Will Europe's Big Three merge?

Former STMicroelectronics executive Joseph Borel has proposed for Europe's top three semiconductor companies—NXP Semiconductors, ST, Infineon Technologies AG—to consolidate and form a unified European chip powerhouse.

The 12-page proposal from the former ST executive VP for central R&D has been sent to the French Senate and is being transferred to the office of French President Nicolas Sarkozy.

Borel disclosed details of the proposal in an exclusive interview with EE Times Europe. It appears to be based on several dubious assumptions about both the practicality of such a union and its potential ability to compete against the likes of Intel Corp. and Samsung Electronics Inc.

Nonetheless, the concept pitched by Borel—a French engineer who spent 22 years in R&D at ST—is striking in its audacity. The very suggestion of such an arrangement points to a growing disillusionment in Europe with the market positions of the region's biggest electronics companies. Some market watchers contend the chip companies' competitiveness hasn't been sufficiently honed under their current operating structures.

Borel also has precedent on his side: the creation of European Aeronautic Defence and Space Company NV (EADS), the European aerospace corporation formed by the merger in 2000 of Germany's DaimlerChrysler Aerospace AG, France's Aérospatiale-Matra and Spain's Construcciones Aeronáuticas SA.

Established to pursue European strategic interests, EADS develops and markets civil and military aircraft, missiles, space rockets, satellites and related systems. EADS unit Airbus SAS has competed effectively against U.S. civil aviation giant Boeing Co.; EADS and U.S.-based partner Northrop Grumman recently beat out Boeing to win a U.S. Air Force contract for modernized refueling tankers.

Borel's argument hinges on the assertion that nanoelectronics R&D and manufacturing are of strategic interest to France and Europe and should not be left to evaporate. He is asking national and European authorities to bring three regional champions together to form a pan-European semiconductor heavyweight with global heft. The ability to compete on the scale of Intel and Samsung would be the commercial bonus; Europe's avoidance of reliance on companies like IBM Corp. and Taiwan Semiconductor Manufacturing Co. Ltd would be the political side of the coin.

In the red
All three European chip companies have struggled of late. At Infineon, multiyear losses have become the norm. Although the company's revenue continues to rise every year (except for a slight drop in the fiscal year ended Sept. 30, 2007), Infineon has piled up huge losses since fiscal 2005, dragged down by problems at Qimonda, its majority-owned memory business.

In response, Infineon has experimented with various forms of corporate restructurings, including a continuing effort to exit the troubled DRAM market.

NXP, for its part, saw revenue fall to roughly $7.23 billion in 2007, down 7 percent from approximately $7.75 billion in the previous year, although its net loss improved to $773 million from $954 million in 2006.

ST, meanwhile had been consistently profitable for years but lost $477 million in 2007, compared with net income of $782 million in 2006.

ST's relatively better financial performance—coupled with its size ($10 billion in annual revenue) and structural history (it was formed from the union of France's Thomson Semiconducteurs and Italy's Società Generale Semiconduttori Microelettronica [SGS])—forms the kernel of Borel's argument. He notes the involvement of the French and Italian governments in ST's formation.

Borel's plan would merge Infineon, NXP and ST into a single organization to improve efficiency, leverage capital expenditures and R&D, reduce operating costs through process rationalization and improve competitive positioning by eliminating duplication of effort. The company that would emerge from the union would be able to take on the likes of Intel, he contends.

"There is room for investment rationalization and product synergies among the three European independent players, [which] at present address some overlapping parts of the market," he said. "The only way to save [Europe's industry] is to be just behind Intel and to put everyone under the same banner, so as to avoid duplication."

Not everyone is convinced that such a union is the best way forward, however, and some believe the move might even jeopardize the companies' market position if forced through by political leaders.

'Interesting but unrealistic'
Malcolm Penn, CEO at consultancy group Future Horizons called the proposal "an interesting but unrealistic suggestion" that would be unlikely to work "even if there were no political issues."

While Borel's goal may never be realized, his plan sends a clear signal to Infineon, NXP and ST that observers aren't pleased with the results of the multiyear restructurings and market repositioning in which the three companies have separately engaged.

