Form 20-F
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 20-F

 

 

(Mark One)

¨ Registration statement pursuant to Section 12(b) or 12(g) of the Securities Exchange Act of 1934

or

 

x Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the fiscal year ended December 31, 2012

or

 

¨ Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the transition period from                     to                     

or

 

¨ Shell company report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Date of event requiring this shell company report                     

Commission file number 001-15128

 

 

United Microelectronics Corporation

(Exact Name of Registrant as Specified in its Charter)

 

 

Taiwan, Republic of China

(Jurisdiction of Incorporation or Organization)

No. 3 Li-Hsin Road II, Hsinchu Science Park,

Hsinchu City, Taiwan, Republic of China

(Address of Principal Executive Offices)

Peter Courture, +1 (650) 968-8855, peter@courture.com,

978 Highlands Circle, Los Altos, CA 94024, USA

(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

American Depositary Shares, as evidenced by American Depositary Receipts, each representing 5 Common Shares   New York Stock Exchange

 

 

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

None

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

None

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.

12,951,805,540 Common Shares of Registrant issued as of December 31, 2012 (including 300,000,000 treasury shares)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes   x     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   x

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  x     No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ¨     No   ¨

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

Large accelerated filer  x                 Accelerated filer  ¨                 Non-accelerated filer  ¨

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

International Financial Reporting Standards as issued by the International Accounting Standards Board    ¨  Other     x    

Indicate by check mark which financial statement item the registrant has elected to follow.     Item 17  ¨    Item 18   x

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 Securities Exchange Act of 1934).     Yes   ¨     No  x

 

 

 

 


Table of Contents

UNITED MICROELECTRONICS CORPORATION

FORM 20-F ANNUAL REPORT

FISCAL YEAR ENDED DECEMBER 31, 2012

Table of Contents

 

         Page  
SUPPLEMENTAL INFORMATION      1   
PART I      3   

ITEM 1.

  IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS      3   

ITEM 2.

  OFFER STATISTICS AND EXPECTED TIMETABLE      3   

ITEM 3.

  KEY INFORMATION      3   

ITEM 4.

  INFORMATION ON THE COMPANY      23   

ITEM 4A.

  UNRESOLVED STAFF COMMENTS      40   

ITEM 5.

  OPERATING AND FINANCIAL REVIEW AND PROSPECTS      40   

ITEM 6.

  DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES      62   

ITEM 7.

  MAJOR STOCKHOLDERS AND RELATED PARTY TRANSACTIONS      66   

ITEM 8.

  FINANCIAL INFORMATION      67   

ITEM 9.

  THE OFFER AND LISTING      68   

ITEM 10.

  ADDITIONAL INFORMATION      70   

ITEM 11.

  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      89   

ITEM 12.

  DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES      91   
PART II      93   

ITEM 13.

  DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES      93   

ITEM 14.

  MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS      93   

ITEM 15.

  CONTROLS AND PROCEDURES      94   

ITEM 16.

    

ITEM 16A.

  AUDIT COMMITTEE FINANCIAL EXPERT      96   

ITEM 16B.

  CODE OF ETHICS      96   

ITEM 16C.

  PRINCIPAL ACCOUNTANT FEES AND SERVICES      96   

ITEM 16D.

  EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES      97   

ITEM 16E.

  PURCHASE OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS      97   

ITEM 16F.

  CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT      97   

ITEM 16G.

  CORPORATE GOVERNANCE      97   

ITEM 16H.

  MINE SAFETY DISCLOSURE      98   
PART III      98   

ITEM 17.

  FINANCIAL STATEMENTS      98   

ITEM 18.

  FINANCIAL STATEMENTS      98   

ITEM 19.

  EXHIBITS      99   

 

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Table of Contents

SUPPLEMENTAL INFORMATION

The references to “United Microelectronics”, “we”, “us”, “our”, “our company” and “the Company” in this annual report refer to United Microelectronics Corporation and its consolidated subsidiaries, unless the context suggests otherwise. The references to “Taiwan” and “R.O.C.” refer to Taiwan, Republic of China. The references to “shares” and “common shares” refer to our common shares, par value NT$10 per share, and “ADSs” refers to our American depositary shares, each representing five common shares. The ADSs are issued under the Deposit Agreement, dated as of October 21, 2009, as amended, supplemented or modified from time to time, among United Microelectronics, JPMorgan Chase Bank, N.A. and the holders and beneficial owners from time to time of American Depositary Receipts issued thereunder. “R.O.C. GAAP” means the generally accepted accounting principles in the Republic of China and “U.S. GAAP” means the generally accepted accounting principles in the United States. Any discrepancies in any table between totals and sums of the amounts listed are due to rounding.

We publish our financial statements in New Taiwan dollars, the lawful currency of the R.O.C. In this annual report, “NT$” and “NT dollars” mean New Taiwan dollars, “$”, “US$” and “U.S. dollars” mean United States dollars, “¥” means Japanese Yen, and “€” means EURO.

FORWARD-LOOKING STATEMENTS IN THIS ANNUAL REPORT MAY NOT BE REALIZED

Our disclosure and analysis in this annual report contain or incorporate by reference some forward-looking statements. Our forward-looking statements contain information regarding, among other things, our financial condition, future expansion plans and business strategy. We have based these forward-looking statements on our current expectations and projections about future events. You can identify these statements by the fact that they do not relate strictly to historical or current facts. Although we believe that these expectations and projections are reasonable, such forward-looking statements are inherently subject to risks, uncertainties and assumptions about us, including, among other things:

 

   

our dependence on frequent introduction of new product services and technologies based on the latest developments;

 

   

the intensely competitive semiconductor, communications, consumer electronics and computer industries and markets;

 

   

risks associated with our international business activities;

 

   

our dependence on key personnel;

 

   

general economic and political conditions, including those related to the semiconductor, communications, consumer electronics and computer industries;

 

   

natural disasters, such as earthquakes and droughts, which are beyond our control;

 

   

possible disruptions in commercial activities caused by natural and human-induced disasters and outbreaks of contagious diseases;

 

   

fluctuations in foreign currency exchange rates;

 

   

additional disclosures we make in our previous and future Form 20-F annual reports and Form 6-K periodic reports to the U.S. Securities and Exchange Commission; and

 

   

those other risks identified in the “Item 3. Key Information-D. Risk Factors” section of this annual report.

 

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Table of Contents

The words “may”, “will”, “is/are likely to”, “anticipate”, “believe”, “estimate”, “expect”, “intend”, “plan” and similar expressions are intended to identify a number of these forward-looking statements. We do not and will not undertake the obligation to update or revise any forward-looking statements contained in this annual report whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this annual report might not occur and our actual results could differ materially from those anticipated in these forward-looking statements.

GLOSSARY

 

ASIC    Application Specific Integrated Circuit. A custom-designed integrated circuit that performs specific functions which would otherwise require a number of off-the-shelf integrated circuits to perform.
Cell    Semiconductor structure in an electrical state which can store a bit of information, mainly used as the building block of memory array.
Die    A piece of a semiconductor wafer containing the circuitry of an unpackaged single chip.
DRAM    Dynamic Random Access Memory. A type of volatile memory product that is used in electronic systems to store data and program instructions. It is the most common type of RAM and must be refreshed with electricity hundreds of times per second or else it will fade away.
EUV Lithography    Extreme Ultraviolet Lithography
FinFET    Fin Field-Effect Transistor
FPGA    Field Programmable Gate Array. A programmable integrated circuit.
Integrated Circuit    Entire electronic circuit built on a single piece of solid substrate and enclosed in a small package. The package is equipped with leads needed to electrically integrate the integrated circuit with a larger electronic system. Monolithic and hybrid integrated circuits are distinguished by the type of substrate used.
Interconnect    The conductive path made from copper or aluminum that is required to achieve connection from one circuit element to the other circuit elements within a circuit.
Mask    Photomask. A piece of glass on which an integrated circuit circuitry design is laid out.
Memory    A group of integrated circuits that a computer uses to store data and programs, such as ROM, RAM, DRAM and SRAM.
Micron    A unit of spatial measurement that is one-millionth of a meter.
Nanometer    A unit of spatial measurement that is one-billionth of a meter.
PC    Personal computer.
RAM    Random Access Memory. A type of volatile memory forming the main memory of a computer where applications and files are run.
ROM    Read-Only Memory. Memory that is programmed by the manufacturer and cannot be changed. Typically, ROM is used to provide start-up data when a computer is first turned on.
Scanner    A photolithography tool used in the production of semiconductor devices. This camera-like step-and-scan tool projects the image of a circuit from a master image onto a photosensitized silicon wafer.
Semiconductor    A material with electrical conducting properties in between those of metals and insulators. Essentially, semiconductors transmit electricity only under certain circumstances, such as when given a positive or negative electric charge. Therefore, a semiconductor’s ability to conduct can be turned on or off by manipulating those charges and this allows the semiconductor to act as an electric switch. The most common semiconductor material is silicon, used as the base of most semiconductor chips today because it is relatively inexpensive and easy to create.

 

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SoC    System-on-Chip. A chip that incorporates functions currently performed by several chips on a cost effective basis.
SOI    Silicon-On-Insulator. Silicon wafer consisting of a thin layer of oxide, on top of which semiconductor devices are built.
SRAM    Static Random Access Memory. A type of volatile memory product that is used in electronic systems to store data and program instructions. Unlike the more common DRAM, it does not need to be refreshed.
Transistor    Tri-terminal semiconductor device in which input signal (voltage or current depending on the type of transistor) controls output current. An individual circuit that can amplify or switch electric current. This is the building block of all integrated circuits.
Volatile memory    Memory products which lose their data content when the power supply is switched off.
Wafer    Thin, round, flat piece of silicon that is the base of most integrated circuits.
8-inch wafer equivalents    Standard unit describing the equivalent amount of 8-inch wafers produced after conversion, used to quantify levels of wafer production for purposes of comparison. Figures of 8-inch wafer equivalents are derived by converting the number of wafers of all dimensions (e.g., 6-inch, 8-inch and 12-inch) into their equivalent figures for 8-inch wafers. 100 6-inch wafers are equivalent to 56.25 8-inch wafers. 100 12-inch wafers are equivalent to 225 8-inch wafers.

PART I

ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

Not applicable.

ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE

Not applicable.

ITEM 3. KEY INFORMATION

A. Selected Financial Data

The selected balance sheet data as of December 31, 2011 and 2012 and the selected statements of income and cash flow data for the years ended December 31, 2010, 2011 and 2012 are derived from our audited consolidated financial statements included elsewhere in this annual report. The selected balance sheet data as of December 31, 2008, 2009 and 2010 and the selected statements of income and cash flow data for the years ended December 31, 2008 and 2009 are derived from our audited consolidated financial statements not included in this annual report.

Our financial statements have been prepared and presented in accordance with R.O.C. GAAP, which differs in many material respects from U.S. GAAP. For the discussion of these differences, see Note 36 to our audited consolidated financial statements included elsewhere in this annual report. Some of the items in the statements of income, cash flow and balance sheets have been reconciled to U.S. GAAP and are set forth below. The summary financial data set forth below should be read in conjunction with “Item 5. Operating and Financial Review and Prospects” and our financial statements and the notes to those statements included elsewhere in this annual report.

 

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     Years Ended December 31,  
     2008     2009     2010     2011     2012  
     NT$     NT$     NT$     NT$     NT$     US$  
     (in millions, except per share and per ADS data)  

Consolidated Statement of Income Data:

            

R.O.C. GAAP

            

Net operating revenues

     96,814        91,390        126,442        116,703        115,675        3,982   

Cost of goods sold

     (84,102     (75,975     (89,518     (95,417     (96,263     (3,314
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     12,712        15,415        36,924        21,286        19,412        668   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

            

Sales and marketing

     (3,483     (2,800     (2,566     (3,369     (2,749     (94

General and administrative

     (3,055     (2,724     (3,598     (3,342     (3,371     (116

Research and development

     (8,274     (8,044     (8,740     (9,395     (9,787     (337
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     (14,812     (13,568     (14,904     (16,106     (15,907     (547
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income (loss)

     (2,100     1,847        22,020        5,180        3,505        121   

Net non-operating income (loss)

     (19,886     (174     3,364        4,200        4,498        154   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (Loss) before income tax and minority interests

     (21,986     1,673        25,384        9,380        8,003        275   

Income tax expense

     (997     (651     (1,606     (913     (2,129     (73

Extraordinary gain

            649        68                        
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

     (22,983     1,671        23,846        8,467        5,874        202   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Attributable to:

            

the Company

     (22,320     3,874        23,899        10,610        7,819        269   

minority interests

     (663     (2,203     (53     (2,143     (1,945     (67

Earnings (Losses) per share: (1)(2)

            

Basic

     (1.70     0.31        1.91        0.84        0.62        0.02   

Diluted (3)

     (1.70     0.30        1.87        0.81        0.59        0.02   

Shares used in earnings (losses) per share calculation: (2)

            

Basic

     13,111        12,699        12,496        12,561        12,625        12,625   

Diluted (3)

     13,170        12,786        12,768        13,241        13,456        13,456   

Earnings (Losses) per ADS: (2)

            

Basic

     (8.50 )     1.55        9.55        4.20        3.10        0.11   

Diluted (3)

     (8.50     1.50        9.35        4.05        2.95        0.10   

U.S. GAAP

            

Net operating revenues

     96,814        91,390        126,442        116,703        115,675        3,982   

Cost of goods sold

     (85,923     (76,209     (89,929     (95,594     (96,331     (3,316

Operating income (loss)

     (22,431     (2,323     21,394        2,573        706        24   

Net income (loss)

     (29,632     364        23,544        6,605        3,109        107   

Attributable to:

            

the Company

     (28,955     2,572        23,616        8,746        5,055        174   

noncontrolling interests

     (677     (2,208     (72     (2,141     (1,946     (67

Other comprehensive income (loss) attributable to the Company

     (25,239     24,540        (8,629     (9,551     (6,484     (223

Comprehensive income (loss) attributable to the Company

     (54,194     27,112        14,987        (805     (1,429     (49

Earnings (Losses) per share: (1)

            

Basic

     (2.25     0.21        1.91        0.71        0.41        0.01   

Diluted (3)

     (2.25     0.20        1.90        0.68        0.38        0.01   

Shares used in earnings (losses) per share calculation:

            

Basic

     12,870        12,538        12,335        12,400        12,464        12,464   

Diluted (3)

     12,870        12,560        12,399        12,859        13,140        13,140   

Earnings (Losses) per ADS:

            

Basic

     (11.25     1.03        9.57        3.53        2.03        0.07   

Diluted (3)

     (11.25     1.02        9.52        3.40        1.92        0.07   

 

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     Years Ended December 31,  
     2008     2009     2010     2011     2012  
     NT$     NT$     NT$     NT$     NT$     US$  
     (in millions, except per share and per ADS data)  

Consolidated Balance Sheet Data:

            

R.O.C. GAAP

            

Current assets

     68,888        102,363        93,769        84,058        80,918        2,785   

Long-term investment

     32,441        55,227        47,179        38,574        34,979        1,204   

Property, plant and equipment

     108,410        89,596        132,762        149,324        158,854        5,468   

Total assets

     216,399        253,638        280,887        279,832        280,959        9,672   

Current liabilities

     13,033        35,246        45,445        42,906        40,034        1,378   

Long-term debt (excluding current portion)

     8,130        767        6,799        21,095        32,155        1,107   

Total liabilities

     24,740        39,542        55,751        67,707        75,938        2,614   

Capital stock (4)

     129,877        129,877        129,879        130,845        129,521        4,459   

Stockholders’ equity

     191,659        214,096        225,136        212,125        205,021        7,058   

U.S. GAAP

            

Cash and cash equivalents

     40,017        54,413        51,034        49,062        42,488        1,463   

Working capital (5)

     55,525        67,162        48,322        41,109        41,066        1,414   

Total assets

     214,990        252,705        281,387        279,460        279,052        9,606   

Total liabilities

     24,099        39,465        56,264        68,820        77,423        2,665   

Stockholders’ equity

     190,891        213,240        225,123        210,640        201,629        6,941   
     Years Ended December 31,  
     2008     2009     2010     2011     2012  
     NT$     NT$     NT$     NT$     NT$     US$  
     (in millions, except per share and per ADS data)  

Other Consolidated Data:

            

R.O.C. GAAP

            

Cash flow:

            

Capital expenditure

     11,515        17,618        61,323        53,326        52,186        1,796   

Cash provided by operating activities

     45,251        32,422        53,495        41,654        40,535        1,395   

Cash used in investing activities

     (11,423     (19,229     (57,779     (55,120     (49,148     (1,692

Cash provided by (used in) financing activities

     (34,380     4,944        (10,174     9,923        3,588        124   

Net increase (decrease) in cash and cash equivalents

     889        17,586        (14,882     (2,201     (6,477     (223

Gross profit margin

     13.1     16.9     29.2 %     18.2     16.8     16.8

Operating profit (loss) margin

     (2.2 )%      2.0     17.4 %     4.4     3.0     3.0

Net profit (loss) margin

     (23.0 )%      4.2     18.9 %     9.1     6.8     6.8

Capacity utilization rate (on an actual basis)

     70.7     69.4     93.7 %     78.6     78.8     78.8

Dividends declared per share (6)

     1.2       —          0.5       1.11       0.5        0.02   

U.S. GAAP

            

Cash flow:

            

Capital expenditure

     11,515        17,618        61,323        53,326        52,186        1,796   

Cash provided by operating activities

     44,953        32,422        53,495        41,654        40,535        1,395   

Cash used in investing activities

     (19,973     (22,419     (46,277     (54,891     (49,245     (1,695

Cash provided by (used in) financing activities

     (34,081     4,944        (10,174     9,923        3,588        124   

Net increase (decrease) in cash and cash equivalents

     (7,661     14,396        (3,379     (1,971     (6,574     (226

Gross profit margin

     11.3     16.6     28.9 %     18.1     16.7     16.7

Operating profit (loss) margin

     (23.2 )%      (2.5 )%      16.9 %     2.2     0.6     0.6

Net profit (loss) margin

     (29.9 )%      2.8     18.7 %     7.5     4.4     4.4

 

(1) Earnings (Losses) per share is calculated by dividing net income (loss) by the weighted average number of shares outstanding during the year.
(2) Retroactively adjusted for all subsequent stock dividends.
(3) Diluted securities include convertible bonds and employee stock options, if any.
(4) The changes to the number of the capital shares primarily caused by the acquisition of treasury stocks, subsequent resale of treasury stocks to employees and exercise of employee stock options, if any.
(5) Working capital equals current assets minus current liabilities.
(6) Dividends declared per share are in connection with earnings and accumulated additional paid-in capital.

 

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Currency Translations and Exchange Rates

In portions of this annual report, we have translated New Taiwan dollar amounts into U.S. dollars for the convenience of readers. The rate we used for the translations was NT$29.05 = US$1.00, which was the noon buying rate as certified for customs purposes by the Federal Reserve Bank of New York on December 31, 2012. The translation does not mean that New Taiwan dollars could actually be converted into U.S. dollars at that rate. The following table shows the noon buying rates for New Taiwan dollars expressed in New Taiwan dollar per US$1.00. On April 19, 2012, the noon buying rate was NT$29.77 to US$1.00.

 

     Average (1)    High      Low      At Period-End  

2008

   31.51      33.58         29.99         32.76   

2009

   33.02      35.21         31.95         31.95   

2010

   31.50      32.43         29.14         29.14   

2011

   29.38      30.67         28.50         30.27   

2012

   29.56      30.28         28.96         29.05   

October

   29.24      29.31         29.15         29.20   

November

   29.11      29.26         28.96         29.07   

December

   29.04      29.10         29.00         29.05   

2013 (through April 19)

   29.57      30.06         28.93         29.77   

January

   29.10      29.54         28.93         29.54   

February

   29.63      29.73         29.52         29.67   

March

   29.74      29.88         29.63         29.81   

April (through April 19)

   29.91      30.06         29.77         29.77   

 

Source: Federal Reserve Statistical Release, Board of Governors of the Federal Reserve System.

(1) Determined by averaging the rates on the last business day of each month during the relevant period for annual periods and the rates on each business day for monthly periods.

B. Capitalization and Indebtedness

Not applicable.

C. Reasons for the Offer and Use of Proceeds

Not applicable.

D. Risk Factors

Our business and operations are subject to various risks, many of which are beyond our control. If any of the risks described below actually occurs, our business, financial condition or results of operations could be seriously harmed.

Risks Related to Our Business and Financial Condition

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

In recent times, several major systemic economic and financial crises and natural disasters negatively affected global business, banking and financial sectors, including the semiconductor industry and markets. These types of crises cause turmoil in global markets that often result in declines in electronic products sales from which we generate our income through our goods and services. In addition, these crises may cause a number of indirect effects such as undermining the ability of our customers to remain competitive vis-à-vis the financial and economic challenges created by insolvent countries and companies still struggling to survive in the wake of these crises. For example, there could be in the future knock-on effects from these types of crises on our business, including significant decreases in orders from our customers; insolvency of key suppliers resulting in product delays; inability of customers to obtain credit to finance purchases of our products; customer insolvencies; and counterparty failures negatively impacting our treasury operations. Any future systemic political, economic or financial crisis or catastrophic natural disaster (as well as the indirect effects flowing from these crises or disasters) could cause revenues for the semiconductor industry as a whole to decline dramatically, and if the economic conditions or financial condition of our customers were to deteriorate, additional accounting related allowances may be required in the future and such additional allowances could increase our operating expenses and therefore reduce our operating income and net income. Thus, any future global economic crisis or catastrophic natural disaster (and their indirect effects) could materially and adversely affect our results of operations.

 

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The seasonality and cyclical nature of the semiconductor industry and periodic overcapacity make us particularly vulnerable to significant and sometimes prolonged economic downturns.

The semiconductor industry has historically been highly cyclical and, at various times, has experienced significant downturns. Since most of our customers operate in semiconductor-related industries, variations in order levels from our customers can result in volatility in our revenues and earnings. Because our business is, and will continue to be, largely dependent on the requirements of semiconductor companies for our services, downturns in the semiconductor industry will lead to reduced demand for our services.

Our net operating revenues are also typically affected by seasonal variations in market conditions that contribute to the fluctuation of the average selling prices of semiconductor services and products. The seasonal sales trends for semiconductor services and products closely mirror those for consumer electronics, communication and computer sales. We generally experience seasonal lows in the demand for semiconductor services and products during the first half of the year, primarily as a result of inventory correction by our customers. Any change in the general seasonal variations, which we cannot anticipate, may result in materially adverse effects on our revenues, operations and businesses.

Our operating results fluctuate from quarter to quarter, which makes it difficult to predict our future performance.

Our revenues, expenses and results of operations have varied significantly in the past and may fluctuate significantly from quarter to quarter in the future due to a number of factors, many of which are beyond our control. Our business and operations have at times in the past been negatively affected by, and are expected to continue to be subject to the risk of, the following factors:

 

   

the seasonality and cyclical nature of both the semiconductor industry and the markets served by our customers;

 

   

our customers’ adjustments in their inventory;

 

   

the loss of a key customer or the postponement of orders from a key customer;

 

   

the rescheduling and cancellation of large orders;

 

   

our ability to obtain equipment, raw materials, electricity, water and other required utilities on a timely and economic basis;

 

   

outbreaks of contagious diseases, including severe acute respiratory syndrome, avian flu and swine flu;

 

   

environmental events, such as fires and earthquakes, or industrial accidents; and

 

   

technological changes.

 

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Due to the factors noted above and other risks discussed in this section, many of which are beyond our control, you should not rely on quarter-to-quarter comparisons to predict our future performance. Unfavorable changes in any of the above factors may seriously harm our business, financial condition and results of operations. In addition, our operating results may be below the expectations of public market analysts and investors in some future periods. In this event, the price of the shares or ADSs may underperform or fall.

A decrease in demand for or selling prices of communication devices, consumer electronics and computer goods may decrease the demand for our services and reduce our margins.

Our customers generally use the semiconductors produced in our fabs in a wide variety of applications. We derive a significant percentage of our operating revenues from customers who use our manufacturing services to make semiconductors for communication devices, consumer electronics, PCs and other computers. The semiconductor industry experienced several downturns due to recent major financial crises and natural disasters. These downturns resulted in a reduced demand for our services and hence decreased our revenues and earnings. Any significant decrease in the demand for communication devices, consumer electronics, PCs or other computers may further decrease the demand for our services. In addition, if the average selling prices of communication devices, consumer electronics, PCs or other computers decline significantly, we will be pressured to further reduce our selling prices, which may reduce our revenues and, therefore, reduce our margins significantly. As demonstrated by downturns in demand for high technology products in the past, market conditions can change rapidly, without apparent warning or advance notice. In such instances, our customers will experience inventory buildup and/or difficulties in selling their products and, in turn, will reduce or cancel orders for wafers from us. The timing, severity and recovery of these downturns cannot be predicted accurately or at all. When they occur, our business, profitability and price of the shares and ADSs are likely to suffer.

Overcapacity in the semiconductor industry may reduce our revenues, earnings and margins.

The prices that we can charge our customers for our services are significantly related to the overall worldwide supply of integrated circuits and semiconductor products. The overall supply of semiconductor products is based in part on the capacity of other companies, which is outside of our control. For example, in light of the current market conditions, some companies, including our largest competitors, have announced plans to increase capacity expenditures significantly. We believe such plans, if carried out as planned, will increase the industry-wide capacity and are likely to result in overcapacity in the future. In periods of overcapacity, if we are unable to offset the adverse effects of overcapacity through, among other things, our technology and product mix, we may have to lower the prices we charge our customers for our services and/or we may have to operate at significantly less than full capacity. Such actions could reduce our margin and weaken our financial condition and results of operations. We cannot give any assurance that an increase in the demand for foundry services in the future will not lead to overcapacity in the near future, which could materially adversely affect our revenues, earnings and margins.

Any problem in the semiconductor outsourcing infrastructure can adversely affect our net operating revenues and profitability.

Many of our customers depend on third parties to provide mask tooling, assembly and test services. If these customers cannot timely obtain these services on reasonable terms, they may not order any foundry services from us. This may significantly reduce our net operating revenues and negatively affect our profitability.

We may be unable to implement new technology as it becomes available, which may result in our loss of customers and market share.

The semiconductor industry is developing rapidly and the related technology is constantly evolving. If we do not anticipate the technology evolution and rapidly adopt new and innovative technology, we may not be able to produce sufficiently advanced services at competitive prices. There is a risk that our competitors may adopt new technology before we do, resulting in our loss of market share. If we are unable to begin offering advanced services and processes on a competitive and timely basis, we may lose customers to our competitors providing similar technologies, which may cause our net operating revenues to decline unless we can replace lost customers with new customers.

 

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We may be unable to provide leading technology to our customers if we lose the support of our technology partners.

Enhancing our manufacturing process technologies is critical to our ability to provide services for our customers. We intend to continue to advance our process technologies through internal research and development and alliances with other companies. Although we have an internal research and development team focused on developing new and improved semiconductor manufacturing process technologies, we are also dependent on some of our technology partners to advance certain process technology portfolios. In addition, we currently have patent cross-licensing agreements with several companies, including International Business Machines Corporation, or IBM. Some mask and equipment vendors also supply our technology development teams with masks and equipment needed to develop more advanced processing technologies. If we are unable to continue any of our joint development arrangements, patent cross-licensing agreements and other agreements, on mutually beneficial economic terms, if we re-evaluate the technological and economic benefits of such relationships, if we are unable to enter into new technology alliances and arrangements with other leading and specialty semiconductor companies, or if we fail to secure masks and equipment from our vendors in a timely manner sufficient to support our ongoing technology development, we may be unable to continue providing our customers with leading edge mass-producible process technologies and may, as a result, lose important customers, which would have a materially adverse effect on our businesses, results of operations and financial condition.

In addition, some of our customers rely upon third party vendors, or IP Vendors, for the intellectual property they embed into their designs. Although we work and collaborate with IP Vendors with respect to such matters, there can be no guarantee that we will be successful or that the vendors will deliver according to our requirements or the needs of our customers. Failures to meet the targets or to deliver on a timely basis could cause customers to cancel orders and/or shift capacity to other suppliers.

Our business may suffer if we cannot compete successfully in our industry.

The worldwide semiconductor foundry industry is highly competitive. We compete with dedicated foundry service providers such as Taiwan Semiconductor Manufacturing Company Limited, Semiconductor Manufacturing International (Shanghai) Corporation and Globalfoundries Inc., as well as the foundry operation services of some integrated device manufacturers, such as IBM, Intel, Samsung Electronics, or Samsung, and Toshiba Corporation, or Toshiba. Integrated device manufacturers principally manufacture and sell their own proprietary semiconductor products, but may also offer foundry services. Other competitors such as DongbuAnam Semiconductor, Grace Semiconductor Manufacturing Corp., X-FAB Semiconductors Foundries AG and Silterra Malaysia Sdn. Bhd. have initiated efforts to expand and develop substantial additional foundry capacity. New entrants and consolidations in the foundry business, such as the acquisition of Chartered Semiconductor by Globalfoundries in 2009, are likely to initiate a trend of competitive pricing and create potential overcapacity in legacy technology. Some of our competitors have greater access to capital and substantially greater production, research and development, marketing and other resources than we do. As a result, these companies may be able to compete more aggressively over a longer period of time than we can.

The principal elements of competition in the wafer foundry market include:

 

   

technical competence;

 

   

time-to-volume production and cycle time;

 

   

time-to-market;

 

   

research and development quality;

 

   

available capacity;

 

   

manufacturing yields;

 

   

customer service and design support;

 

   

price;

 

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management expertise; and

 

   

strategic alliances.

Our ability to compete successfully also depends on factors partially outside of our control, including product availability, intellectual property, or IP, including cell libraries that our customers embed in their product designs, and industry and general economic trends. If we cannot compete successfully in our industry, our business may suffer.

We may not succeed in our efforts to acquire operations in China.

R.O.C. law prohibits Taiwan entities from investment in mainland China-based semiconductor manufacturers without government approval. Since 2005, we have entered into several transactions to increase our ownership of Hejian Technology (Suzhou) Co., Ltd., or Hejian, a semiconductor manufacturer owning an 8-inch fab in Suzhou, China. Hejian is a fully owned subsidiary of Infoshine Technology Limited, or Infoshine, and Infoshine is a fully owned subsidiary of Best Elite International Limited, or Best Elite. For more information about the transactions with Hejian and its holding companies, Infoshine and Best Elite, please see “Item 4. Information on the Company—A. History and Development of the Company”.

