TSMC in record breaking equity deal

Taiwan Development Fund and Philips work together for first time to bring TSMC''s largest equity deal to date.

Founding shareholders, Royal Philips Electronics NV and the Taiwan Development Fund, raised $1.304 billion selling a 3.1% stake in TSMC after Thursday's close in New York. Under the lead management of Goldman Sachs and JPMorgan, the two sold 151.655 million ADR units at $8.60 each. There is also a 22.745 million greenshoe that could bump total deal proceeds up to $1.499 billion.

At $8.60 per unit, the deal was priced at a 0.6% discount to the ADR's spot close and a 1.5% premium to the local share price.

Following a one-week roadshow, the order book closed about two times covered, with participation by roughly 150 accounts. About 50% of demand came from the US, 30% Asia and 20% Europe.

The deal differs from previous TSMC divestments in a number of respects. Firstly it marks the only instance where Philips and the Development Fund have worked together to manage the divestment process.

As one observer comments, "I think it reflects a realization that there is an overhang and it needs to be managed properly."

Pre greenshoe, Philips will see its stake drop from 18.7% to 16.6%, while the Development Fund will come down from 7.3% to 6.5%. The remaining 3% of the overall deal was sold by management.

The transaction also differs from the previous two divestments because it was executed via a roadshow rather than an accelerated bookbuild. Pricing further shows that the premium contraction play has all but disappeared.

The last TSMC deal of November 2003 was priced flat to the ADR close and at a 7.6% to the stock's spot close. Its predecessor of July the same year came at a 0.6% discount to the ADR close and a 16.13% premium to the stock's spot close. The one before that, in February 2002, came at a 1.3% discount to spot and a 35% premium to the stock's spot close.

Over the course of the past four deals, the average premium between the ADR and stock price has come down from nearly 50% to 3.4%.

On the day the new deal was priced, Asian semiconductor stocks had traded down. TSMC fell 3.15%, while UMC came down 2.9% and Chartered by 4.25%. The following day, the Taiwan market was shut due to a typhoon.

However, the shareholders appear to have timed their deal well. Year-to-date, TSMC is up about 13.5% and analysts have mixed views about further near-term upside.

While nearly half the analysts who cover it still have buy recommendations, a number of others have recently switched to a more neutral stance. Some now feel that most of the good news about the early part of the up-cycle is priced into the stock. Industry bulls, on the other hand, believe share price performance will be supported by the fact that foundry stocks tend to outperform semiconductor stocks during an up-cycle.

At NT$54.7 per share, TSMC is currently valued at about 2.9 to 3.1 times forward book. This valuation is consistent with where TSMC has traded in previous mid-cycles. At its peak in 1999/2000 it traded up to 6.5 times.

The big question for many analysts is whether TSMC can maintain its price dominance as the sector beds in the next technology migration to 90nm. Some analysts believe UMC is closing the gap with TSMC and this means that the world's largest foundry will have less pricing leverage in the new cycle.

This is hotly disputed by the company itself. During roadshows, management told investors that TSMC's full pricing power would become very evident over the course of the next year.

It needed to provide these reassurances as its blended ASP (Average Selling Price) fell further than analysts had been expecting during the second quarter. The company's blended ASP fell 5.3% during the second quarter and it has guided for a further fall during the third.

Analysts believe prices should stabilize around the fourth quarter when fuller capacity utilization kicks in. During the second quarter, it stood at 85% and analysts believe it will rise above 90% during the fourth quarter.

By this point, the company has guided that 90nm should account for about 10% of overall revenue. Capex for 2005 remains $2.7 billion, which will result in a 24% increase in capacity year-on-year.

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