders’ meeting by proxy. A valid proxy must be delivered to us at least five days prior to the commencement of the shareholders’ meeting.

Holders of ADSs will not have the right to exercise voting rights with respect to the common shares represented thereby, except as described in “— Voting of Deposited Securities”.

Other Rights of Shareholders

Under the R.O.C. Company Act, dissenting shareholders are entitled to appraisal rights in the event of amalgamation, spin-off or certain other major corporate actions. A dissenting shareholder may request us to redeem all of the shares owned by that shareholder at a fair price to be determined by mutual agreement or a court order if agreement cannot be reached. A shareholder may exercise these appraisal rights by serving a written notice on us prior to the related shareholders’ meeting and by raising an objection at the shareholders’ meeting. In addition to appraisal rights, any shareholder has the right to sue for the annulment of any resolution adopted at a shareholders’ meeting where the procedures were legally defective within thirty days after the date of such shareholders’ meeting. One or more shareholders who have held more than one percent of our issued and outstanding shares for six months or longer may require the audit committee to bring a derivative action against a director for that director’s liability to us as a result of that director’s unlawful actions or failure to act. In addition, one or more shareholders who have held more than three percent of our issued and outstanding shares for over a year may require the board of directors to convene a special shareholders’ meeting by sending a written request to the board of directors, while one or more shareholders who have held over 50% of our issued and outstanding shares for three months may convene a special shareholders’ meeting by themselves.

The R.O.C. Company Act allows shareholder(s) holding 1% or more of the total issued shares of a company to, during the period of time prescribed by the company, submit one proposal in writing or through any electronic means designated by us, which contains no more than three hundred words (Chinese characters) for discussion at the general meeting of shareholders. In addition, if a company adopts a nomination procedure for election of directors or supervisors in its articles of incorporation, shareholders representing 1% or more of the total issued shares of such company may submit a candidate list in writing to the company along with relevant information and supporting documents.

 

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Register of Shareholders and Record Dates

Our share registrar, CTBC Bank Co., Ltd., maintains the register of our shareholders at its office in Taipei, Taiwan. Under the R.O.C. Company Act, the transfer of common shares in registered form is effected by endorsement of the transferor’s and transferee’s seals on the share certificates and delivery of the related share certificates. In order to assert shareholders’ rights against us, however, the transferee must have his name and address registered on the register of shareholders. Shareholders are required to file their respective specimen signatures or seals with us. The settlement of trading in the common shares is carried out on the book-entry system maintained by the Taiwan Depository & Clearing Corporation and therefore, the share transfer will follow the procedures of the Taiwan Depository & Clearing Corporation.

The R.O.C. Company Act permits us to set a record date and close the register of shareholders for a specified period in order for us to determine the shareholders or pledgees that are entitled to certain rights pertaining to common shares by giving advance public notice. Under the R.O.C. Company Act, our register of shareholders should be closed for a period of sixty days, thirty days and five days immediately before each general meeting of shareholders, special meeting of shareholders and record date of dividend distribution, respectively.

Annual Financial Statements

Under the R.O.C. Company Act, ten days before the general meeting of shareholders, our annual financial statements must be available at our principal office in Hsinchu for inspection by the shareholders.

Acquisition of Common Shares by Us

With minor exceptions, neither we nor our subsidiaries may acquire our common shares under the R.O.C. Company Act. However, under the R.O.C. Securities and Exchange Law, we may, by a board resolution adopted by majority consent at a meeting with two-thirds of our directors present, purchase our common shares on the Taiwan Stock Exchange or by a tender offer, in accordance with the procedures prescribed by the R.O.C. FSC, for the following purposes: (i) to transfer shares to our employees; (ii) to satisfy our obligations to provide our common shares upon exercise or conversion of any warrants, convertible bonds or convertible preferred shares; and (iii) if necessary, to maintain our credit and our shareholders’ equity (such as for the purpose of supporting the trading price of our common shares during market dislocations), provided that the common shares so purchased shall be cancelled thereafter.

We are not allowed to purchase more than ten percent of our total issued and outstanding common shares. In addition, we may not spend more than the aggregate amount of our retained earnings, premium from issuing stock and the realized portion of the capital reserve to purchase our common shares.

We may not pledge or hypothecate any purchased common shares. In addition, we may not exercise any shareholders’ rights attached to such common shares. In the event that we purchase our common shares on the Taiwan Stock Exchange, our affiliates, directors, managers and their respective spouses, minor children and nominees are prohibited from selling any of our common shares during the period in which we purchase our common shares.

Liquidation Rights

In the event of our liquidation, the assets remaining after payment of all debts, liquidation expenses, taxes and distributions to holders of preferred shares, if any, will be distributed pro rata to our shareholders in accordance with the R.O.C. Company Act.

Transaction Restrictions

The R.O.C. Securities and Exchange Law (i) requires each director, supervisor, manager or shareholder, together with its/his/her spouse, minor children or nominees, holding more than ten percent of the shares of a public company to report the amount of that person’s shareholding (as well as the shareholding of its/his/her spouse, minor children or nominees), on a monthly basis, to that company and (ii) limits the number of shares that can be sold or transferred on the Taiwan Stock Exchange or on the R.O.C. Over-the-Counter (Taipei Exchange) by that person, as well as its/his/her respective spouse, minor children or nominees, per day. The above sale and transfer of shares can be made only after that person (as well as its/his/her respective spouse, minor children or nominees) has held the shares for more than six months and that person should report to the Securities and Futures Bureau at least three days before the intended sale or transfer; unless the number of shares to be sold or transferred does not exceed 10,000.

 

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Material Contracts

TSMC joined the Customer Co-Investment Program of ASML Holding N.V. (“ASML”) in August 2012. As part of this program, TSMC and ASML signed a research and development funding agreement whereby TSMC shall provide EUR276 million to ASML’s research and development programs from 2013 to 2017.

TSMC is not currently a party to any other material contract, other than contracts entered into in the ordinary course of our business.

Foreign Investment in the R.O.C.

Since 1983, the R.O.C. government has periodically enacted legislation and adopted regulations to permit foreign investment in the R.O.C. securities market.

On September 30, 2003, the R.O.C. Executive Yuan approved an amendment to Regulations Governing Investment in Securities by Overseas Chinese and Foreign National, or the Regulations, which took effect on October 2, 2003. According to the Regulations, the R.O.C. FSC abolished the mechanism of the so-called “qualified foreign institutional investors” and “general foreign investors” as stipulated in the Regulations before the amendment.

Under the Regulations, foreign investors are classified as either “onshore foreign investors” or “offshore foreign investors” according to their respective geographical location. Both onshore and offshore foreign investors are allowed to invest in R.O.C. securities after they register with the Taiwan Stock Exchange. The Regulations further classify foreign investors into foreign institutional investors and foreign individual investors. “Foreign institutional investors” refer to those investors incorporated and registered in accordance with foreign laws outside of the R.O.C. (i.e., offshore foreign institutional investors) or their branches set up and recognized within the R.O.C. (i.e., onshore foreign institutional investors). Offshore overseas Chinese and foreign individual investors may be subject to a maximum investment ceiling that will be separately determined by the R.O.C. FSC after consultation with the Central Bank of the Republic of China (Taiwan). Currently, there is no maximum investment ceiling for offshore overseas Chinese and foreign individual investors. On the other hand, foreign institutional investors are not subject to any ceiling for investment in the R.O.C. securities market.

