A very sharp guy

In 1616 the Tokogawa Shoganate sent an invasion force to capture the island of Takasago Koku. It proved an unsuccessful mission but in 1895 Japan finally achieved its ambition. The island – better known to our readers as Taiwan – became a Japanese colony and would remain under Tokyo’s rule until 1945.

As its first overseas possession, Japan was keen to turn Taiwan into a ‘model’ colony, investing in railways, sewage systems and dams. It also introduced compulsory primary school education and banned what it deemed to be backward Chinese traditions, such as feet binding. As such, it sought to shape Taiwan in its own image.

Bearing in mind that colonial legacy, has history now come full circle?

That, at least, will be the reaction of some Japanese to the news that Taiwan’s Hon Hai has become Sharp’s single biggest shareholder. The Osaka-based firm is one of Japan’s flagship brands and forms part of its industrial DNA. The fact that it now needs Taiwanese investment seems to endorse the gloomier views of Japan’s economic declinists.

Hon Hai, controlled by tycoon Terry Gou, has purchased 11.1% of Sharp Corporation for $809 million. The Tucheng headquartered company has also acquired a 46.5% stake in Sharp Display Products, the entity which makes LCD panels and is jointly-owned with Sony.

“Taking a stake in Sharp is a great landmark event for Hon Hai,” a company spokesperson told the Economic Observer. “Chairman Guo assigned a very high value to the matter and went in person to Japan for the signing.”

Like Sharp’s famous logo, the company’s financials have turned increasingly red, and in March it warned that it would make a record loss for the fiscal year of around $4.7 billion.

That makes it look like Hon Hai is coming to the Japanese firm’s rescue. The deal is being framed in somewhat less stark terms in Osaka, at least. Sharp’s managing director, Okuda Takashi told a press conference that Hon Hai was “the best partner” that the Japanese firm could expect to find. Gou’s company will help Sharp reduce costs, and procure 50% of its TV panel production. Additionally the Japanese manufacturer plans to put Hon Hai’s investment into new liquid crystal technology, as well to develop new mobile devices.

Nevertheless the deal will stun many in Japan, a nation proud of its industrial prowess. Being compelled to partner with a Taiwanese firm speaks volumes, mind you, about how the consumer electronics industry has changed.

Sharp may have a long history – it was founded 100 years ago – but thanks to the ‘Made in China’ phenomenon, it is contract manufacturer Hon Hai that has become the behemoth of the electronics’ world. Its Hong Kong-listed subsidiary Foxconn is famed for assembling Apple products like the iPhone and iPad at huge Chinese plants. And it has turned the manufacturing of other brands consumer electronics products into a huge business, becoming one of the world’s top 10 largest employers and China’s single biggest exporter.

It has done so through exceptional cost control and by drilling its labour force to respond to client needs around the clock (a competitive advantage that has also sparked controversy, following a series of staff suicides, see WiC67).

Mo Dakang, a former director of Applied Materials’ China arm, says that Japanese manufacturers have fallen behind the likes of Foxconn because of their less flexible supply chains and lifetime employment systems.

There’s also an industry logic to the Hon Hai deal, reckons the Economic Observer. Specifically it relates to LCD screens. The world’s top five panel makers are South Korea’s LG Display and Samsung, Japan’s Sharp and Taiwan’s Au Optronics and Chi Mei Optoelectronics. Together they make over 95% of LCD screens.

Gou controls 12.9% of Chi Mei Optoelectronics, which is Hon Hai’s chief panel supplier. When you combine that with its major stake in Sharp, Hon Hai has created an LCD portfolio with almost 20% market share, second only to Samsung.

Indeed, competition with Samsung seems to have been one of the drivers behind the deal. In mid-March, Sharp’s stock plunged 5% on rumours that Apple would only use Samsung for its new iPad screens. Sharp is one of Apple’s key suppliers and had been vying with Samsung to make larger screens for Apple’s yet-to-be-launched iTVs.

“Sources say Sharp won a contract with Apple for iTV last year,” reports Forbes, “but Apple has been disappointed with Sharp’s performance on other contracts. Sharp slipped in its production of iPad screens, and Apple had to rely on South Korea’s Samsung for the majority of screens. Apple may have influenced Hon Hai to invest in Sharp to ensure a competitive option to Samsung, which is in an intellectual property dispute with Apple.”

Hon Hai now gets 40% of its orders from Apple, and the Economic Observer concurs that the Sharp investment strategy is aimed at reducing Apple’s reliance on Samsung.

“Samsung is Apple’s biggest threat. Apple and Samsung will get into a fight sooner or later,” predicts industry insider Mo, adding that Apple would rather rely on Hon Hai and Sharp, especially if the new combination delivers the optimal outcome: marrying the Japanese firm’s product know-how with Hon Hai’s ability to deliver high volumes at a low cost, on time.

As to Gou, he sees advantages too in his deal with Sharp. He too is aware of his reliance on his single biggest customer, Apple, and has acknowledged that his firm captures just 1.8% of the value of an iPad assembled in his Chinese factories.

Last year Hon Hai obtained more than 1,5oo patents in the US, as part of its effort to move from being a mere assembler. Gou now wants to move upstream and supply more parts to electronic brands, increasing his profit margin. He told CBN that if Hon Hai can get Sharp panels at a price lower than equivalents from Samsung and LG, he could capture closer to 4% of the iPad’s value.

The Sharp deal also forms part of a broader diversification strategy that Gou is calling ‘Galloping Horses’. Another component of this is to move into retail: Hon Hai has announced plans to spend NT$10 billion to build a network of 10,000 retail outlets in China selling electronics and communications devices. Again, the hope is that it will grab more of the value of the products that it assembles.

Both strategies could complement the core business in boosting profits, which rose 66% in the last quarter to NT$35 billion ($1.18 billion). But a Hon Hai spokesperson has confirmed the one thing that the company is not planning: to launch its own brands, a move that would upset existing clients like Sony, Microsoft and Apple too.

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