As part of these transactions, we need to obtain approvals from the Investment Commission of the R.O.C. Ministry of Economic Affairs, or the R.O.C. MOEA. Investments made by R.O.C. companies in PRC companies that engage in the semiconductor foundry business are strictly regulated by the R.O.C. government. For example, the investee may only manufacture semiconductor wafers of 8 inches or smaller, and the number of total investment projects in the semiconductor foundry business undertaken by the R.O.C. companies, taken as a whole, is limited by a quota. As of March 31, 2013, our cumulative ownership in Best Elite was 86.88%. While we have received approvals of the Investment Commission, Ministry of Economic Affairs, Executive Yuan for our acquisition of Best Elite’s shares, we cannot assure you that we will be able to continue to receive approvals from the R.O.C. government authorities for further acquisitions or transactions in the future.

We compete for business on a global basis, and we believe it is necessary to establish and develop operations in multiple strategic geographic regions. We cannot assure you that the mergers and acquisitions we have undertaken will be closed successfully or that they will be fully closed on the terms we proposed. The failure to close these transactions or the failure to close them on terms as favorable as we have entered into and announced may impair our ability to realize the benefits we intend to achieve and have a material and adverse effect on our operations and business.

We may not be able to implement our planned growth if we are unable to obtain the financing necessary to fund the substantial capital expenditures we expect to incur.

Our business and the nature of our industry require us to make substantial capital expenditures leading to a high level of fixed costs. The costs of facilities, tools and equipment to make semiconductors with advanced technology continue to rise, with each generation typically significantly more expensive than the larger-in-size more mature technologies which preceded. We expect to incur significant capital expenditures in connection with our growth plans. These capital expenditures will be made in advance of any additional sales to be generated by new or upgraded fabs as a result of these expenditures. Given the fixed-cost nature of our business, we have in the past incurred, and may in the future incur, operating losses if our revenues do not adequately offset our capital expenditures. Additionally, our actual expenditures may exceed our planned expenditures for a variety of reasons, including changes in:

 

   

our growth plan;

 

   

our process technology;

 

   

market conditions;

 

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interest rates;

 

   

exchange rate fluctuations; and

 

   

prices of equipment.

We cannot assure you that additional financing will be available on satisfactory terms, if at all. If adequate funds are not available on satisfactory terms, we may be forced to curtail our expansion plans or delay the deployment of our services, which could result in a loss of customers and limit the growth of our business.

We depend on a small number of customers for a significant portion of our net operating revenues and a loss of some of these customers would result in the loss of a significant portion of our net operating revenues.

We have been largely dependent on a small number of customers for a substantial portion of our business. In 2012, our top ten customers accounted for 64.5% of our net operating revenues. We expect that we will continue to be dependent upon a relatively limited number of customers for a significant portion of our net operating revenues. We cannot assure you that our net operating revenues generated from these customers, individually or in the aggregate, will reach or exceed historical levels in any future period. Loss or cancellation of business from significant changes in scheduled deliveries to, or decreases in the prices of services sold to, any of these customers could significantly reduce our net operating revenues.

Our customers generally do not place purchase orders far in advance, which makes it difficult for us to predict our future revenues, adjust production costs and allocate capacity efficiently on a timely basis.

Our customers generally do not place purchase orders far in advance. In addition, due to the cyclical nature of the semiconductor industry, our customers’ purchase orders have varied significantly from period to period. As a result, we do not typically operate with any significant backlog, except in periods of extreme capacity shortage such as that experienced in late 2009 and early 2010. The lack of significant backlog and the unpredictable length and timing of semiconductor cycles make it difficult for us to forecast our revenues in future periods. Moreover, our expense levels are based in part on our expectations of future revenues and we may be unable to adjust costs in a timely manner to compensate for revenue shortfalls. We expect that in the future our net operating revenues in any quarter will continue to be substantially dependent upon purchase orders received in that quarter.

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

Our ability to compete successfully and achieve future growth will depend, in part, on our ability to protect our proprietary technology and to secure critical processing technology that we do not own at commercially reasonable terms. We cannot assure you that in the future we will be able to independently develop, or secure from any third party, the technology required for upgrading our production facilities or for meeting our customer needs. Our failure to successfully obtain such technology may seriously harm our competitive position.

Our ability to compete successfully also depends on our ability to operate without infringing on the proprietary rights of others. We have no means of knowing what patent applications have been filed in the United States or in certain other countries until months after they are filed. The semiconductor industry, because of the complexity of the technology used and the multitude of patents, copyrights and other overlapping intellectual property rights, is characterized by frequent litigation regarding patent, trade secret and other intellectual property rights. It is common for patent owners to assert their patents against semiconductor manufacturers. We have received from time to time communications from third parties asserting patents that cover certain of our technologies and alleging infringement of intellectual property rights of others, and we expect to continue to receive such communications in the future. See “Item 4. Information on the Company—B. Business Overview—Litigation” for more details of our ongoing litigation. In the event any third party was to make a valid claim against us or against our customers, we could be required to:

 

   

seek to acquire licenses to the infringed technology which may not be available on commercially reasonable terms, if at all;

 

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discontinue using certain process technologies, which could cause us to stop manufacturing certain semiconductors;

 

   

pay substantial monetary damages; and/or

 

   

seek to develop non-infringing technologies, which may not be feasible.

Any one of these developments could place substantial financial and administrative burdens on us and hinder our business. Litigation, which could result in substantial costs to us and diversion of our resources, may also be necessary to enforce our patents or other intellectual property rights or to defend us or our customers against claimed infringement of the rights of others. If we fail to obtain necessary licenses or if litigation relating to patent infringement or other intellectual property matters occurs, it could hurt our reputation as a technology leader in our industry and prevent us from manufacturing particular products or applying particular technologies, which could reduce opportunities to generate revenues.

Our operations and business will suffer if we lose one or more of our key personnel without adequate replacements.

Our future success to a large extent depends on the continued service of our Chairman and key executive officers. We do not carry key person insurance on any of our personnel. If we lose the services of any of our Chairman or key executive officers, it could be difficult to find and integrate replacement personnel in a short period of time, which could harm our operations and the growth of our business.

We may have difficulty attracting and retaining skilled employees, who are critical to our future success.

The success of our business depends upon attracting and retaining experienced executives, engineers and other employees to implement our strategy. The competition for skilled employees is intense. We expect demand for personnel in Taiwan to increase in the future as new wafer fabrication facilities and other businesses are established in Taiwan. We also expect demand for experienced personnel in other locations to increase significantly as our competitors establish and expand their operations. Some of our competitors are willing to offer better compensation than that we do to our executives, engineers and other employees. We do not have long-term employment contracts with any of our employees. If we were unable to retain our existing personnel or attract, assimilate and recruit new experienced personnel in the future, it could seriously disrupt our operations and delay or restrict the growth of our business.

Our transactions with affiliates and stockholders may hurt our profitability and competitive position.

We have provided foundry services to several of our affiliates and stockholders. These transactions were conducted on an arm’s- length basis. We currently do not provide any preferential treatment to any of these affiliates and stockholders. However, we may in the future reserve or allocate our production capacity to these companies if there is a shortage of foundry services in the market to enable these companies to maintain their operations and/or to protect our investments in them. This reservation or allocation may reduce our capacity available for our other customers, which may damage our relationships with other customers and discourage them from using our services. This may hurt our profitability and competitive position.

The differences between R.O.C. and U.S. accounting standards affect the amount of our net income.

Our financial statements are prepared under R.O.C. GAAP, which differ in certain significant respects from U.S. GAAP. For a discussion of these differences, see Note 36 to our audited consolidated financial statements included elsewhere in this annual report. As a result, our net income attributable to us in 2010, 2011 and 2012 under U.S. GAAP was NT$23,616 million, NT$8,746 million and NT$5,055 million (US$174 million), respectively, as compared to net income attributable to us under R.O.C. GAAP of NT$23,899 million, NT$10,610 million and NT$7,819 million (US$269 million) in 2010, 2011 and 2012, respectively.

 

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Starting from January 1, 2013, we will prepare consolidated financial statements in accordance with International Financial Reporting Standards (“IFRSs”) as issued by the International Accounting Standards Board (“IASB”) for our future SEC filing. As such, our 2012 consolidated financial statements under IFRSs to be included in our 2013 Form 20-F may be different from the accompanying 2012 consolidated ones prepared based on the R.O.C. GAAP.

The trend of adopting protectionist measures in certain countries, including the United States, could have a material adverse impact on our results of operations and financial condition.

Governments in the United States, China and certain other countries have implemented fiscal and monetary programs to stimulate economic growth as a result of the recent economic downturn, and many of these programs include protectionist measures that encourage the use of domestic products and labor. Recent policy developments by the governments in China and elsewhere also suggest an increased unwillingness to allow international companies to invest in or acquire local businesses. Since many of our direct customers and other downstream customers in the supply chain are located in or have operations in the countries where protectionist measures were adopted, such protectionist measures may have a material adverse effect on demand for our manufacturing services.

Any future outbreak of contagious diseases may materially and adversely affect our business and operations, as well as our financial condition and results of operations.

Any future outbreak of contagious diseases, such as avian or swine influenza or severe acute respiratory syndrome, may disrupt our ability to adequately staff our business and may generally disrupt our operations. If any of our employees is suspected of having contracted any contagious disease, we may under certain circumstances be required to quarantine such employees and the affected areas of our premises. Therefore, we may have to temporarily suspend part of or all of our operations. Furthermore, any future outbreak may restrict the level of economic activity in affected regions, including Taiwan, and affect the willingness and ability of our employees and customers to travel, which may also adversely affect our business and prospects. As a result, we cannot assure you that any future outbreak of contagious diseases would not have a material adverse effect on our financial condition and results of operations.

Currency fluctuations could increase our costs relative to our revenues, which could adversely affect our profitability.

More than half of our net operating revenues are denominated in currencies other than New Taiwan dollars, primarily in U.S. dollars and Japanese Yen. On the other hand, more than half of our costs of direct labor, raw materials and overhead are incurred in New Taiwan dollars. Although we hedge a portion of the resulting net foreign exchange position through the use of foreign exchange spot transactions, we are still affected by fluctuations in foreign exchange rates among the U.S. dollar, the Japanese Yen, the New Taiwan dollar and other currencies. Any significant fluctuation in exchange rates may impact on our financial condition and the U.S. dollar value of the ADSs and the U.S. dollar value of any cash dividends we distributed, which could have a corresponding effect on the market price of the ADSs.

Risks Relating to Manufacturing

Our manufacturing processes are highly complex, costly and potentially vulnerable to impurities and other disruptions that can significantly increase our costs and delay product shipments to our customers.

Our manufacturing processes are highly complex, require advanced and costly equipment and are continuously being modified to improve manufacturing yields and product performance. Impurities or other difficulties in the manufacturing process or defects with respect to equipment or supporting facilities can lower manufacturing yields, interrupt production or result in losses of products in process. As system complexity has increased and process technology has become more advanced, manufacturing tolerances have been reduced and requirements for precision have become even more demanding. Although we have been enhancing our manufacturing capabilities and efficiency, from time to time we have experienced production difficulties that have caused delivery delays and quality control problems, as is common in the semiconductor industry. In the past we have encountered the following problems:

 

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capacity constraints due to changes in product mix or the delayed delivery of equipment critical to our production, including scanners, steppers and chemical stations;

 

   

construction delays during expansions of our clean rooms and other facilities;

 

   

difficulties in upgrading or expanding existing facilities;

 

   

manufacturing execution system or automatic transportation system failure;

 

   

unexpected breakdowns in our manufacturing equipment and/or related facilities;

 

   

changing or upgrading our process technologies;

 

   

raw materials shortages and impurities; and

 

   

delays in delivery and shortages of spare parts and in maintenance for our equipment and tools

Should these problems repeat, we may suffer delays in delivery and/or loss of business and revenues. In addition, we cannot guarantee that we will be able to increase our manufacturing capacity and efficiency in the future to the same extent as in the past.

Our profit margin may substantially decline if we are unable to continuously improve our manufacturing yields, maintain high capacity utilization and optimize the technology mix of our silicon wafer production.

Our ability to maintain our profitability depends, in part, on our ability to:

 

   

maintain high capacity utilization, which is defined as the ratio of the wafer-out quantity of 8-inch wafer equivalents divided by our estimated total 8- inch equivalent capacity in a specified period. The estimated capacity figures may vary depending upon equipment delivery schedules, pace of migration to more advanced processing technologies and other factors affecting production ramp-ups;

 

   

maintain or improve our manufacturing yields, which is defined as the percentage of usable devices manufactured on a wafer; and

 

   

optimize the technology mix of our production by increasing the number of wafers manufactured by utilizing different processing technologies.

Our manufacturing yields directly affect our ability to attract and retain customers, as well as the price of our services. Our capacity utilization affects our operating results because a large percentage of our operating costs are fixed. Our technology mix affects utilization of our equipment and process technologies, as well as the prices we can charge, either of which can affect our margins. If we are unable to continuously improve our manufacturing yields, maintain high capacity utilization or optimize the technology mix of our wafer production, our profit margin may substantially decline.

We may have difficulty in ramping up production in accordance with our schedule, which could cause delays in product deliveries and decreases in manufacturing yields.

As is common in the semiconductor industry, we have from time to time experienced difficulties in ramping up production at new or existing facilities or effecting transitions to new manufacturing processes. As a result, we have suffered delays in product deliveries or reduced manufacturing yields. We may encounter similar difficulties in connection with:

 

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the migration to more advanced process technologies, such as 45/40 and 28-nanometer and more advanced process technology;

 

   

the joint development with vendors for more powerful tools (both in production and inspection) needed in the future to meet advanced process technology requirements; and

 

   

the adoption of new materials in our manufacturing processes.

We may face construction delays, interruptions, infrastructure failure and delays in upgrading or expanding existing facilities, or changing our process technologies, any of which might adversely affect our production schedule. Our failure to achieve our production schedule could delay the time required to recover our investments and seriously affect our profitability.

Our production schedules could be delayed and we may lose customers if we are unable to obtain raw materials and equipment in a timely manner.

We depend on our suppliers for raw materials. To maintain competitive manufacturing operations, we must obtain from our suppliers, in a timely manner, sufficient quantities of quality materials at acceptable prices. Although we source our raw materials from several suppliers, a small number of these suppliers account for a substantial amount of our supply of raw materials because of the consistent quality of these suppliers’ goods. For example, in 2012, we purchased a majority of our silicon wafers from four makers, Shin-Etsu Handotai Corporation, or Shin-Etsu, Siltronic AG, MEMC Corporation and Sumco Group (including Sumco Corporation and Formosa Sumco Technology Corporation). We may have long-term contracts with most of our suppliers if necessary. From time to time, our suppliers have extended lead time or limited the supply of required materials to us because of capacity constraints. Consequently, from time to time, we have experienced difficulty in obtaining the quantities of raw materials we need on a timely basis.

In addition, from time to time we may reject materials that do not meet our specifications, resulting in declines in output or manufacturing yields. We cannot assure you that we will be able to obtain sufficient quantities of raw materials and other supplies in a timely manner. If the supply of materials is substantially diminished or if there are significant increases in the costs of raw materials, we may be forced to incur additional costs to acquire sufficient quantities of raw materials to sustain our operations, which may increase our marginal costs and reduce profitability.

We also depend on a limited number of manufacturers and vendors that make and maintain the complex equipment we use in our manufacturing processes. We also rely on these manufacturers and vendors to improve our technology to meet our customers’ demands as technology improves. In periods of unpredictable and highly diversified market demand, the lead time from order to delivery of this equipment can be as long as six to twelve months. If there are delays in the delivery of equipment or in the availability or performance of necessary maintenance, or if there are increases in the cost of equipment, it could cause us to delay our introduction of new manufacturing capacity or technologies and delay product deliveries, which may result in the loss of customers and revenues.

We may be subject to the risk of loss due to fire because the materials we use in our manufacturing processes are highly flammable.

We use highly flammable materials such as silane and hydrogen in our manufacturing processes and may therefore be subject to the risk of loss arising from fires. The risk of fire associated with these materials cannot be completely eliminated. We maintain insurance policies to reduce losses caused by fire, including business interruption insurance. While we believe that our insurance coverage for damage to our property and business interruption due to fire is consistent with semiconductor industry practice, our insurance coverage is subject to deductibles and self-insured retention and may not be sufficient to cover all of our potential losses. If any of our fabs were to be damaged or cease operations as a result of a fire, it would temporarily reduce manufacturing capacity and reduce revenues.

 

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We and many of our customers and suppliers are vulnerable to natural disasters and other events outside of our control, which may seriously disrupt our operations.

Most of our assets and many of our customers and suppliers are located in certain parts of Taiwan. Our operations and the operations of our customers and suppliers are vulnerable to earthquakes, floods, droughts, power losses and similar events that affect the locations of our operations. The occurrence of any of these events could interrupt our services and cause severe damages to wafers in process, or cause significant business interruptions. Although we maintain property damage and business interruption insurance for such risks, there is no guarantee that future damages or business loss from earthquakes will be covered by such insurance, that we will be able to collect from our insurance carriers, should we choose to claim under our insurance policies, or that such coverage will be sufficient. In addition, our manufacturing facilities have occasionally experienced insufficient power supplies, and our operations have been disrupted.

Our operations may be delayed or interrupted and our business could suffer if we violate environmental, safety and health, or ESH, regulations.

The semiconductor manufacturing process requires the use of various gases, chemicals, hazardous materials and other substances such as solvents and sulfuric acid which may have an impact on the environment. We are always subject to ESH regulations, and a failure to manage the use, storage, transportation, emission, discharge, recycling or disposal of raw materials or to comply with these ESH regulations could result in (i) regulatory penalties, fines and other legal liabilities, (ii) suspension of production or delays in operation and capacity expansion, (iii) a decrease in our sales, (iv) an increase in pollution cleaning fees and other operation costs, or (v) damage to our public image, any of which could harm our business. In addition, as ESH regulations are becoming more comprehensive and stringent, we may incur a greater amount of capital expenditures in technology innovation and materials substitution in order to comply with such regulations, which may adversely affect our results of operations.

Climate change may negatively affect our business.

There is increasing concern that climate change is occurring and may have dramatic effects on human activity without aggressive remediation steps. A modest change in temperature would result in increased coastal flooding, changing precipitation patterns and increasing risk of extinction for the world’s species. Public expectations for reductions in greenhouse gas emissions could result in increased energy, transportation and raw material costs.

Scientific examination of, political attention to and rules and regulations on issues surrounding the existence and extent of climate change may result in an increase in the cost of production due to increase in the prices of energy and introduction of energy or carbon tax. Various regulatory developments have been introduced that focus on restricting or managing emissions of carbon dioxide, methane and other greenhouse gases. Enterprises may need to purchase at higher costs emission credits, new equipment or raw materials with lower carbon footprints. These developments and further legislation that is likely to be enacted could affect our operations negatively. Changes in environmental regulations, such those on the use of perfluorinated compounds, could increase our production costs, which could adversely affect our results of operation and financial condition.

In addition, more frequent droughts and floods, extreme weather conditions and rising sea levels could occur due to climate change. The impact of such changes could be significant as most of our factories are located in islands including Taiwan and Singapore. For example, transportation suspension caused by extreme weather conditions could harm the distribution of our products. Similarly, our operations depend upon adequate supplies of water, and extended or serious droughts may affect our ability to obtain adequate supplies of water and threaten our production. We cannot predict the economic impact, if any, of disasters or climate change.

 

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Disruptions in the international trading environment may seriously decrease our international sales.

A substantial portion of our net operating revenues is derived from sales to customers located in countries other than Taiwan, Singapore and Japan where our fabs are located, which accounted for 35.5%, 40.2% and 33.4% in 2010, 2011 and 2012, respectively, of our net operating revenues. We expect sales to customers outside of Taiwan, Singapore and Japan to continue to represent a significant portion of our net operating revenues. The success and profitability of our international activities depend on certain factors beyond our control, such as general economic conditions, labor conditions, political stability, tax laws, import duties and foreign exchange controls of the countries in which we sell our products, and the political and economic relationships between Taiwan, Singapore, Japan and these countries. As a result, our manufacturing services will continue to be vulnerable to disruptions in the international trading environment, including adverse changes in foreign government regulations, political unrest and international economic downturns.

These disruptions in the international trading environment affect the demand for our manufacturing services and change the terms upon which we provide our manufacturing services overseas, which could seriously decrease our international sales.

Political, Economic and Regulatory Risks

We face substantial political risks associated with doing business in Taiwan, particularly due to the tense relationship between the R.O.C. and the People’s Republic of China, or the PRC, that could negatively affect the value of your investment.

Our principal executive offices and most of our assets and operations are located in Taiwan. Accordingly, our business, financial condition and results of operations and the market price of our shares and the ADSs may be affected by changes in R.O.C. governmental policies, taxation, inflation or interest rates and by social instability and diplomatic and social developments in or affecting Taiwan which are outside of our control. Taiwan has a unique international political status. Since 1949, Taiwan and the Chinese mainland have been separately governed. The PRC claims that it is the sole government in China and that Taiwan is part of China. Although significant economic and cultural relations have been established between the R.O.C. and the PRC in the past few years, such as the adoption of the Economic Cooperation Framework Agreement and memorandum regarding cross-straight financial supervision, we cannot assure you that relations between the R.O.C. and PRC will not become strained again. For example, the PRC government has refused to renounce the use of military force to gain control over Taiwan and, in March 2005, further passed an Anti-Secession Law that authorizes non-peaceful means and other necessary measures should Taiwan move to gain independence from the PRC. Past developments in relations between the R.O.C. and the PRC have on occasions depressed the market prices of the securities of companies in the R.O.C. Such initiatives and actions are commonly viewed as having a detrimental effect to reunification efforts between the R.O.C. and the PRC. Relations between the R.O.C. and the PRC and other factors affecting military, political or economic conditions in Taiwan could materially and adversely affect our financial condition and results of operations, as well as the market price and the liquidity of our securities.

Our business depends on the support of the R.O.C. government, and a decrease in this support may increase our labor costs and decrease our net income after tax.

The R.O.C. government has been very supportive of technology companies such as us. For instance, the R.O.C.’s labor laws and regulations do not require employees of semiconductor companies, including our company, to be unionized, and permit these employees to work shifts of 10 hours each day on a two-days-on, two-days-off basis. We cannot assure you, however, that these labor laws and regulations will not be changed in the future. In the event that the R.O.C. government requires our employees to be unionized or decreases the number of hours our employees may work in a given day, our labor costs may increase significantly which could result in lower margins.

We, like many R.O.C. technology companies, have benefited from substantial tax incentives provided by the R.O.C. government. In 2012, such incentives resulted in a tax credit in the amount of NT$184 million (US$6 million). Among the incentives broadly enjoyed by R.O.C. technology companies, various tax benefits granted under Chapter 2 and Article 70-1 of the Statute for Upgrading Industries expired on December 31, 2009. Despite the fact that we can still enjoy the five-year tax holidays for the relevant investment plans approved by R.O.C. tax authority before the expiration of the Statute for Upgrading Industries, if more incentives are curtailed or eliminated, our net income attributable to us may decrease.

 

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Our future tax obligations may adversely affect our profitability.

The R.O.C. government enacted the R.O.C. Income Basic Tax Act, also known as the “Minimum Income Tax Statute”, or the Statute, which became effective on January 1, 2006. This Statute imposes an alternative minimum tax, or AMT. The AMT is designed to remedy the current excessive tax incentives for individuals and businesses. The AMT imposed under the Statute is a supplemental tax which is payable if the income tax payable pursuant to the R.O.C. Income Tax Act is below the minimum amount prescribed under the Statute. For the purpose of calculating the AMT, the taxable income defined under the Statute includes most income that is exempted from income tax under various legislations, such as those providing tax holidays and investment tax credits. For businesses, the incomes which previously enjoyed tax-exemption privileges under relevant tax regulations, such as the Act for the Establishment and Administration of the Science Parks and the Statute for Upgrading Industries, will be subject to the new AMT system for the calculation of business taxpayers’ aggregate incomes. The AMT rate for business entities was 10% and will increase to 12% commencing from 2013. Under the Statute, a company will be subject to a 12% AMT if its annual taxable income under the Statute exceeds NT$0.5 million. However, the Statute grandfathered certain tax exemptions granted prior to the enactment of the AMT. For example, businesses already qualified for five-year tax holidays and having obtained the applicable permission issued by the competent authority before December 31, 2005 may continue to enjoy tax incentives, and the income exempted thereunder will not to be added to the taxable income for the purpose of calculating the AMT, so long as the construction of their investment projects breaks ground within one year from January 1, 2006 and is completed within three years commencing from the day immediately following their receipts of the applicable permission issued by the competent authority. As the tax exemption periods expire or in the event of an increase in other taxable income subject to the Statute, such AMT Statute may adversely impact our net income after tax.

Compliance with laws such as the US Conflict Minerals Law may affect our ability or the ability of our suppliers to purchase raw materials at an effective cost.

Many industries rely on materials which are subject to regulation concerning certain minerals sourced from the Democratic Republic of Congo or adjoining countries, including: Sudan; Uganda; Rwanda; Burundi; United Republic of Tanzania; Zambia; Angola; Congo; and Central African Republic. These minerals are commonly referred to as conflict minerals. Conflict minerals which may be used in our industry or by our suppliers include Columbite-tantalite (derivative of tantalum [Ta]), Cassiterite (derivative of tin [Sn]), gold [Au], Wolframite (derivative of tungsten [W]), and Cobalt [Co]. Under present U.S. regulations, we and our customers are required to survey and disclose whether our processes or products use or rely on conflict materials. On August 22, 2012, the U.S. SEC adopted the final rule for disclosing use of conflict minerals that require companies similar to ours to make a report in a type and format similar to Form D to disclose the use of conflict materials on an annual basis on or prior to each May 31, and our first report will be filed by May 31, 2014. In order to comply with the aforementioned rules and regulations promulgated by the U.S. SEC, we will spare no effort to verify with our vendors all relevant factual data and file the required report. Although we expect that we and our vendors will be able to comply with the requirements of any new regulations promulgated by the SEC, there can be no guarantee that we will be able to gather all the information required. In addition, there is increasing public sentiment that companies should avoid using conflict materials from the DRC and adjoining countries. Although we believe our suppliers do not rely on such conflict materials, there can be no guarantee that we will continue to be able to obtain adequate supplies of materials needed in our production from supply chains outside the DRC and adjoining countries. A failure to obtain necessary information or to maintain adequate supplies of materials from supply chains outside the DRC and adjoining countries may delay our production, increasing the risk of losing customers and business.

Similarly, many countries are considering regulations concerning disclosure and enforcement of human rights within supply chains. Although our own operations comply with the employment and employee rights requirements under the laws of the countries where we have operations, such proposals extend to the operations of suppliers, wherever they may be located. While we believe our suppliers comply with applicable human rights requirements, there can be no guarantee that they will continue to do so, or that we will be able to obtain the necessary information on their activities to comply with whatever future requirements may be enacted.

Data security and data privacy considerations and regulations may adversely affect our operations.

Our operations depend upon reliable and uninterrupted information technology services, including the integrity of our web-based and electronic customer service systems. Although we have put in place what we believe are reasonable precautions to prevent accidental and/or malicious disruption of these services, there can be no assurance that our preventive measures will preclude failure of the information technology, web-based and electronic customer service systems upon which our business depends. Disruption of these systems could adversely affect our ability to manufacture and to serve our customers.

 

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In addition, in the course of our operations, we receive confidential information from and about our customers, vendors, employees and partners. Although we take what we believe are reasonable precautions to protect such information from disclosure to or interruption, there are no guarantees our precautions will prevent accidental or malicious access to such information. In the event of such access, our reputation could be adversely affected, customers and others may hesitate to entrust us with their confidential information, which would negatively affect our operations, and we would incur costs to remedy the breach.

Moreover, many jurisdictions have proposed regulations concerning data privacy. Although we have taken measures to comply with existing law and regulations in this regard, future laws may impose requirements that make our operations more expensive and/or less efficient. In addition, should we experience a breakdown in our systems or failure in our precautions that results in a violation of such regulations, we may suffer adverse customer reaction and face governmental penalties.

Changing statutory accounting principle from R.O.C. GAAP to IFRSs may have a difference adjustment of our stockholder’s equity.

In May 2009, the R.O.C. government announced that listed, over-the-counter and emerging stock companies should adopt International Financial Reporting Standards (“IFRSs”) which is translated and published by Accounting Research and Development Foundation, or ARDF, as the criteria for preparation of financial reports, beginning from January 1, 2013. Compared to our previous reporting standards under R.O.C. GAAP, IFRSs provides for differing reporting requirements with respect to, among others, employee benefits, investment in associate, business combination and measurement of financial instruments, which make a difference adjustment of our stockholder’s equity between IFRSs and R.O.C. GAAP. For significant reconciliation of consolidated balance sheet and consolidated statement of comprehensive income, please refer to Note 34 to our audited consolidated financial statements included elsewhere in this annual report.

Risks Related to the Shares and ADSs and Our Trading Markets

Restrictions on the ability to deposit shares into our ADS program may adversely affect the liquidity and price of the ADSs.

The ability to deposit shares into our ADS program is restricted by R.O.C. law. Under current R.O.C. law, no person or entity, including you and us, may deposit shares into our ADS program without specific approval of the R.O.C. FSC except for the deposit of the shares into our ADS program and for the issuance of additional ADSs in connection with:

 

  (1) distribution of share dividends or free distribution of our shares;

 

  (2) exercise of the preemptive rights of ADS holders applicable to the shares evidenced by ADSs in the event of capital increases for cash; or

 

  (3) delivery of our shares which are purchased in the domestic market in Taiwan directly by the investor or through the depositary or are already in the possession of the investor to the custodian for deposit into our ADS program, subject to the following conditions: (a) the re-issuance is permitted under the deposit agreement and custody agreement, (b) the depositary may accept deposit of those shares and issue the corresponding number of ADSs with regard to such deposit only if the total number of ADSs outstanding after the issuance does not exceed the number of ADSs previously approved by the R.O.C. FSC, plus any ADSs issued pursuant to the events described in (1) and (2) above and (c) this deposit may only be made to the extent previously issued ADSs have been withdrawn.

 

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As a result of the limited ability to deposit shares into our ADS program, the prevailing market price of our ADSs on the NYSE may differ from the prevailing market price of the equivalent number of our shares on the Taiwan Stock Exchange.