Additionally, the proposal highlights some Westerners' unease about the transfer of operations to emerging tech manufacturing and R&D centers in Asia by top European companies, including wireless market leader Nokia of Finland. Some fear the "asset lite" manufacturing strategies by companies will have negative economic and security implications for the continent.

Hints of these concerns are clearly visible in Borel's 12-page proposal. "I believe in this convergence, which will bring new opportunities to create jobs, save our universities and our research base," Borel said.

Although the problems at Infineon, NXP and ST are troubling for their investors and for the region at large, the idea that Europe is declining as a semiconductor power is less credible. The three companies today rank among the world's top 10 chip manufacturers, and despite huge operational problems, they remain major players in the industry.

Moreover, the rapid technology changes, commoditization and resulting pricing erosion that have devastated margins at these companies did not result from their operating as independent entities—or, for that matter, from their being headquartered in Europe.

Global downtrend
Other chip manufacturers across the globe, regardless of size and location, are similarly feeling the pressure of huge shifts in the industry.

Intel, the market leader Borel cites in his memo, has repeatedly tried in recent years—with limited success—to break into faster-growing IC segments and diversify beyond its bread-and-butter microprocessor business.

Intel microprocessor rival Advanced Micro Devices Inc., meanwhile, is on life support, struggling to reenergize its operations and regain profitability despite difficulties keeping pace with technology advances.

Across the Pacific, Japan's once-dominant chip players are in disarray. They have engaged in endless restructurings, pooling of operations, spin-offs of units and even mergers with rival operations to reinvigorate their businesses.

It's not surprising, therefore, that executives at Infineon, NXP and ST don't appear too keen on merging their companies.

Infineon and ST both declined to comment on the proposal, with a representative for ST noting only that the company does not respond to market "speculation."

An NXP spokesman likewise said her company does "not respond to speculation" and called the plan "solely the opinion of Mr. Borel."

The three chip companies today compete in certain market segments—including semiconductors for the automotive, broadband wireless communication sectors—and unwinding their redundant or conflicting operations in those areas would be extremely difficult, said Future Horizons' Penn.

"These are three big companies we are talking about," he said. "If they can't make it happen on their own, if they can't achieve economies of scale, there is no reason to think they can achieve them better together. Any such move would imply major plant closures, and there is an enormous disparity of facilities both technologically and geographically among the three. Closing facilities is not an easy thing to do."

Borel's recommendation glosses over the massive integration problems, management distractions, competitive challenges and market-share erosion the merged company likely would face as it cobbled together competing businesses with widely differing corporate cultures. Despite their European origins, Infineon, NXP and ST aren't identical triplets, and their divergent management strategies could quickly sink any endeavor to unite them under one banner.

Lessons from history
The history of the companies' past collaborations may hold some lessons for the politicians who might latch onto Borel's plan.

ST and NXP had been partners along with Freescale Semiconductor in the Crolles, France's CMOS process technology research and manufacturing alliance, but NXP and Freescale exited the partnership in 2007. ST's latest partner in the Crolles 2 alliance is IBM.

The European company has insisted it still believes "the shared R&D business model contributes to the fast acceleration of semiconductor process technology development."

"We will continue to actively pursue an expansion of our portfolio of alliances to reinforce cooperation in the area of technology development in Crolles 2," ST said in a March regulatory filing.

If business executives in North America looked to engineer a union of the type Borel is proposing, they wouldn't request the government's assistance or even expect political leaders to get involved. That's because the ownership structure of U.S. public corporations differs from those in Europe.

In France, Italy and many other European countries, the government directly or indirectly controls many publicly owned companies. Government influence extends in some cases to the appointment of directors and chairmen.

ST, for instance, is owned in part by the governments of France and Italy through such organizations as France Telecom (which left ST in 2005), Areva, CDP, Finmeccanica and Italy's Ministry of Economy and Finance.

In that context, it made sense for Borel to address his proposal to the French Senate. It was also acceptable and expected that the French Senate would forward the request to Sarkozy, though it's not clear what actions the French President will take.

What is clear, however, is that by focusing public attention on the problems dogging the three leading European semiconductor companies, Borel's memo has lit a fire under the management of Infineon, NXP and ST.

- Anne-Franoise Pel and Bolajo Ojo
EE Times

- Additional reporting by John Walko, Peter Clarke and Christoph Hammerschmidt