Except for certain specified industries, such as telecommunications, investments in R.O.C.-listed companies by foreign investors are not subject to individual or aggregate foreign ownership limits. Custodians for foreign investors are required to submit to the Central Bank of the Republic of China (Taiwan) and the Taiwan Stock Exchange a monthly report of trading activities and status of assets under custody and other matters. Capital remitted to the R.O.C. under these guidelines may be remitted out of the R.O.C. at any time after the date the capital is remitted to the R.O.C. Capital gains and income on investments may be remitted out of the R.O.C. at any time.

Foreign investors (other than foreign investors who have registered with the Taiwan Stock Exchange for making investments in the R.O.C. securities market) who wish to make direct investments in the shares of R.O.C. companies are required to submit a foreign investment approval application to the Investment Commission of the R.O.C. Ministry of Economic Affairs or other applicable government authority. The Investment Commission or such other government authority reviews each foreign investment approval application and approves or disapproves each application after consultation with other governmental agencies (such as the Central Bank of the Republic of China (Taiwan) and the R.O.C. FSC).

Under current R.O.C. law, any non-R.O.C. person possessing a foreign investment approval may repatriate annual net profits, interest and cash dividends attributable to the approved investment. Stock dividends attributable to this investment, investment capital and capital gains attributable to this investment may be repatriated by the non-R.O.C. person possessing a foreign investment approval after approvals of the Investment Commission or other government authorities have been obtained.

 

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In addition to the general restriction against direct investment by non-R.O.C. persons in securities of R.O.C. companies, non-R.O.C. persons (except in certain limited cases) are currently prohibited from investing in certain industries in the R.O.C. pursuant to a “negative list”, as amended by the R.O.C. Executive Yuan. The prohibition on foreign investment in the prohibited industries specified in the negative list is absolute in the absence of a specific exemption from the application of the negative list. Pursuant to the negative list, certain other industries are restricted so that non-R.O.C. persons (except in limited cases) may invest in these industries only up to a specified level and with the specific approval of the relevant competent authority that is responsible for enforcing the relevant legislation that the negative list is intended to implement.

The R.O.C. FSC announced on April 30, 2009 the Regulations Governing Mainland Chinese Investors’ Securities Investments (“P.R.C. Regulations”) and amended the same on October 6, 2010. According to the P.R.C. Regulations, a P.R.C. qualified domestic institutional investor (“QDII”) is allowed to invest in R.O.C. securities (including less than 10% shareholding of an R.O.C. company listed on Taiwan Stock Exchange or R.O.C. Over-the-Counter (Taipei Exchange)). Nevertheless, the total investment amount of QDIIs cannot exceed US$500 million. For each QDII, the custodians of such QDIIs must apply with the Taiwan Stock Exchange for the remittance amount for each QDII, which cannot exceed US$100 million, and QDII can only invest in the R.O.C. securities market with the amount approved by the Taiwan Stock Exchange. In addition, QDIIs are currently prohibited from investing in certain industries, and their investment of certain other industries in a given company is restricted to a certain percentage pursuant to a list promulgated by the FSC and amended from time to time. P.R.C. investors other than QDII, however, are prohibited from making investments in an R.O.C. company listed on the Taiwan Stock Exchange or the R.O.C. Over-the-Counter (Taipei Exchange), unless with approval from the Investment Commission of the R.O.C. Ministry of Economic Affairs for its investment of 10% or more (or other percentage applicable to certain restricted industries) of the equity interest of such R.O.C. company.

In addition to investments permitted under the P.R.C. Regulations, P.R.C. investors who wish to make (i) direct investment in the shares of R.O.C. private companies or (ii) investments, individually or aggregately, in 10% or more (or other percentage applicable to certain restricted industries) of the equity interest of an R.O.C. company listed on the Taiwan Stock Exchange or R.O.C. Over-the-Counter (Taipei Exchange) are required to submit an investment approval application to the Investment Commission of the R.O.C. Ministry of Economic Affairs or other government authority. The Investment Commission of the R.O.C. Ministry of Economic Affairs or such other government authority reviews Investment Approval application and approves or disapproves each application after consultation with other governmental agencies. Furthermore, P.R.C. investor who wishes to be elected as an R.O.C. company’s director or supervisor shall also submit an investment approval application to the Investment Commission of the R.O.C. Ministry of Economic Affairs or other government authority for approval.

Depositary Receipts

In April 1992, the R.O.C. FSC enacted regulations permitting R.O.C. companies with securities listed on the Taiwan Stock Exchange, with the prior approval of the R.O.C. FSC, to sponsor the issuance and sale to foreign investors of depositary receipts. Depositary receipts represent deposited shares of R.O.C. companies. In December 1994, the R.O.C. FSC allowed companies whose shares are listed on the Taiwan Stock Exchange or traded on the R.O.C. Over-the-Counter (Taipei Exchange), upon approval of the R.O.C. FSC, to sponsor the issuance and sale of depositary receipts.

Our deposit agreement has been amended and restated on November 16, 2007 to: (i) make our ADSs eligible for the direct registration system, as required by the New York Stock Exchange, by providing that ADSs may be certificated or uncertificated securities, (ii) enable the distribution of our reports by electronic means and (iii) reflect changes in R.O.C. laws in connection with the nomination of candidates for independent directors, for voting at the meeting of the shareholders. A copy of our amended and restated deposit agreement has been filed under the cover of Form F-6 on November 16, 2007.

A holder of depositary receipts (other than citizens of the P.R.C. and entities organized under the laws of the P.R.C. save for QDII or those which otherwise obtain the approval of the Investment Commission of the R.O.C. Ministry of Economic Affairs) may request the depositary to either cause the underlying shares to be sold in the R.O.C. and to distribute the sale proceeds to the holder or to withdraw from the depositary receipt facility the shares represented by the depositary receipts to the extent permitted under the deposit agreement (for depositary receipts representing existing shares, immediately after the issuance of the depositary receipts; and for depositary receipts representing new shares, in practice four to seven business days after the issuance of the depositary receipts) and transfer the shares to the holder.

 

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We, or the foreign depositary bank, may not increase the number of depositary receipts by depositing shares in a depositary receipt facility or issuing additional depositary receipts against these deposits without specific R.O.C. FSC approval, except in limited circumstances. These circumstances include issuances of additional depositary receipts in connection with:

 

   

dividends or free distributions of shares;

 

   

the exercise by holders of existing depositary receipts of their pre-emptive rights in connection with capital increases for cash; or

 

   

if permitted under the deposit agreement and custody agreement, the deposit of common shares purchased by any person directly or through a depositary bank on the Taiwan Stock Exchange or the R.O.C. Over-the-Counter (Taipei Exchange) (as applicable) or held by such person for deposit in the depositary receipt facility.

However, the total number of deposited shares outstanding after an issuance under the circumstances described in the third clause above may not exceed the number of deposited shares previously approved by the R.O.C. FSC plus any depositary receipts created under the circumstances described in the first two clauses above. Issuances of additional depositary receipts under the circumstances described in the third clause above will be permitted to the extent that previously issued depositary receipts have been canceled and the underlying shares have been withdrawn from the depositary receipt facility.