Holders of our ADSs will not have the same proposal or voting rights as the holders of our shares, which may affect the value of your investment.

Except for treasury shares and shares held by our subsidiaries which meet certain criteria provided under the R.O.C. Company Act, each common share is generally entitled to one vote and no voting discount will be applied. However, except as described in this annual report and in the deposit agreement, holders of our ADSs will not be able to exercise voting rights attached to the shares evidenced by our ADSs on an individual basis. Holders of our ADSs will appoint the depositary or its nominee as their representative to exercise the voting rights attached to the shares represented by the ADSs. The voting rights attached to the shares evidenced by our ADSs must be exercised as to all matters brought to a vote of stockholders collectively in the same manner.

Moreover, holders of the ADSs do not have individual rights to propose any matter for stockholders’ votes at our stockholders’ meetings. However, holders of at least 51% of the ADS outstanding at the relevant record date may request the depositary to submit to us one proposal per year for consideration at our annual ordinary stockholders’ meeting, provided that such proposal meets certain submission criteria and limitations, including the language and the length of the proposal, the time of submission, the required certification or undertakings, and the attendance at the annual ordinary stockholders’ meeting. A qualified proposal so submitted by the depositary will still be subject to review by our board of directors and there is no assurance that the proposal will be accepted by our board of directors for inclusion in the agenda of our annual ordinary stockholders’ meeting. Furthermore, if we determine, at our discretion, that the proposal submitted by the depositary does not qualify, we have no obligation to notify the depositary or to allow the depositary to modify such proposal.

Furthermore, if holders of at least 51% of the ADSs outstanding at the relevant record date instruct the depositary to vote in the same manner regarding a resolution, including election of directors, the depositary will appoint our Chairman, or his designee, to represent the ADS holders at the stockholders’ meetings and to vote the shares represented by the ADSs outstanding in the manner so instructed. If by the relevant record date the depositary has not received instructions from holders of ADSs holding at least 51% of the ADSs to vote in the same manner for any resolution, then the holders will be deemed to have instructed the depositary to authorize and appoint our Chairman, or his designee, to vote all the shares represented by ADSs at his sole discretion, which may not be in your interest.

The rights of holders of our ADSs to participate in our rights offerings may be limited, which may cause dilution to their holdings.

We may from time to time distribute rights to our stockholders, including rights to acquire our securities. Under the deposit agreement, the depositary will not offer those rights to ADS holders unless both the rights and the underlying securities to be distributed to ADS holders are either registered under the Securities Act or exempt from registration under the Securities Act. We are under no obligation to file a registration statement with respect to any such rights or underlying securities or to endeavor to cause such a registration statement to be declared effective. Accordingly, holders of our ADSs may be unable to participate in our rights offerings and may experience dilution in their holdings.

Changes in exchange controls that restrict your ability to convert proceeds received from your ownership of ADSs may have an adverse effect on the value of your investment.

Your ability to convert proceeds received from your ownership of ADSs depends on existing and future exchange control regulations of the Republic of China. Under the current laws of the Republic of China, an ADS holder or the depositary, without obtaining further approvals from the R.O.C. Central Bank of China, or the CBC, or any other governmental authority or agency of the Republic of China, may convert NT dollars into other currencies, including U.S. dollars, in respect of:

 

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the proceeds of the sale of shares represented by ADSs or received as share dividends with respect to the shares and deposited into the depositary receipt facility; and

 

   

any cash dividends or distributions received from the shares represented by ADSs.

In addition, the depositary may also convert into NT dollars incoming payments for purchases of shares for deposit in the depositary receipt facility against the creation of additional ADSs. If you withdraw the shares underlying your ADSs and become a holder of our shares, you may convert into NT dollars subscription payments for rights offerings. The depositary may be required to obtain foreign exchange approval from the CBC on a payment-by-payment basis for conversion from NT dollars into foreign currencies of the proceeds from the sale of subscription rights of new shares. Although it is expected that the CBC will grant approval as a routine matter, required approvals may not be obtained in a timely manner, or at all.

Under the Republic of China Foreign Exchange Control Law, the Executive Yuan of the Republic of China may, without prior notice but subject to subsequent legislative approval, impose foreign exchange controls or other restrictions in the event of, among other things, a material change in international economic conditions.

Our public stockholders may have more difficulty protecting their interests than they would as stockholders of a U.S. corporation.

Our corporate affairs are governed by our articles of incorporation and by laws governing R.O.C. corporations. The rights of our stockholders to bring stockholders’ suits against us or our board of directors under R.O.C. law are much more limited than those of the stockholders of U.S. corporations. Therefore, our public stockholders may have more difficulty protecting their interests in connection with actions taken by our management, members of our board of directors or controlling stockholders than they would as stockholders of a U.S. corporation. Please refer to “Item 10. Additional Information—B. Memorandum and Articles of Association—Rights to Bring Stockholders’ Suits” included elsewhere in this annual report for a detailed discussion of the rights of our stockholders to bring legal actions against us or our directors under R.O.C. law.

Holders of our ADSs will be required to appoint several local agents in Taiwan if they withdraw shares from our ADS program and become our stockholders, which may make ownership burdensome.

Non-R.O.C. persons wishing to withdraw shares represented by their ADSs from our ADS program and hold our shares represented by those ADSs are required to, among other things, appoint a local agent or representative with qualifications set forth by the R.O.C. FSC to open a securities trading account with a local brokerage firm, pay R.O.C. taxes, remit funds and exercise stockholders’ rights. In addition, the withdrawing holders are also required to appoint a custodian bank with qualifications set forth by the R.O.C. FSC to hold the securities in safekeeping, make confirmations, settle trades and report all relevant information. Without making this appointment and opening of the accounts, the withdrawing holders would not be able to subsequently sell our shares withdrawn from a depositary receipt facility on the Taiwan Stock Exchange. Under R.O.C. law and regulations, except under limited circumstances, PRC persons are not permitted to withdraw the shares underlying the ADSs or to register as a stockholder of our company. Under the Regulations Governing Securities Investment and Futures Trading in Taiwan by Mainland Area Investors promulgated by the R.O.C. Executive Yuan on April 30, 2009, as amended, only qualified domestic institutional investors, or QDIIs and limited entities or individuals, are permitted to withdraw the shares underlying the ADSs, subject to compliance with the withdrawal relevant requirements, and only QDIIs, and limited entities or individuals who meet the qualification requirements set forth therein are permitted to own shares of an R.O.C. company listed for trading on the Taiwan Stock Exchange, provided that among other restrictions generally applicable to investments made by PRC persons, their shareholdings are subject to certain restrictions as set forth in the abovementioned regulations and that such mainland area investors shall apply for a separate approval if their investment, individually or in aggregate, amounts to or exceeds 10 percent of the shares of any R.O.C. listing company.

 

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You may not be able to enforce a judgment of a foreign court in the R.O.C.

We are a company limited by shares incorporated under the R.O.C. Company Act. Most of our assets and most of our directors and executive officers and experts named in the registration statement are located in Taiwan. As a result, it may be difficult for you to enforce judgments obtained outside Taiwan upon us or such persons in Taiwan. We have been advised by our R.O.C. counsel that any judgment obtained against us in any court outside the R.O.C. arising out of or relating to the ADSs will not be enforced by R.O.C. courts if any of the following situations shall apply to such final judgment:

 

   

the court rendering the judgment does not have jurisdiction over the subject matter according to R.O.C. law;

 

   

the judgment or the court procedure resulting in the judgment is contrary to the public order or good morals of the R.O.C.;

 

   

the judgment was rendered by default, except where the summons or order necessary for the commencement of the action was legally served on us within the jurisdiction of the court rendering the judgment within a reasonable period of time or with judicial assistance of the R.O.C.; or

 

   

judgments of R.O.C. courts are not recognized in the jurisdiction of the court rendering the judgment on a reciprocal basis.

We may be considered a passive foreign investment company, which could result in adverse U.S. tax consequences for U.S. investors.

We do not believe that we were a passive foreign investment company, or PFIC, for 2012 and we do not expect to become one in the future, although there can be no assurance in this regard. Based upon the nature of our business activities, we may be classified as a passive foreign investment company for U.S. federal income tax purposes. Such characterization could result in adverse U.S. tax consequences to you if you are a U.S. investor.

For example, if we are a PFIC, our U.S. investors may become subject to increased tax liabilities under U.S. tax laws and regulations and will become subject to burdensome reporting requirements. The determination of whether or not we are a PFIC is made on an annual basis and will depend on the composition of our income and assets from time to time. Specifically, for any taxable year we will be classified as a PFIC for U.S. tax purposes if either (i) 75% or more of our gross income in a taxable year is passive income or (ii) the average percentage of our assets (which includes cash) by value in a taxable year which produce or are held for the production of passive income is at least 50%. The calculation of the value of our assets will be based, in part, on the quarterly market value of shares and ADSs, which is subject to change. In addition, the composition of our income and assets will be affected by how, and how quickly, we spend the cash we have raised in prior offerings. See “Taxation—U.S. Federal Income Tax Considerations For U.S. Persons—Passive Foreign Investment Company.”

The trading price of the shares and ADSs may be adversely affected by the general activities of the Taiwan Stock Exchange and U.S. stock exchanges, the trading price of our shares, increases in interest rates and the economic performance of Taiwan.

Our shares are listed on the Taiwan Stock Exchange. The trading price of our ADSs may be affected by the trading price of our shares on the Taiwan Stock Exchange and the economic performance of Taiwan. The Taiwan Stock Exchange is smaller and, as a market, more volatile than the securities markets in the United States and some European countries. The Taiwan Stock Exchange has experienced substantial fluctuations in the prices and volumes of sales of listed securities, and there are currently limits on the range of daily price movements on the Taiwan Stock Exchange. The Taiwan Stock Exchange is particularly volatile during times of political instability, such as when the relationship between Taiwan and the PRC becomes tense. Moreover, the Taiwan Stock Exchange has experienced disturbance caused by market manipulation, insider trading and payment defaults, and the government of Taiwan has from time to time intervened in the stock market by purchasing stocks listed on the Taiwan Stock Exchange. The recurrence of these or similar events could deteriorate the price and liquidity of our shares and ADSs.

 

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The market price of the ADSs may also be affected by general trading activities on the U.S. stock exchanges, which recently have experienced significant price volatility with respect to shares of technology companies. Fluctuation in interest rates and other general economic conditions may also influence the market price of the ADSs.

ITEM 4. INFORMATION ON THE COMPANY

A. History and Development of the Company

Our legal and commercial name is United Microelectronics Corporation, commonly known as “UMC”. We were incorporated under the R.O.C. Company Law as a company limited by shares in May 1980 and our shares were listed on the Taiwan Stock Exchange in 1985. Our principal executive office is located at No. 3 Li-Hsin Road II, Hsinchu Science Park, Hsinchu, Taiwan, Republic of China, and our telephone number is 886-3-578-2258. Our Internet website address is www.umc.com. The information on our website does not form part of this annual report. Our ADSs have been listed on the NYSE under the symbol “UMC” since September 19, 2000.

We are one of the world’s largest independent semiconductor foundries and a leader in semiconductor manufacturing process technologies. Our primary business is the manufacture, or “fabrication”, of semiconductors, sometimes called “chips” or “integrated circuits”, for others. Using our own proprietary processes and techniques, we make chips to the design specifications of our many customers. Our company maintains a diversified customer base across industries, including communication, consumer electronics, computer, and others, while continuing to focus on manufacturing for high growth, large volume applications, including networking, telecommunications, internet, multimedia, PCs and graphics. We sell and market mainly wafers which in turn are used in a number of different applications by our customers. Percentages of our net wafer sales derived from our products used in communication devices, consumer electronics, computer and other applications were 49.4%, 28.3%, 18.9% and 3.4%, respectively, in 2012.

We focus on the development of leading mass-producible manufacturing process technologies. We were among the first in the foundry industry to go into commercial operation with such advanced capabilities as producing integrated circuits with line widths of 0.25, 0.18, 0.15, 0.13 micron and 90, 65, 45/40, and 28 nanometer. Advanced technologies have enabled electronic products, especially in relation to computer, communication and consumer products, to integrate their functions in new and innovative methods. Networking capabilities have allowed electronic products such as computers, tablets, cell phones, televisions, PDAs, CD-ROMs and digital cameras to communicate with each other to exchange information. More powerful semiconductors are required to drive multimedia functions (e.g. processing visual data) and to resolve network bandwidth issues. At the same time, the trend toward personal electronic devices has resulted in products that are becoming physically smaller and consume less power. Process technology must also shrink the volumes of products aggressively to cater to this trend of integrating multiple functions, reducing the size of components needed for operation and lowering IC power consumption. Dedicated semiconductor foundries need to achieve this process improvement and at the same time develop multiple process technologies to satisfy the varying needs of computer, communication and consumer products. We believe our superior process technologies will enable us to continue to offer our customers significant performance benefits for their products, faster time-to-market production, cost savings and other competitive advantages.

We provide high quality service based on our performance. In today’s marketplace, we believe it is important to make available not only the most manufacturable processes, but also the best solutions to enable customers to design integrated circuits that include entire systems on a chip. Through these efforts, we intend to be the foundry solution for SoC customer needs. To achieve this goal, we believe it is necessary to timely develop and offer the intellectual property and design support that customers need to ensure their specific design blocks work with the other design blocks of the integrated circuit system in the manner intended. Accordingly, we have a dedicated intellectual property and design support team which focuses on timely development of the intellectual property and process specific design blocks our customers need in order to develop products that operate and perform as intended. Our design service team actively cooperates with our customers and vendors of cell libraries and intellectual property offerings to identify, early in the product/market cycle, the offerings needed to ensure that these coordinated offerings are available to our customers in silicon verified form in a streamlined and easy-to-use manner. As a result, we are able to ensure the timely delivery of service offerings from the earliest time in the customer design cycle, resulting in a shorter time-to-volume production. We also provide our customers with real-time online access to their confidential production data, resulting in superior communication and efficiency. We further address our customers’ needs using our advanced technology and proven methodology to achieve fast cycle time, high yield, production flexibility and close customer communication. For example, we select and configure our clean rooms and equipment and develop our processes to maximize the flexibility in meeting and adapting to rapidly changing customer and industry needs. As a result, our cycle time, or the period from customer order to wafer delivery, and our responsiveness to customer request changes are among the fastest in the dedicated foundry industry. We also provide high quality service and engineering infrastructure.

 

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Our production capacity is comparable to that of certain largest companies in the semiconductor industry, and we believe our leading edge and high volume capability is a major competitive advantage.

Our technology and service have attracted two principal types of foundry industry customers: fabless design companies and integrated device manufacturers. Fabless design companies design, develop and distribute proprietary semiconductor products but do not maintain internal manufacturing capacity. Instead, these companies depend on outside manufacturing sources. Integrated device manufacturers, in contrast, traditionally have integrated internally all functions—manufacturing as well as design, development, sales and distribution.

Our primary customers, in terms of our sales revenues, include premier integrated device manufacturers, such as Texas Instruments, Intel Mobile and STMicroelectronics, and leading fabless design companies, such as Xilinx, Broadcom, MediaTek, Realtek and Novatek. In 2012, our company’s top ten customers accounted for 64.5% of our net operating revenues. We believe our success in attracting these customers is a direct result of our commitment to high quality service and our intense focus on customer needs and performance.

On March 16, 2011, our Board of Directors proposed an offer to the stockholders of Best Elite International Limited, a British Virgin Islands corporation, or Best Elite, to acquire up to an additional 30% equity interest of Best Elite. Hejian is a wholly owned subsidiary of Infoshine, which is a wholly owned subsidiary of Best Elite. Hejian engages in the semiconductor foundry business and owns an 8- inch fab in Suzhou, China. We received approval from the Investment Commission, Ministry of Economic Affairs, Executive Yuan on November 1, 2011, and as of December 31, 2012, we held a 35.03% equity stake in Best Elite, which included the 15.34% equity stake held by the trustee that was originally offered to us in March 2005, plus an additional 19.69% equity stake that was purchased from shareholders pursuant to the March 2011 offer. In order to further integrate and increase our ownership of Best Elite, on April 25, 2012, our Board of Directors proposed a new offer to the shareholders of Best Elite to acquire up to 64.97% of the shares of Best Elite. We received approval from the Investment Commission, Ministry of Economic Affairs, Executive Yuan on December 21, 2012 and acquired an additional 51.85% of the shares of Best Elite which we purchased through the April 25, 2012 offer. As of March 31, 2013, our cumulative ownership in Best Elite was 86.88%.

We and Alpha Wisdom Limited, or AWL, together held 94.79% of UMCJ shares as of December 31, 2009 and UMCJ then delisted from the Jasdaq Securities Exchange in accordance with its listing rules on March 19, 2010. Since not all of the outstanding equity securities of UMCJ were acquired, we initiated certain squeeze-out procedures as provided in the Japanese Companies Act. Pursuant to such procedures, as of the end of 2010, we, together with AWL, owned 100% of UMCJ. On May 19, 2011, we acquired the remaining shares of UMCJ from AWL, and AWL filed for liquidation on August 30, 2011.

On August 21, 2012, our Board of Directors approved the dissolution and liquidation of UMCJ. We decided to close our foundry operations in Japan to focus on our manufacturing facilities in Taiwan and Singapore and reduce operating expenses. We believe that we can still serve our Japanese customers with our manufacturing capacity in Taiwan and Singapore along with our global logistics and customer service networks.

Please refer to “Item 5. Operating and Financial Review and Prospects-B. Liquidity and Capital Resources” for a discussion of our capital expenditures in the past three years and the plan for the current year.

 

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Our Strategy

To maintain and enhance our position as a market leader, we have adopted a business strategy with a focus on a partnership business model designed to accommodate our customers’ business needs and objectives and to promote their interests as our partners. We believe that our success and profitability are inseparable from the success of our customers. The goal in this business model is to create a network of partnerships or alliances among integrated device manufacturers, intellectual property and design houses, as well as foundry companies. We believe that we and our partners will benefit from the synergy generated through such long-term partnerships or alliances and the added value to be shared among the partners. The key elements of our strategy are:

Operate as a Customer-Driven Foundry. We plan to operate as a customer-driven foundry. The increasing complexity of 40- nanometer and more advanced technologies has impacted the entire chip industry, as ICs can now be designed with greater gate density and higher performance while incorporating the functions of an entire system. These advanced designs have created a new proliferating market of advanced mobile digital devices such as smart phones, which have decreased in size but greatly increased in functionality. We collaborate closely with our customers as well as partners throughout the entire supply chain, including equipment, electronic design automation tool and intellectual property, or IP, vendors to work synergistically toward each customer’s SoC solution. We also possess experience and know-how in system design and architecture to integrate customer designs with advanced process technologies and IP. We believe the result is a higher rate of first-pass silicon success for our SoC solutions. Our customer-driven foundry solutions begin with a common logic-based platform, where designers can choose the process technologies and transistor options that best fit their specific application. From there, technologies such as radio frequency complementary metaloxide-semiconductor, or RF CMOS, and embedded Flash memories can be used to further fine-tune the process for customers’ individual needs. Furthermore, as IP has become critical resources for SoCs, our portfolio includes basic design building blocks as well as more complex IP of optimized portability and cost, developed both internally and by third-party partners. With advanced technology, a broad IP portfolio, system knowledge and advanced 300-millimeter manufacturing, we offer comprehensive solutions that help customers deliver successful results in a timely fashion.

Build up Customer-focused Partnership Business Model. We have focused on building partnership relationships with our customers, and we strive to help our customers achieve their objectives through close cooperation. Unlike the traditional buy-and-sell relationship between a foundry and its customers, we believe our partnership business model will help us understand our customers’ requirements and, accordingly, better accommodate our customers’ needs in a number of ways, such as customized processes and services that optimize the entire value chain (not just the foundry portion) and intellectual property-related support. We believe that this business model will enable us to deliver our products to our customers at the earliest time our customers require for their design cycle, resulting in shorter time-to-market and time-to-volume production. Furthermore, we believe we will render more cost-effective services by focusing our research and development expenditures on the specific requirements of our customers. We believe our partnership business model will help us not only survive a market downturn, but also achieve a better competitive position.

Continue to Focus on High Growth Applications and Customers. We believe one measure of a successful foundry company is the quality of its customers. We focus our sales and marketing on customers who are established or emerging leaders in industries with high growth potential. Our customers include industry leaders such as Broadcom, MediaTek, Realtek, Texas Instruments, and Xilinx. We seek to maintain and expand our relationships with these companies. We strive to demonstrate to these customers the superiority and flexibility of our manufacturing, technology and service capabilities and to provide them with production and design assistance. We are also making efforts to further diversify our customer portfolio in order to maintain a balanced exposure to different applications and different customers. We believe these efforts strengthen our relationships with our customers and enhance our reputation in the semiconductor industry as a leading foundry service provider.

Maintain Our Leading Position in Mass-Producible Semiconductor Technology and Selectively Pursue Strategic Investments in New Technologies. We believe that maintaining and enhancing our leadership in mass-producible semiconductor manufacturing technology is critical to attract and retain customers. Our reputation for technological excellence has attracted both established and emerging leaders in the semiconductor industries who work closely with us on technology development. In addition, we believe our superior processing expertise has enabled us to provide flexible production schedules to meet our customers’ particular needs. We plan to continue building internal research and development expertise, to focus on process development and to establish alliances with leading and specialty semiconductor companies to accelerate access to next-generation and specialized technologies. For example, we introduced our 28-nanometer technology to customers in 2011 to significantly increase the competitive advantages of our customers by providing better device performance in a smaller die size. In 2011, we achieved more than 10 customers and tapeouts for our 28-nanometer technology in 2011 and delivered pilot production on this generation to our lead customer. We believe our progress in developing more advanced process technologies has benefited our customers in the fields of computers, communications, consumer electronics and others with special preferences in certain aspects of the products, such as the ultimate performance, density and power consumption.

 

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We also recognize that every company has limited resources and that the foundry industry is ever-evolving. Accordingly, we believe we should invest in new research and development technology intelligently and in a cost-effective manner to achieve the ultimate output of the resulting technology. In doing so, we balance the rate of return of our research and development with the importance of developing a technology at the right time to enhance our competitive edge without unduly diluting our profitability. We intend to avoid investments in technologies that do not present a commercial potential for volume production. We believe that to develop the earliest and most advanced semiconductor technology without regard to its potential for near term volume production may prove costly to our operations and would not strengthen our competitive position. We perceive a benefit to defer investment in the premature equipment needed to claim the earliest advanced technology and instead to purchase a more advanced and less expensive version of equipment from vendors who design such equipment based on pre-production lessons learned from the earliest technology.

Maintain Scale and Capacity Capabilities to Meet Customer Requirements, with a Focus on 12-inch Wafer Facilities for Future Expansion. We believe that maintaining our foundry capacity with advanced technology and facilities is critical to the maintenance of our industry leadership. Our production capacity is currently among the largest of all semiconductor foundries in the world. We intend to increase our 12-inch wafer production capacity to meet the needs of our customers and to fully capitalize on the expected growth of our industry. We expect our future capacity expansion plans will focus on 12-inch wafer facilities in order to maintain our technology leadership. 12-inch wafers offer manufacturing advantages over 8-inch wafers due to, among other reasons, the greater number of chips on each wafer and the advantages only offered on newer 12-inch capable equipment. In addition, 12-inch wafer facilities present a more cost-effective solution in achieving an economic scale of production. We intend to carefully monitor current market conditions in order to optimize the timing of our capital spending.

B. Business Overview

Manufacturing Facilities

To maintain a leading position in the foundry business, we have placed great emphasis on achieving and maintaining a high standard of manufacturing quality. As a result, we seek to design and implement manufacturing processes that produce consistent, high manufacturing yields to enable our customers to estimate, with reasonable certainty, how many wafers they need to order from us. In addition, we continuously seek to enhance our production capacity and process technology, two important factors that characterize a foundry’s manufacturing capability. Our large production capacity and advanced process technologies enable us to provide our customers with volume production and flexible and quick-to-market manufacturing services. All of our fabs operate 24 hours per day, seven days per week. Substantially all maintenance at each of the fabs is performed concurrently with production.

As a step in our continuing expansion of our manufacturing complex in the Tainan Science Park in southern Taiwan, we completed the construction of our second 300mm fab in Taiwan in May 2009, and moved the equipment into this fab in July 2010.

 

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The following table sets forth operational data of each of our manufacturing facilities as of December 31, 2012.

 

      Fab 6A    Fab 8A    Fab 8C    Fab 8D    Fab 8E    Fab 8F    Fab 8S    Fab 12A    Fab 12i    UMCJ

Commencement of volume production

   1989    1995    1998    2000    1998    2000    2000    2002    2004    1996

Estimated full capacity (1)(2)

   37,500
wafers
per
months
   68,000
wafers
per
months
   30,000
wafers
per
months
   31,000
wafers
per
months
   37,500
wafers
per
months
   32,500
wafers
per
months
   29,000
wafers
per
months
   52,801
wafers
per
months
   44,782
wafers
per
months
   20,000
wafers
per
months

Wafer size

   6-inch
(150mm)
   8-inch
(200mm)
   8-inch
(200mm)
   8-inch
(200mm)
   8-inch
(200mm)
   8-inch
(200mm)
   8-inch
(200mm)
   12-inch
(300mm)
   12-inch
(300mm)
   8-inch
(200mm)

 

(1) Measured in stated wafer size.
(2) The capacity of a fab is determined based on the capacity ratings given by manufacturers of the equipment used in the fab, adjusted for, among other factors, actual output during uninterrupted trial runs, expected down time due to set up for production runs and maintenance and expected product mix.

The following table sets forth the size and primary use of our facilities and whether such facilities, including land and buildings, are owned or leased. Our land in the Hsinchu and Tainan Science Parks is leased from the R.O.C. government.

 

Location

  

Size

(Land/Building)

   Primary Use    Land
(Owned or Leased)
   Building
(Owned or Leased)
     (in square meters)               

Fab 6A, 10 Innovation 1st Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30076, R.O.C.

  

27,898/34,609

6-inch wafer production

   6-inch wafer
production
   Leased (expires in
December 2026)
   Owned

Fab 8A, 3, 5 Li-Hsin 2nd Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30078, R.O.C.

  

43,468/83,699

8-inch wafer production

   8-inch wafer
production
   Leased (expires in
March 2014)
   Owned

Fab 8C, 6 Li-Hsin 3rd Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30078, R.O.C.

  

24,678/71,427

8-inch wafer production

   8-inch wafer
production
   Leased (expires in
March 2016)
   Owned

Fab 8D, 8 Li-Hsin 3rd Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30078, R.O.C.

  

8,036/29,181

8-inch wafer production

   8-inch wafer
production
   Leased (expires in
March 2016)
   Owned

Fab 8E, 17 Li-Hsin Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30078, R.O.C.

  

35,000/76,315

8-inch wafer production

   8-inch wafer
production
   Leased (expires in
February 2016)
   Owned

Fab 8F, 3 Li-Hsin 6th Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30078, R.O.C.

  

24,180/65,736

8-inch wafer production

   8-inch wafer
production
   Leased (expires in
February 2018)
   Owned

Fab 8S, 16 Creation 1st Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30077, R.O.C.

  

20,404/65,614

8-inch wafer production

   8-inch wafer
production
   Leased (expires in
December 2023)
   Owned

 

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Table of Contents

Location

  

Size

(Land/Building)

   Primary Use    Land
(Owned or Leased)
   Building
(Owned or  Leased)
     (in square meters)               

Fab 12A, 18, 20 Nan-Ke 2nd Rd.,

Tainan Science Park,

Sinshih, Tainan,

Taiwan 74147, R.O.C.

  

113,661/350,597

12-inch wafer production

   12-inch wafer
production
   Leased (expires in
November 2030)
   Owned

Fab 12i, 3 Pasir Ris Drive 12

Singapore 519528

  

85,737/142,169

12-inch wafer production

   12-inch wafer
production
   Leased (expires in
March 2031)
   Owned

UMCJ, 1580, Yamamoto,

Tateyama-City, Chiba, Japan

  

385,650/58,600

8-inch wafer production

   8-inch wafer
production
   83% owned, 17%
leased (expires in
June 2049)
   Owned

United Tower, 3 Li-Hsin 2nd Rd.,

Hsinchu Science Park,

Hsinchu, Taiwan 30078, R.O.C.

  

8,818/85,224

Administration office

   Administration office    Leased (expires in
March 2014)
   Owned

Neihu Rd. office, 8F,68.Sec.

1,Neihu Rd., Taipei

Taiwan 11493, R.O.C.

  

626/4,817

Administration office

   Administration office    Owned    Owned

Testing Building, 1,

Chin-Shan, St.

7, Hsinchu, Taiwan 30080, R.O.C.

  

10,762/41,318

Leased to several companies

   Leased to several
companies
   Owned    Owned

R&D Building, 18 Nan-Ke 2nd Rd.,

Tainan Science Park, Sinshih,

Tainan, Taiwan 74147, R.O.C.

  

42,000/47,501

Research and development

   Research and
development
   Leased (expires in
December 2023)
   Owned

Nexpower, No.2,

Houke S.Rd., Houli

District, Taichung,

Taiwan 42152, R.O.C.

  

94,016/82,699

Solar PV modules production

   Solar PV modules
production
   Leased (expires in
December 2026)
   Owned

Topcell, No. 1560, Sec. 1

Zhongshan Rd.,

Guanyin Township,Taoyuan,

Taiwan 32852, R.O.C.

  

16,873/35,643

6-inch cell production

   6-inch cell
production
   Leased (expires in
March 2018)
   Leased (expires in
March 2018)

Process Technology

Process technology is a set of specifications and parameters that we implement for manufacturing the critical dimensions of the patterned features of the circuitry of semiconductors. Our process technologies are currently among the most advanced in the foundry industry. These advanced technologies have enabled us to provide flexible production schedules to meet our customers’ particular needs.

