August 17, 2005...After an especially quiet summer in the news department, this week brings major stories that will likely shift the landscape of the compound semi-based solid state lighting (SSL) industry supply chain. Philips will buy Agilent's share of Lumileds, Agilent's SPG group was purchased by two huge equity investment groups, and Epistar will merge with UEC. Building on the current facts, speculation now centers on what Philips will actually do with Lumileds, when SPG will be ready for an IPO, and if the rise of a larger Epistar equates to expanding what's come to be known as "The Big 5" to "The Big 6". As topping all this, Strategies Unlimited has released it's latest HB LED report (ref: company news release) on the demand side of the business with the promise of the follow-on supply side study due out in a couple of months. No less than 40 companies were interviewed, bringing this columnist to the conclusion that the advanced LED business continues to boom and that the SSL industry is getting so big, it's getting difficult for even the experts to keep track!

First, let's tackle Lumileds' news. Reading back in my own June 14th speculations of Who Might Buy Agilent's SPG Group (which co-owns Lumileds) and Why?, danged if I didn't hit it right on the head predicting that Philips would scoop up the rest of Lumileds. Agilent, formerly part of Hewlett Packard, was the mother of this highly regarded JV and when the deal is done, they will have cut the umbilical cord in exchange for close to one billion American dollars. That makes the value of Lumileds at about $2 billion with the company's Dutch father figure, Philips, owning all but the 3.5% that's owned by Lumileds employees. Mom and Dad had kept their offspring on such a tight leash that it wasn't until last December that the world finally found out just how much income the little tyke was earning for for them (ref: Dec. 23, 2004 news and Jan. 16, 2005 McDonald Report).

Let's leap ahead and look at what could happen if Philips decided (as I heartily recommended in June at the conclusion of my column) to allow Lumileds the freedom they've always wanted and deserved and let it go for an Independent Public Offering (IPO). Philips would likely hold on to a fair chunk of stock, employees would gobble up their share, people like you and I would get in on the action, and lots of people would make money. Most important of all, Lumileds customers wouldn't worry that Philips would be keeping all the jewels for their own light fixtures... not that Philips would do that, quite the contrary. Philips is a fine, upstanding giant in the lighting industry and they'll do the right thing with their wholly-owned offspring. My guess is that Philips won't groom Lumileds for an IPO, even though I wish they would, mainly because I'd love to hold stock in Lumileds. It will more likely be business as usual at Lumileds and not much will change with their established customer base. But, by owning Lumileds completely, at least LEDs have come to the attention of the senior management, big time, at Philips! And if they're talking LED up, the mainstream and general business press will get the message and that's very good for our industry.

Others in "The Big 5", namely Toyoda Gosei and Osram Opto, are owned by larger systems integrators and I doubt that ownership by an overlord has inhibited their sales. I simply like independence, and I think Lumileds would thrive under an independent publicly-held corporate structure, preferably on the USA's Nasdaq exchange. Cree and Nichia are the others in The Big 5 and both are independent. Cree trades on the Nasdaq and is now in a close 2nd place to Lumiled's market cap at about $1.85 billion. (FYI... of the Big 5, I own a few shares in Cree as part of my CS Stock portfolio, about which I write the first of every month (ref: Aug 3, 2005 report)). As I said, I'd love to add Lumileds to that portfolio and it wouldn't be a measly 100 shares! My bet is that a Lumileds IPO would skyrocket. They're simply that good, and that well regarded in the SSL industry. Their management and R&D team are unsurpassed, and most of them have been there from the start with many dating back to the glory days of HP when pioneering the advanced LED field. Money can't buy that kind of loyalty (... although it helps). It's simply the HP legacy.