Under current R.O.C. law, a non-R.O.C. holder of ADSs who withdraws and holds the underlying shares must register with the Taiwan Stock Exchange and appoint an eligible local agent to:

 

   

open a securities trading account with a local securities brokerage firm;

 

   

open an NT dollars bank account;

 

   

pay taxes;

 

   

remit funds; and

 

   

exercise rights on securities and perform other matters as may be designated by the holder.

Under existing R.O.C. laws and regulations, without this account, holders of ADSs that withdraw and hold the common shares represented by the ADSs would not be able to hold or subsequently transfer the common shares, whether on the Taiwan Stock Exchange or otherwise. In addition, a withdrawing non-R.O.C. holder must appoint a local custodian for handling confirmation and settlement of trades, safekeeping of securities and cash proceeds and reporting of information.

Holders of ADSs who are non-R.O.C. persons withdrawing common shares represented by ADSs are required under current R.O.C. law and regulations to appoint an agent in the R.O.C. for filing tax returns and making tax payments. This agent, a “tax guarantor”, must meet certain qualifications set by the R.O.C. Ministry of Finance and, upon appointment, becomes a guarantor of the withdrawing holder’s R.O.C. tax payment obligations. In addition, under current R.O.C. law, repatriation of profits by a non-R.O.C. withdrawing holder is subject to the submission of evidence of the appointment of a tax guarantor to, and approval thereof by, the tax authority, or submission of tax clearance certificates or submission of evidencing documents issued by such agent (so long as the capital gains from securities transactions are exempt from R.O.C. income tax).

Under existing R.O.C. laws and regulations relating to foreign exchange control, a depositary may, without obtaining further approvals from the Central Bank of the Republic of China (Taiwan) or any other governmental authority or agency of the R.O.C., convert NT dollars into other currencies, including U.S. dollars, in respect of the following: proceeds of the sale of shares represented by depositary receipts, proceeds of the sale of shares received as stock dividends and deposited into the depositary receipt facility and any cash dividends or cash distributions received. In addition, a depositary, also without any of these approvals, may convert inward remittances of payments into NT dollars for purchases of underlying shares for deposit into the depositary receipt facility against the creation of additional depositary receipts. A depositary may be required to obtain foreign exchange approval from the Central Bank of the Republic of China (Taiwan) on a payment-by-payment basis for conversion from NT dollars into other currencies relating to the sale of subscription rights for new shares. Proceeds from the sale of any underlying shares by holders of depositary receipts withdrawn from the depositary receipt facility may be converted into other currencies without obtaining Central Bank of the Republic of China (Taiwan) approval. Proceeds from the sale of the underlying shares withdrawn from the depositary receipt facility may be used for reinvestment in the Taiwan Stock Exchange or the R.O.C. Over-the-Counter (Taipei Exchange), subject to compliance with applicable laws and regulations.

 

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Direct Share Offerings

Since 1997, the R.O.C. government has amended regulations to permit R.O.C. companies listed on the Taiwan Stock Exchange or R.O.C. Over-the-Counter (Taipei Exchange) to issue shares directly (not through depositary receipt facility) overseas.

Overseas Corporate Bonds

Since 1989, the R.O.C. FSC has approved a series of overseas bonds issued by R.O.C. companies listed on the Taiwan Stock Exchange or the R.O.C. Over-the-Counter (Taipei Exchange) in offerings outside the R.O.C. Under current R.O.C. law, these overseas corporate bonds can be:

 

   

converted by bondholders, other than citizens of the P.R.C. and entities organized under the laws of the P.R.C. save for QDII or those that have obtained the approval of the Investment Commission of the R.O.C. Ministry of Economic Affairs, into shares of R.O.C. companies; or

 

   

subject to R.O.C. FSC approval, converted into depositary receipts issued by the same R.O.C. company or by the issuing company of the exchange shares, in the case of exchangeable bonds.

The relevant regulations also permit public companies to issue corporate debt in offerings outside the R.O.C. Proceeds from the sale of the shares converted from overseas convertible bonds may be used for reinvestment in securities listed on the Taiwan Stock Exchange or traded on the R.O.C. Over-the-Counter (Taipei Exchange), subject to compliance with applicable laws and regulations.

Exchange Controls in the R.O.C.

The R.O.C. Foreign Exchange Control Statute and regulations provide that all foreign exchange transactions must be executed by banks designated to handle such business by the R.O.C. FSC and by the Central Bank of the Republic of China (Taiwan). Current regulations favor trade-related foreign exchange transactions. Consequently, foreign currency earned from exports of merchandise and services may now be retained and used freely by exporters, and all foreign currency needed for the importation of merchandise and services may be purchased freely from the designated foreign exchange banks.

Trade aside, R.O.C. companies and resident individuals may, without foreign exchange approval, remit to and from the R.O.C. foreign currency of up to US$50 million (or its equivalent) and US$5 million (or its equivalent), respectively, in each calendar year. Furthermore, any remittance of foreign currency into the R.O.C. by a R.O.C. company or resident individual in a year will be offset by the amount remitted out of R.O.C. by such company or individual (as applicable) within its annual quota and will not use up its annual inward remittance quota to the extent of such offset. The above limits apply to remittances involving a conversion of NT dollars to a foreign currency and vice versa. A requirement is also imposed on all enterprises to register medium- and long-term foreign debt with the Central Bank of the Republic of China (Taiwan).

In addition, foreign persons may, subject to certain requirements, but without foreign exchange approval of the Central Bank of the Republic of China (Taiwan), remit outside and into the R.O.C. foreign currencies of up to US$100,000 (or its equivalent) for each remittance. The above limit applies to remittances involving a conversion of NT dollars to a foreign currency and vice versa. The above limit does not, however, apply to the conversion of NT dollars into other currencies, including U.S. dollars, in respect of the proceeds of sale of any underlying shares withdrawn from a depositary receipt facility.

Voting of Deposited Securities

Holders may direct the exercise of voting rights with respect to the common shares represented by the ADSs only in accordance with the provisions of the deposit agreement as described below and applicable R.O.C. law. See “Item 3. Key Information — Risk Factors — Risks Relating to Ownership of ADSs — Your voting rights as a holder of ADSs will be limited”.

Except as described below, the holders will not be able to exercise the voting rights attaching to the common shares represented by the ADSs on an individual basis. According to provisions of the deposit agreement, the voting rights attaching to the common shares represented by ADSs must be exercised as to all matters subject to a vote of shareholders by the depositary bank or its nominee, who represents all holders of ADSs, collectively in the same manner, except in the case of an election of directors. Directors are elected by cumulative voting unless our Articles of Incorporation stipulate otherwise.

 

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In the deposit agreement, the holders will appoint the depositary bank as their representative to exercise the voting rights with respect to the common shares represented by the ADSs.

We will provide the depositary bank with copies (including English translations) of notices of meetings of our shareholders and the agenda of these meetings, including a list of the director candidates, if an election of directors is to be held at the meeting. The depositary bank will mail these materials, together with a voting instruction form to holders as soon as practicable after the depositary bank receives the materials from us. In order to validly exercise its voting rights, the holder of ADSs must complete, sign and return to the depositary bank the voting instruction form by a date specified by the depositary bank.