 

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The continued enhancement of our process technologies has enabled us to manufacture semiconductor devices with smaller geometries, allowing us to produce more dice on a given wafer. We pioneered the production of semiconductor products with 0.25 and 0.18 micron process technology in 1997 and 1999, respectively, and used copper interconnect metallurgic to allow better reliability and higher conductibility than traditional aluminum interconnects. We began volume production using 0.13-micron process technology in 2002. Our extensive experience in the 0.13-micron process technology has helped smooth our transition to 90-nanometer pilot production. Our 90-nanometer process marks further advance in our technology achievements, incorporating up to nine copper metal layers, triple gate oxide and other advanced features and using chrome-less phase-shift masks. This technology has been in volume production since the second quarter of 2004 after passing several product certifications. In 2005, our research and development teams continued to work closely with the manufacturing staff to finalize our 90-nanometer technology portfolio. These collaborative efforts, performed in our best-in-class 300mm facilities, contributed to the improvement of high density 6T-SRAM yield to the maturity level of more than 90%. Our accomplishments led to multiple design awards followed by first silicon success, including a PC graphic IC and the world’s first 90-nanometer Wireless Local Area Network (WLAN) RF chip featuring a unique and specially developed inductor scheme. In addition, we were able to develop, within 6 months, several customized 90-nanometer processes tailored to our customers’ device specifications, and demonstrated product success by delivering record high yield for the first product lots. Our first fully-functional 65-nanometer wireless digital baseband customer IC was produced in July of 2005, after only a year since this research and development project began at this facility.

Since the third quarter of 2006, we have begun the mass production of a next-generation 65-nanometer FPGA product, which features a 65% logic capacity increase over previous generation of FPGAs with triple gate oxide and 11 copper metal layers. Our 65/55- nanometer development team is not only independently developing our technologies in-house but is also bringing up customized process technologies to match customer specific needs. Furthermore, our 45/40-nanometer process technologies, which are jointly developed by us and our strategic partners have been in production since the first half of 2009, significantly increasing the competitive advantages of our customers by providing better device performance in a smaller die size. UMC’s 28nm process technology is developed for applications that require the highest performance process technology. In October 2008, we were the first foundry to deliver fully functional 28nm SRAM chips, and have proven in customer silicon the High-k/metal gate solution used for this technology node. UMC’s 28nm progress was also recognized by the industry with the foundry being selected to present at the 2009 IEDM on a hybrid High-k/metal gate approach. Currently, we are already working with several customers to adopt their products on UMC’s 28nm technology.

The table below sets forth our actual process technology range, categorized by line widths, or the minimum physical dimensions of the transistor gate of integrated circuits in production by each fab, in 2012, and the estimated annual full capacity of each fab, actual total annual output and capacity utilization rates in 2010, 2011 and 2012:

 

     Years of
Commencement
of Operation
   Year ended
December 31,
2012 Range of
Process

Technologies
(in microns)
    

 

Years Ended December 31,

           2010   2011   2012
           (in thousands of 8-inch wafer
equivalents, except  percentages
Fab                         

Fab 6A

   1989      0.5       332   303   271

Fab 8A

   1995      0.5 to 0.25       816   813   815

Fab 8C

   1998      0.35 to 0.13       366   359   360

Fab 8D

   2000      0.13 to 0.09       314   364   371

Fab 8E

   1998      0.5 to 0.18       410   469   449

Fab 8F

   2000      0.18 to 0.13       387   388   389

Fab 8S

   2000      0.18 to 0.13       303   307   348

Fab 12A

   2002      0.18 to 0.028       842   1,128   1,304

Fab 12i

   2004      0.13 to 0.040       1,022   1,192   1,207

UMCJ

   1996      0.35 to 0.15       240   240   240

Total estimated capacity

   —        —         5,031   5,563   5,754

Total output (actual)

   —        —         4,713   4,370   4,533

Average capacity utilization

   —        —         93.7%   78.6%   78.8%

 

 

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The table below sets forth a breakdown of number and percentage of wafer output by process technologies in 2010, 2011 and 2012.

 

     Years Ended December 31,  
     2010     2011     2012  
Technology    (in thousands of 8-inch wafer equivalents, except percentages)  

40 nanometers and under

     65         1.3     159         3.6     349         7.7

65 nanometers

     696         14.8        980         22.4        1,296         28.6   

90 nanometers

     584         12.4        333         7.6        225         5.0   

0.13 micron

     997         21.2        1,049         24.0        799         17.6   

0.15 micron

     367         7.8        134         3.1        112         2.5   

0.18 micron

     611         13.0        510         11.7        432         9.4   

0.25 micron

     144         3.0        165         3.8        176         3.9   

0.35 micron

     766         16.3        621         14.2        742         16.4   

0.50 micron or higher

     483         10.2        419         9.6        402         8.9   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total

     4,713         100.0     4,370         100.0     4,533         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Capacity and Utilization

The fabs in Taiwan that we own directly are named Fab 6A, Fab 8A, Fab 8C, Fab 8D, Fab 8E, Fab 8F and Fab 8S, all of which are located in the Hsinchu Science Park in Taiwan, and Fab 12A, which is located in the Tainan Science Park in Taiwan. The fab in Singapore is named Fab 12i. The fab in Japan is named UMCJ.

Our average capacity utilization rate was 93.7% in 2010, 78.6% in 2011, and 78.8% in 2012.

Equipment

Considering the performance and productivity of our manufacturing capability highly rely on the quality of our capital equipment, we generally purchase equipment that cannot only meet the demand of our existing process technology, but also has the capability to be upgraded to match our future needs. The principal equipment we use to manufacture semiconductor devices are scanners/steppers, cleaners and track equipment, inspection equipment, etchers, furnaces, wet stations, strippers, implanters, sputters, CVD equipment, probers, testers and so on. We own all of the production equipment except for a few demonstration tools.

Our policy is to purchase high-quality equipment that demonstrates stable performance from vendors with dominate market share to ensure our continued competitiveness in the semiconductor field.

Some of the equipment is available from a limited number of qualified vendors and/or is manufactured in relatively limited quantities, and some equipment has only recently been developed. We believe that our relationships with equipment suppliers are strong enough that we can leverage our position as a major purchaser to purchase equipment on better terms, including shorter lead time, than the terms received by several other foundries.

Although we face the challenge of procuring the right equipment in sufficient quantity necessary for ramp-up or expansion of our fabrication facilities under constraint of short lead times, we have not in the past experienced any material problems in procuring the latest generation equipment on a timely basis even in periods of unpredictably high market demand. We manage the risks in the procurement process through timely internal communications among different divisions, efficient market information collection, early reservation of appropriate delivery slots and constant communications with our suppliers as well as by utilizing our good relationships with the vendors.

Raw Materials

Our manufacturing processes use many raw materials, primarily silicon wafers, chemicals, gases and various types of precious sputtering targets. These raw materials are generally available from several suppliers. Our policy with respect to raw material purchases, similar to that for equipment purchases, is to select only a small number of qualified vendors who have demonstrated quality and reliability on delivery time of the raw materials. We may have any long-term supply contracts with our vendors if necessary.

 

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Our general inventory policy is to maintain sufficient stock of each principal raw material for production and rolling forecasts of near-term requirements received from customers. In addition, we have agreements with several key material suppliers under which they hold similar levels of inventory in their warehouses for our use. However, we are not under any obligation to purchase raw material inventory that is held by our vendors for our benefit until we actually order it. We typically work with our vendors to plan our raw material requirements on a quarterly basis, with indicative pricing generally set on a quarterly basis. The actual purchase price is generally determined based on the prevailing market conditions. In the past, prices of our principal raw materials have not been volatile to a significant degree. Although we have not experienced any shortage of raw materials that had a material effect on our operations, and supplies of raw materials we use currently are adequate, shortages could occur in various critical materials due to interruption of supply or an increase in industry demand.

The most important raw material used in our production processes is silicon wafer, which is the basic raw material from which integrated circuits are made. The principal makers for our wafers are Shin-Etsu, Siltronic AG, MEMC Corporation and Sumco Group. We have in the past obtained and believe that we will continue to be able to obtain a sufficient supply of silicon wafers. We believe that we have close working relationships with our wafer suppliers. Based on such long-term relationships, we believe that these major suppliers will use their best efforts to accommodate our demand.

We use a large amount of water in our manufacturing process. We obtain water supplies from government-owned entities and recycle approximately 85% of the water that we use during the manufacturing process. We also use substantial amounts of dual loop electricity supplied by Taiwan Power Company in the manufacturing process. We maintain back-up generators that are capable of providing adequate amounts of electricity to maintain the required air pressure in our clean rooms in case of power interruptions. We believe our back-up devices are adequate in preventing business interruptions caused by power outages and emergency situations.

Quality Management

We believe that our advanced process technologies and reputation for high quality and reliable services and products have been important factors in attracting and retaining leading international and domestic semiconductor companies as customers.

We structure our quality management system in accordance with the latest international quality standards and our customers’ strict quality and reliability requirements. Our quality management system incorporates comprehensive quality control programs into the entire business flow of foundry operation including, among others, new process development management, production release control, incoming raw material inspection, statistical process control and methodology development, process change management, technical documentation control, product final inspection, metrology tool calibration and measurement system analysis, quality audit program, nonconformity management, customer complaint disposition, eight-discipline problem solving and customer satisfaction monitoring.

We set a high quality goal to ensure consistent high yielding and reliable product performance. Our quality program is continually enhanced through top-down annual Business Policy Management and bottom-up Total Quality Management activities. In addition, our efforts to observe best practices among fabs in the foundry industry have also contributed to the improvement of our overall quality management system.

Many of our customers perform physical production site qualification process in the early development phase and routine quality conformance audits in the volume production phase. These audits include both quality system review and physical fabrication area inspection for verification of conformity with the international quality standard and customers’ quality requirement. Our quality management system and quality control programs have been qualified and routinely audited by numerous customers who are recognized as world-class semiconductor companies with best-in-class quality standards.

Our Quality Assurance Division and Reliability Technology and Assurance Division collaborate to provide quality and reliability performance to customers. With our wafer processing quality and reliability conformance monitor program, we monitor the product quality and reliability at various stages of the entire manufacturing process before shipment to customers.

All our fabs are certified in compliance with ISO/TS 16949 and QC080000 IECQ HSPM standards. ISO/TS 16949 sets the criteria for developing a fundamental quality management system emphasizing on customer satisfaction in quality management, continual improvement, defect prevention and variation and waste reduction. QC080000 IECQ HSPM sets the criteria for developing a process management system for hazardous substances and focuses on developing environmentally friendly manufacturing processes. We are committed to continuously improve our quality management system and to deliver high quality product to our customers.

 

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Services and Products

We primarily engage in wafer fabrication for foundry customers. To optimize fabrication services for our customers, we work closely with them as they finalize circuit design and contract for the preparation of masks to be used in the manufacturing process. We also offer our customers turnkey services by providing subcontracted assembly and test services. We believe that this ability to deliver a variety of foundry services in addition to wafer fabrication enables us to accommodate the needs of a full array of integrated device manufacturers, system companies and fabless design customers with different in-house capabilities.

Wafer manufacturing requires many distinct and intricate steps. Each step in the manufacturing process must be completed with precision in order for finished semiconductor devices to work as intended. The processes require taking raw wafers and turning them into finished semiconductor devices generally through five steps: circuit design, mask tooling, wafer fabrication, assembly and test. The services we offer to our customers in each of these five steps are described below.

Circuit Design. At this initial design stage, our engineers generally work with our customers to ensure that their designs can be successfully and cost-effectively manufactured in our facilities. We have assisted an increasing number of our customers in the design process by providing them with access to our partners’ electronic design analysis tools, intellectual property and design services as well as by providing them with custom embedded memory macro-cells. In our Silicon Shuttle program, we offer customers and intellectual property providers early access to actual silicon samples with their desired intellectual property and content in order to enable early and rapid use of our advanced technologies. The Silicon Shuttle program is a multi-chip test wafer program that allows silicon verification of intellectual property and design elements. In the Silicon Shuttle program, several different vendors can test their intellectual property using a single mask set, greatly reducing the cost of silicon verification for us and the participating vendors. The high cost of masks for advanced processes makes this program attractive to intellectual property vendors. ARM Limited, Faraday Technology Corp., or Faraday Technology, MIPS Technologies International, Virage Logic Corporation (acquired by Synopsys) and Synopsys Inc. have utilized our Silicon Shuttle program. In our Alliance Program, we coordinate with leading suppliers of intellectual property, design and ASIC services to ensure their offerings are available to our customers in an integrated, easy to use manner which matches customers’ need to our technologies. With a view to lowering customer design barriers, we expanded our design support functions from conventional design support to adding intellectual property development to complement third-party intellectual properties and to provide customers with the widest range of silicon-verified choices. Our offerings range from design libraries to basic analog mixed-mode intellectual properties which, together, have helped shorten our customer’s design cycle time.

Mask Tooling. Our engineers generally assist our customers to design and/or obtain masks that are optimized for our advanced process technologies and equipment. Actual mask production is usually provided by independent third parties specializing in mask tooling.

Wafer Fabrication. As described above, our manufacturing service provides all aspects of the wafer fabrication process by utilizing a full range of advanced process technologies. During the wafer fabrication process, we perform procedures in which a photosensitive material is deposited on the wafer and exposed to light through the mask to form transistors and other circuit elements comprising a semiconductor. The unwanted material is then etched away, leaving only the desired circuit pattern on the wafer. As part of our wafer fabrication services, we also offer wafer probing services, which test, or probe, individual die on the processed wafers and identify dice that fail to meet required standards. We prefer to conduct wafer probing internally to obtain speedier and more accurate data on manufacturing yield rates.

Assembly and Testing. We offer our customers turnkey services by providing the option to purchase finished semiconductor products that have been assembled and tested. We outsource assembly and test services to leading assembly and test service providers, including Siliconware Precision Industries Co., Ltd., or Siliconware, and Advanced Semiconductor Engineering Inc. in Taiwan. After final testing, the semiconductors are shipped to our customers’ designated locations.

Customers and Markets

Our primary customers, in terms of our sales revenues, include premier integrated device manufacturers, such as Texas Instruments, Intel Mobile and STMicroelectronics, and leading fabless design companies, such as Xilinx, Broadcom, MediaTek, Realtek and Novatek. Although we are not dependent on any single customer, a significant portion of our net operating revenues have been generated from sales to a few customers. Our top ten customers accounted for approximately 64.5% of our net operating revenues in 2012. Set forth below is a geographic breakdown of our operating revenues in 2010, 2011 and 2012 by the location of our customers.

 

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     Years Ended December 31,  

Region

   2010     2011     2012  

Taiwan

     33.6     33.1     36.4

Singapore

     28.8        24.8        27.7   

China (includes Hong Kong)

     3.4        4.2        5.3   

Japan

     2.1        1.9        2.5   

USA

     16.9        17.9        13.3   

Others

     15.2        18.1        14.8   
  

 

 

   

 

 

   

 

 

 

Total

     100.0     100.0     100.0
  

 

 

   

 

 

   

 

 

 

We believe our success in attracting these end customers is a direct result of our commitment to high quality service and our intense focus on customer needs and performance. Because we are an independent semiconductor foundry, most of our operating revenue is generated by our sales of wafers. For 2012, net wafer sales represents 91.1% of our net operating revenue, and excludes revenue from testing, mask and other services. The following table presents the percentages of our net wafer sales by types of customers during the last three years.

 

     Years Ended December 31,  

Customer Type

   2010     2011     2012  

Fabless design companies

     78.1     75.8     83.6

Integrated device manufacturers

     21.9        24.2        16.4   
  

 

 

   

 

 

   

 

 

 

Total

     100.0     100.0     100.0
  

 

 

   

 

 

   

 

 

 

We focus on providing a high level of customer service in order to attract customers and maintain their ongoing loyalty. Our culture emphasizes responsiveness to customer needs with a focus on flexibility, speed and accuracy throughout our manufacturing and delivery processes. Our customer-oriented approach is especially evident in two types of services: customer design development services and manufacturing services. We believe that our large production capacity and advanced process technology enable us to provide better customer service than many other foundries through shorter turn-around time, greater manufacturing flexibility and higher manufacturing yields.

We work closely with our customers throughout the design development and prototyping processes. Our design support team closely interacts with customers and intellectual property vendors to facilitate the design process and to identify their specific requirements for intellectual property offerings. We are responsive to our customers’ requirements in terms of overall turn-around time and production time-to-market by, for example, helping our customers streamline their IP offering processes and delivering prototypes in a timely and easy-to-use fashion. We also maintain flexibility and efficiency in our technical capability and respond quickly to our customers’ design changes.

For IP offerings, we work with several leading IP vendors from digital, memory and analog fields in the semiconductor industry, such as Faraday Technology Corp., Synopsys Inc., ARM Limited, Silicon Image Inc. Sidense Corp., and Kilopass Technology, to deliver quality IP blocks that have been silicon validated using our advanced processes. Our alliance programs with major electronic design automation vendors, such as Cadence, Magma, Mentor and Synopsys Inc., provide our customers with digital/analog reference design procedures and easy-to-use design solutions. By continuously enhancing our IP offerings, reference design procedures and design services through collaboration with major vendors, we aim to provide complete, accurate and user-friendly design solutions to our customers.

As a design moves into manufacturing production, we continue to provide ongoing customer support through all phases of the manufacturing process. The local account manager works with our customer service representative to ensure the quality of our services, drawing upon our marketing and customer engineering support teams as required.

We offer an online service, “MyUMC”, which gives our customers easy access to our foundry services by providing a total online supply chain solution. MyUMC offers 24-hour access to detailed account information such as manufacturing, engineering and design support documents through each customer’s own customized start page. The features that are available to customers through MyUMC include (i) viewing the status of orders from the start of production to the final shipping stages; (ii) designing layouts to shorten customers’ tape out time; (iii) collecting customer engineering requests; (iv) gathering and downloading documents for design purposes and (v) and accessing online in real-time the same manufacturing data used by our fab engineers. In addition, we have a system-to-system connecting services to provide direct data exchange between our system and our customers’ systems. These services, which include our “UMC Design View Room Cloud Service”, facilitate our design collaborations with our customers to help reduce the cost of chip designs and reduce the time to market. In order to continue to improve our information security management, our Information Technology Division received the certification of ISO/IEC 27001:2005 in March 2008.

 

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We price our products on a per die or per wafer basis, taking into account the complexity of the technology, the prevailing market conditions, the order size, the cycle time, the strength and history of our relationship with the customer and our capacity utilization. Our main sales office is located in Taiwan, which is in charge of our sales activities in Asia. United Microelectronics (Europe) BV, our wholly-owned subsidiary based in Amsterdam, assists our sales to customers in Europe. Our sales in North America are made through UMC Group (USA), our subsidiary located in Sunnyvale, California.

We typically designate a portion of our wafer manufacturing capacity to some of our customers primarily under two types of agreements: reciprocal commitment agreements and deposit agreements. Under a reciprocal commitment agreement, the customer agrees to pay for, and we agree to supply, a specified capacity at a specified time in the future. Under a deposit agreement, the customer makes in advance a cash deposit for an option on a specified capacity at our fabs for a stated period of time. Option deposits are credited to wafer purchase prices as shipments are made. If this customer does not use the specified capacity, it will forfeit the deposit but, in certain circumstances and with our permission, the customer may arrange for a substitute customer to utilize such capacity. In some cases, we also make available capacity to customers under other types of agreements, such as capacity commitment arrangements with technology partners.

We advertise in trade journals, organize technology seminars, hold a variety of regional and international sales conferences and attend a number of industry trade fairs to promote our products and services. We also publish a corporate newsletter for our customers.

Competition

The worldwide semiconductor foundry industry is highly competitive, particularly during periods of overcapacity and inventory correction. We compete internationally and domestically with dedicated foundry service providers as well as with integrated device manufacturers and final product manufacturers which have in-house manufacturing capacity or foundry operations. Some of our competitors have substantially greater production, financial, research and development and marketing resources than we have. As a result, these companies may be able to compete more aggressively over a longer period of time than we can. In addition, several new dedicated foundries have commenced operations and compete directly with us. Any significant increase in competition may erode our profit margins and weaken our earnings.

We believe that our primary competitors in the foundry services market are Taiwan Semiconductor Manufacturing Company Limited, Semiconductor Manufacturing International (Shanghai) Corporation and Globalfoundries Inc., as well as the foundry operation services of some integrated device manufacturers such as IBM, Samsung, Intel and Toshiba. Other competitors such as DongbuAnam Semiconductor, Grace Semiconductor Manufacturing Corp., X-FAB Semiconductors Foundries AG and Silterra Malaysia Sdn. Bhd. have initiated efforts to develop substantial new foundry capacity, although much of such capacity involves less cost-effective production than the 12-inch fabs for which we possess technical know-how. New entrants in the foundry business are likely to initiate a trend of competitive pricing and create potential overcapacity in legacy technology. The principal elements of competition in the semiconductor foundry industry include technical competence, production speed and cycle time, time-to-market, research and development quality, available capacity, manufacturing yields, customer service and price. We believe that we compete favorably with the new competitors on each of these elements, particularly our technical competence and research and development capabilities.

Intellectual Property

Our success depends in part on our ability to obtain patents, licenses and other intellectual property rights covering our production processes and activities. To that end, we have acquired certain patents and patent licenses and intend to continue to seek patents on our production processes. As of December 31, 2012, we held 3,930 U.S. patents and 6,275 patents issued outside of the United States.

Our ability to compete also depends on our ability to operate without infringing on the proprietary rights of others. The semiconductor industry is generally characterized by frequent claims and litigation regarding patent and other intellectual property rights. As is the case with many companies in the semiconductor industry, we have from time to time received communications from third parties asserting patents that allegedly cover certain of our technologies and alleging infringement of certain intellectual property rights of others. We expect that we will receive similar communications in the future. Irrespective of the validity or the successful assertion of such claims, we could incur significant costs and devote significant management resources to the defense of these claims, which could seriously harm our company. See “Item 3. Key Information—D. Risk Factors—Our inability to obtain, preserve and defend intellectual property rights could harm our competitive position.”

 

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In order to minimize our risks from claims based on our manufacture of semiconductor devices or end-use products whose designs infringe on others’ intellectual property rights, we in general accept orders only from companies that we believe enjoy satisfactory reputation and for products that are not identified as risky for potential infringement claims. Furthermore, we obtain indemnification rights from customers. We also generally obtain indemnification rights from equipment vendors to hold us harmless from any losses resulting from any suit or proceedings brought against our company involving allegation of infringement of intellectual property rights on account of our use of the equipment supplied by them.

We have entered into various patent cross-licenses with major technology companies, including a number of leading international semiconductor companies, such as IBM and LSI. Our cross licenses may have different terms and expiry dates. Depending upon our competitive position and strategy, we may or may not renew our cross licenses and further, we may enter into different and/or additional technology and/or intellectual property licenses in the future.

Research and Development

We spent NT$8,740 million, NT$9,395 million and NT$9,787 million (US$337 million) in 2010, 2011, and 2012, respectively, on research and development, which represented 6.9%, 8.0% and 8.5% respectively, of our net operating revenues for these periods. Our research and development efforts are mainly focused on delivering SoC foundry solutions that consist of the world’s leading process technologies, customer support services and manufacturing techniques. These resources provide our foundry customers with improved opportunities to develop SoC products that supply the global market. Our commitment to research and development can be illustrated by our 2012 research and development expenditures, which reached approximately 8.5% of net operating revenues. In June 2007, we completed the construction of a research and development center for nanometer technologies in the Tainan Science Park. The research and development center allows for seamless application of advanced process technology in the research and development phase to the manufacturing phase.

As of March 31, 2013, we employed 1,127 professionals in our research and development activities. In addition, other management and operational personnel are also involved in research and development activities but are not separately identified as research and development professionals.

Our Investments

Depending on the market conditions, we intend to gradually reduce our investments through exchangeable bond offerings and other measures available to our company.

In December 2009, we issued two tranches of zero coupon exchangeable bonds due 2014. The two exchangeable bond offerings consist of $127.2 million bonds exchangeable into common shares of Unimicron Technology Corporation, or Unimicron, and $80 million bonds exchangeable into common shares of Novatek Microelectronics Corp., Ltd., or Novatek. As of December 31, 2011, no bonds had been exchanged into common shares of Unimicron and Novatek, respectively. As of December 31, 2012, certain bondholders have exercised their rights to exchange their bonds with the total principal amount of US$43 million into Novatek shares. Gains arising from the exercise of exchange rights during the year ended December 31, 2012 amounted NT$1,522 million (US$52 million) and was recognized as gain on disposal of investment.

In 2010, we sold 96 million common shares of Mega Financial Holding Company for NT$1,903 million.

In 2011, we sold 1 million, 1 million, 6 million, 5 million and 7 million common shares of Maxlinear, Inc., Alpha & Omega Semiconductor Ltd., Coretronic Corp., Epistar Corp., and Davicom Semiconductor , Inc. for NT$330 million, NT$305 million, NT$292 million, NT$277 million and NT$205 million, respectively.

In 2012, we sold 33 million, 10 million, 2 million, 2 million, 5 million and 2 million common shares of Novatek Microelectronics Corp., Epistar Corp., Parade Technologies, Ltd., Sandforce, Inc., Pixart Imaging, Inc. and Simplo Technology Co., Ltd. for NT$3,490 million (US$120 million), NT$671 million (US$23 million), NT$549 million (US$19 million), NT$498 million (US$17 million), NT$448 million (US$15 million) and NT$360 million (US$12 million), respectively.

 

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Environmental, Safety and Health Matters

UMC implemented extensive ESH management systems since 1996. These systems enable our operations to identify applicable ESH regulations, assist in evaluating compliance status and timely establish loss preventive and control measures. The systems we implemented in all our fabs have been certified as meeting the ISO 14001 and OHSAS 18001 standards. ISO 14001 consists of a set of standards that provide guidance to the management of organizations to achieve an effective environmental management system. Procedures are established at manufacturing locations to ensure that all accidental spills and discharges are properly addressed. OHSAS 18001 is a recognizable occupational health and safety management system standard, which may be applied to assess and certify our management systems. Our goal in implementing ISO 14001 and OHSAS 18001 systems is to continually improve our ESH management, comply with ESH regulations and to be a sustainable green foundry. UMC’s major ESH policies include:

Environmental Protection Aspects:

 

   

To be an environmentally friendly enterprise characterized by continual improvement with a goal of pollution-free production;

 

   

To incorporate our environmental management system into the general organizational management system;

 

   

To take initiatives to reduce waste production and prevent pollution by introducing and developing environmentally friendly technology for design, production and operation;

 

   

To conserve energy and recycle resources in order to be a model of environmental protection for the international community;

 

   

To fulfill corporate social responsibilities by playing an active role in public and community affairs to improve and protect the environment; and

 

   

To educate employees about environmentally sound ethics and practices.

Safety and Health Aspects:

 

   

To achieve a goal of zero accidents and comply with all applicable safety and regulatory requirements to ensure safety is the top priority for UMC’s sustainable development;

 

   

To reinforce best safety and health management practice to reach international ESH and risk management standards;

 

   

To adopt risk control advanced ESH management and rescue technologies to enhance company’s standards;

 

   

To provide safe work environment and operation through preventive management and audit;

 

   

To eliminate hazard factors and prevent incidents through each and every ownership of responsibilities in safety and health; and

 

   

To encourage all employees to actively participate in safety and health training and promotional activities.

 

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As a member of the global community and a semiconductor industry leader, we have implemented measures to deal with environmental problems and mitigate climate change. We have introduced green concepts in our operations, including green commitment, management, procurement, production, products, recycling, office, education and marketing.

In order to conquer the green barrier formed by the RoHS (the Restriction of the Use of Certain Hazardous Substances in Electrical and Electronic Equipment) Directive, we established a cross-division HSPM (Hazardous Substances Process Management) committee to manage all development and implementation of related work. We completed the final system audit for QC 080000 ICEQ HSPM qualification, a certification for having a hazardous substance process management system that meets the RoHS Directive, on June 9, 2006 and became the first semiconductor manufacturer worldwide to achieve HSPM certification for all fabs. In 2009, we completed the report on the carbon footprint verification for integrated circuit wafers produced at our facilities, the first such report in the foundry industry. In 2010, UMC completed water footprint verification for our 200 mm and 300 mm wafers. These verifications provide scientific and reliable statistics on the carbon and water information of products manufactured in our fabs as well as self-reviews of environmental impact.

With respect to safety and health management, we realized that lowering the risks in equipment and processes can reduce accidents, but cannot guarantee the safety of all employees. In order to achieve the goal of “zero-accident”, we intend to promote the concept of “safety is my responsibility”. We have educated the employees with the concepts of “be aware of your own safety well as the safety of others” and “safety is everyone’s responsibility, and my personal accountability.”

Furthermore, we have implemented the FMEA method to foster employees’ capabilities in risk analysis. Therefore, we established a channel for communication to encourage and ensure the employees to fully express their opinions for professional response and assistance. By doing so, we hope to establish a working attitude of “Safety and health first” to further improve the quality of our working environment, and eventually to become a good example of global safety and hygiene management.

The following list sets forth some of the important awards that we received in environmental protection, safety and health.

 

   

Selected as a member of Dow Jones Sustainability Indexes for 5 years since 2008;

 

   

Awarded “Taiwan Green Classics Award” by Taiwan Ministry of Economic Affairs . (2012);

 

   

Awarded “Taiwan Corporate Sustainability Report Award” by Taiwan Institute for Sustainable Energy. (2008-2012);

 

   

Awarded “Enterprises Environmental Award of the Republic of China” by the Environmental Protection Administration of Executive Yuan, R.O.C. (totally 13 times since 2001);

 

   

Awarded “The Best Participation of Green Procurement for Enterprises” by the Environmental Protection Administration of Executive Yuan, R.O.C.(2012);

 

   

Awarded “Workplace Safety & Health Performance Awards- Silver Award” by Ministry of Manpower. (2012); and

 

   

Awarded “Excellent Industrial Safety and Health Executive Organization of Hsinchu Science Park” by The Science Park Administration. (2012).

Climate Change

We hope to contribute to energy saving and carbon reduction through breakthroughs in green technology development and applications and establish our company as a leader in the green technology industry by injecting fresh enthusiasm for sustainable development.

 

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We announced the climate change policy and carbon emission reduction plans on April 22, 2010. The new plans included a reduction of 33% for normalized perfluorinated compounds, or PFC, emissions and 3% for electricity usage by 2012 compared with the base year 2009. Our climate change policies during this post-Kyoto Protocol period includes: (i) achieving carbon neutral status via carbon management, (ii) becoming a comprehensive low-carbon solution provider, and (iii) leveraging corporate resources to cultivate a low-carbon economy.

We were the leader in the foundry industry to complete the replacement of C3F8 with C4F8 in 2011. UMC has made significant progress in reaching the voluntary reduction goals. It was estimated to bring the total relative CO2 emission reduction by approximately 0.55 million tons during 2010 to 2012. Currently, UMC reduces carbon emissions through the following two aspects: 1. UMC continues to implement a greenhouse gas emissions reduction plan to assist customers in establishing a low-carbon supply chain, and 2. UMC continues its research and development in advanced processes to provide low power products and reduce carbon emissions at the consumer level.

