PROMOS TECHNOLOGIES INC. AND REPORT OF INDEPENDENT ACCOUNTANTS DECEMBER 31, 2005 AND 2004

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1 PROMOS TECHNOLOGIES INC. FINANCIAL STATEMENTS AND REPORT OF INDEPENDENT ACCOUNTANTS DECEMBER 31, 2005 AND 2004

2 To the Board of Directors and Shareholders of Inc. REPORT OF INDEPENDENT ACCOUNTANTS PWCR We have audited the accompanying consolidated balance sheet of Inc. (the Company ) and its subsidiaries as of 2005, and the related consolidated statements of operations, of changes in shareholders equity and of cash flows for the year then ended, expressed in thousands of New Taiwan dollars. These consolidated financial statements are the responsibility of the Company s management. Our responsibility is to express an opinion on these financial statements based on our audit. We did not audit the financial statements of a certain directly owned consolidated subsidiary. These financial statements were audited by other auditors, whose report thereon has been furnished to us. Total assets and liabilities of such subsidiary as of 2005 amounted to NT$440,297 thousand and NT$864 thousand, and represented 0.4% and 0% of consolidated total assets and liabilities, respectively. Related operating revenues and net loss of such subsidiary for the year then ended amounted to NT$3,838 thousand and NT$15,938 thousand, and represented 0.01% and 1.79% of consolidated operating revenues and net loss, respectively. The unconsolidated balance sheet of Inc. as of 2004, and the related unconsolidated statements of operations, of changes in shareholders equity and of cash flows for the year then ended were audited by other independent accountants whose report, dated January 31, 2005, expressed an unqualified opinion on those statements. We conducted our audit in accordance with the Rules Governing the Examination of Financial Statements by Certified Public Accountants and generally accepted auditing standards in the Republic of China. Those standards and rules require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit and the report of the other auditors provide a reasonable basis for our opinion. In our opinion, based on our audit and the report of other auditors, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Inc. and its subsidiaries as of 2005, and the results of its operations and its cash flows for the year then ended in conformity with Rules Governing the Preparation of Financial Statements of Securities Issuers and generally accepted accounting principles in the Republic of China. ~1~

3 As discussed in Note 1, the Company did not prepare consolidated financial statements as of and for the year ended 2004 due to neither total assets nor operating revenues of those unconsolidated subsidiaries exceeded 10% of those respective unconsolidated balances of the Company, in accordance with to the Statement of Financial Accounting Standards No. 7 Consolidated Financial Statements ( SFAS No. 7 ). Effective January 1, 2005, the Company adopted the amended SFAS No. 7, under which the Company was not required to restate its financial statements due to the same foregoing reason. Accordingly, the financial statements as of and for the year ended 2004 were prepared under the unconsolidated basis. Hsinchu, Taiwan February 10, The accompanying financial statements are not intended to present the financial position, results of operations and cash flows in accordance with accounting principles generally accepted in countries and jurisdictions other than the Republic of China. The standards, procedures and practices in the Republic of China governing the audit of such financial statements may differ from those generally accepted in countries and jurisdictions other than the Republic of China. Accordingly, the accompanying financial statements and report of the independent accountants are not intended for use by those who are not informed about the accounting principles or auditing standards generally accepted in the Republic of China, and their applications in practice. ~2~

4 PROMOS TECHNOLOGIES INC. BALANCE SHEETS (Expressed in Thousands of Dollars) (Consolidated) (Unconsolidated) ASSETS Current Assets Cash and cash equivalents (Note 4 (1)) $ 12,386,372 $ 10,882,403 Short-term investments (Note 4 (2)) 207,000 6,025,700 Accounts receivable, net (Note 4 (3)) 3,946,861 5,776,825 Accounts receivable - related parties (Notes 4(3) and 5) 1,531,579 3,754,518 Other receivables 521, ,734 Other receivables - related parties (Note 5) 1,060, ,120 Other financial assets 28,495 42,004 Inventories (Note 4 (4)) 5,932,960 4,232,939 Prepaid expenses (Note 5) 2,847,062 11,735 Prepayments 98, ,536 Deferred income tax assets - current (Note 4 (16)) 772,431 1,213,571 Restricted assets (Note 6) 388,665 68,494 Total current assets 29,721,426 32,912,579 Long-Term Investments (Note 4 (5)) Long-term investment in funds 328,500 - Long-term investments accounted for under the equity method - 1,514,592 Long-term investments accounted for under the cost method 397, ,740 Long-term investments in bonds 1,600, ,000 Total long-term investments 2,326,325 2,585,332 Property, Plant and Equipment, Net (Notes 4 (6), 5 and 6) Cost Land 207,762 - Buildings 27,867,049 17,554,259 Machinery and equipment 77,079,575 62,513,406 Computer and communication equipment 1,003, ,700 Transportation equipment 11,369 3,602 Office equipment 76,775 3,354 Leased assets 1,835, ,715 Leasehold improvements 26,510 2,286 Cost and revaluation increments 108,107,427 81,569,322 Less: Accumulated depreciation ( 54,861,446 ) ( 46,441,764 ) Construction in progress and prepayments for equipment 15,950,062 5,962,236 Total property, plant and equipment, net 69,196,043 41,089,794 Intangible Assets (Note 4 (7)) Patents 1,651,142 1,986,336 Goodwill 283,323 - Other intangible assets 1,680,302 2,541,982 Total intangible assets 3,614,767 4,528,318 Other Assets Rental assets - 102,452 Refundable deposits 42, ,655 Deferred charges 556, ,109 Deferred income tax assets - noncurrent (Note 4 (16)) 1,020, ,587 Other assets - other (Note 6) 2,459,565 2,763,527 Total other assets 4,079,826 4,136,330 TOTAL ASSETS $ 108,938,387 $ 85,252,353 (Continued) ~3~