Subject to the provisions described in the second succeeding paragraph, which will apply to the election of directors done by means of cumulative voting, if persons together holding at least 51% of the ADSs outstanding at the relevant record date instruct the depositary bank to vote in the same manner in respect of one or more resolutions to be proposed at the meeting (other than the election of directors), the depositary bank will notify the instructions to the chairman of our board of directors or a person he may designate. The depositary bank will appoint the chairman or his designated person to serve as the voting representative of the depositary bank or its nominee and the holders. The voting representative will attend such meeting and vote all the common shares represented by ADSs to be voted in the manner so instructed by such holders in relation to such resolution or resolutions.

If, for any reason, the depositary bank has not by the date specified by it received instructions from persons together holding at least 51% of all the ADSs outstanding at the relevant record date to vote in the same manner in respect of any resolution specified in the agenda for the meeting (other than the election of directors), then the holders will be deemed to have instructed the depositary bank or its nominee to authorize and appoint the voting representative as the representative of the depositary bank and the holders to attend such meeting and vote all the common shares represented by all ADSs as the voting representative deems appropriate with respect to such resolution or resolutions, which may not be in your interests; provided, however, that the depositary bank or its nominee will not give any such authorization and appointment unless it has received an opinion of R.O.C. counsel addressed to the depositary bank and in form and substance satisfactory to the depositary bank, at its sole expense, to the effect that, under R.O.C. law (i) the deposit agreement is valid, binding and enforceable against us and the holders and (ii) the depositary bank will not be deemed to be authorized to exercise any discretion when voting in accordance with the deposit agreement and will not be subject to any potential liability for losses arising from such voting. We and the depositary bank will take such actions, including amendment of the provisions of the deposit agreement relating to voting of common shares, as we deem appropriate to endeavor to provide for the exercise of voting rights attached to the common shares represented by all ADSs at shareholders’ meetings in a manner consistent with applicable R.O.C. law.

The depositary bank will notify the voting representative of the instructions for the election of directors received from holders and appoint the voting representative as the representative of the depositary bank and the holders to attend such meeting and vote the common shares represented by ADSs as to which the depositary bank has received instructions from holders for the election of directors, subject to any restrictions imposed by R.O.C. law and our Articles of Incorporation. Holders who by the date specified by the depositary bank have not delivered instructions to the depositary bank will be deemed to have instructed the depositary bank to authorize and appoint the voting representative as the representative of the depositary bank or its nominee and the holders to attend such meeting and vote all the common shares represented by ADSs as to which the depositary bank has not received instructions from the holders for the election of directors as the voting representative deems appropriate, which may not be in your best interests. Candidates standing for election as representatives of a shareholder may be replaced by such shareholder prior to the meeting of the shareholders, and the votes cast by the holders for such candidates shall be counted as votes for their replacements.

By accepting and continuing to hold ADSs or any interest therein, the holders will be deemed to have agreed to the voting provisions set forth in the deposit agreement, as such provisions may be amended from time to time to comply with applicable R.O.C. law.

There can be no assurance that the holders will receive notice of shareholders’ meetings sufficiently prior to the date established by the depositary bank for receipt of instructions to enable you to give voting instructions before the cutoff date.

 

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Moreover, in accordance with the deposit agreement, as further amended and restated as of November 16, 2007 and pursuant to R.O.C. Company Act, holders that individually or together with other holders hold at least 51% of the ADSs outstanding at the relevant record date are entitled to submit each year one written proposal for voting at the general meeting of shareholders; provided, that (i) such proposal is in Chinese language and does not exceed 300 Chinese characters, (ii) such proposal is submitted to the depositary bank at least two business days prior to the expiry of the relevant submission period, which shall be publicly announced by us each year in a report on Form 6-K filed with the Securities Exchange Commission prior to the commencement of the 60 days closed period for general meetings of shareholders, (iii) such proposal is accompanied by a written certificate to the depositary bank, in the form required by the depository bank, certifying that such proposal is being submitted by holders that individually or together with other holders hold at least 51% of the ADSs outstanding at the date of the submission and, if the date of the submission is on or after the relevant record date, also certifying that the holders who submitted the proposal held at least 51% of the ADSs outstanding as of the relevant record date, (iv) if the date of the submission is prior to the relevant record date, the holders who submitted the proposal must also provide, within five business days after the relevant record date, a second written certificate to the depositary bank, in the form required by the depositary bank, certifying that the holders who submitted the proposal continued to hold at least 51% of the ADSs outstanding at the relevant record date, (v) such proposal is accompanied by a joint and several irrevocable undertaking of all submitting holders to pay all fees and expenses incurred in relation to the submission (including the costs and expenses of the depositary bank or its agent to attend the general meeting of the shareholders) as such fees and expenses may be reasonably determined and documented by the depositary bank or us, and (vi) such proposal shall only be voted upon at the general meeting of shareholders if such proposal is accepted by our board of directors as eligible in accordance with applicable law for consideration at a shareholders meeting.

Taxation

R.O.C. Taxation

The following is a general summary of the principal R.O.C. tax consequences of the ownership and disposition of ADSs representing common shares to a non-resident individual or entity. It applies only to a holder that is:

 

   

an individual who is not an R.O.C. citizen, who owns ADSs and who is not physically present in the R.O.C. for 183 days or more during any calendar year; or

 

   

a corporation or a non-corporate body that is organized under the laws of a jurisdiction other than the R.O.C. and has no fixed place of business or business agent in the R.O.C.

Holders of ADSs should consult their own tax advisors as to the particular R.O.C. tax consequences of owning the ADSs which may affect them.

Dividends. Effective from 2018, dividends declared by us out of our retained earnings and distributed to the holders are subject to R.O.C. withholding tax at 21% on the amount of the distribution in the case of cash dividends or on the par value of the common shares in the case of stock dividends unless a lower withholding rate is provided under a tax treaty between the R.O.C and the jurisdiction where the holders are residents. Furthermore, if and when we distribute any dividends in year 2018, for the portion of dividends out of those earnings on which we had paid the 10% R.O.C. retained earnings tax, a credit of up to 5% of such portion of dividends may offset against the 21% withholding tax. Starting year 2019, no retained earnings tax paid can offset as a credit against the 21% withholding tax.

Distribution of common shares or cash out of our capital reserves is not subject to R.O.C. withholding tax, except under limited circumstances.

Capital Gains. Starting from January 1, 2016, capital gains realized from the sale or disposal of the common shares are exempt from R.O.C. income tax under Article 4-1 of the R.O.C. Income Tax Act.

Subscription Rights. Distributions of statutory subscription rights for common shares in compliance with R.O.C. law are not subject to any R.O.C. tax. Proceeds derived from sales of statutory subscription rights evidenced by securities are subject to securities transaction tax at the rate of 0.3% of the gross amount received. Holders are exempt from income tax on capital gains from the sale of statutory subscription rights evidenced by securities. Proceeds derived from sales of statutory subscription rights that are not evidenced by securities are subject to capital gains tax at the rate of 20%.

 

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Subject to compliance with R.O.C. law, we, at our sole discretion, can determine whether statutory subscription rights shall be evidenced by issuance of securities.

