Epistar, FOREPI Overcome Rivalry with Merger

By KEN LIU

For years, intense competition prevented Epistar Corp. and Formosa Epitaxy Inc. (FOREPI) from joining as one. Ironically, the same reason is now bringing the two together.

Epistar announced on June 30 an all-stock merger with FOREPI at swap ratio of one Epistar share for 3.448 FOREPI shares to form the world's biggest epitaxial-LED manufacturer. The merger could have occurred as early as seven years ago, when the two first discussed a merger deal, but rivalry between the two prevented the union.

Since 2007, the relationship between Epistar and FOREPI, Taiwan's top two epitaxial LED makers, has been more competitive then cooperative. The feud reached a tipping point in 2012, when FOREPI approached San'an Optoelectronics Co., Ltd. of mainland China about investing in it.

Holding a 19.77% stake for NT$2.3 billion (US$78.4 million at US$1:NT$30), the mainland Chinese manufacturer became FOREPI's largest institutional shareholder. Since then it has poached at least one hundred engineers from Epistar, which is the world's No.1 red LED maker and No.2 blue-LED maker by capacity and controls industry-leading manufacturing techniques.

Despite its striking record, Epistar's gross profit margin from blue-chip manufacturing has persistently fallen from an average of 40% due to stiff competition from FOREPI and other manufacturers. Government subsidies for LED capacity expansion in mainland China and questionable business practices by mainland dealers have also pressured Epistar's margins.

On the day Epistar announced the merger, FOREPI Chairman F.R. Chien commented that in the past the uncomfortable relation between the two companies on the market had made such cooperation impossible.

Chien thanked the success of the merger to his company's No.2 institutional shareholder, Mitsui & Co., Ltd., which helped to mediate the merger deal between the two companies.

Issuing New Shares

Epistar will issue 174 million new shares for the merger, increasing the new entity's total shares to 1.1 billion units from 936 million units. Under the deal, FOREPI will be wholly owned by Epistar.

Based on Epistar share price closed at NT$74 apiece and FOREPI share price at NT$18.25 on June 30, Epistar will pay a 17.6% premium in the transaction. Epistar will spend an estimated NT$12.9 billion (US$430 million at US$1:NT$30) for the acquisition.

Both companies will separately hold a shareholder conference on September 1 to discuss the merger deal. The stock swap baseline date is tentatively slated for Dec. 31 of this year, at which time FOREPI stocks will be delisted from Taiwan's stock exchange.

The merger is expected to benefit both companies, with Epistar securing immediate capacity for its strained production while FOREPI will likely to emerge from loss by using Epistar's advanced technology.

Industry executives have mostly made positive comment on the deal, despite its slightly high price.

Everlight Electronics Co., Ltd.'s chief executive officer (CEO) and president, Robert Yeh, points out that Epistar has an excellent track record and the merger will inspire Taiwan's manufacturers to stand more firmly together against mainland competitors. His company, currently the world's No.1 LED packager, is partly held by Epistar.

Merger Well Timed

Market researchers at Taishin Securities Investment Advisory (TSIA) Co., Ltd. feel the merger is well timed because the LED prices have been rebounding strongly in the second and third quarters. The merger, they add, will help the two companies boost their global market share and stabilize prices.

After the merger, the new entity will command 30-40% of the global market for blue and red LED chips, which are sliced from epitaxial wafers. The scale will help ease Epistar's current capacity shortage, which is estimated to continue into the next few years. Epistar President M.J. Jou points out that global LED backlight and lighting sales this year are the strongest they have seen in recent  two or three years. He estimates that orders from lighting manufacturers will rise by 50-100% this year and that LED-lighting market will explode over the next two to three years. The company's production capacity will run 35% short of demand in the third quarter of this year and the shortage should persist into the next two years.

Jou says that that LED industry is in a consolidation stage. He suggests that Taiwan's LED makers should form alliances and cooperate to increase their share of the global market.

The merger is expected to help FOREPI reverse its losses, which have endured for three years. Chien points out that Epistar's contract prices are higher than his company's. He says that his company will be able to choose more profitable contracts after the merger and even hike contract prices. He is confident that his company's sales will swing to profit in the third quarter.

Industry executives point out that the merger represents the end to the cooperation between FOREPI and San'an and Epistar's beginning counterattack against the mainland Chinese LED chipmaker.

After the merger, San'an's holding in the new entity will be watered down to around 2.8% because of the issues of new shares and Euro-Convertible Bond (ECB) by Epistar. When asked if Epistar will keep San'an from entering the new entity's board of directors, thereby preventing San'an from scuppering the merger, Epistar's vice president and spokesman, S.H. Chang, simply says the company welcomes San'an to become the new entity's shareholder by trading its FOREPI stocks for Epistar stocks.

Due to San'an's holding, the FOREPEI merger deal needs to be scrutinized by the Investment Commission of the Ministry of Economic Affairs (MOEA) instead of by the ministry's Industrial Development Bureau (IDB). Since San'an will not hold a controlling stake in the new entity, the commission is very likely to approve the deal.