We also support timely disclosure of carbon information and ensuring data quality. Since 2006, we have participated in the Carbon Disclosure Project formed by global institutional investors and disclosed our annual greenhouse gas emission volume, reduction goals and results. Moreover, we engage third-party verifiers to ensure the quality of the data. We completed verification on greenhouse gas emission and reduction records during 2000 to 2011 for all of our fabs in Taiwan. We plan to complete the 2012 GHG emissions data verification within this year.

In addition, our environmental efforts include the establishment of our New Business Development Center which promotes a low carbon economy by investing across the entire supply chain of the green technology industry, including renewable energy, solar energy, and new generation LEDs. The New Business Development Center focus its primary investments on the LED and solar energy industries.

Risk Management

Risk and safety matters are administered by our Group’s Risk Management and Environmental Safety Health Division, or the GRM & ESH, established in 1998. We are pursuing the goal of a highly protected risk status in the semiconductor industry through the implementation of strict engineering safety procedures, regular enforcement of safety codes and standards, and compliance of detailed industry safety guidelines.

Our hazards risk management slogans are set forth below:

 

   

Uniqueness in risk management,

 

   

Maturity in property loss control; and

 

   

Continuous improvement in BCP.

We have also adopted the Triple Star Ranking System of Chartis Insurance, a global leader in risk management and insurance, since 1999. All fabs have been ranked as top-class following Chartis’s risk evaluation and risk improvement recommendations. The ranking system focuses on 20 items, including ten Physical Protection Elements and ten Human Elements. Our latest 12-inch lines, Fab 12A P1/2, 12A P3/4 and 12i, obtained triple-stars in all 20 elements in the very first Triple Star Audit.

We have also implemented proactive efforts in earthquake risk prevention. We believe our efforts contributed to our quick and exemplary recovery from two major earthquakes in Taiwan on September 21, 1999 and March 4, 2010, respectively. Our Hsinchu fabs and Fab 12A in Tainan sustained only minor impact to their operations from the earthquake without interruption to the power system or water service. Normal operations resumed shortly after the incidents.

Besides, we are fully aware of the impact posed by business interruption. We are also devoted in the pursuit of corporate resilience and continuity by committing non-interrupted services to satisfy our valued customers and important stakeholders. In 2011, we announced our Business Continuity Management policy, objective and management organization. In 2012, we follow the most update standard, ISO22301 and established Business Continuity Management System to ensure UMC’s ability to minimize any impact from incidents that may affect operation and to provide resilience to the UMC’s business continuity with minimal loss.

 

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Insurance

We maintain industrial all risk insurance for our buildings, facilities, equipment and inventories as well as third party properties. The insurance for fabs and their equipment covers losses from physical damage and business interruption up to their respective policy limits except for policy exclusions. We purchase directors and officers liability insurance for our board directors and executive officers, covering the liabilities incurred in relation to his/her/its operation of business and legally responsible for. We also maintain public liability insurance for losses to third parties arising from our business operations. We believe that our insurance arrangement is adequate to cover all major types of losses relevant to the semiconductor industry practice. However, significant damage to any of our production facilities, whether as a result of fire or other causes, could seriously harm our business.

C. Organizational Structure

The following list shows our corporate structure as of December 31, 2012:

 

Company

   Jurisdiction of
Incorporation
   Percentage of
Ownership as of
December 31, 2012
 

UMC Group (USA)

   California, U.S.A.      100.00

United Microelectronics (Europe) B.V.

   The Netherlands      100.00

UMC Capital Corp.

   Cayman Islands      100.00

TLC Capital Co., Ltd.

   Taiwan, R.O.C.      100.00

UMC New Business Investment Corp.

   Taiwan, R.O.C.      100.00

Green Earth Limited

   Samoa      100.00

Fortune Venture Capital Corp.

   Taiwan, R.O.C.      100.00

UMC Japan

   Japan      100.00

UMC Investment (Samoa) Limited

   Samoa      100.00

Unitruth Investment Corp.

   Taiwan, R.O.C.      100.00

UMC Capital (U.S.A)

   California, U.S.A.      100.00

ECP VITA PTE. LTD.

   Singapore      100.00

Soaring Capital Corp.

   Samoa      100.00

Unitruth Advisor (Shanghai) Co., Ltd.

   China      100.00

Tera Energy Development Co., Ltd.

   Taiwan, R.O.C.      100.00

Nexpower Technology Corp.

   Taiwan, R.O.C.      57.33

Wavetek Microelectronics Corporation

   Taiwan, R.O.C.      74.69

Everrich Energy Corp.

   Taiwan, R.O.C.      89.38

Everrich Energy Investment (HK) Limited

   China      89.38

Everrich (Shandong) Energy Co., Ltd.

   China      89.38

Unistars Corp.

   Taiwan, R.O.C.      72.04

Topcell Solar International Co. Ltd.

   Taiwan, R.O.C.      69.91

Smart Energy Enterprises Limited

   China      89.38

Smart Energy ShanDong Corporation

   China      89.38

Wavetek Microelectronics Investment (HK) Limited

   China      74.69

NPT Holding Limited

   Samoa      57.33

NLL Holding Limited

   Samoa      57.33

SOCIALNEX ITALIA 1 S.R.L.

   Italy      57.33

TERA ENERGY USA INC.

   U.S.A.      100.00

UMC (BEIJING) LIMITED

   China      100.00

 

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D. Property, Plants and Equipment

Please refer to “—B. Business Overview—Manufacturing Facilities” for a discussion of our property, plants and equipment.

ITEM 4A. UNRESOLVED STAFF COMMENTS

Not applicable.

ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS

Unless stated otherwise, the discussion and analysis of our financial condition and results of operations in this section apply to our financial information as prepared in accordance with R.O.C. GAAP. You should read the following discussion of our financial condition and results of operations together with the consolidated financial statements and the notes to such statements included in this annual report. This discussion may contain forward-looking statements based upon current expectations that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth under “Item 3. Key Information-D. Risk Factors” or in other parts of this annual report on Form 20-F. R.O.C. GAAP varies in certain significant respects from U.S. GAAP. These differences and their effects on our financial statements are described in Note 36 to our audited consolidated financial statements included in this annual report.

For the convenience of readers, NT dollar amounts used in this section for, and as of, the year ended December 31, 2012 have been translated into U.S. dollar amounts using US$1.00 = NT$29.05, the noon buying rate as certified for customs purposes by the Federal Reserve Bank of New York on December 31, 2012. The U.S. dollar translation appears in parentheses next to the relevant NT dollar amount.

Overview

We are one of the world’s leading independent semiconductor foundries, providing comprehensive wafer fabrication services and technologies to our customers based on their designs.

Cyclicality of the Semiconductor Industry

As the semiconductor industry is highly cyclical, revenues varied significantly over this period. It can take several years to plan and construct a fab and bring it to operations. Therefore, during periods of favorable market conditions, semiconductor manufacturers often begin building new fabs or acquiring existing fabs in response to anticipated demand growth for semiconductors. In addition, after commencement of commercial operations, fabs can increase production volumes rapidly. As a result, large amounts of semiconductor manufacturing capacity typically become available during the same time period. Absent a proportional growth in demand, this increase in supply often results in semiconductor manufacturing overcapacity, which has led to a sharp decline in semiconductor prices and significant capacity under-utilization. Our average capacity utilization rate was 93.7%, 78.6% and 78.8% for the years ended December 31, 2010, 2011 and 2012, respectively. We believe that our results in 2010, 2011 and 2012 reflect the ongoing uncertainty in the global economy, conservative corporate information technology spending and low visibility with respect to end market demand.

Pricing

We price our products on either a per die or a per wafer basis, taking into account the complexity of the technology, the prevailing market conditions, the order size, the cycle time, the strength and history of our relationship with the customer and our capacity utilization. Because semiconductor wafer prices tend to fluctuate frequently, we in general review our pricing on a quarterly basis. As a majority of our costs and expenses are fixed or semi-fixed, fluctuations in our products’ average selling prices historically have had a substantial impact on our margins. Our average selling price decreased approximately 3.2% in 2012 compared to 2011, primarily due to nominal price erosion.

 

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We believe that our current level of pricing is comparable to that of other leading foundries in each respective geometry. We believe that our ability to provide a wide range of advanced foundry services and process technologies as well as large manufacturing capacity will enable us to compete effectively with other leading foundries at a comparable price level.

Capacity Utilization Rates

Our operating results are characterized by relatively high fixed costs. In 2010, 2011 and 2012, approximately 61.5%, 63.8% and 65.7%, respectively, of our manufacturing costs consisted of depreciation, a portion of indirect material costs, amortization of license fees and indirect labor costs.

If our utilization rates increase, our costs would be allocated over a larger number of units, which generally leads to lower unit costs. As a result, our capacity utilization rates can significantly affect our margins. Our utilization rates have varied from period to period to reflect our production capacity and market demand. Our average capacity utilization rate was 93.7%, 78.6% and 78.8% for the years ended December 31, 2010, 2011 and 2012, respectively. Utilization rates were primarily affected by global macroeconomic factors. Other factors affecting utilization rates are efficiency in production facilities, product flow management, the complexity and mix of the wafers produced, overall industry conditions, the level of customer orders, mechanical failure, disruption of operations due to expansion of operations, relocation of equipment or disruption of power supply and fire or natural disaster.

Our production capacity is determined by us based on the capacity ratings given by manufacturers of the equipment used in the fab, adjusted for, among other factors, actual output during uninterrupted trial runs, expected down time due to set up for production runs and maintenance, expected product mix and research and development. Because these factors include subjective elements, our measurement of capacity utilization rates may not be comparable to those of our competitors.

Change in Product Mix and Technology Migration

Because the price of wafers processed with different technologies varies significantly, the mix of wafers that we produce is among the primary factors that affect our revenues and profitability. The value of a wafer is determined principally by the complexity and performance of the processing technology used to produce the wafer, as well as by the yield and defect density. Production of devices with higher levels of functionality and performance, with better yields and lower defect density as well as with greater system-level integration requires better manufacturing expertise and generally commands higher wafer prices. The increase in price generally has more than offset associated increases in production cost once an appropriate economy of scale is reached.

Prices for wafers of a given level of technology generally decline over the processing technology life cycle. As a result, we have continuously been migrating to increasingly sophisticated technologies to maintain the same level of profitability. We began our volume production with 90-nanometer and 65-nanometer technologies in 2004 and 2006, respectively. We started 40-nanometer production in the first half of 2009. These types of technology migration require continuous capital and research and development investment. Because developing and acquiring advanced technologies involve substantial capital investment, we expect to continue to spend a substantial amount of capital on upgrading our technologies and capabilities. We introduced our 28-nanometer technology to customers in 2011 to significantly increase the competitive advantages of our customers by providing better device performance in a smaller die size.

Manufacturing Yields

Manufacturing yield per wafer is measured by the number of functional dice on that wafer over the maximum number of dice that can be produced on that wafer. A small portion of our products is priced on a per die basis, and our high manufacturing yields have assisted us in achieving higher margins. In addition, with respect to products that are priced on a per wafer basis, we believe that our ability to deliver high manufacturing yields generally has allowed us to either charge higher prices per wafer or attract higher order volumes, resulting in higher margins.

 

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We continually upgrade our process technologies. At the beginning of each technological upgrade, the manufacturing yield utilizing the new technology is generally lower, sometimes substantially lower, than the yield under the current technology. The yield is generally improved through the expertise and cooperation of our research and development personnel and process engineers, as well as equipment and at times raw material suppliers. Our policy is to offer customers new process technologies as soon as the new technologies have passed our internal reliability tests.

Investments

Most of our investments were made to improve our market position and for strategy considerations, a significant portion of which are in foundry-related companies including fabless design customers, raw material suppliers and intellectual property vendors. In addition, we also invest in non-foundry-related businesses, such as Cathay Financial Holding Co. Ltd. We have established the New Business Development Center to identify and make strategic investments in high growth industries such as solar and LED.

In recent years many developed and developing countries have listed energy saving and carbon reduction as primary administrative policies to tackle the challenge of potential energy shortages in future. Technologies for renewable energy and energy saving are expected to become a focus in future technology development and the growth of green energy related industries is predictable. On August 24, 2009, our Board of Directors approved the establishment of our New Business Development Center and its 100% owned subsidiary, UMC New Business Investment Corporation. We established the New Business Development Center to capitalize on high growth and high profit in potential industries such as solar, light-emitting diode, LED, and semiconductor through timely strategic investment. Although our revenues from the solar and LED section have been adversely affected by short-term market conditions, we believe that the long-term potential of solar and LED sectors still appears promising. We believe that these two sectors have great potential for growth and have invested an additional NT$3 billion to our UMC New Business Investment Corporation in 2011 that was allocated to research and development and capital expenditures for the solar and LED sectors. However, the solar and LED markets were adversely affected by over-supply in 2012, so we focused on improving the operational efficiency of our subsidiaries instead of making additional investments into these subsidiaries. We continue to remain committed to further developing our investments in the solar and LED sectors and believe that such investments will position us well for future growth.

We have from time to time disposed of investments for financial, strategic or other purposes in recent years. See “Item 4. Information on the Company—B. Business Overview—Our Investments” for a description of our investments.

Treasury Share Programs

We have from time to time announced plans, none of which was binding on us, to buy back up to a fixed amount of our shares on the Taiwan Stock Exchange at the price range set forth in the plans. In 2010, 2011, and 2012, we purchased an aggregate of 300 million, nil and nil, respectively, of our shares under these plans. From February 3, 2010 to April 2, 2010, we purchased 300 million of our shares at an average price of NT$16.15 per share to transfer to employees. In addition, on March 13, 2013, the Board of Directors resolved to purchase up to 200 million shares on the Taiwan Stock Exchange at a price between NT$7.80 and NT$16.90 per share during the period from March 14, 2013 to May 13, 2013 to transfer to employees.

Critical Accounting Policies

General

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements included in the annual report, which have been prepared in accordance with R.O.C. GAAP, which varies in certain respects from U.S. GAAP. These differences and their effects on our financial statements are described in Note 36 to our audited consolidated financial statements included elsewhere in this annual report. The preparation of our consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We evaluate our estimates on an ongoing basis and base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

 

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We believe the following critical accounting policies involve significant judgments and estimates used in the preparation of our consolidated financial statements.

Revenue Recognition

We recognize revenue when persuasive evidence of an arrangement exists, the product or service has been delivered, the seller’s price to the buyer is fixed or determinable and collectability is reasonably assured. Most of our sales transactions have shipping terms of Free Carrier, or FCA, by which title and the risk of loss or damage for the shipment are transferred to the customer upon delivery of the product to a carrier approved by the customer.

Allowance for sales returns and discounts are estimated based on the information of customer complaints, historical experiences, management judgment and any other known factors that might significantly affect collectability. Such allowances are recorded in the same period in which sales are made. Shipping and handling costs are included in sales expenses.

Allowance for Doubtful Accounts

Prior to December 31, 2010, recognition of an allowance for doubtful accounts was based on historical experience in analyzing the aging and determining the collectability of notes, accounts and other receivables as of the balance sheet date. Effective January 1, 2011, we first assess as of balance sheet date whether objective evidence of impairment exists for notes, accounts and other receivables that are individually significant. If there is objective evidence that an impairment loss has occurred, the amount of impairment loss is assessed individually. For notes, accounts and other receivables other than those mentioned above, we group those assets with similar credit risk characteristics and collectively assess them for impairment. If, in a subsequent period, the amount of the impairment loss decreases, and the decrease can be related objectively to an event occurring after the impairment was recognized, the previously recognized impairment loss is reversed and recognized through profit or loss. The reversal shall not result in a carrying amount of notes, accounts and other receivables that exceeds what the amortized cost would have been had the impairment not been recognized at the date the impairment is reversed. Considerable judgment is required in assessing the ultimate realization of these receivables including the current credit worthiness and the past collection history of each customer. A deterioration of economic conditions either in the R.O.C. or in other major overseas markets may contribute to the deterioration of financial conditions of our customers, resulting in an impairment of their ability to make payments.

Inventory

Inventories are accounted for on a perpetual basis. Raw materials are recorded at actual purchase costs, while the work in process and finished goods are recorded at standard costs and subsequently adjusted to costs using the weighted-average method at the end of each month. The cost of work in progress and finished goods comprises raw materials, direct labor, other direct costs and related production overheads. Allocation of fixed production overheads to the costs of conversion is based on the normal capacity of the production facilities. Cost associated with underutilization of capacity is expensed as incurred.

Inventories are valued at the lower of cost and net realizable value item by item. Net realizable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale. Net realizable value of the Company’s work in progress and finished goods is measured at the contractual sales price less predictable costs of completion, while that of the raw materials is the replacement cost by purchase. Costs of completion include direct labor and overhead, including depreciation and maintenance of production equipment, indirect labor costs, indirect material costs, supplies, utilities and royalties that is expected to be incurred at normal production level. The Company estimates normal production level taking into account the loss of capacity resulting from planned maintenance, based on historical experience and current production capacity.

 

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Inventories are reduced for the estimated losses arising from excess, obsolescence, and the decline in value. This reduction is determined by estimating market value based on future customer demand. The losses on inventory obsolescence are recorded as a part of cost of sales.

Income Taxes

Most of our existing tax benefits arise from investment tax credits, and others from net operating loss carry-forward and temporary differences. We recognize these tax benefits as deferred tax assets. Income tax expense or benefit is recognized when there is a net change in deferred tax assets and liabilities. A valuation allowance is recorded to reduce our deferred tax assets to the extent that we believe it is more likely than not that the tax benefits will not be realized. The assessment of the valuation allowance involves subjective assumptions and estimates as it principally depends on the estimation of future taxable income. If future taxable income is lower than expected due to future market conditions or other reasons or in the event we determine that we will not be able to realize all or part of our net deferred tax assets in the future, an adjustment to our deferred tax assets valuation allowance may be required with the adjusting amount charged to income in this period. Likewise, should future taxable income be higher than expected due to future market conditions or other reasons or in the event we determine that we would be able to realize our deferred tax assets in the future in excess of our net recorded amount, an adjustment to our deferred tax assets valuation allowance would increase income in this period.

Long-lived Assets Impairment

We review the long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of the long-lived assets might not be recoverable. Such review may include assessing whether there is a significant decrease in market values of long-lived assets or significant deterioration of market conditions to indicate the carrying value of such assets may not be recovered through future cash flows, any change in the use of long-lived assets to negatively affect their fair values, and any obsolescence issues that would lead to a lower fair value determination. If there is an indication that an asset might be impaired, we proceed with a further impairment test, which is performed for asset groups related to the lowest level of identifiable independent cash flows. We compare the carrying amount with the recoverable amount derived from discounted cash flow analysis to determine whether the asset is impaired and recognize impairment loss to the extent that its carrying amount exceeds its recoverable amount. If there is evidence that impairment losses recognized previously no longer exists, or has diminished, and the recoverable amount of the long-lived assets increases because of an increase in the asset’s estimated service potential, the amount of loss may be reversed to the extent that the resulting carrying value should not exceed the carrying value had no impairment loss been recognized in prior years.

Due to our asset usage model and the interchangeable nature of our semiconductor manufacturing capacity, we must make subjective judgments and estimates in determining the independent cash flows that can be related to specific asset groups, including the service potential of long-lived assets through its estimated useful life, cash flow generating capacity, physical output capacity, potential fluctuation of economic cycle in the semiconductor industry and our operating situation.

Goodwill Impairment

Goodwill is subject to impairment tests on an annual basis, or more frequently whenever events occur or circumstances change indicating that goodwill might be impaired. The assessment on impairment of goodwill is subject to significant judgment. Such judgment includes identifying the cash generating unit, or CGU, making assumptions for discounted cash flow analysis to derive the fair value of the CGU and properly assigning relevant assets, liabilities and goodwill to the CGU. Ultimately, we compare the fair value of goodwill to its carrying value and determine the impairment loss, if any. If the relevant assumptions and estimates change in the future, they will impact our goodwill impairment test.

 

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Pension

Under the defined benefit pension plan of the Labor Standards Law, we have significant pension benefit costs and liabilities that are developed from actuarial valuations. Inherent in these valuations are key assumptions including discount rates and expected return on plan assets. We consider current market conditions, including changes in interest rates, in selecting these assumptions. In addition to changes resulting from fluctuations in our related headcount, changes in the related pension costs or liabilities may also occur in the future due to changes in assumptions. Under the defined contribution pension plan of the R.O.C. Labor Pension Act, we are required to make monthly contributions to employees’ individual pension accounts and recognize expenses in the periods in which the contributions become due.

Net pension costs of the defined benefit plan are recorded based on an independent actuarial valuation. Pension cost components such as service cost, interest cost, expected return on plan assets, the amortization of net obligation at transition, pension gain or loss, and prior service cost, are all taken into consideration. We recognize expenses from the defined contribution pension plan in the period in which the contribution becomes due.

Investments in Debt and Equity Securities

In accordance with R.O.C. GAAP, equity securities over which we exercise no significant influence or control and with readily determinable fair values and debt securities are to be classified as financial assets at fair value through profit or loss, or FVTPL, available-for-sale or held-to-maturity securities. Debt securities that we have the intent and ability to hold to maturity are classified as held-to-maturity securities and reported at their amortized cost. Debt and equity securities that are bought and traded for short-term profit are classified as FVTPL and reported at fair value, with unrealized gains and losses included in earnings. Debt and equity securities not classified as either held-to-maturity or FVTPL are classified as available-for-sale securities and reported at fair value, with unrealized gains and losses reported in other comprehensive income under stockholders’ equity. Unrealized losses that are deemed to be other than temporary are charged to earnings. For individual securities classified as either available-for-sale or held-to-maturity, we consider, among other factors, information concerning significant adverse changes in market conditions in which the investee operates and operating issues specific to the investee in determining whether a decline in value is temporary. In general, we consider a decline in market value below cost for a continuous period of six months to be other than temporary unless there is persuasive evidence to the contrary. If the decline in fair value is judged to be other than temporary, the cost basis of the individual security is written down to fair value with a charge against earnings.

Derivative Instruments

The embedded derivative features contained in exchangeable bonds are bifurcated and separately accounted for if the economic characteristics and risks of the embedded derivative instruments are not clearly and closely related to those of the host contracts. Those bifurcated embedded derivatives are fair valued at the end of each reporting period by using the option pricing model with the changes in fair value included in earnings. The valuation model uses the market-based observable inputs including share price, volatility, credit spread and swap rates.

We also hold certain freestanding derivative instruments such as interest rate swap and forward contracts, which are fair valued at each reporting period end. The fair values of these instruments are determined using market established valuation techniques, which involve certain key inputs such as the expected interest forward rate, expected volatility in interest rates, and spot exchange rate. Any change in such key inputs could materially impact the determination of fair value of these derivative instruments.

Employee Stock Options

Under R.O.C. GAAP, for stock options granted to our employees, we recognize compensation cost using the Black-Scholes option- pricing model in accordance with R.O.C. SFAS No. 39 “Accounting for Share-Based Payment”, or R.O.C. SFAS 39. The Black-Scholes option-pricing model requires the use of input assumptions, including expected volatility, expected life, expected dividend rate and expected risk-free rate of return. We applied the historical realized volatility, which calculates volatility based on the historical stock price volatility over the time period equal to the expected term of the employee stock option, in estimating expected volatility because our shares have been publicly traded for a long time. We determined the expected term based on historical stock option exercise data and we used the historical pattern of dividend yield for estimating the expected dividend of the underlying employee stock options. For entities based in jurisdictions outside the United States, the risk-free interest rate is the implied yield of zero-coupon government bonds currently available in the market in which the shares are primarily traded. Hence, we use the average yield of Taiwan Government Bond with the remaining term similar to the expected option term as the risk-free interest rate. We adjust employee stock option expenses on an annual basis for changes in expected forfeitures based on the examination of latest employee stock option forfeiture activity. The effect of adjusting the forfeiture rate used for expense amortization is recognized in the corresponding period in which the expected forfeiture rate is changed.

 

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Transition to IFRSs in 2013

Starting from January 1, 2013, we will prepare consolidated financial statements in accordance with International Financial Reporting Standards (“IFRSs”) as issued by the International Accounting Standards Board (“IASB”) for our future SEC filing. Our transition date to IFRSs is January 1, 2012. As such, our 2012 consolidated financial statements under IFRSs to be included in our 2013 Form 20-F may be different from the accompanying 2012 consolidated ones prepared based on the R.O.C. GAAP.

A. Operating Results

Net Operating Revenues

We generate our net operating revenues primarily from fabricating semiconductor devices. We also derive a small portion of our net operating revenues from wafer probe services that we perform internally as well as mask tooling services and assembly and test services that we subcontract out.

Cost of Goods Sold

Our costs of goods sold consist principally of:

 

   

overhead, including depreciation and maintenance of production equipment, indirect labor costs, indirect material costs, supplies, utilities and royalties;

 

   

wafer costs;

 

   

direct labor costs; and

 

   

service charges paid to subcontractors for mask tooling, assembly and test services.

Our total depreciation expenses were NT$29,951 million, NT$31,915 million and NT$35,011 million (US$1,205 million) in 2010, 2011 and 2012, respectively.

Operating Expenses

Our operating expenses consist of the following:

 

   

Sales and marketing expenses. Sales and marketing expenses consist primarily of intellectual property development expenses, salaries and related personnel expenses, wafer sample expenses and related marketing expenses. Wafer samples are actual silicon samples of our customers’ early design ideas made with our most advanced processes and provided to those customers;

 

   

General and administrative expenses. General and administrative expenses consist primarily of salaries for our administrative, finance and human resource personnel, fees for professional services, and cost of computer and communication systems to support our operations; and

 

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Research and development expenses. Research and development expenses consist primarily of research testing related expenses, salaries and related personnel expenses and depreciation on the equipment used for our research and development.

Non-operating Income and Expenses

Our non-operating income principally consists of:

 

   

interest income, which has been primarily derived from time deposits;

 

   

investment income accounted for under the equity method, which has been primarily derived from the recognition of investee companies’ net income based on the percentage of their ownership we hold;

 

   

gain on disposal of investments, which has been primarily derived from our disposal of long-term investments accounted for under the equity method, available-for-sale financial assets and financial assets measured at cost;

 

   

gain on disposal of property, plant and equipment;

 

   

dividend income, which has been primarily derived from the financial instruments of financial assets at fair value through profit or loss, available-for-sale financial assets and financial assets measured at cost;

 

   

gain on valuation of financial assets and liabilities, which have been primarily derived from disposal of and changes in the values of financial assets and liabilities classified as FVTPL according to R.O.C. SFAS No. 34 “Financial Instruments: Recognition and Measurement”, or R.O.C. SFAS 34; and

 

   

other income, which has been primarily derived from our branch’s grant income received from the government in Singapore and donation income from our equity investee.

Our non-operating expenses principally consist of:

 

   

loss on valuation of financial assets and liabilities, which have been primarily derived from disposal of and changes in the values of financial assets and liabilities classified as FVTPL according to R.O.C. SFAS 34;

 

   

investment loss accounted for under the equity method, which has been primarily derived from the recognition of investee companies’ net loss based on the percentage of their ownership we hold; and

 

   

impairment loss, which have been primarily derived from the loss recognized in long-term investments and long-lived assets.

Taxation

Based on our status as a company engaged in the semiconductor business in Taiwan, we have been granted exemptions from income taxes in Taiwan with respect to income attributable to capital increases for the purpose of purchasing equipment related to the semiconductor business for a period of four or five years following each such capital increase. This tax exemption resulted in tax savings of approximately NT$990 million, NT$292 million and NT$55 million (US$2 million) in 2010, 2011 and 2012, respectively. Our tax rate was 17% in 2012, the same rate applicable to companies outside the Hsinchu Science Park, and the statutory tax rate was changed from 25% to 17% effective January 1, 2010.

We also benefit from other tax incentives generally available to technology companies in Taiwan, including tax credits applicable against corporate income tax that range from 30% to 50% of the amount of certain research and development and employee training expenses and 5% to 20% of the amount of investment in certain qualified equipment and technology. These tax incentives resulted in tax savings of approximately NT$947 million, NT$301 million and NT$343 million (US$12 million) in 2010, 2011 and 2012, respectively.

 

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After taking into account the tax exemptions and tax incentives discussed above, we recorded NT$1,606 million, NT$913 million and NT$2,129 million (US$73 million) of tax expenses in 2010, 2011 and 2012, respectively. Our effective income tax rate in 2012 was 26.60%.

In 1997, the R.O.C. Income Tax Law was amended to integrate corporate income tax and stockholder dividend tax to eliminate the double taxation effect for resident stockholders of Taiwan companies. Under the amendment, all retained earnings generated from January 1, 1998 and not distributed to stockholders as dividends in the following year will be assessed a 10% retained earnings tax.

See “Item 10. Additional Information-E. R.O.C. Tax Considerations-Dividends”. As a result, if we do not distribute all of our annual retained earnings generated beginning January 1, 1998 as either cash and/or stock dividends in the following year, these earnings will be subject to the 10% retained earnings tax. In addition, the R.O.C. government enacted the R.O.C. Income Basic Tax Act, also known as the “Minimum Income Tax Statute”, or the Statute, which became effective on January 1, 2006 and imposes an alternative minimum tax, or AMT. The AMT imposed under the Statute is a supplemental tax which is payable if the income tax payable pursuant to the R.O.C. Income Tax Act is below the minimum amount prescribed under the Statute. In accordance with the Statute, a company will be subject to a 10% AMT if its annual taxable income under the Statute exceeds NT$2 million. According to R.O.C. “Minimum Income Tax Statute” amended on August 8, 2012, effective January 1, 2013, the statutory tax rate was increased form 10% to 12%, if its annual taxable income under the Statute exceeds NT$0.5 million.

Comparisons of Results of Operations

The following table sets forth some of our results of operations data as a percentage of our net operating revenues for the periods indicated.