Securities Transaction Tax. A securities transaction tax, at the rate of 0.3% of the sales proceeds, will be withheld upon a sale of common shares in the R.O.C. Transfers of ADSs are not subject to R.O.C. securities transaction tax. Withdrawal of common shares from the deposit facility is not subject to R.O.C. securities transaction tax.

Estate and Gift Tax. R.O.C. estate tax is payable on any property within the R.O.C. left by a deceased, and R.O.C. gift tax is payable on any property within the R.O.C. donated by an individual. Estate tax and gift tax are currently payable at the progressive rates of 10%, 15% and 20%. Under R.O.C. estate and gift tax laws, common shares issued by R.O.C. companies are deemed located in the R.O.C. regardless of the location of the holder. It is unclear whether a holder of ADSs will be considered to hold common shares for this purpose.

Tax Treaty. The R.O.C. does not have a double taxation treaty with the United States. On the other hand, the R.O.C. has double taxation treaties with Indonesia, Singapore, South Africa, Australia, Vietnam, New Zealand, Malaysia, Macedonia, Israel, Gambia, the Netherlands, the United Kingdom, Senegal, Sweden, Belgium, Denmark, Paraguay, Hungary, France, Eswatini, India, Slovakia, Switzerland, Germany, Thailand, Luxembourg, Kiribati, Austria, Italy, Japan, Canada and Poland which may limit the rate of R.O.C. withholding tax on dividends paid with respect to common shares in R.O.C. companies. The ADS holders may or may not be considered to hold common shares for the purposes of these treaties. The holders should consult their tax advisors concerning their eligibility for the benefits with respect to the ADSs.

United States Federal Income Taxation

This section discusses the material United States federal income tax consequences to U.S. holders (as defined below) of owning and disposing of our common shares or ADSs. It applies to you only if you hold your common shares or ADSs as capital assets for United States federal income tax purposes. This discussion addresses only United States federal income taxation and does not discuss all of the tax consequences that may be relevant to you in light of your individual circumstances, including foreign, state or local tax consequences, estate and gift tax consequences, and tax consequences arising under the Medicare contribution tax on net investment income or the alternative minimum tax. This section does not apply to you if you are a member of a special class of holders subject to special rules, including:

 

   

dealers or traders in securities or foreign currencies;

 

   

banks and certain other financial institutions;

 

   

brokers;

 

   

traders in securities that elect to use a mark-to-market method of accounting for their securities holdings;

 

   

tax-exempt organizations, retirement plans, individual retirement accounts and other tax-deferred accounts;

 

   

life insurance companies;

 

   

persons that actually or constructively own 10% or more of the combined voting power of our voting stock or of the total value of our stock;

 

   

persons that hold common shares or ADSs as part of a straddle or a hedging or conversion or integrated transaction for United States federal income tax purposes;

 

   

persons who are former citizens or former long-term residents of the United States, or

 

   

persons whose functional currency is not the U.S. dollar.

This section is based on the Internal Revenue Code of 1986, as amended, its legislative history, existing and proposed Treasury regulations, and published rulings and court decisions, all as currently in effect. These laws are subject to change, possibly on a retroactive basis. In addition, this section is based in part upon the assumption that each obligation in the Deposit Agreement and any related agreement will be performed in accordance with its terms. In general, for United States federal income tax purposes, if you hold ADRs evidencing ADSs, you will be treated as the owner of the shares represented by those ADSs. Exchanges of shares for ADRs, and ADRs for shares, generally will not be subject to United States federal income tax.

 

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You are a U.S. holder if you are a beneficial owner of common shares or ADSs and you are, for United States federal income tax purposes:

 

   

a citizen or resident of the United States;

 

   

a United States domestic corporation, or other entity subject to United States federal income tax as a domestic corporation;

 

   

an estate whose income is subject to United States federal income tax regardless of its source; or

 

   

a trust if a United States court can exercise primary supervision over the trust’s administration and one or more United States persons are authorized to control all substantial decisions of the trust.

If a partnership (including any entity treated as a partnership for United States federal income tax purposes) is a beneficial owner of the common shares or ADSs, the United States tax treatment of a partner in the partnership generally will depend on the status of the partner and the activities of the partnership. A holder of the common shares or ADSs that is a partnership and partners in such a partnership should consult their own tax advisors concerning the United States federal income tax consequences of purchasing, owning and disposing of common shares or ADSs.

The tax treatment of your common shares or ADSs will depend in part on whether or not we are classified as a passive foreign investment company, or PFIC, for United States federal income tax purposes. Except as discussed below under “—PFIC Rules”, this discussion assumes that we are not classified as a PFIC for United States federal income tax purposes.

You should consult your own tax advisor regarding the United States federal, state, local income tax and other tax consequences of owning and disposing of common shares or ADSs in your particular circumstances.

Taxation of Distributions

Under the United States federal income tax laws, if you are a U.S. holder, the gross amount of any distribution we pay in respect of your common shares or ADSs out of our current or accumulated earnings and profits (as determined for United States federal income tax purposes), other than certain pro-rata distributions of our common shares, including the amount of any R.O.C. tax withheld reduced by any credit against such withholding tax on account of the retained earnings tax imposed on us, will be treated as a dividend that is subject to United States federal income taxation. Because we do not expect to calculate our earnings and profits under U.S. federal income tax principles, a U.S. Holder should expect that any distribution made by us to such holder will generally be treated as a dividend. If you are a noncorporate U.S. holder, dividends that constitute qualified dividend income will be taxable to you at the preferential rates applicable to long-term capital gains, provided that you hold our common shares or ADSs for more than 60 days during the 121-day period beginning 60 days before the ex-dividend date and meet other holding period requirements. Dividends we pay with respect to the ADSs will be qualified dividend income provided that, in the year that you receive the dividend, the ADSs are readily tradable on the New York Stock Exchange or another established securities market in the United States. Our ADSs are listed on the New York Stock Exchange, and we therefore expect that dividends we pay with respect to the ADSs will be qualified dividend income. It is unclear whether dividends we pay with respect to the common shares will be qualified dividend income. The dividend is taxable to you when you, in the case of common shares, or the Depositary, in the case of ADSs, receive the dividend actually or constructively. The dividend will not be eligible for the dividends-received deduction generally allowed to United States corporations in respect of dividends received from other United States corporations. The amount of the dividend distribution that you must include in your income will be the U.S. dollar value of the NT Dollar payments made, determined at the spot NT Dollar/U.S. dollar rate on the date the dividend distribution is includible in your income, regardless of whether the payment is in fact converted into U.S. dollars. Generally, any gain or loss resulting from currency exchange fluctuations during the period from the date you include the dividend payment in income to the date you convert the payment into U.S. dollars will be treated as ordinary income or loss and will not be eligible for the special tax rate applicable to qualified dividend income. The gain or loss generally will be income or loss from sources within the United States for foreign tax credit limitation purposes.

Subject to generally applicable limitations and restrictions, the R.O.C. taxes withheld from dividend distributions and paid over to the R.O.C. (reduced by any credit against such withholding tax on account of the 10% retained earnings tax) will be eligible for credit against your U.S. federal income tax liabilities. Special rules apply in determining the foreign tax credit limitation with respect to dividends that are subject to the preferential tax rates. Dividends will generally be income from sources outside the United States. Dividends will generally be “passive” income for purposes of computing the foreign tax credit allowable to you. The rules applicable to the United States foreign tax credit are complex, and you should consult your own tax adviser concerning the availability of the credit in your particular circumstances.