A side issue of the sale of Agilent's SPG group is how the new owners of SPG, private equity firms Kohlberg Kravis Roberts & Co (KKR) and Silver Lake Partners, who will collectively buy SPG (minus Lumileds) for $2.66 billion. Speculation there revolves around how the new owners will create value for the newly liberated entity. There are some tremendous synergistic programs going on between Lumileds and SPG, which co-share headquarter facilities in Silicon Valley in the USA. Will SPG go on a slim fast diet and experience the usual cutbacks that inevitably happen after a buyout? Will SPG be groomed for an IPO by these heavily monied owners? This is a case where an IPO is essentially assured, which could make SPG's buddies at Lumileds even more envious and wanting total independence for themselves. With political shakeups in the USA underway (finally), the sluggish, muddy roads are slowly being cleared to make way for healthy USA-based IPOs again.

KKR and Silver Lake are huge privately-held equity investment firms. They are run by very, very smart people who graduated from the Warren Buffet School for Billionaires. What they traditionally do is put one of their people on the board of directors to keep an watchful, but generally hands-off eye on things and advise where needed. But they don't micromanage and they tend not to put the axe to things and break up what works. Patiently, they groom their new acquisition for an IPO by making sure savvy business people who know how to grow a company's value are at the helm. My guess is that Agilent's current SPG group will be re-grouped and re-branded and go for an IPO when the time is right, which could be soon... or years from now. These are patient investors and they wait until the payoff is extremely large, and well-assured.

Now, let's move our focus across the Pacific ocean to Taiwan where Epistar and UEC have announced their intent to merge (ref Aug. 15 news). Word on the Taiwan streets (and those who travel by plane to get to and from them) is that rumors of this merger were rampant over the last couple of months, so "locals" were not surprised. The merger will comfortably combine UEC's strength in ROY (red, orange & yellow) LEDs and finished devices with Epistar's strong BG (blue & green) technology and chips. The current buzz speculates that this lays the groundwork to now elevate Epistar (as the newly merged company will be named) to an equal-enough footing with the current "Big 5" (Lumileds, Nichia, Cree, Osram Opto and Toyoda Gosei), expanding that group to what would become "The Big 6". So I do what I always do when I don't know the answer. I called Bob Steele, our industry's foremost prognosticator (and world traveler, most recently back from safari in Africa). Bob had just completed the latest Strategies Unlimited HB LED Market Review and Forecast prior to leaving for Africa.

The whopping 170 page Strategies Unlimited HB LED market report is the definitive roundup of the demand side. While market growth is slowing some, the overall advanced LED market is still expected to reach $6.8 billion in 2009, nearly doubling from 2004. The supply side, which Bob and his colleagues at SU will be reporting next, will include the facts that market maturity is indeed changing the landscape. In our telephone chat, Bob agreed with the word on the Taiwan streets that the merger of UEC and Epistar indeed boosts their status. But he pointed out that there are also other very big Asian players coming on fast, including Seoul Semiconductor in Korea. He added that mainland China now has 6 to 8 epiwafer and chip companies coming online, in addition to Cotco. The old "Big 5" may have to be relegated to history as simply "The Pioneers." We'll see what happens when the consolidation dust settles.

So as companies get bigger, and some of the biggies get bought, how does the SSL industry landscape look to be reshaping as we pull out of summer? Extremely promising, especially if you're in it for the long haul. Some of the smaller companies that don't merge with their big brothers may be left by the wayside, but the good people in those companies (and their IP) simply move on to another home. Strategies Unlimited's HB LED report stresses that growth between now and 2009 will be driven by emerging applications such as illumination, automotive headlamps, and backlights for LCD monitors and TV screens whereas the industry grew largely by mobile appliances such as mobile phones, digital cameras, PDAs, etc. That, to me, is significant. It means we're moving logically to higher end applications.

The changes in the landscape and the promise of IPOs and more consolidation may also equate to a welcome stabilization of LED prices. I find that especially encouraging. Whereas most successful USA-based LED companies (Cree, Lumileds, etc.) enjoy healthy gross margins, many of the Asian companies have been working at a much lower margin, and that simply can't continue. I recall the age-old marketing metric: If you can't make it for less than you sell it for, you certainly won't make it up in volume. If the margins improve, it follows then that so will the wages to the employees producing the goods. Thus, everyone's quality of life will be elevated while the world becomes better illuminated. Literally and figuratively. Think about it. Price isn't everything in life.