 

     Years Ended December 31,  
     2010     2011     2012  

Net operating revenues

     100.0     100.0     100

Cost of goods sold

     (70.8     (81.8     (83.2
  

 

 

   

 

 

   

 

 

 

Gross profit

     29.2        18.2        16.8   

Operating expenses:

      

Sales and marketing

     (2.0     (2.9     (2.4

General and administrative

     (2.9     (2.9     (2.9

Research and development

     (6.9     (8.0     (8.5
  

 

 

   

 

 

   

 

 

 

Operating income

     17.4        4.4        3.0   

Net non-operating income

     2.7        3.6        3.9   
  

 

 

   

 

 

   

 

 

 

Income before income tax and minority interests

     20.1        8.0        6.9   

Income tax expense

     (1.3     (0.7     (1.8
  

 

 

   

 

 

   

 

 

 

Extraordinary gain

     0.1        —          —     

Net income

     18.9        7.3        5.1   
  

 

 

   

 

 

   

 

 

 

Attributable to:

      

the Company

     18.9        9.1        6.8   

minority interests

     (0.0     (1.8     (1.7

Year Ended December 31, 2012 Compared to Year Ended December 31, 2011

Net operating revenues. Net operating revenues decreased by 0.9% from NT$116,703 million in 2011 to NT$115,675 million (US$3,982 million) in 2012 primarily due to the decrease in average selling price.

 

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Cost of goods sold. Cost of goods sold increased by 0.9% from NT$95,417 million in 2011 to NT$96,263 million (US$3,314 million) in 2012 primarily due to the increase in fixed costs, such as depreciation expenses and electricity prices.

Gross profit and gross margin. Gross margin decreased from 18.2% in 2011 to 16.8% in 2012 primarily due to the decrease in average selling price.

Operating income and operating margin. Operating income decreased from NT$5,180 million in 2011 to NT$3,505 million (US$121 million) in 2012. Our operating margin decreased from 4.4% in 2011 to 3.0% in 2012. The decrease in operating margin is largely due to the decrease in gross margin. Operating expenses decreased by 1.2% from NT$16,106 million in 2011 to NT$15,907 million (US$547 million) in 2012.

Sales and marketing expenses. Our sales and marketing expenses decreased by 18.4% from NT$3,369 million in 2011 to NT$2,749 million (US$94 million) in 2012. The decrease in sales and marketing expenses was mainly due to a decrease in sample expenses and bad debt expenses. Our sales and marketing expenses as a percentage of our net operating revenues decreased from 2.9% in 2011 to 2.4% in 2012.

General and administrative expenses. Our general and administrative expenses increased by 0.9% from NT$3,342 million in 2011 to NT$3,371 million (US$116 million) in 2012 primarily as a result of an increase in personnel expenses. Our general and administrative expenses as a percentage of our net operating revenues was equal to 2.9% in 2011 and 2012, respectively.

Research and development expenses. Our research and development expenses increased by 4.2% from NT$9,395 million in 2011 to NT$9,787 million (US$337 million) in 2012. The increase in research and development expenses resulted primarily from an increase in computer usage expenses and mask expenses. Our research and development expenses as a percentage of our net operating revenues increased from 8.0% in 2011 to 8.5% in 2012.

Net non-operating income. Net non-operating income increased by 7.1% from income of NT$4,200 million in 2011 to NT$4,498 million (US$154 million) in 2012, mainly due to an increase in gain on disposal of investments from NT$1,688 million in 2011 to NT$5,346 million (US$184 million) in 2012, offset by an increase in loss on valuation of financial liabilities from gain of NT$1,341 million in 2011 to loss of NT$667 million (US$23 million) in 2012 and a decrease in other income from NT$2,055 million in 2011 to NT$815 million (US$28 million) in 2012.

Net income attributable to the Company. Due to the factors described above, our net income decreased by 26.3% from NT$10,610 million in 2011 compared to NT$7,819 million (US$269 million) in 2012.

Year Ended December 31, 2011 Compared to Year Ended December 31, 2010

Net operating revenues. Net operating revenues decreased by 7.7% from NT$126,442 million in 2010 to NT$116,703 million in 2011 primarily due to a decrease in volume of products shipped.

Cost of goods sold. Cost of goods sold increased by 6.6% from NT$89,518 million in 2010 to NT$95,417 million in 2011 primarily due to the decrease of the utilization rate from 93.7% in 2010 to 78.6% in 2011 as a result of decreased customer demand.

Gross profit and gross margin. Gross margin decreased from 29.2% in 2010 to 18.2% in 2011 primarily due to the lower utilization rate in 2011.

Operating income and operating margin. Operating income decreased from NT$22,020 million in 2010 to NT$5,180 million in 2011. Our operating margin decreased from 17.4% in 2010 to 4.4% in 2011. The decrease in operating margin is largely due to a decrease in gross margin. Operating expenses increased by 8.1% from NT$14,904 million in 2010 to NT$16,106 million in 2011.

 

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Sales and marketing expenses. Our sales and marketing expenses increased by 31.3% from NT$2,566 million in 2010 to NT$3,369 million in 2011. The increase in sales and marketing expenses was mainly due to an increase in sample expenses and bad debt expenses. Our sales and marketing expenses as a percentage of our net operating revenues increased slightly from 2.0% in 2010 to 2.9% in 2011.

General and administrative expenses. Our general and administrative expenses decreased by 7.1% from NT$3,598 million in 2010 to NT$3,342 million in 2011 primarily as a result of a decrease in personnel expenses. Our general and administrative expenses as a percentage of our net operating revenues was equal to 2.9% in 2010 and 2011, respectively.

Research and development expenses. Our research and development expenses increased by 7.5% from NT$8,740 million in 2010 to NT$9,395 million in 2011. The increase in research and development expenses resulted primarily from an increase in research and development wafer expenses and mask expenses. Our research and development expenses as a percentage of our net operating revenues increased from 6.9% in 2010 to 8.0% in 2011.

Net non-operating income. Net non-operating income increased by 24.9% from income of NT$3,364 million in 2010 to NT$4,200 million in 2011, mainly due to an increase in gain on valuation of financial liabilities from loss of NT$(665) million in 2010 to gain of NT$1,341 million in 2011, an increase in other income from NT$1,019 million in 2010 to NT$2,055 million in 2011 and an increase in impairment loss from NT$114 million in 2010 to NT$2,246 million in 2011.

Net income attributable to the Company. Due to the factors described above, we incurred a net income of NT$23,899 million in 2010, compared with a net income of NT$10,610 million in 2011.

B. Liquidity and Capital Resources

The foundry business is highly capital intensive. Our development over the past three years has required significant investments. Additional expansion for the future generally will continue to require significant cash for acquisition of plant and equipment to support increased capacities, particularly for the production of 12-inch wafers, although our expansion program will be adjusted from time to time to reflect market conditions. In addition, the semiconductor industry has historically experienced rapid changes in technology. To maintain competitiveness at the same capacity, we are required to make adequate investments in plant and equipment. In addition to our need for liquidity to support the large fixed costs of capacity expansion and the upgrading of our existing plants and equipment for new technologies, as we ramp up production of new plant capacity, we require significant working capital to support purchases of raw materials for our production and to cover variable operating costs such as salaries until production yields provide sufficiently positive margins for a fabrication facility to produce operating cash flows.

We have financed our capital expenditure requirements in recent years with cash flows from operations as well as from bank borrowings, the issuance of bonds and equity-linked securities denominated in NT dollars and U.S. dollars. We incurred capital expenditures of NT$61,323 million, NT$53,326 million and NT$52,186 million (US$1,796 million) in 2010, 2011 and 2012, respectively, requiring a significant amount of funding from financing activities. Once a fab is in operation at acceptable capacity and yield rates, it can provide significant cash flows. Cash flows significantly exceed operating income, reflecting the significant non-cash depreciation expense. We generated cash flows from operations of NT$53,495 million and NT$41,654 million and NT$40,535 million (US$1,395million) in 2010, 2011 and 2012, respectively.

On May 24, 2011, we issued US$500 million aggregate principal amount of currency linked zero coupon convertible bonds due 2016. Each bond, at the option of the holder, will be convertible into our ADS. The proceeds of this offering will be used for purchasing machinery and equipment. As of December 31, 2011 and 2012, no bonds had been converted into our ADS, and we have repurchased and cancelled US$64 million and US$5 million principal amount of these bonds in the open market transactions for the years ended December 31, 2011 and 2012, respectively.

 

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In early June, 2012, we issued five-year and seven-year domestic unsecured corporate bonds totaling NT$10,000 million, with a face value of NT$1 million per unit. The five-year domestic unsecured corporate bond was issued in the amount of NT$7,500 million. Interest will be paid annually at 1.43%, and the principal will be repayable in June 2017 upon maturity. The seven-year domestic unsecured corporate bond was issued in the amount of NT$2,500 million. Interest will be paid annually at 1.63%, and the principal will be repayable in June 2019 upon maturity. The proceeds of this offering will be used for purchasing machinery and equipment. As of December 31, 2012, NT$10 billion aggregate principal amount of these bonds were outstanding.

In mid March, 2013, we issued another five-year and seven-year domestic unsecured corporate bonds totaling NT$10,000 million, with a face value of NT$1 million per unit. The five-year domestic unsecured corporate bond was issued in the amount of NT$7,500 million. Interest will be paid annually at 1.35%, and the principal will be repayable in March 2018 upon maturity. The seven-year domestic unsecured corporate bond was issued in the amount of NT$2,500 million. Interest will be paid annually at 1.50%, and the principal will be repayable in March 2020 upon maturity. The proceeds of this offering will be used for purchasing machinery and equipment.

As of December 31, 2012, we had NT$42,593 million (US$1,466 million) of cash and cash equivalents and NT$656 million (US$23 million) of FVTPL, current. Cash equivalents included reverse repurchase agreements collateralized by government bonds, or other highly secure assets for short-term liquidity management. These agreements bore interest rates ranging from 0.25% to 0.41%; 0.45% to 0.62%; and 0.46% to 0.60% in 2010, 2011 and 2012, respectively. The terms of these agreements were typically less than two weeks. As of December 31, 2010, 2011, and 2012, we held reverse repurchase agreements in the amount of NT$3,757 million, NT$3,532 million and NT$4,585 million (US$158 million), respectively.

We believe that our working capital, cash flow from operations and unused lines of credit are sufficient for our present requirements.

At our 2012 annual general meeting, our stockholders authorized the Board to raise capital from private placement, through issuing instruments such as common shares, depositary receipts (including but not limited to ADS), or Euro/Domestic convertible bonds (including secured or unsecured corporate bonds), based on market conditions and our needs. The amount of shares issued or convertible is proposed to be no more than 10% of our total shares issued (i.e., no more than 1,292,640,716 shares). According to Item 6, Article 43-6 of the R.O.C. Security and Exchange Act, any private placement of our shares must be conducted separately within one year after approval at the annual general meeting of stockholders. The approval to conduct a private placement of our shares will expire on June 11, 2013. Considering market conditions, the Board has resolved to terminate any plans for a private placement of our shares under the 2012 general meeting authorization..

Operating Activities

Our operating activities generated cash of NT$40,535 million (US$1,395 million) in 2012. Cash generated from our operating activities for 2012 significantly exceeded net income due to the add-back of non-cash items, such as depreciation and amortization in the amount of NT$35,738 million (US$1,230 million). Cash generated by operating activities decreased from NT$41,654 million in 2011 to NT$40,535 million (US$1,395 million) in 2012, primarily due to a decrease in cash collected from our customers.

Investment Activities

Net cash used in our investment activities was NT$49,148 million (US$1,692 million) in 2012. In 2012, we used cash of NT$52,186 million (US$1,796 million) to purchase equipment primarily used at our fabs. This was offset by the net cash provided by acquisition and disposal of available-for-sale financial assets of NT$4,288 million (US$148 million).

Financing Activities

Net cash provided by our financing activities was NT$3,588 million (US$124 million) in 2012. We drew down bank loans of NT$13,518 million (US$465 million), issued domestic bonds of NT$10,000 million (US$344 million), paid cash dividends of NT$6,316 million (US$217 million) and repaid long-term loans of NT$13,942 million (US$480 million).

 

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We had NT$5,773 million (US$199 million) outstanding short-term loans as of December 31, 2012. We had total availability under existing short-term lines of credit of NT$8,293 million (US$285 million) as of December 31, 2012.

We had bonds payable of NT$26,224 million (US$903 million) in the aggregate as of December 31, 2012.

As of December 31, 2012, our outstanding long-term debts primarily consisted of NT$463 million unsecured and NT$1,618 million secured long-term bank loans due in 2013, NT$600 million secured long-term bank loans due in 2014, NT$3,692 million unsecured and NT$1,293 million secured long-term bank loans due in 2015, NT$3,500 million unsecured and NT$2,447 million secured long-term bank loans due in 2016, and NT$1,000 million unsecured and NT$208 million secured long-term bank loans due in 2017. The interest rates of our long-term bank loans range from 1.24% to 2.51%.

As of December 31, 2012, the current portion of bonds due within one year was NT$4,292 million (US$148 million), and the current portion of long-term bank loans due within one year was NT$4,595 million (US$158 million).

Capital Expenditures

We have continued to expand our manufacturing capacity, especially our 40 nanometer and 28 nanometer technology processes. As a result, our capital expenditures have been used for expanding our factory space and purchasing equipment for both research and development and production purposes. We have entered into several construction contracts for the expansion of our factory space in both Taiwan and Singapore. As of December 31, 2012, these construction contracts amounted to NT$7,810 million (US$269 million) with an unaccrued portion of the contracts of NT$4,722 million (US$163 million). In 2011 and 2012, we spent approximately NT$53,326 million and NT$52,186 million (US$1,796 million), respectively, primarily to purchase equipment for research and development and production purposes.

We continue to maintain high levels of capital expenditures as we believe there are promising opportunities for 28 – nanometer and 40 – nanometer technologies. We continue to devote most of our capital expenditure to improvement of advanced technology within 12-inch fabs. We will focus on our addressable markets (i.e., 40 & 28 – nanometer) and continue to build up our production capacity. We believe our 28—nanometer technology progress will propel our advanced process growth, strengthen our future competitiveness, and enhance our portfolio of comprehensive foundry solutions available to our customers.

We believe that our existing cash and cash equivalents and short-term investments will be sufficient to meet our working capital and capital expenditure requirements at least through the end of 2013. Due to rapid changes in technology in the semiconductor industry, however, we have frequent demand for investment in new manufacturing technologies. We cannot assure you that we will be able to raise additional capital, should that become necessary, on terms acceptable to us, or at all. If financing is not available on terms acceptable to us, management intends to reduce expenditures so as to delay the need for additional financing. To the extent that we do not generate sufficient cash flows from our operations to meet our cash requirements, we may rely on external borrowings and securities offerings to finance our working capital needs or our future expansion plans. The sale of additional equity or equity-linked securities may result in additional dilution to our stockholders. Our ability to meet our working capital needs from cash flow from operations will be affected by the demand for our products and change in our product mix, which in turn may be adversely affected by several factors. Many of these factors are beyond our control, such as economic downturns and declines in the average selling prices of our products. The average selling prices of our products have been subjected to downward pressure in the past and are reasonably likely to be subject to further downward pressure in the future. We have not historically relied, and we do not plan to rely in the foreseeable future, on off-balance sheet financing arrangements to finance our operations or expansion.

 

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Transactions with Related Parties

Our transactions with related parties have been conducted on arm’s-length terms. See “Item 7. Major Stockholders and Related Party Transactions-B. Related Party Transactions” and Note 27 to our audited consolidated financial statements included in this annual report.

Inflation/Deflation

We do not believe that inflation in the R.O.C. has had a material impact on our results of operations.

U.S. GAAP Reconciliation

Our consolidated financial statements are prepared in accordance with R.O.C. GAAP, which differs in certain significant respects from U.S. GAAP. Such differences include methods for measuring the amounts shown in the financial statements and additional disclosures required by U.S. GAAP. Note 36 to our audited financial statements, included in this annual report, provides a discussion and quantification of the differences between R.O.C. GAAP and U.S. GAAP as they related to us. We provide a summary of material differences included therein below.

The following table sets forth a comparison of our net income and stockholders’ equity in accordance with R.O.C. GAAP and U.S. GAAP for the periods indicated.

 

     Years Ended December 31,  
     2010     2011     2012  
     NT$     NT$     NT$     US$  
     (in millions)  

Consolidated net income

        

Consolidated net income, R.O.C. GAAP

     23,846        8,467        5,874        202   

U.S. GAAP adjustments

        

Compensation

     (397     (106     (10     —     

Equity investees

     (42     (11     3        —     

Investments in debt and equity securities

     (234     (210     (1,957     (67

Convertible bond liabilities

     —          21        27        1   

Goodwill and business combinations

     452        (1,308     —          —     

Treasury stock and related disposal

     (81     (179     (80     (3

Capital reduction and return from foreign operation

     —          —          (233     (8

Tax effect of U.S. GAAP adjustments

     —          (69     (515     (18
  

 

 

   

 

 

   

 

 

   

 

 

 

Consolidated net income, U.S. GAAP

     23,544        6,605        3,109        107   
  

 

 

   

 

 

   

 

 

   

 

 

 

Stockholders’ equity

        

Stockholders’ equity, R.O.C. GAAP

     225,136        212,125        205,021        7,058   

Compensation

     32        4        1        —     

Equity investees

     (142     (261     131        4   

Investments in debt and equity securities

     1,765        1,669        (247     (8

Convertible bond liabilities

     —          (522     (489     (17

Goodwill and business combinations

     1,301        (8     (8     —     

Treasury stock and related disposal

     (2,624     (2,044     (1,883     (65

Pension

     (345     (254     (722     (25

Tax effect of U.S. GAAP adjustments

     —          (69     (175     (6
  

 

 

   

 

 

   

 

 

   

 

 

 

Stockholders’ equity, U.S. GAAP

     225,123        210,640        201,629        6,941   
  

 

 

   

 

 

   

 

 

   

 

 

 

The differences between R.O.C. GAAP and U.S. GAAP that have a material effect on our net income and stockholders’ equity under R.O.C. GAAP were described as follows:

 

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Compensation expenses

Pursuant to our articles of incorporation, we are required, under certain circumstances, to distribute a certain percentage of unappropriated earnings as employee bonus and remuneration to directors. Please refer to “Item 10. Additional Information-B. Memorandum and Articles of Association-Dividends and Distributions”. Remuneration to directors is settled in cash. Our Articles of Incorporation specifies that employee bonus can be settled in cash or shares or a combination of both. Under both R.O.C. and U.S. GAAP, employee bonus is charged to compensation expense and accrued based on management’s estimate. The employee bonus is initially accrued during the current year based on management’s estimate according to our Article of Association with adjustment in the subsequent year after stockholders’ approval. Compensation expense relating to stock bonus is determined based on the fair market value of our common stock on the grant date. According to the R.O.C. ARDF Interpretation 96-052, “Accounting for Employee Bonus and Remunerations to Directors and Supervisors”, compensation expense relating to stock bonus is determined based on the fair value of our common stock at the date before the stockholders’ meeting. Under U.S. GAAP, compensation expense relating to stock bonus is measured at the fair market value on the date of stock distribution.

Under R.O.C. GAAP, we apply the intrinsic value method to recognize compensation cost for employee stock options granted before January 1, 2008. For stock options granted on or after January 1, 2008, we adopted R.O.C. SFAS 39 to recognize compensation cost using the fair value method, which is consistent with U.S. GAAP. We amortized share-based compensation expense over the vesting period based on the grant-date fair value. The fair value of liability awards is re-measured at each reporting date with fair value changes charged to compensation expenses accordingly. Compensation expense is recognized on a graded-vesting basis over the requisite service period of the options.

Investments in debt and equity securities

Under R.O.C. GAAP, investment in restricted stock, for which sale is restricted by governmental or contractual requirement is accounted for as an available-for-sale security, or a cost method investment and its fair value should be adjusted for the effect of restriction. Under U.S. GAAP, however, a restricted investment with restricted period over one year does not meet the definition of an equity security with readily determinable fair value, and therefore, it is accounted for as a cost method investment. In 2011, certain investments were reclassified from cost method investment under R.O.C. GAAP to available-for-sale securities under U.S. GAAP as the restricted period of these investments terminates within one year from the reporting date. These restricted investments were also classified as available-for-sale securities under R.O.C. GAAP at December 31, 2012, because the restriction expired in 2012.

When we lose our significant influence on an investment accounted for under the equity method and reclassify it as an available-for-sale security, the proportionate share of an investee’s equity adjustments for other comprehensive income should remain as a part of the carrying amount of the investment under R.O.C. GAAP and the dividends received from the available-for-sale security which were declared from pre-acquisition profits are deducted from the cost of the security. However, under U.S. GAAP, all of the investee’s equity adjustments for other comprehensive income should be offset against the carrying amount of the investment at the time significant influence is lost, and the dividends received from the available-for-sale security are accounted for as dividend income.

Our ownership interest in a subsidiary or equity investee may change, for example, (1) when an equity investee or a subsidiary issues additional shares and we subscribe for these shares at a percentage higher or lower than its current ownership percentage in the equity investees or subsidiaries, (2) when the employees of our subsidiaries or equity investees exercise their stock options, or (3) when the convertible bondholders of our subsidiaries or equity investees exercise their conversion rights. Under R.O.C. GAAP, the change in our proportionate share in the net assets of our equity investees or subsidiaries resulting from the issuance of additional shares of the investee’s stock, at the rate not proportionate to our existing equity ownership in such investees, is recorded to the additional paid-in capital and long-term investments account for an equity method investee, or noncontrolling interest for a subsidiary. Under U.S. GAAP, pursuant to ASC 810-10-45, Changes in a Parent’s Ownership Interest in a Subsidiary, a change in our ownership interest while the Company retains its controlling financial interest in its subsidiary shall be accounted for as equity transactions. Nevertheless, a dilution of ownership interest in an equity-method investee is recognized as a gain or loss, while an increase of ownership interest is accounted for as additional acquisition interest in an equity method investee, with the difference between the total cost of the additional investment and the proportionate share of the fair value of net assets treated as equity method goodwill.

 

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In June 2010, we acquired additional ownership interests in one of our subsidiaries. Under R.O.C. GAAP, the acquisition was accounted for using the purchase method of accounting. However, under U.S. GAAP, the acquisition was accounted for as an equity transaction. The difference between the fair value of the consideration paid and the book value of the noncontrolling interests is adjusted against stockholders’ equity.

In June 2010, a non-affiliated company invested for newly issued shares of one of our consolidated entities, reducing our ownership interest from 100% to 50%. Due to this transaction, we jointly controlled the entity and accounted for the entity as a joint venture. Under R.O.C. GAAP, the reduction of equity interest is adjusted against additional paid-in capital. However, under U.S. GAAP, we accounted for the transaction as a deconsolidation of a subsidiary and remeasured the remaining holding interests by recognizing a loss in net income attributable to us.

Under R.O.C. GAAP, if the carrying amount of non-current asset or disposal group will be recovered principally through sale rather than through continuing use and the asset or disposal group meets the criteria to be available for immediate sale in its present condition subject only to terms that are usual and customary for a sale and the sale is highly probable, the asset or disposal group would be classified as held-for-sale asset measured at the lower of carrying amount and fair value less costs to sell and separately presented in the balance sheet. For the sale to be highly probable, the management must be committed to a plan to sell the asset completely within one year, and the asset must be actively marketed for sale at a price that is reasonable compared to its current fair value. Equity-method investment shall be classified as held-for-sale asset if it meets all the above criteria. Under U.S. GAAP, ASC 360-10 Property, Plant, and Equipment, the criteria to classify long-lived asset or disposal group to held-for-sale asset is similar to R.O.C. GAAP. However, ASC 360-10 does not apply to financial instruments including investments in equity securities accounted for under the cost or equity method. As such, equity method investments are not classified as held-for-sale assets but shall continue to be accounted for under equity method until the significance influence is lost. In 2012, there is reclassification between R.O.C. GAAP and U.S. GAAP of one of our equity-method investments based on the above difference. The proportional equity pick up from the equity investment was insignificant for the year ended December 31, 2012.

Under R.O.C. GAAP, when an investor company holds 20% or more of an investee company’s outstanding voting securities but without the controlling power, unless it is evidenced that the investor company does not have significant influence over the investee company, the investor’s investment in the investee company’s equity securities, including preferred shares, shall be accounted for using the equity method. When an investor company invests in preferred stock of an investee company, equity method accounting is necessary if the investor has the ability to exercise its significant influence over the investee. Therefore, when determining the excess of cost of investment over underlying equity in net assets of the investee, and recognizing subsequent pick up of equity method gains or losses, we take these preferred shareholdings into consideration. In addition, excess of investment cost over the underlying net assets will be treated as equity-method goodwill as a component of the carrying value of the equity-method investment. If, however, there is excess of underlying net assets over the investment cost, the investee’s non-current assets, as components of the equity-method investment balance, will be subject to pro rata reduction with the remaining unallocated bargain purchase recognized immediately as an extraordinary gain.

Under U.S. GAAP, however, equity-method accounting generally applies only to investments in common stock and in-substance common stock that give the investor the ability to exercise significant influence over operating and financial policies of an investee. Unless when the investment in common stock and in-substance common stock is reduced to zero, at which time the Company’s other forms of investment, including preferred shares, may be required to report losses up to the Company’s investment carrying amount. Pursuant to ASC 323-10-15-13, in-substance common stock is an investment in an entity that has risk and reward characteristics that are substantially similar to that entity’s common stock. An investor shall consider all of the characteristics of the securities: subordination, risks and rewards of ownership and obligation to transfer value, when determining whether an investment in an entity is substantially similar to an investment in the entity’s common stock.

 

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In December 2011, after considering all the above mentioned characteristics, we conclude that our investment in an investee’s preferred shares is not in-substance common stock. Therefore, under U.S. GAAP the investment of preferred shares was reclassified from long-term investment accounted for under the equity method to financial assets measured at cost. We also reversed the effects of the pro rata reduction for the bargain purchase recognized, and recognized an equity-method goodwill as a component of the equity-method investment balance for our investment in common stocks. Additionally, we reversed the investment gain from the preferred shares recognized under R.O.C. GAAP.

Convertible bond liabilities

We issued convertible bonds in May 2011. Under R.O.C. GAAP, the bonds contain both a liability component and an equity component. The conversion right is classified in stockholders’ equity at its fair value at issuance. Under U.S. GAAP, the conversion right was determined to be a contract indexed to our own stock and, if it existed on a freestanding basis, would be classified in stockholders’ equity, meeting the scope exception described in ASC 815-10-15-74. As such, the conversion right is not considered to be a derivative instrument that is required to be bifurcated from the host contract.

In addition, under R.O.C. GAAP, the issuance costs are allocated proportionally to the equity and liability components. The amount allocated to the equity components is accounted for as a reduction of equity as well as the amount allocated to the liability component is accounted for as a bond discount. The issuance costs allocated to the liability component are amortized over the contractual life of the bonds using the effective interest rate method. Under U.S. GAAP, however, the entire issuance costs are reported as deferred charges and amortized over the contractual life of the bonds using the effective interest rate method.

Based on the above differences, we reclassified the equity component under R.O.C. GAAP to bonds payable under U.S. GAAP, and reclassified the issuance costs which are allocated to the liability and equity component under R.O.C. GAAP to deferred charges under U.S. GAAP. We also adjusted the differences resulting from the subsequent amortization of the bond discount and deferred charges as well as the subsequent redemption of the bonds.

Goodwill and business combinations

In accordance with R.O.C. GAAP, goodwill is measured separately on each acquisition, and it excludes goodwill in non-controlling interest. In a step acquisition, the acquirer does not re-measure its previously held equity interest in the acquiree, therefore, the acquisition does not result in gains or losses from re-measurements. Goodwill is not amortized and is subject to annual impairment tests or whenever events and circumstances change indicating goodwill may be impaired. The assessment of impairment includes identifying the goodwill-allocated cash generating unit (CGU), determining the recoverable amount of CGU by using a discounted cash flow analysis, and ultimately comparing the recoverable amount with the carrying amount of CGU including goodwill. If the CGU’s carrying amount is greater than its recoverable amount, an impairment loss is recognized. The impairment of goodwill cannot be reversed. When the fair value of identifiable net assets acquired exceeds the cost, the difference should be assigned to non-current assets acquired (except for financial assets not under equity method, assets to be disposed, deferred tax assets, prepaid pension or other retirement benefits cost) proportionate to their respective fair values. If these assets are all reduced to zero value, the remaining excess should be recognized as extraordinary gain.

Under U.S. GAAP, in a business combination achieved in stages, the acquirer shall re-measure its previously held equity interest in the acquiree at its acquisition-date fair value and recognize the resulting gain or loss. The acquirer shall recognize goodwill as of the acquisition date measured as the excess of (a) the aggregate of: (i) the consideration transferred, (ii) the fair value of any non-controlling interest in the acquiree, and (iii) the fair value of any previously held equity interest in the acquiree; over (b) the fair value of identifiable assets acquired and the liabilities assumed on the acquisition date; or gain on bargain purchase in which the amount as the excess of (b) exceeds the aggregate of the amounts specified in (a), after performing required reassessment of measurement procedures. Goodwill is not amortized and is subject to an annual impairment test or more frequently when events and circumstances indicate a possible impairment may exist. The first step of the impairment test is to compare the fair value of the reporting unit with its carrying value, including goodwill. If the carrying value of the reporting unit exceeds its fair value, the second step of the impairment test is to compare the implied fair value of the reporting unit goodwill with its carrying value. If the carrying amount of goodwill exceeds its fair value, the excess is recognized as impairment loss on the consolidated statements of income. Impairment of goodwill cannot be subsequently reversed.

 

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On November 30, 2010, we acquired additional stocks issued by one of our equity investee, which increased our ownership interest from 45.79% to 57.67%. Prior to the acquisition date, we accounted for its 45.79% interest as an equity-method investment. As a result of the acquisition, we obtained control over the acquiree and the results of the acquiree’s operations have been included in the consolidated financial statements since that date.

Under R.O.C. GAAP, a change in our proportionate share in the net assets of an equity investee resulting from our acquisition of additional stock issued by the equity investee at a rate not proportionate to our existing equity ownership is charged to the additional paid-in capital and long-term investments accounts. However, under U.S. GAAP, the acquisition of a controlling interest in acquiree is regarded as a business combination. The sum of the fair value of the consideration transferred, non-controlling interests and equity interest previously held by the acquirer exceeding the fair value of identifiable net assets is recorded as goodwill.

In September 2011, due to operating profits and cash flows were lower than expected since November 2010, given sharp deterioration in market condition, the acquiree determined some of its long lived assets were impaired pursuant to ASC360. The impairment loss also served as an indicator that goodwill might also be impaired. Accordingly, we conducted a two-step process to identify and measure the amount of impairment loss, if any. As the carrying amount of the subsidiary exceeded its fair value which was estimated by using the discounted cash flow based on earnings forecasts, its goodwill was considered to be impaired. To calculate the implied fair value of goodwill, we allocated the fair value to each asset and liability account as described in Note 36(7) of our audited financial statements. The excess of the reporting unit’s fair value over the total amounts allocated to each asset (except goodwill) and liability account would be the implied fair value of goodwill. As the carrying amount exceeded the implied fair value of the subsidiary’s goodwill, we recognized a goodwill impairment loss of in 2011 under U.S. GAAP. While the impairment assessment resulted in a full write down of goodwill under both R.O.C. GAAP and U.S. GAAP, the amount of the charge was different due to the difference in carrying values of goodwill under each GAAP.