 

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Pro rata distributions of common shares by us to holders of common shares or ADSs may not be subject to U.S. federal income tax. Accordingly, such distributions may not give rise to taxable foreign-source income against which the R.O.C. tax imposed on such distributions may be credited.

Taxation of Capital Gains

If you are a U.S. holder and you sell or otherwise dispose of your common shares or ADSs, you will recognize capital gain or loss for United States federal income tax purposes equal to the difference between the U.S. dollar value of the amount that you realize and your tax basis, determined in U.S. dollars, in your common shares or ADSs. Capital gain of a noncorporate U.S. holder is generally taxed under existing law at preferential rates where the property is held more than one year. The gain or loss will generally be income or loss from sources within the United States for foreign tax credit limitation purposes. Your ability to deduct capital losses is subject to limitations.

Passive Foreign Investment Company Rules

We believe that our common shares and ADSs should not currently be treated as stock of a PFIC for United States federal income tax purposes and we do not expect to become a PFIC in the foreseeable future. However, this conclusion is a factual determination that is made annually, and thus may be subject to change. It is therefore possible that we could become a PFIC in a future taxable year. Accordingly, no assurance can be given that we will not be considered by the U.S. Internal Revenue Service to be a PFIC in current or future years.

In general, if you are a U.S. holder, we will be a PFIC with respect to you if for any taxable year in which you held our common shares or ADSs:

 

   

at least 75% of our gross income for the taxable year is passive income; or

 

   

at least 50% of the value, determined on the basis of a quarterly average, of our assets is attributable to assets that produce or are held for the production of passive income.

Passive income generally includes dividends, interest, royalties, rents (other than certain rents and royalties derived in the active conduct of a trade or business), annuities and gains from assets that produce passive income. If a foreign corporation owns directly or indirectly at least 25% by value of the stock of another corporation, the foreign corporation is treated for purposes of the PFIC tests as owning its proportionate share of the assets of the other corporation, and as receiving directly its proportionate share of the other corporation’s income.

If we are treated as a PFIC, and you are a U.S. holder that does not make a mark-to-market election, as described below, you will be subject to special rules with respect to:

 

   

any gain you realize on the sale or other disposition of your common shares or ADSs; and

 

   

any excess distribution that we make to you (generally, any distributions to you during a single taxable year that are greater than 125% of the average annual distributions received by you in respect of the common shares or ADSs during the three preceding taxable years or, if shorter, your holding period for the common shares or ADSs).

Under these rules:

 

   

the gain or excess distribution will be allocated ratably over your holding period for the common shares or ADSs,

 

   

the amount allocated to the taxable year in which you realized the gain or excess distribution will be taxed as ordinary income,

 

   

the amount allocated to each prior year, with certain exceptions, will be taxed at the highest tax rate in effect for that year, and

 

   

the interest charge generally applicable to underpayments of tax will be imposed in respect of the tax attributable to each such year.

Special rules apply for calculating the amount of the foreign tax credit with respect to excess distributions by a PFIC.

 

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If you own common shares or ADSs in a PFIC that are treated as marketable stock, you may make a mark-to-market election. If you make this election, you will not be subject to the PFIC rules described above. Instead, in general, you will include as ordinary income each year the excess, if any, of the fair market value of your common shares or ADSs at the end of the taxable year over your tax basis in your common shares or ADSs. These amounts of ordinary income will not be eligible for the favorable tax rates applicable to qualified dividend income or long-term capital gains. You will also be allowed to take an ordinary loss in respect of the excess, if any, of the tax basis of your common shares or ADSs over their fair market value at the end of the taxable year (but only to the extent of the net amount of previously included income as a result of the mark-to-market election). Your tax basis in the common shares or ADSs will be adjusted to reflect any such income or loss amounts. Your gain, if any, recognized upon the sale of your common shares or ADSs will be taxed as ordinary income.

Also, where a company that is a PFIC meets certain reporting requirements, a U.S. holder could avoid certain adverse PFIC consequences described herein by making a “qualified electing fund” (“QEF”) election to be taxed currently on its proportionate share of the PFIC’s ordinary income and net capital gains. U.S. holders will not be able to treat a company as a QEF if the company does not prepare the information that U.S. holders would need to make a QEF election. We do not intend to prepare or provide the information that would enable U.S. holders to make a QEF election.

In addition, notwithstanding any election you make with regard to the common shares or ADSs, dividends that you receive from us will not constitute qualified dividend income to you if we are a PFIC either in the taxable year of the distribution or the preceding taxable year. Moreover, your common shares or ADSs will be treated as stock in a PFIC if we were a PFIC at any time during your holding period in your common shares or ADSs, even if we are not currently a PFIC. For purposes of this rule, if you make a mark-to-market election with respect to your common shares or ADSs, you will be treated as having a new holding period in your common shares or ADSs beginning on the first day of the first taxable year beginning after the last taxable year for which the mark-to-market election applies. Dividends that you receive that do not constitute qualified dividend income are not eligible for taxation at the preferential rates applicable to qualified dividend income. Instead, you must include the gross amount of any such dividend paid by us out of our current or accumulated earnings and profits (as determined for United States federal income tax purposes) in your gross income, and it will be subject to tax at rates applicable to ordinary income as well as the special rules provided with respect to excess distributions, if applicable, as described above.

If you own common shares or ADSs during any year that we are a PFIC with respect to you, you generally must file Internal Revenue Service Form 8621.

The rules dealing with PFICs and with the QEF and mark-to-market elections are very complex and are affected by various factors in addition to those described above, including our ownership of any non-U.S. subsidiaries. As a result, U.S. holders should consult their own tax advisors concerning the PFIC rules.

Non-U.S. Holders

Except as described in the section titled “Information Reporting and Backup Withholding” below, a non-U.S. holder will not be subject to U.S. federal income or withholding tax on the payment of dividends and the proceeds from the disposition of common shares or ADSs unless: such item is effectively connected with the conduct by the non-U.S. holder of a trade or business within the United States and, in the case of a resident of a country which has a treaty with the United States and is eligible for the benefits of the treaty with the United States, such item is attributable to a permanent establishment or, in the case of an individual, a fixed place of business, in the United States; or the non-U.S. holder is an individual who holds the common shares or ADSs as a capital asset and is present in the United States for 183 days or more in the taxable year of the disposition, certain other conditions are met, and such non-U.S. holder does not qualify for an exemption. If the first exception applies, the non-U.S. holder generally will be subject to U.S. federal income tax with respect to such item in the same manner as a U.S. holder unless otherwise provided in an applicable income tax treaty; a non-U.S. holder that is a corporation for U.S. federal income tax purposes may also be subject to a branch profits tax with respect to such item at a rate of 30% (or at a reduced rate under an applicable income tax treaty). If the second exception applies, the non-U.S. holder generally will be subject to U.S. federal income tax at a rate of 30% (or at a reduced rate under an applicable income tax treaty) on the amount by which such non-U.S. holder’s capital gains allocable to U.S. sources exceed capital losses allocable to U.S. sources during the taxable year of disposition of the common shares or ADSs.

 

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Information Reporting and Backup Withholding

U.S. holders generally are subject to information reporting requirements with respect to dividends paid on common shares or ADSs and on the proceeds from the sale, exchange or disposition of common shares or ADSs unless the holder is a corporation or otherwise establishes a basis for exemption. In addition, U.S. holders are subject to back-up withholding on dividends paid on common shares or ADSs, and on the sale, exchange or other disposition of common shares or ADSs, unless each such U.S. holder provides a taxpayer identification number and a duly executed IRS Form W-9 or otherwise establishes an exemption. Non-U.S. holders generally are not subject to information reporting or backup withholding with respect to dividends, or the proceeds from the sale, exchange or other disposition of common shares or ADSs, provided that each such non-U.S. holder certifies as to its foreign status on the applicable duly executed IRS Form W-8 or otherwise establishes an exemption. Backup withholding is not an additional tax and the amount of any backup withholding will be allowed as a credit against a U.S. holder’s or non-U.S. holder’s U.S. federal income tax liability and may entitle such holder to a refund, provided that certain required information is timely furnished to the IRS.

Information with Respect to Foreign Financial Assets

Individuals that own “specified foreign financial assets” with an aggregate value in excess of US$50,000 will generally be required to file an information report with respect to such assets with their tax returns. “Specified foreign financial assets” may include any financial accounts maintained by foreign financial institutions, as well as any of the following, but only if they are not held in accounts maintained by financial institutions: (i) stocks and securities issued by non-U.S. persons, (ii) financial instruments and contracts held for investment that have non-U.S. issuers or counterparties and (iii) interests in foreign entities. U.S. holders that are individuals should consult their tax advisors regarding the application of these rules to their ownership of common shares or ADSs.

Documents on Display

We are subject to the information requirements of the Securities Exchange Act of 1934, as amended. In accordance with these requirements, we file reports and other information with the Securities and Exchange Commission. These materials, including this annual report and the exhibits thereto, may be inspected and copied at the Commission’s Public Reference Room at 100 F Street, N.E., Washington, D.C. 20549. The public may obtain information on the operation of the Commission’s Public Reference Room by calling the Commission in the United States at 1-800-SEC-0330. The Commission also maintains a web site at http://www.sec.gov that contains reports, proxy statements and other information regarding registrants that file electronically with the Commission. In addition, material filed by us can be inspected at the offices of the New York Stock Exchange at 20 Broad Street, New York, New York 10005.

 

ITEM 11.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

We are exposed to financial market risks, primarily in currency exchange rates, interest rates and equity investment prices. A portion of these risks is hedged.

Foreign Currency Risk: More than 90% of our revenue is denominated in U.S. dollar and over one-half of our capital expenditures are denominated in currencies other than NT dollar, primarily in U.S. dollar, Japanese yen and Euro. As a result, any significant fluctuations to our disadvantage in exchanges rate of NT dollar against such currencies, in particular a weakening of U.S. dollar against NT dollar, would have an adverse impact on our revenue and operating profit as expressed in NT dollar.

We use foreign currency derivatives contracts, such as currency forwards or currency swaps, to protect against currency exchange rate risks associated with non-NT dollar-denominated assets and liabilities and certain forecasted transactions. We also utilize U.S. dollar denominated debt to partially offset currency risk arising from U.S. dollar denominated receivables for balance sheet hedges. These hedges reduce, but do not entirely eliminate, the effect of foreign currency exchange rate movements on our assets and liabilities. Based on a sensitivity analysis performed on our total monetary assets and liabilities on December 31, 2018, a hypothetical adverse foreign currency exchange rate change of 10% would have decreased our net income by NT$506 million (US$17 million) and decreased our other comprehensive income by NT$316 million (US$10 million), after taking into account hedges and offsetting positions. For further information, please refer to note 8, note 13 and note 36 to the consolidated financial statements.

 

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Interest Rate Risks: We are exposed to interest rate risks primarily related to our investment portfolio and outstanding debt, which are most sensitive to fluctuations in U.S. and R.O.C. interest rates. Changes in U.S. and R.O.C. interest rates affect the interest earned on our cash, cash equivalents and marketable securities and the fair value of those securities, as well as interest paid on our debt.

The objective of our investment policy is to achieve a return that will allow us to preserve principal and support liquidity requirements. We invest primarily in time deposits and investment grade debt securities. By policy, we limit the amount of credit exposure to any one issuer. Our investments in both fixed rate and floating rate interest earning securities carry a degree of interest rate risk. Fixed rate securities may have their fair market value adversely affected due to a rise in interest rates, while floating rate securities may generate less interest income than predicted if interest rates fall. As of December 31, 2018, we had outstanding fixed- and floating-rate fixed income securities with varying maturities for an aggregate carrying amount of NT$124,197 million (US$4,057 million). A substantial majority of our fixed income securities are classified as financial assets at fair value through other comprehensive income, and may have their market value adversely impacted due to the rise in interest rates. For further information, please refer to note 8, note 9 and note 12 to the consolidated financial statements

We have entered, and may enter in the future, into interest rate futures to partially hedge the interest rate risk on our fixed income investments. However, these hedges can offset only a small portion of the financial impact from movement in interest rates.

Based on a sensitivity analysis performed on our fixed income investments as of December 31, 2018, a hypothetical adverse interest rate change of 100 basis points across all maturities would have decreased our net income by approximately NT$248 million (US$8 million) and our other comprehensive income by NT$2,450 million (US$80 million), after taking into account interest rate hedges. For further information, please refer to note 13 and note 36 to the consolidated financial statements.

As of December 31, 2018, we had outstanding floating- and fixed-rate debt with varying maturities for an aggregate carrying amount of NT$180,555 million (US$5,899 million). All of our long-term debt are fixed-rate, NT dollar denominated bonds and measured at amortized costs with an aggregate carrying amount of NT$91,800 million (US$2,999 million). As such, changes in interest rate would not affect the future cash flows and the fair value. For further information, please refer to note 20, note 22 and note 36 to the consolidated financial statements.

Other Market Risk: Our equity securities are subject to a wide variety of market-related risks that could substantially reduce the fair value of our holdings. We currently do not reduce our equity market exposure through hedging activities. As of December 31, 2018, we had investments in public equity securities with a carrying value of NT$590 million (US$19 million). We also had investments in private equity securities mostly through a number of investment funds with a carrying value of NT$3,911 million (US$128 million). Based on a sensitivity analysis performed on our equity investments as of December 31, 2018, a hypothetical adverse price change of 10% would have decreased our other comprehensive income by approximately NT$427 million (US$14 million). The actual disposal value of these investments may be significantly different from their carrying value. For further information, please refer to note 36 to the consolidated financial statements.

Beginning 2018, as explained in note 4 and note 9 to the consolidated financial statements, we record equity investments not accounted for using equity method as financial assets at fair value through other comprehensive income.

 

ITEM 12D.

  DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES

Depositary Fees and Charges

Under the terms of the Depository Agreement for the TSMC American Depositary Shares (ADSs), an ADS holder may have to pay the following service fees to the depositary bank:

 

Service

  

Fees

Issuance of ADS

   Up to US$0.05 (or fractions thereof) per ADS issued

Cancellation of ADS

   Up to US$0.05 (or fractions thereof) per ADS cancelled

Distribution of cash proceeds (i.e. upon sale of rights and other entitlements)

   Up to US$0.02 per ADS held

 

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Service

  

Fees

Distribution of ADS rights or other free distributions of Stock (excluding stock dividends)

   Up to US$0.05 (or fractions thereof) per ADS issued

Depositary fees payable upon the issuance and cancellation of ADSs are typically paid to the depositary bank by the brokers (on behalf of their clients) receiving the newly-issued ADSs from the depositary bank and by the brokers (on behalf of their clients) delivering the ADSs to the depositary bank for cancellation. The brokers in turn charge these transaction fees to their clients.