Treasury stock and related disposal

Some of our subsidiaries and equity method investees also hold our shares as investments. Under R.O.C. GAAP, reciprocal shareholdings held by subsidiaries, but not equity investees, are recorded as treasury stocks on our books. Under U.S. GAAP, however, reciprocal shareholdings, whether being held by subsidiaries or equity investees, are recorded as treasury stocks on our books. Accordingly, we recognized treasury stocks for reciprocal shareholdings held by equity-method investees and eliminated the related unrealized gain (loss) or investment gain (loss) as they are accounted for as treasury stock under U.S. GAAP.

Pension

Under R.O.C. GAAP, a minimum pension liability should be measured as the excess of accumulated benefit obligation over the fair value of the plan assets and allowed the unrecognized items, including prior service costs and credits, gains or losses, and transition obligations or assets to be reported in disclosure shown as a plan’s funded status. Under U.S. GAAP, ASC 715-30, Defined Benefit Plans-Pension, requires an employer to recognize an asset for a plan’s overfunded status or a liability for a plan’s underfunded status with an offsetting adjustment to accumulated other comprehensive income.

Impairment of long-lived assets (excluding goodwill and other indefinite lived assets)

Under R.O.C. GAAP and U.S. GAAP, long-lived assets are evaluated for impairment at each balance sheet date or whenever events and changes in circumstances indicate that an asset or asset group may be impaired and the carrying amounts of these assets may not be recoverable. Under R.O.C. GAAP, the Company determines whether an asset is impaired by comparing the carrying amount to its recoverable amount, which is the higher of the asset’s fair value less costs to sell or the value in use determined by the future discounted cash flows to be generated by the asset and recognize an impairment loss, if any, to the extent that its carrying amount exceeds its recoverable amount.

 

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Under U.S. GAAP, pursuant to ASC 360, a two-step impairment test is required if impairment is indicated and the measurement model is as follows:

1. The carrying amount is first compared with the undiscounted cash flows. If the carrying amount is lower than the undiscounted cash flows, no impairment loss is recognized.

2. If the carrying amount is higher than the undiscounted cash flows, an impairment loss in measured as the difference between the carrying amount and fair value.

In 2011 and 2012, given the sharp deterioration in market condition, two of our subsidiaries had lower expected operating profits and cash flows and revised its earnings forecast for the next five years and determined that some of its long lived assets were impaired pursuant to ASC360. While the impairment assessment resulted in a adjusted carrying amount as fair value of long-lived assets under both R.O.C. GAAP and U.S. GAAP, the amount of the charge was different due to the difference in carrying values of long-lived assets under each GAAP as described in Note 36(3) for difference in application of equity accounting.

Additionally, under R.O.C. GAAP, for previously recognized losses, if there is evidence that impairment losses recognized no longer exists or has diminished, and the recoverable amount of the long-lived assets increase because of an increase in the assets’ estimated service potential, the losses may be reversed to the extent that the resulting carrying value of the assets do not exceed the carrying value had no impairment loss been recognized in prior years. Whereas impairment losses recognized cannot be reversed under U.S. GAAP. There were no reversal of impairment recognized on long-lived assets under R.O.C. GAAP for the years ended December 31, 2010, 2011 and 2012.

Inventory

Under R.O.C. GAAP, the write down of inventory for the lower of cost or net realizable value may be reversed in subsequent periods if market conditions improve. Under U.S. GAAP, the write down to lower of cost or market creates a new cost basis that subsequently cannot be marked up. Upon the sale of the related inventory, the difference between these two GAAPs is resolved.

Under R.O.C. GAAP, inventory is stated at the lower of cost or net realizable value, while under U.S. GAAP, inventory is stated at the lower of cost or market. ASC 330-10-20 defines “market” as current replacement cost (by purchase or reproduction) provided it meets both of the following conditions: (1) market should not exceed the net realizable value; and (2) market should not be less than net realizable value reduced by an allowance for an approximately normal profit margin. Net realizable value is defined as the estimated selling price in the ordinary course of business less reasonably predictable costs of completion and disposal. The market value of the Company’s work in progress and finished goods is measured at the contractual sales price less predictable costs of completion, while that of the raw materials is the replacement cost by purchase. Normally, the market floor of net realizable value reduced by an allowance for a normal profit margin is not applicable because the Company’s inventory is manufactured by contract, serving the specific requirements of its customers. Additionally, as the rule of lower of cost or market is intended to provide a means of measuring the residual usefulness of an inventory expenditure and the term “market” may be thought of in terms of the equivalent expenditure which would have to be made in the ordinary course at that date to procure corresponding utility, in the event when the estimated selling price, reduced by the costs of completion, is lower than current replacement cost, net realizable value would be determined to be the more appropriate measurement of utility. Therefore, the accounting for inventory at the lower of cost or net realizable value under R.O.C. GAAP is not materially different from the accounting for inventory at the lower of cost or market under U.S. GAAP.

 

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Capital reduction and return from foreign subsidiaries

Under R.O.C. GAAP, as the Company decreases its equity interests in a foreign operation through capital reduction and return of capital, the proportional difference of the accumulated currency translation adjustments before and after the capital reduction is recognized in profit or loss. However, under U.S. GAAP, foreign currency translation gains and losses that have been recorded as a component of other comprehensive income during the period for which settlement was not planned or anticipated remain in that account until partial or complete sale or complete or substantially complete liquidation of the investment in the foreign entity. In 2012, two of the Company’s foreign subsidiaries returned part of its capital by cash. Under R.O.C. GAAP, the difference of the accumulated currency translation adjustments before and after the capital reduction was recognized as exchange gain. Given the capital return was not made in connection with the sale or substantially complete liquidation of these foreign subsidiaries, the Company reversed the exchange gain under R.O.C. GAAP, and recorded as cumulative translation adjustment under U.S. GAAP.

Tax effect of U.S. GAAP adjustments

According to ASC 740-10, Income Taxes, our uncertain tax positions are accounted for based on a two-step process. The first step is to evaluate the tax position for recognition by determining if it is more likely than not that the position will be sustained based on the technical merits. The second step requires us to estimate and measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. Although ASC 740-10 provides further clarification of the accounting for uncertainty in income taxes recognized in the financial statements, significant management judgment must be made and used in connection with the recognition threshold and measurement attribute. Determination of our uncertain tax positions involves the legal and factual interpretation with respect to the application of relevant tax laws and regulations, along with our assessment of other factors including changes in facts or circumstances, changes in tax law, and/or effectively settled issues under audit. As mentioned above, the application of tax laws and regulations is inherently subject to legal and factual interpretation, judgment and uncertainty. In addition, tax laws and regulations themselves are subject to change as a result of changes in fiscal policy, changes in legislation, the evolution of regulations and court rulings. Therefore, the final settlement of these uncertain tax positions might be materially different from our estimates, which could result in the need to record additional tax liabilities or potentially reverse previously recorded tax liabilities. Unlike ASC 740-10, R.O.C. SFAS 22 contained no guidance on uniform criteria for an enterprise to recognize and measure potential tax benefits associated with uncertain tax positions.

Under R.O.C. GAAP, the 10% tax on undistributed earnings is recorded as an expense at the time shareholders resolve that its earnings shall be retained. Under U.S. GAAP, 10% income tax impact is provided in the period the income is earned, assuming that no earnings are distributed. Any reduction in the liability will be recognized when the income is distributed upon the stockholders’ approval in the subsequent year. Tax on undistributed earnings may be offset by the Company’s available tax credits carried forward, where applicable. As such, the incremental tax accrued on undistributed earnings may be offset by a corresponding reduction in valuation allowance, where applicable.

Moreover, additional tax benefit (expense) and deferred tax assets or liabilities would be adjusted for the reconciled items between R.O.C. GAAP and U.S. GAAP due to temporary difference in connection with the recognition of the book-to-tax basis difference of the Company’s investment in UMCJ, immediately following its decision to dissolve and liquidate UMCJ. While R.O.C. GAAP requires subsequent changes in deferred tax balances as of the beginning of the year to be recorded in equity, if the deferred tax is related to an equity classified item, ASC 740, Income Taxes, requires all such changes to be recognized as current income tax expense.

Recent Accounting Pronouncements

In December 2011, the FASB issued ASU 2011-11 Balance Sheet (Topic 210) Disclosures about Offsetting Assets and Liabilities. The new requirement is about disclosure of the nature of an entity’s rights of setoff and related arrangements associated with its financial instruments and derivative instruments. The Update is designed to make financial statements that are prepared under U.S. GAAP more comparable to those prepared under IFRSs. The ASU is effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods, with retrospective application required. This standard is not expected to have a material impact on our future consolidated financial statements.

 

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In July 2012, the FASB issued ASU 2012-02 Intangibles—Goodwill and Other (Topic 350) Testing Indefinite-Lived Intangible Assets for Impairment. The amendment is intended to simplify testing of indefinite-lived intangible assets for impairment providing the option to perform “qualitative” assessments first. If, after assessing the totality of events and circumstances, an entity concludes that it is not more likely than not that the indefinite-lived intangible asset is impaired, the requirement to perform quantitative impairment test is eliminated by this standard. The amendment is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted. This standard is not expected to have a material impact on our consolidated financial statements.

In January 2013, the FASB issued ASU 2013-01 Balance Sheet (Topic 210) Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities. The amendments in this Update clarify that the scope of the disclosures under U.S. GAAP is limiting the scope of the new balance sheet offsetting disclosures to derivatives, repurchase agreement and reverse repurchase agreement, and securities lending and securities borrowing transactions to the extent that they are (1) offset in the financial statements or (2) subject to an enforceable master netting arrangement or similar agreement. The ASU is effective for fiscal years beginning on or after January 1, 2013, and interim periods within those annual periods, with retrospective for all comparative periods presented required. This standard is not expected to have a material impact on our consolidated financial statements.

In February 2013, the FASB issued ASU 2013-02 Comprehensive Income (Topic 220) Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. The amendment requires an entity to provide information about reclassification adjustments out of accumulated other comprehensive income by component, either on the face of the statement where net income is presented or in the notes, based on its source and the income statement line items affected by the reclassification. If a component is not required to be reclassified to net income in its entirety (e.g., the net periodic pension cost), we would instead cross reference to the related footnote for additional information (e.g., the pension footnote). The amendment is effective prospectively for reporting periods beginning after December 15, 2012. We are currently evaluating the impact that the adoption of ASU 2013-02 will have on our consolidated financial statements.

In February 2013, the FASB issued ASU 2013-04 Liabilities (Topic 405) Obligations Resulting from Joint and Several Liability Arrangements for Which the Total Amount of the Obligation Is Fixed at the Reporting Date. This Update requires an entity to measure obligations resulting from joint and several liability arrangements for which the total amount of the obligation within the scope of this guidance is fixed at the reporting date, as the sum of (a) the amount the reporting entity agreed to pay on the basis of its arrangement among its co-obligors and (b) any additional amount the reporting entity expects to pay on behalf of its co-obligors. It also requires an entity to disclose the nature and amount of the obligation as well as other information about those obligations. The ASU is effective for fiscal years beginning after December 15, 2013 with early adoption permitted. This standard is not expected to have a material impact on our consolidated financial statements.

In February 2013, the FASB issued ASU 2013-05 Foreign Currency Matters (Topic 830) Parent’s Accounting for the Cumulative Translation Adjustment upon Derecognition of Certain Subsidiaries or Groups of Assets within a Foreign Entity or of an Investment in a Foreign Entity. The amendments in this Update clarify the applicable guidance for the release of the cumulative translation adjustment under current U.S. GAAP. The amendment clarifies the cumulative translation adjustment should be released into net income when the sale of an investment in a foreign entity includes both (1) events that result in the loss of a controlling financial interest in a foreign entity and (2) events that result in an acquirer obtaining control of an acquiree in which it held an equity interest immediately before the acquisition date. The ASU is effective for fiscal years beginning after December 15, 2013. The amendments should be applied prospectively to derecognition events occurring after the effective date. Prior periods should not be adjusted. An entity is permitted to early adopt the amendments, and should apply them as of the beginning of the entity’s fiscal year of adoption. We are currently evaluating the potential impact, if any, that the adoption of ASU 2013-05 will have on our consolidated financial statements.

 

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C. Research, Development, Patents and Licenses, Etc.

The semiconductor industry is characterized by rapid changes in technology, frequently resulting in obsolescence of process technologies and products. As a result, effective research and development is essential to our success. We invested approximately NT$8,740 million, NT$9,395 million and NT$9,787 million (US$337 million) in 2010, 2011 and 2012, respectively, in research and development, which represented 6.9%, 8.0% and 8.5%, respectively, of net operating revenues for such years. We believe that our continuous spending on research and development will help us maintain our position as a technological leader in the foundry industry. As of March 31, 2013, we employed 1,127 professionals in our research and development division.

Our current research and development activities seek to upgrade and integrate manufacturing technologies and processes, as well as to drive 28 nanometer technology in mass production, and to develop 14 nanometer technology including EUV (Extreme Ultraviolet) lithography, and FinFET (Fin Field-Effect Transistor). Although we emphasize firm-wide participation in the research and development process, we maintain central research and development teams primarily responsible for developing cost-effective technologies that can serve the manufacturing needs of our customers. Monetary incentives are provided to our employees if projects result in successful patents. We believe we have a strong foundation in research and development and intend to continue our efforts on technology developments. Our top management believes in the value of continued support of research and development efforts and intends to continue our foundry leadership position by providing customers with comprehensive technology and SoC solutions in the industry.

D. Trend Information

Please refer to “Item 5. Operating and Financial Review and Prospects—Overview” for a discussion of the most significant recent trends in our production, sales, costs and selling prices. In addition, please refer to discussions included in this Item for a discussion of known trends, uncertainties, demands, commitments and events that we believe are reasonably likely to have a material effect on our net operating revenues, income from continuing operations, profitability, liquidity or capital resources, or that would cause reported financial information not necessarily to be indicative of future operating results or financial condition.

E. Off-balance Sheet Arrangements

We do not generally provide letters of credit to, or guarantees for, or engage in any repurchase financing transactions with any entity other than our consolidated subsidiaries. We have, from time to time, entered into foreign currency forward contracts to hedge our existing assets and liabilities denominated in foreign currencies and identifiable foreign currency purchase commitments. We do not engage in any speculative activities using derivative instruments. See “Item 11. Quantitative and Qualitative Disclosure About Market Risk”.

F. Tabular Disclosure of Contractual Obligations

The following table sets forth our contractual obligations and commitments with definitive payment terms on a consolidated basis which will require significant cash outlays in the future as of December 31, 2012.

 

     Payments Due by Period  
     Total      Less than
1 Year
     1-3 Years      4-5 Years      After
5-Years
 
     (in NT$ millions)  

Long-term debt (1)

              

Unsecured bonds

     26,930         —           4,651         12,279         10,000   

Long-term loans

     14,821         4,595         5,315         4,911         —     

Operating lease obligations (2)

     4,178         466         786         657         2,269   

Purchase obligations (3)

     390         152         238         —           —     

Other long-term obligations (4)

     3,357         3,088         251         7         11   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total contractual cash obligations

     49,676         8,301         11,241         17,854         12,280   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

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(1) Assuming the exchangeable bonds, convertible bonds and domestic bonds are paid off upon maturity.
(2) Represents our obligations to make lease payments to use machineries, equipment and land on which our fabs are located, primarily in the Hsinchu Science Park and the Tainan Science Park in Taiwan, Pasir Ris Wafer Fab Park in Singapore.
(3) Represents commitments for purchase of raw materials. These commitments are not recorded on our balance sheet as of December 31, 2012.
(4) Represents intellectual properties and royalties payable under our technology license agreements. The amounts of payments due under these agreements are determined based on fixed contract amounts.

ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

A. Directors and Senior Management

The following table sets forth the name, age, position, tenure and biography of each of our directors and executives as of March 31, 2013. There is no family relationship among any of these persons.

In the stockholders’ meeting held on June 12, 2012, our stockholders elected nine new directors, Stan Hung, Wen-Yang Chen, Ting-Yu Lin, Po-Wen Yen, Shih-Wei Sun, Paul S.C. Hsu, Chung-Laung Liu, Chun-Yen Chang and Cheng-Li Huang. The newly elected directors took their offices on June 12, 2012. The business address of our directors and executive officers is the same as our registered address.

 

Name

   Age    

Position

   Years
with Us
 

Stan Hung

     52      Chairman and Director      21   

Shih-Wei Sun

     55      Vice-Chairman and Director (Representative of Silicon Integrated Systems Corp.)      18   

Po-Wen Yen

     56      Chief Executive Officer and Director (Representative of Hsun Chieh Investment Co.)      26   

Wen-Yang Chen

     60      Director (Representative of UMC Science and Culture Foundation) and Chief Operating Officer      33   

Ting-Yu Lin

     52      Director      7   

Paul S.C. Hsu (1)

     77      Independent Director      9   

Chung-Laung Liu (1)

     79      Independent Director      7   

Chun-Yen Chang (1)

     76      Independent Director      7   

Cheng-Li Huang (1)

     64      Independent Director      4   

Chitung Liu

     47      Chief Financial Officer      12   

 

(1) Member of the Audit Committee.

Stan Hung is a director and the Chairman of our company. Mr. Hung was our CFO & Senior Vice President from 2000 to 2007. He was also the Chairman of Epitech Technology Corporation in 2007 and ITE Technology Corporation for a portion of 2008, respectively. Prior to re-joining United Microelectronics Corporation in 1991, Mr. Hung was a financial manager at Optoelectronics Corporation. He is also the Chairman of Fortune Venture Capital Corporation, TLC Capital Co., Nexpower Technology Corporation, UMC New Business Investment Corporation, Best Elite International Limited, Crystalwise Technology Inc., and a Director of Epistar Corporation. Mr. Hung received a bachelor’s degree in accounting from Tam Kang University in 1982.

Shih-Wei Sun is a director and the Vice-Chairman of our company. Dr. Sun is a representative of Silicon Integrated Systems Corp. Dr. Sun joined us in 1995 and has been responsible for the operation of our Fabs 6A, 8A, 8D and 12A, along with Central Research & Development. Prior to joining us, Dr. Sun worked for Motorola in the Advanced Products Research and Development Laboratory for ten years. Dr. Sun is also the Chairman of UMC Science and Culture Foundation. Dr. Sun holds a Ph.D. degree in electronics materials from Northwestern University in 1986.

Po-Wen Yen is a director of our company and our Chief Executive Officer. Prior to becoming our Chief Executive Officer, Mr. Yen was our senior vice president responsible for 12-inch operations. Mr. Yen is a representative of Hsun Chieh Investment Co. Mr. Yen joined us in 1986 and was responsible for the operation of Fabs 8A and 8C. He also served as the vice president for UMC-SG, our 300mm operation in Singapore. He is also a director of Fortune Venture Capital Corporation, TLC Capital Co., UMC New Business Investment Corporation, and Best Elite International Limited. In 2003, Mr. Yen received the National Manager Excellence Award from Chinese Professional Management Association. Mr. Yen earned a bachelor’s degree in Chemical Engineering from National Tsing Hua University and his master’s degree in chemical engineering from National Taiwan University.

 

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Wen-Yang Chen is a director of our company and in 2012 served as our Chief Operating Officer responsible for fab operations. Mr. Chen is a representative of UMC Science and Culture Foundation. Prior to joining us, Mr. Chen worked for companies including Digital Equipment Corporation and Vishay. Mr. Chen joined us in 1980 and was responsible for the operation of our 6A, 8A, 8E, 8D and 8F Fabs, specializing in development and integration of semiconductor processes and factory management. Mr. Chen is also the Chairman of Wavetek Microelectronics Corporation as well as a director of Fortune Venture Capital Corporation, TLC Capital Co., UMC New Business Investment Corporation, and a director of UMC Science and Culture Foundation. Mr. Chen received Award of the Excellent Engineers from Chinese Institute of Engineers in 1994 and Manager Excellence Award in 2002.

Ting-Yu Lin is a director of our company. Mr. Lin is also the chairman of Sunrox International Inc. Mr. Lin received a master’s degree in international finance from Meiji University in 1993.

Paul S.C. Hsu is an independent director of our company. Professor Hsu is a Chair Professor & University Professor of Yuan-Ze University, Taiwan, the Chairman of Social Ethics Association and the Chairman of Taiwan Institute of Directors. Professor Hsu is an independent director of Faraday Technology Corporation and Gintech Energy Corporation and a supervisor of Far Eastern International Bank. Professor Hsu received a Ph.D. degree in business administration from the University of Michigan in 1974.

Chung-Laung Liu is an independent director of our company. Professor Liu is the William M.W. Mong Honorary Chair Professor of National Tsing Hua University, Taiwan. Professor Liu is also the Chairman of DRAMeXchange Corporation, a supervisor of MediaTek Incorporation, an independent director of Richteck Technology Corp., and Powerchip semiconductor Corp., as well as a director of Macronix International Co., Ltd. Professor Liu received a doctorate degree in science from Massachusetts Institute of Technology in 1962.

Chun-Yen Chang is an independent director of our company. Professor Chang is an academician of Academia Sinica and a chair professor and president of National Chiao Tung University, Taiwan. Professor Chang is also an independent director of BizLink Holding Inc. Professor Chang received a Ph.D. degree in electrical engineering from National Chiao Tung University in 1970.

Cheng-Li Huang is an independent director of our company. Dr. Huang was a professor of Tamkang University and served as its Comptroller. He was also the chief executive of Tamkang Accounting Education Foundation and the publisher of Journal of Contemporary Accounting. Professor Huang is also a supervisor of Win Semiconductors Corp. Professor Huang received a Ph.D. degree in accounting from University of Warwick in 1999.

Chitung Liu is the Chief Financial Officer of our company. Prior to joining our company in 2001, Mr. Liu was a managing director of UBS. Mr. Liu is also a director of Unimicron Corporation, UMC New Business Investment Corporation Fortune Venture Capital Corporation, TLC Capital Co., Ltd. and Nexpower Technology Corp., Mr. Liu received an executive MBA degree from National Taiwan University in 2009.

B. Compensation

The aggregate compensation paid and benefits in kind granted to our directors in 2012 were approximately NT$11 million (US$0.36million). The remuneration was out of our 2012 earnings distribution plan, and the distribution percentage for directors is 0.1%. See “Item 10. Additional Information-B. Memorandum and Articles of Association-Dividends and Distributions”. Some of the remuneration was paid to the legal entities which some of our directors represent. The aggregate compensation paid and benefits in kind granted to our executive officers in 2012 were approximately NT$138 million (US$4.75 million), which include NT$51 million as bonus. Certain of our directors who also served as executive officers held stock options to purchase 10.7 million shares as of March 31, 2013.

 

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C. Board Practices

All of our directors were elected in June 2012 for a term of three years. Neither we nor any of our subsidiaries has entered into a contract with any of our directors by which our directors are expected to receive benefits upon termination of their employment.

Our board of directors established an audit committee in March 2005. In the annual ordinary stockholders’ meeting held on June 13, 2008, we amended our articles of incorporation to introduce the mechanism of an Audit Committee. See “Item 10. Additional Information—B. Memorandum and Articles of Association—Directors”. After the re-election of directors in the stockholders’ meeting on June 12, 2012, our board of directors appointed Paul S.C. Hsu, Chung-Laung Liu, Chun-Yen Chang and Cheng-Li Huang to be the members of the audit committee. Each audit committee member is an independent director who is financially literate with accounting or related financial management expertise. The audit committee meets as often as it deems necessary to carry out its responsibilities. Pursuant to an audit committee charter, the audit committee has responsibility for, among other things, overseeing the qualifications, independence and performance of our internal audit function and independent auditors, and overseeing the accounting policies and financial reporting and disclosure practices of our company. The audit committee also has the authority to engage special legal, accounting or other consultants it deems necessary in the performance of its duties.

Remuneration Committee

The R.O.C. Securities and Exchange Act, as amended on November 24, 2010, further introduced the mechanism of a “Remuneration Committee”, which requires all the publicly listed companies in the R.O.C., including our company, to adopt a remuneration committee. On March 18, 2011, R.O.C. FSC promulgated the Regulations Governing the Establishment and Exercise of Powers by Compensation Committees of Public Companies, according to which, listing companies of our size shall set up the compensation committee no later than September 30, 2011 and the remuneration committee shall be composed of no less than three members commissioned by the board of directors. In addition, for a company with independent directors, such as us, at least one of committee members shall be the independent director of such company. We established a remuneration committee in accordance with Article 14-6 of the R.O.C. Securities and Exchange Act on April 27, 2011. The members of the remuneration committee are independent directors Chun-Yen Chang, Chung-Laung Liu, Paul S.C. Hsu, and Cheng-Li Huang, with Chun-Yen Chang serving as convener and chairperson. We amended our articles of incorporation to introduce the mechanism of our remuneration committee in the annual ordinary stockholders’ meeting held on June 15, 2011.

In November 2003, the Securities and Exchange Commission approved changes to the NYSE’s listing standards related to the corporate governance practices of listed companies. Under these rules, listed foreign private issuers, like us, must disclose any significant ways in which their corporate governance practices differ from those followed by NYSE-listed U.S. domestic companies under the NYSE’s listing standards. A copy of the significant differences between our corporate governance practices and NYSE corporate governance rules applicable to U.S. companies is available on our website http://www.umc.com/english/investors/Corpgovdifference.asp.

D. Employees

As of March 31, 2013, we had 13,722 employees, which includes 7,857 engineers, 5,392 technicians and 473 administrative staff performing administrative functions in Taiwan and our Singapore branch. We have in the past implemented, and may in the future evaluate the need to implement, labor redundancy plans based on the work performance of our employees.

 

     As of December 31,  
     2010      2011      2012  

Employees

        

Engineers

     7,365         7,581         7,857   

Technicians

     5,835         5,456         5,392   

Administrative Staff

     471         462         473   
  

 

 

    

 

 

    

 

 

 

Total

     13,671         13,499         13,722   
  

 

 

    

 

 

    

 

 

 

 

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Employee salaries are reviewed annually. Salaries are adjusted based on industry standards, inflation and individual performance. As an incentive, additional bonuses in cash may be paid at the discretion of management based on the performance of individuals. In addition, except under certain circumstances, R.O.C. law requires us to reserve from 10% to 15% of any offerings of our new shares for employees’ subscription.

Our employees participate in our profit distribution pursuant to our articles of incorporation. Employees are entitled to receive additional bonuses based on a certain percentage of our allocable surplus income. On March 13, 2013, the board of directors proposed an employee bonus in cash in the amount of NT$1,040 million (US$35.81 million) in relation to retained earnings in 2012.

Our employees are not covered by any collective bargaining agreements. We believe we have a good relationship with our employees.

E. Share Ownership

As of March 31, 2013, each of our directors and executive officers held shares and/or ADSs of United Microelectronics, either directly for their own account or indirectly as the representative of another legal entity on our board of directors, except for Chung-Laung Liu, Paul S.C. Hsu, Chun-Yen Chang and Cheng-Li Huang, our independent directors. As of March 31, 2013, none of our directors or executive officers held, for their own account, 0.1% or more of our outstanding shares. As of April 13, 2013, our most recent record date, Hsun Chieh Investment Co. held approximately 441 million of our shares, representing approximately 3.4% of our issued shares. Silicon Integrated Systems Corp. held approximately 315 million of our shares, representing approximately 2.4% of our issued shares. Stan Hung held approximately 14 million of our shares, representing approximately 0.1% of our issued shares. Ting-Yu Lin held approximately 13 million of our shares, representing approximately 0.1% of our issued shares. We have an Employee Stock Options Plan, pursuant to which options may be granted to our full-time regular employees, including those of our domestic and overseas subsidiaries. The exercise price for the options would be the closing price of our common shares on the Taiwan Stock Exchange on the day the options are granted, while the expiration date for such options is 6 years from the date of its issuance. In September 2004, December 2005, October 2007 and May 2009, we obtained approvals from relevant R.O.C. authorities for the grant of up to 150 million, 350 million, 500 million and 500 million stock options, respectively, to acquire our common shares under our Employee Stock Options Plan. In April 2005, August 2005, September 2005, January 2006, May 2006, August 2006, December 2007 and June 2009, we granted 23 million, 54 million, 52 million, 39 million, 42 million, 28 million, 500 million and 300 million stock options, respectively, to our employees, with an exercise price of 22.37, 29.47, 26.89, 23.17, 25.19, 24.09, 18.03 and 10.40, respectively. The 23 million stock options with exercise price of 22.37 that we granted in April 2005, the 54 million stock options with exercise price of 29.47 that we granted in August 2005, the 52 million stock options with exercise price of 26.89 that we granted in September 2005, and the 39 million stock options with exercise price of 23.17 that we granted in January 2006, expired on April 28, 2011, August 15, 2011, September 28, 2011 and January 3, 2012, respectively.

According to our Employee Stock Options Plan, an option holder may exercise an increasing portion of his or her options starting two years after the grant of the options. According to the vesting schedule, 50%, 75% and 100% of such option holder’s options shall vest two, three and four years after the grant of the options, respectively. Upon a voluntary termination or termination in accordance with the R.O.C. Labor Law, the option holder shall exercise his or her vested options within 30 days, subject to exceptions provided therein, and after the termination otherwise such options shall terminate. If termination was due to death, the heirs of such option holder have one year starting from the date of the death to exercise his or her vested options. If termination was due to retirement or occupational casualty, the option holder or his or her heirs may exercise all his or her options within a certain period as provided. The options are generally not transferable or pledgeable by the option holders. The total number of shares issuable upon exercise of option held by our directors and executive officers as of March 31, 2013 was 23.3 million. The units granted to each of our directors and executive officers as a percentage of our total shares as of March 31, 2013 were less than 1%.

 

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ITEM 7. MAJOR STOCKHOLDERS AND RELATED PARTY TRANSACTIONS

A. Major Stockholders

The following table sets forth information known to us with respect to the beneficial ownership of our shares as of (i) April 13, 2013, our most recent record date and (ii) as of certain record dates in each of the preceding three years, for (1) the stockholders known by us to beneficially own more than 2% of our shares and (2) all directors and executive officers as a group. Beneficial ownership is determined in accordance with Securities and Exchange Commission rules.