Depositary Payment

In 2018, we received reimbursement of proxy related expenses (printing, postage and distribution) of US$27,547 from Citibank, N.A., the Depositary Bank for our ADR program.

PART II

 

ITEM 13.

DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES

None.

 

ITEM 14.

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

None.

 

ITEM 15.

CONTROLS AND PROCEDURES

Disclosure Controls and Procedures. Pursuant to Rule 13(a)-15(b) of the Securities Exchange Act of 1934, an evaluation was carried out under the supervision and with the participation of our principal executive and principal financial officers of the effectiveness of our disclosure controls and procedures. Based upon that evaluation, the Chief Executive Officers and Chief Financial Officer concluded that these disclosure controls and procedures were effective as of December 31, 2018.

Management’s Annual Report on Internal Control over Financial Reporting. Management is responsible for establishing and maintaining adequate internal control over financial reporting. Our internal control over financial reporting is a process designed under the supervision of our principal executive and principal financial officers to provide reasonable assurance regarding the reliability of financial reporting and the preparation of our financial statements for external reporting purposes in accordance with IFRSs as issued by the IASB. Our internal control over financial reporting includes policies and procedures that pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect transactions and dispositions of assets; provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with IFRSs as issued by the IASB, and that receipts and expenditures are being made only in accordance with authorizations of our management and directors; and provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.

As of the end of 2018, management conducted an assessment of the effectiveness of our internal control over financial reporting based on the framework established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on this assessment, management has determined that our internal control over financial reporting as of December 31, 2018 was effective.

Our independent registered public accounting firm, Deloitte & Touche, independently assessed the effectiveness of our company’s internal control over financial reporting. Deloitte & Touche has issued an attestation report, which is included at the end of this Item 15.

Changes in Internal Control over Financial Reporting. During 2018, there was no material change to our internal control over financial reporting.

 

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Attestation Report of the Independent Registered Public Accounting Firm.

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the shareholders and the Board of Directors of

Taiwan Semiconductor Manufacturing Company Limited

Opinion on Internal Control over Financial Reporting

We have audited the internal control over financial reporting of Taiwan Semiconductor Manufacturing Company Limited and subsidiaries (the “Company”) as of December 31, 2018, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control — Integrated Framework (2013) issued by COSO.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated financial statements as of and for the year ended December 31, 2018, of the Company and our report dated April 17, 2019, expressed an unqualified opinion on those financial statements.

Basis for Opinion

The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

Definition and Limitations of Internal Control over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

/s/ Deloitte & Touche
Taipei, Taiwan
The Republic of China
April 17, 2019

 

 

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ITEM 16A.  

AUDIT COMMITTEE FINANCIAL EXPERT

Our Audit Committee has engaged a financial expert consultant who our board of directors determined has the attributes required of an “audit committee financial expert” as defined under the applicable rules of the U.S. SEC issued pursuant to Section 407 of the Sarbanes-Oxley Act of 2002. In particular, our board of directors appointed Mr. Jan C. Lobbezoo to serve as an independent financial expert consultant to our Audit Committee from February 14, 2006 onwards. Our board of directors believes that the Audit Committee members along with the advisors of the Audit Committee, including the financial expert consultant, possess sufficient financial knowledge and experience.

 

ITEM 16B.  

CODE OF ETHICS

We have adopted a “Ethics and Business Conduct Policy” for employees, officers and directors, which also applies to our Chief Executive Officer, Chief Financial Officer, Controller, and any other persons performing similar functions.

We will provide to any person without charge, upon request, a copy of our “Ethics and Business Conduct Policy”. Any request should be made per email to our Investor Relations Division at invest@tsmc.com.

 

ITEM 16C.  

PRINCIPAL ACCOUNTANT FEES AND SERVICES

The table below summarizes the fees that we paid for services provided by Deloitte & Touche and its affiliated firms (the “Deloitte Entities”) for the years ended December 31, 2017 and 2018.

 

     2017      2018  
     NT$      NT$  
     (In thousands)  

Audit Fees

     55,647        55,323  

All Other Fees

     81        —    
  

 

 

    

 

 

 

Total

     55,728        55,323  
  

 

 

    

 

 

 

Audit Fees. This category includes the audit of our annual financial statements and internal control over financial reporting, review of quarterly financial statements and services that are normally provided by the independent auditors in connection with statutory and regulatory filings or engagements for those fiscal years. This category also includes advice on audit and accounting matters that arose during, or as a result of, the audit or the review of quarterly financial statements and statutory audits required by non-U.S. jurisdictions, including statutory audits required by the Tax Bureau of the R.O.C., Customs Bureau of the R.O.C., and the FSC of the R.O.C.

All Other Fees. This category consists of accounting research tool.

Our policy and procedures require all services performed by Deloitte & Touche to be pre-approved by the Audit Committee. The Audit Committee agreed to delegate to the Chairman of the Audit Committee authority to pre-approve non-material unanticipated non-audit services and to report any such items to the Audit Committee for ratification at its next scheduled meeting. All audit and non-audit services performed by Deloitte & Touche in 2017 and 2018 were pre-approved by the Audit Committee.

 

ITEM 16D.  

EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES

Not applicable.

 

ITEM 16E.  

PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS

Not applicable.

 

ITEM 16F.  

CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT

Not applicable.

 

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ITEM 16G.  

CORPORATE GOVERNANCE

TSMC’s corporate governance practices are governed by applicable Taiwan law, specifically, the R.O.C. Company Act and R.O.C. Securities and Exchange Law, and also TSMC’s Articles of Incorporation. Also, because TSMC securities are registered with the U.S. Securities and Exchange Commission (“U.S. SEC”) and are listed on the New York Stock Exchange (“NYSE”), TSMC is subject to corporate governance requirements applicable to NYSE-listed foreign private issuers.

Under Section 303A of the NYSE Listed Company Manual, NYSE-listed non-US companies may, in general, follow their home country corporate governance practices in lieu of most of the new NYSE corporate governance requirements. However, all NYSE-listed foreign private issuers must comply with NYSE Sections 303A.06, 303A.11, 303A.12(b) and 303A.12(c).

Item 16G as well as NYSE Section 303A.11 requires that foreign private issuers disclose any significant ways in which their corporate governance practices differ from US companies under NYSE listing standards. This requirement is not intended to suggest that one country’s corporate governance practices are better or more effective than another. A NYSE-listed foreign private issuer is required to provide to its US investors, a brief, general summary of the significant differences, either: (a) on the company website in English, or (b) in its annual report distributed to its US investors. To comply with NYSE Section 303A.11, TSMC has prepared the comparison in the table below.

The most relevant differences between TSMC corporate governance practices and NYSE standards for listed companies are as follows:

 

NYSE Standards for US Companies

under Listed Company Manual

Section 303A