 

     As of April 17, 2011     As of April 14, 2012     As of April 13, 2013  
     Percentage of
shares beneficially
owned
    Percentage of
shares beneficially
owned
    Percentage of
shares beneficially
owned
    Number of
shares beneficially
owned
 

Name of Beneficial Owner

        

Hsun Chieh Investment Co., Ltd. (1)

     3.4     3.4     3.4     441,371,000   

Silicon Integrated Systems Corp.

     2.4     2.4     2.4     315,380,424   

Directors and executive officers as a group

     6.22     6.26     6.27     811,875,046   

 

(1) 36.5% owned by United Microelectronics Corp. as of March 31, 2013.

None of our major stockholders have different voting rights from those of our other stockholders. To the best of our knowledge, we are not directly or indirectly controlled by another corporation, by any foreign government or by any other natural or legal person severally or jointly.

For information regarding our shares held or beneficially owned by persons in the United States, see “Item 9. The Offer and Listing-A. Offer and Listing Details-Market Price Information for Our American Depositary Shares” in this annual report.

B. Related Party Transactions

From time to time we have engaged in a variety of transactions with our affiliates. We generally conduct transactions with our affiliates on an arm’s-length basis. The sales and purchase prices with related parties are determined through negotiation, generally based on market price.

The following table shows our aggregate ownership interest, on a consolidated basis, in major related fabless design companies that we enter into transactions from time to time as of December 31, 2012.

 

Name

   Ownership %  

Silicon Integrated Systems Corp.

     19.26   

We provide foundry services to these fabless design companies on arm’s-length prices and terms. We derived NT$777 million, NT$237 million and NT$256 million (US$9 million) of our net operating revenues in 2010, 2011 and 2012, from the provision of our foundry services to these fabless design companies.

C. Interests of Experts and Counsel

Not applicable.

 

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ITEM 8. FINANCIAL INFORMATION

A. Consolidated Statements and Other Financial Information

Please refer to Item 18 for a list of all financial statements filed as part of this annual report on Form 20-F.

Except as described in “Item 4. Information on the Company-B. Business Overview-Litigation”, we are not currently involved in material litigation or other proceedings that may have, or have had in the recent past, significant effects on our financial position or profitability.

As for our policy on dividend distributions, see “Item 10. Additional Information—B. Memorandum and Articles of Association—  Dividends and Distributions”. On June 15, 2010, our stockholders approved a cash dividend of NT$0.5 per share for an aggregate of NT$6,233,001,658. On June 15, 2011, our stockholders approved a cash dividend of NT$1.12 per share for an aggregate of NT$14,033,575,265. On July 8, 2011, the Board of Directors resolved to adjust the cash dividend ratio to NTD$1.11164840 per share, because the outstanding common shares had increased accordingly as a result of the exercise of employee stock options. On June 12, 2012, our stockholders approved a cash dividend of NT$0.5 per share for an aggregate of NT$6,316,434,833. On June 20, 2012, the Board of Directors resolved to adjust the cash dividend ratio to NTD$ 0.49980232 per share, because the outstanding common shares had increased accordingly as a result of the exercise of employee stock options. On March 13, 2013, the board of directors proposed dividends of NT$ 5,061,310,216 (approximately NT$0.4 per share).

The following table sets forth the cash dividends per share and stock dividends per share as a percentage of shares outstanding paid during each of the years indicated in respect of shares outstanding at the end of each such year, except as otherwise noted.

 

     Cash Dividend
per Share
     Stock Dividend
per Share
     Total Number of
Shares Issued as
Stock Dividend
     Number of
Outstanding
Shares at Year
End
 
     NT$      NT$                

1997

     —           3.0         868,629,276         4,117,758,265   

1998

     —           2.9         1,199,052,940         5,480,221,725   

1999

     —           1.5         834,140,790         6,638,054,462   

2000

     —           2.0         1,809,853,716         11,439,016,900   

2001

     —           1.5         1,715,104,035         13,169,235,416   

2002

     —           1.5         1,968,018,212         15,238,578,646   

2003

     —           0.4         607,925,145         15,941,901,463   

2004

     —           0.8         1,288,558,185         17,550,800,859   

2005

     0.1029         1.029         1,758,736,435         18,856,632,324   

2006

     0.409141420         0.10228530         179,031,672         19,131,192,690   

2007

     0.7         —           —           13,214,494,883   

2008

     0.75         0.45         562,958,816         12,987,771,315   

2009

     —           —           —           12,987,771,315   

2010

     0.5         —           —           12,987,912,315   

2011

     1.11164840         —           —           13,084,341,565   

2012

     0.49980232               12,951,805,540   

 

(1) We declare stock dividends in a NT dollar amount per share, but we pay the stock dividends to our stockholders in the form of shares. The amount of shares distributed to each stockholder is calculated by multiplying the dividend declared by the number of shares held by the given stockholder, divided by the par value of NT$10 per share. Fractional shares are not issued but are paid in cash.

 

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B. Significant Changes

For the significant subsequent events following the close of the last financial year up to the date of this annual report on Form 20-F, please refer to Note 31 to the consolidated financial statements.

ITEM 9. THE OFFER AND LISTING

A. Offer and Listing Details

Market Price Information for Our Shares

Our shares have been listed on the Taiwan Stock Exchange since July 1985. There is no public market outside Taiwan for our shares. The table below shows, for the periods indicated, the high and low closing prices and the average daily volume of trading activity on the Taiwan Stock Exchange for our shares. The closing price for our shares on the Taiwan Stock Exchange on April 24, 2013 was NT$11.40 per share.

 

     High      Low      Average Daily
Trading
Volume
 
     NT$      NT$      (in thousands
of shares)
 

2008

     20.30         6.80         37,521.00   

2009

     17.20         7.10         85,869.55   

2010

     18.60         12.95         53,660.37   

2011

     18.10         10.45         44,048.44   

First Quarter

     18.10         14.10         70,662.07   

Second Quarter

     15.60         13.95         37,160.89   

Third Quarter

     14.45         10.45         43,958.27   

Fourth Quarter

     13.35         11.30         27,100.94   

2012

     15.65         10.10         39,247.79   

First Quarter

     15.65         12.60         43,434.55   

Second Quarter

     15.55         11.80         37,797.20   

Third Quarter

     13.40         11.65         32,337.63   

Fourth Quarter

     12.10         10.10         43,721.73   

October

     12.10         10.85         22,459.78   

November

     11.25         10.10         45,008.93   

December

     12.00         11.10         64,647.67   

2013 (through April 24)

     12.40         10.90         41,684.47   

First Quarter

     12.40         10.90         43,751.54   

January

     12.40         11.20         49,116.86   

February

     11.65         11.10         34,449.92   

March

     11.60         10.90         43,293.25   

Second Quarter (through April 24)

     11.40         11.00         35,231.50   

April (through April 24)

     11.40         11.00         35,231.50   

 

Source: Taiwan Stock Exchange.

(1) Information has been adjusted to give effect to 562,958,816 Shares and 114,616,567 Shares issued as stock dividend and employee bonus, respectively, in August 2008.

Market Price Information for Our American Depositary Shares

Our ADSs have been listed on the NYSE under the symbol “UMC” since September 19, 2000. The outstanding ADSs are identified by the CUSIP number 910873 40 5. The table below shows, for the periods indicated, the high and low closing prices and the average daily volume of trading activity on the NYSE for our ADSs. The closing price for our ADSs on the New York Stock Exchange on April 23, 2013 was US$1.85 per ADS. Each of our ADSs represents the right to receive five shares.

 

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     High      Low      Average Daily
Trading
Volume
 
     NT$      NT$      (in thousands
of shares)
 

2008

     3.71         1.51         5,780,890   

2009

     3.88         1.65         5,106,249   

2010

     4.22         2.55         3,932,515   

2011

     3.46         1.79         3,454,527   

First Quarter

     3.46         2.50         4,156,134   

Second Quarter

     2.84         2.46         3,632,388   

Third Quarter

     2.56         1.79         3,540,807   

Fourth Quarter

     2.35         1.85         2,498,545   

2012

     2.72         1.75         2,733,811   

First Quarter

     2.72         2.14         3,363,260   

Second Quarter

     2.72         1.95         3,401,801   

Third Quarter

     2.24         1.98         2,305,720   

Fourth Quarter

     2.10         1.75         1,860,593   

October

     2.10         1.88         1,452,582   

November

     1.96         1.75         1,985,330   

December

     2.05         1.89         2,158,031   

2013 (through April 23)

     2.15         1.77         2,458,650   

First Quarter

     2.15         1.80         2,651,914   

January

     2.15         1.92         3,887,406   

February

     1.95         1.81         2,092,008   

March

     1.91         1.80         1,886,557   

Second Quarter (through April 23)

     1.85         1.77         1,776,543   

April (through April 23)

     1.85         1.77         1,776,543   

 

Sources: Bloomberg

As of March 31, 2013, there were a total of 229,568,276 ADSs listed on the NYSE. With certain limited exceptions, holders of shares that are not R.O.C. persons are required to hold these shares through a brokerage or custodial account in the R.O.C. As of March 31, 2013, 1,147,841,380 ordinary shares were registered in the name of a nominee of JPMorgan Chase & Co., the depositary under the deposit agreement. JPMorgan Chase & Co. has advised us that, as of March 31, 2013, 229,351,559 ADSs representing these 1,146,757,795 shares were held of record by Cede & Co., and 216,717 ADSs were held by U.S. registered stockholders. We have no further information as to shares held or beneficially owned by U.S. persons.

B. Plan of Distribution

Not applicable.

C. Markets

The principal trading markets for our shares are the Taiwan Stock Exchange and the New York Stock Exchange, on which our shares trade in the form of ADSs.

D. Selling Stockholders

Not applicable.

E. Dilution

Not applicable.

 

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F. Expenses of the Issue

Not applicable.

ITEM 10. ADDITIONAL INFORMATION

A. Share Capital

Not applicable.

B. Memorandum and Articles of Association

The following statements summarize the material elements of our capital structure and the more important rights and privileges of stockholders conferred by R.O.C. law and our articles of incorporation.

Objects and Purpose

The scope of business of United Microelectronics as set forth in Article 2 of our articles of incorporation, includes (i) integrated circuits; (ii) semiconductor parts and components; (iii) parts and components of microcomputers, microprocessors, peripheral support and system products; (iv) parts and components of semiconductor memory systems products; (v) semiconductor parts and components for digital transceiver product and system products; (vi) semiconductor parts and components for telecom system and system products; (vii) testing and packaging of integrated circuits; (viii) mask production; (ix) research and development, design, production, sales, promotion and after-sale services related to our business; and (x) export/import trade related to our business.

Directors

The R.O.C. Company Act and our articles of incorporation provide that our board of directors is elected by stockholders and is responsible for the management of our business. As of March 31, 2013, our board of directors consisted of nine directors, out of which four are independent directors. In the annual ordinary stockholders’ meeting held on June 11, 2007, we amended our articles of incorporation to abolish the managing director mechanism. In the annual ordinary stockholders’ meeting held on June 13, 2008, we amended our articles of incorporation to introduce the mechanism of an Audit Committee. The Chairman presides at all meetings of our board of directors, and also has the authority to represent our company. The term of office for our directors is three years, and our directors are elected by our stockholders by means of cumulative voting. The amendment to our articles of incorporation on June 11, 2007 also adopts a nomination system which provides that holders of one percent or more of the total issued and outstanding shares of our company would be entitled to submit a roster of candidates to be considered for nomination to our company’s board of directors at a stockholders’ meeting involving the election of directors. Pursuant to the R.O.C. Company Act, a person may serve as our director in his or her personal capacity or as the representative of another legal entity. A legal entity that owns our shares may be elected as a director, in which case a natural person must be designated to act as the legal entity’s representative. A legal entity that is our stockholder may designate its representative to be elected as our director on its behalf. In the event several representatives are designated by the same legal entity, any or all of them may be elected. A director who serves as the representative of a legal entity may be removed or replaced at any time at the discretion of such legal entity, and the replacement director may serve the remainder of the term of office of the replaced director. As of March 31, 2013, three of our nine directors are representatives of other legal entities, as shown in “Item 6. Directors, Senior Management and Employees—A. Directors and Senior Management”.

According to the Company Act and the rules promulgated under the Securities and Exchange Act, a director who has a personal interest in a matter to be discussed at the meeting of the board of directors, the outcome of which may conflict with his interests, shall explain the essential contents of such personal interest in the meeting of the board of directors and then abstain from joining the discussion and voting on such matter. Our articles of incorporation, as amended on June 13, 2008, provide that the board of directors is authorized, by taking into account of the extent of his/her/its involvement of our operation activities and the value of his/her/its contribution, to determine the compensation for each director at a comparable rate adopted by other companies of the same industry regardless of the profit received by our company. In addition, according to our articles of incorporation, we may distribute 0.1% of the balance of our earnings after deduction of payment of all taxes and dues, deduction of any past losses, allocation of 10% of our net income as a legal reserve, and allocation of special reserve according to applicable laws and regulations or the order of the competent authority, if any, as remuneration to directors. Our articles of incorporation do not impose a mandatory retirement age limit for our directors. Furthermore, our articles of incorporation do not impose a shareholding qualification for each director, while the laws and regulations require the aggregate shareholding of all directors, excluding independent directors, to meet certain thresholds considering the paid-in capital and the numbers of the independent directors. According to our current internal Loan Procedures, as amended in our annual stockholders’ meeting held in June 15, 2010, we shall not extend any loan to our directors.

 

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In order to strengthen corporate governance of companies in Taiwan, effective from January 1, 2007, the amended R.O.C. Securities and Exchange Act authorizes the R.O.C. FSC, after considering certain factors, including the scale, shareholding structure and business nature of a public company, to require that a public company, such as our company, meet certain criteria, including having at least two independent directors but not less than one fifth of the total number of directors.

In addition, pursuant to the amended R.O.C. Securities and Exchange Act, a public company is required to either establish an audit committee, or R.O.C. Audit Committee, or retain supervisors, provided that the R.O.C. FSC may, after considering the scale and business nature of a public company and other necessary situation, require the company to establish an audit committee in place of its supervisors. Currently, the R.O.C. FSC has not promulgated such compulsory rules, and all public companies may, at their discretion, retain either an R.O.C. Audit Committee or supervisors. We amended our articles of incorporation in the annual ordinary stockholders’ meeting held on June 13, 2008, introducing the mechanism of an R.O.C. Audit Committee. According to our latest amended articles of incorporation and audit committee charter, our R.O.C. Audit Committee is composed of all independent directors and performs the power and duties provided by applicable laws and regulations, including without limitation the powers and the duties of supervisors provided under the R.O.C. Company Act. A company is not allowed to maintain both supervisors and a R.O.C. Audit Committee, so we chose to eliminate our supervisers when we established our R.O.C. Audit Committee in 2009.

According to our articles of incorporation, as amended on June 13, 2008, we may purchase directors and officers liability insurance for our directors, covering the liabilities incurred in relation to his/her/its operation of business and legally responsible for.

Shares

As of December 31, 2012, our authorized share capital was NT$260 billion, divided into 26 billion shares, of which 12,951,805,540 shares were issued and 12,951,805,540 shares were outstanding (including 303,750 shares of capital collected in advance). All shares presently issued are fully paid and in registered form, and existing stockholders are not subject to any capital calls. We had US$428 million convertible bonds outstanding as of March 31, 2013. As of March 31, 2013, we had neither warrant nor option on our shares, except for the options exercisable for 460.7 million common shares granted to our employees under our Employee Stock Options Plan discussed below.

Employee Stock Option

According to our Employee Stock Options Plan, options may be granted to our full-time regular employees, including those of our domestic and overseas subsidiaries. In September 2004, December 2005, October 2007 and May 2009, we obtained approval by relevant R.O.C. authorities to grant up to 150 million, 350 million, 500 million and 500 million stock options, respectively, to acquire our common shares under our Employee Stock Option Plan. According to the plan, an option holder may exercise an increasing portion of his or her options in time starting two years after the grant of the options. According to the vesting schedule, 50%, 75% and 100% of such option holder’s options shall vest two, three and four years after the grant of the options, respectively.

 

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The table below shows the number of options granted and outstanding and the month in which they were granted:

 

     January  
     2006  

Number of Options Granted

     39   

Number of Options Outstanding as of March 31, 2013

     0   

Shares available to option holders as of March 31, 2013

     0   

 

     May
2006
     August
2006
     December
2007
     June
2009
 

Number of Options Granted

     42         28         500         300   

Number of Options Outstanding as of March 31, 2013

     0         0         330.7         130.0   

Shares available to option holders as of March 31, 2013

     0         0         330.7         130.0   

 

Note: The employee stock options granted prior to August 7, 2007, the effective date of capital reduction, were adjusted in accordance with capital reduction rate. Each option unit entitles an optionee to subscribe for about 0.7 share of our common stock. The exercise price of the options was also adjusted according to the capital reduction rate. Each stock option unit granted after August 7, 2007 remains to be subscribed for one share of our common stock.

New Shares and Preemptive Rights

New shares may only be issued with the prior approval of our board of directors. If our issuance of any new shares will result in any change in our authorized share capital, we are required under R.O.C. law to amend our articles of incorporation and obtain approval of our stockholders in a stockholders’ meeting. We must also obtain the approval of, or submit a registration with, the R.O.C. FSC and the Science Park Administration. According to the R.O.C. Company Act, when a company issues capital stock for cash, 10% to 15% of the issue must be offered to its employees. In addition, if a listed company intends to offer new shares for cash, at least 10% of the issue must also be offered to the public. This percentage can be increased by a resolution passed at a stockholders’ meeting, which will reduce the number of new shares in which existing stockholders may have preemptive rights. Unless the percentage of the shares offered to the public is increased by a resolution, existing stockholders of the company have a preemptive right to acquire the remaining 75% to 80% of the issue in proportion to their existing shareholdings. According to the Corporate Merger and Acquisition Act of the R.O.C., as effective on February 8, 2002, and amended on May 5, 2004, if new shares issued by our company are solely for the purpose of acquisition, share swap or spin-off, the above-mentioned restrictions, including the employee stock ownership plan, the preemptive rights of the existing stockholders and the publicity requirement of a listed company, to such issuance of new shares may not be applied.

Stockholders

We only recognize persons registered in our register as our stockholders. We may set a record date and close our register of stockholders for specified periods to determine which stockholders are entitled to various rights pertaining to our shares.

Transfer of Shares

Under the R.O.C. Company Act, a public company, such as our company, may issue individual share certificates, one master certificate or no certificate at all, to evidence common shares. Our articles of incorporation, as amended on June 13, 2008, provide that we may deliver shares in book-entry form instead of by means of issuing physical share certificates. We have issued our shares in uncertificated/scripless form since 2007. Therefore, the transfer of our shares is carried out on the book-entry system. The settlement of trading of our shares is normally carried out on the book-entry system maintained by the Taiwan Depositary and Clearing Corporation. Transferees must have their names and addresses registered on our register in order to assert stockholder’s rights against us. Our stockholders are required to file their respective specimen seals with our share registrar, Horizon Securities Co., Ltd.

 

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Stockholders’ Meetings

We are required to hold an annual ordinary stockholders’ meeting once every calendar year within six months from the end of each fiscal year. Our board of directors may convene an extraordinary meeting whenever the directors deem necessary, and they must do so if requested in writing by stockholders holding no less than 3% of our paid-in share capital who have held these shares for more than a year. At least 15 days’ advance written notice must be given of every extraordinary stockholders’ meeting and at least 30 days’ advance written notice must be given of every annual ordinary stockholders’ meeting. Unless otherwise required by law or by our articles of incorporation, voting for an ordinary resolution requires an affirmative vote of a simple majority of those present. A distribution of cash dividends would be an example of an ordinary resolution. The R.O.C. Company Act also provides that in order to approve certain major corporate actions, including any amendment of our articles of incorporation, dissolution, merger or spin-off, entering into, amendment, or termination of any contract for lease of the company’s business in whole, or for entrusted business, or for joint operation with others on regular basis, the transfer of all or an essential part of the business or assets, accept all of the business or assets of any other company which would have a significant impact in our operations, removing directors or the distribution of dividend in stock form, a special resolution shall be adopted by the holders of the majority of our shares represented at a stockholders’ meeting at which holders of at least two-thirds of our issued and outstanding shares are present. However, in the case of a public company, such as our company, such resolution may be adopted by the holders of at least two-thirds of the shares represented at a stockholders’ meeting at which holders of at least a majority of our issued and outstanding shares are present. However, if we are the controlling company and hold no less than 90% of our subordinate company’s outstanding shares, our merger with the subordinate company can be approved by a board resolution adopted by majority consent at a meeting with two-thirds of our directors present without stockholders’ approval. In addition, according to the Corporate Merger and Acquisition Act of the R.O.C., if a company intends to transfer all or an essential part of its business or assets to its wholly-owned subsidiary, subject to the qualifications set forth in the said act, such transaction only needs to be approved by majority board resolution rather than special resolution by the stockholder’s meeting as required by the R.O.C. Company Act.

Voting Rights

Each common share is generally entitled to one vote and no voting discount will be applied. However, treasury shares and our common shares held by (i) an entity in which we own more than 50% of the voting shares or paid-in capital, or (ii) a third party in which we and an entity controlled by us jointly own, directly or indirectly, more than 50% of the voting shares or paid-in capital are not entitled to any vote. Except as otherwise provided by law or our articles of incorporation, a resolution can be adopted by the holders of a simple majority of the total issued and outstanding shares represented at a stockholders’ meeting. The quorum for a stockholders’ meeting to discuss the ordinary resolutions is a majority of the total issued and outstanding shares. Pursuant to R.O.C Company Act amended on December 28, 2011, the election of directors by our stockholders shall be conducted by means of cumulative voting rather than other voting mechanisms adopted in our articles of incorporation. In all other matters, a stockholder must cast all his or her votes in the same manner when voting on any of these matters.

Our stockholders may be represented at an ordinary or extraordinary stockholders’ meeting by proxy if a valid proxy form is delivered to us five days before the commencement of the ordinary or extraordinary stockholders’ meeting, unless such proxy has been revoked no later than two days before the date of the stockholders’ meeting. Voting rights attached to our shares exercised by our stockholders’ proxy are subject to the proxy regulation promulgated by the R.O.C. FSC.

Authorized by latest amendment of the R.O.C Company Act, the R.O.C. FSC has issued an administrative order in February 20, 2012 to require Taiwan Stock Exchange-listed companies, such as our company, and GreTai Securities Market-listed companies in the R.O.C. with NT$10 billion or more of paid-in share capital and with 10,000 or more stockholders as of the first date of the close period applicable to the stockholders’ meeting to adopt an e-voting system for stockholders’ meeting. The e-voting system provides a new platform for stockholders to exercise their voting rights online. As a company that meets the foregoing criteria, we have successfully adopted the e-voting system in the 2012 stockholders’ meeting and voted by poll on each agenda for discussion.

Any stockholder who has a personal interest in a matter to be discussed at our stockholders’ meeting, the outcome of which may impair our interests, shall not vote or exercise voting rights on behalf of another stockholder on such matter.

According to the R.O.C. Company Act newly amended on January 4, 2012, a stockholder of a public company who holds shares for others, such as a depositary, may choose to exercise his/her/its voting power separately. On April 13, 2012, R.O.C. FSC promulgated the Regulations Governing the Split Voting of the Stockholders and Compliance Matters for Public Companies, the implementation rules of such split voting method, which stipulates that the depository of the overseas depositary receipts may exercise its voting power separately in accordance with the instructions of the respective holders of the ADS. Notwithstanding the foregoing, before any amendment to the currently effective Deposit Agreement is made, holders of our ADSs generally will not be able to exercise voting rights on the shares underlying their ADSs on an individual basis.

 

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Dividends and Distributions

We are not allowed under R.O.C. law to pay dividends on our treasury shares. We may distribute dividends on our issued and outstanding shares if we have earnings. Before distributing a dividend to stockholders, among other things, we must recover any past losses, pay all outstanding taxes and set aside a legal reserve equivalent to 10% of our net income until our legal reserve equals our paid-in capital, and a special reserve, if any.

At an annual ordinary stockholders’ meeting, our board of directors submits to the stockholders for their approval proposals for the distribution of dividends or the making of any other distribution to stockholders from our net income or reserves for the preceding fiscal year. Dividends are paid to stockholders proportionately. Dividends may be distributed either in cash or in shares or a combination of cash and shares, as determined by the stockholders at such meeting.

Our articles of incorporation provide that we may distribute as remuneration to directors 0.1% of the balance of our earnings deducted by:

 

   

payment of all taxes and dues;

 

   

deduction of any past losses;

 

   

allocation of 10% of our net income as a legal reserve; and

 

   

special reserve, if any.

The amount of no less than 5% of the residual amount after the deductions illustrated above, plus, at discretion, any undistributed earnings from previous years, shall be distributed as bonus to employees. Originally, the distribution of employee bonus were in the form of new shares; in the annual ordinary stockholders’ meeting held in June 2005, our stockholders approved an amendment of our articles of incorporation to enable the distribution of employee bonus in the form of cash or in shares. Employees eligible for such distribution may include certain qualified employees from our subordinate companies and the qualification of such employees is to be determined by our board of directors. The remaining amount may be distributed according to the distribution plan proposed by our board of directors based on our dividend policy, and submitted to the stockholders’ meeting for approval.

In the annual ordinary stockholders’ meeting held in June 2005, our stockholders approved a change of the percentage of stock dividend issued to our stockholders, if any, to no more than 80% and cash dividend, if any, to no less than 20%.

In addition to permitting dividends to be paid out of net income, we are permitted under the R.O.C. Company Act to make distributions to our stockholders of additional shares by capitalizing reserves, including the legal reserve and capital surplus of premiums from issuing stock and earnings from gifts received, or make such distributions by cash, if we do not have losses. However, where legal reserve is distributed by capitalization or in cash, only the portion of legal reserve which exceeds 25 percent of the paid-in capital may be distributed.

For information as to R.O.C. taxes on dividends and distributions, see “—E. R.O.C. Tax Considerations” in this Item.

 

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Acquisition of Our Shares by Us

An R.O.C. company may not acquire its own common shares, except under certain exceptions provided in the R.O.C. Company Act or the R.O.C. Securities and Exchange Act. Under the amendments to the R.O.C. Company Act, which took effect on November 14, 2001, a company may purchase up to 5% of its issued common shares for transfer to employees in accordance with a resolution of its board of directors, passed by a majority vote, at a meeting with at least two-thirds of the directors present.

Under Article 28-2, an amendment to the R.O.C. Securities and Exchange Act, which took effect on July 21, 2000, we may, by a board resolution adopted by majority consent at a meeting with two-thirds of our directors present, purchase up to 10% of our issued 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:

 

   

to transfer shares to our employees;

 

   

to transfer upon conversion of bonds with warrants, preferred shares with warrants, convertible bonds, convertible preferred shares or certificates of warrants issued by us; and

 

   

if necessary, to maintain our credit and our stockholders’ equity; provided that the shares so purchased shall be canceled thereafter.

We have from time to time announced plans, none of which was binding on us, to buy back up to a fixed amount of our shares on the Taiwan Stock Exchange at the price range set forth in the plans. In 2009 and 2010, we purchased an aggregate of 300 million and 300 million, respectively, of our shares under these plans. From December 17, 2008 to February 16, 2009, we purchased 300 million of our shares on the Taiwan Stock Exchange at an average price of $7.98 per share to transfer to our employees. From February 3, 2010 to April 2, 2010, we purchased 300 million of our shares on the Taiwan Stock Exchange at an average price of NT$16.15 per share to transfer to our employees. Of the repurchased shares, 137 million, 97 million, 78 million and 64 million shares were purchased by our employees in November 2003, December 2007, December 2009, and December 2010, respectively. On March 14, 2012, the board of directors approved the cancellation on treasury share of 157,934,400 shares which was bought from December 17, 2008 to February 16, 2009.

In addition, we may not spend more than the aggregate amount of the retained earnings, the premium from issuing stock and the realized portion of the capital reserve to purchase our shares.

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

In addition to the share purchase restriction, the Company Act provides that our subsidiaries may not acquire our shares or the shares of our majority-owned subsidiaries if the majority of the outstanding voting shares or paid-in capital of such subsidiary is directly or indirectly held by us.

Liquidation Rights

In a liquidation, you will be entitled to participate in any surplus assets after payment of all debts, liquidation expenses and taxes proportionately.

Rights to Bring Stockholders’ Suits

Under the R.O.C. Company Act, a stockholder may bring suit against us in the following events:

 

   

within 30 days from the date on which a stockholders’ resolution is adopted, a stockholder may file a lawsuit to annul a stockholders’ resolution if the procedure for convening a stockholders’ meeting or the method of resolution violates any law or regulation or our articles of incorporation. However, if the court is of the opinion that such violation is not material and does not affect the result of the resolution, the court may reject the stockholder’s claim.

 

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if the substance of a resolution adopted at a stockholders’ meeting contradicts any applicable law or regulation or our articles of incorporation, a stockholder may bring a suit to determine the validity of such resolution.

Stockholders may bring suit against our directors under the following circumstances:

 

   

Stockholders who have continuously held 3% or more of our issued shares for a period of one year or longer may request in writing that the audit committee institute an action against a director on our behalf. In case the audit committee fails to institute an action within 30 days after receiving such request, the stockholders may institute an action on our behalf. In the event stockholders institute an action, a court may, upon the defendant’s motion, order such stockholders to furnish appropriate security.

 

   

Stockholders who hold more than 3% or more of our total issued shares may institute an action with a court to remove a director of ours who has materially violated the applicable laws or our articles of incorporation or has materially damaged the interests of our company if a resolution for removal on such grounds has first been voted on and rejected by our stockholders and such suit is filed within 30 days of such stockholders’ vote.

 

</
   

In the event that any director, manager or stockholder holding more than 10% of our shares or any respective spouses or minor children and/or nominees of any of them sells shares within six months after acquisition of such shares, or repurchases the shares within six months after the sale, we may claim for recovery of any profits realized from the sale and purchase. If our board of directors or audit committee fail to claim for recovery, any stockholder may set forth a 30-day period for our board of directors or audit committee to exercise the right. In the event our directors or audit committee fail to exercise the right during such 30-day period, such requesting stockholder shall have the right to claim such recovery on our behalf. Our directors shall be jointly and severally liable for damages suffered by us as a result of their failure to exercise the right of claim.