5 PROMOS TECHNOLOGIES INC. BALANCE SHEETS (Expressed in Thousands of Dollars) (Consolidated) (Unconsolidated) LIABILITIES AND SHAREHOLDERS' EQUITY Current Liabilities Short-term loans (Notes 4 (8) and 6) $ 1,986,918 $ 1,048,675 Commercial papers payable (Note 4 (9)) 730,000 - Accounts payable (Note 5) 2,550,982 2,031,258 Accrued expenses 1,715,666 1,591,757 Other payables - related parties (Note 5) 1,392,862 1,289,573 Other payables 5,539,904 3,202,608 Long-term liabilities - current portion (Notes 4 (10) and 6) 13,036,393 5,292,570 Total current liabilities 26,952,725 14,456,441 Long-term Interest-bearing Liabilities (Notes 4 (10) and 6) Bonds payable 2,819,408 4,653,527 Long-term loans 19,895,981 5,953,276 Long-term payables 2,639,244 - Capital lease payable noncurrent 500,306 97,500 Total long-term interest bearing liabilities 25,854,939 10,704,303 Other Liabilities Accrued pension liabilities (Note 4 (15)) 151, ,533 Guarantee deposits received (Note 5) 1, Total other liabilities 153, ,551 Total Liabilities 52,961,532 25,303,295 Shareholders' Equity Capital (Note 4 (11)) Common stock 49,893,328 44,498,038 Common stock subscribed - 9,374 Capital Surplus (Note 4 (12)) Additional paid-in capital 5,786,855 5,638,639 Retained Earnings (Note 4 (13)) Legal reserve 1,042,866 33,060 Special reserve 74,328 - (Accumulated deficits) retained earnings ( 904,225 ) 10,395,603 Cumulative Translation Adjustments ( 35,390 ) ( 74,328 ) Treasury Stock (Note 4 (14)) ( 997,123 ) ( 551,328 ) Shareholders' Equity 54,860,639 59,949,058 Minority Interest 1,116,216 - Total Shareholders' Equity 55,976,855 59,949,058 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 108,938,387 $ 85,252,353 The accompanying notes are an integral part of these financial statements. See report of independent accountants dated February 10, ~4~

6 PROMOS TECHNOLOGIES INC. STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, (Expressed in Thousands of Dollars; Except for Earnings (Loss) Per Share Amount) Operating revenues (Note 5) (Consolidated) (Unconsolidated) Sales revenues $ 30,763,371 $ 43,977,417 Sales returns ( 930,483 ) ( 1,018,706 ) Net operating revenues 29,832,888 42,958,711 Operating costs (Notes 4 (18) and 5) Cost of goods sold ( 25,513,202 ) ( 26,305,137 ) Gross profits 4,319,686 16,653,574 Operating expenses (Notes 4 (18) and 5) Selling and marketing expenses ( 702,248 ) ( 1,330,625 ) General and administrative expenses ( 1,492,132 ) ( 1,358,781 ) Research and development expenses ( 2,759,817 ) ( 2,379,538 ) ( 4,954,197 ) ( 5,068,944 ) Operating income (loss) ( 634,511 ) 11,584,630 Non-operating income and gains Interest income 306, ,390 Gain on disposal of property, plant and equipment (Note 5) 4,383 13,963 Gain on disposal of investments, net 67, ,308 Rental income (Note 5) 10,248 7,899 Reversal of bad debt expense 243,397 - Reversal of loss on decline in market value of inventory - 2,050 Other non-operating income (Note 5) 81,906 55,518 Non-operating expenses and losses 713, ,128 Interest expense (Note 4 (6)) ( 692,547 ) ( 549,003 ) Investment loss accounted for under the equity method (Note 4 (5)) - ( 731,220 ) Loss on disposal of property, plant and equipment - ( 2,522 ) Foreign exchange loss ( 27,705 ) ( 492,287 ) Provision for loss on obsolescence and decline in market value of inventory ( 32,053 ) - Other non-operating losses (Notes 4 (18) and 5) ( 18,762 ) ( 28,665 ) ( 771,067 ) ( 1,803,697 ) (Loss) income before income tax ( 692,121 ) 10,363,061 Income tax expense (Note 4 (16)) ( 75,167 ) ( 265,000 ) Consolidated net income (loss) ( $ 767,288 ) $ 10,098,061 Attributable to: Equity holders of the Company ( $ 889,158 ) $ 10,098,061 Minority interest 121,870 - Consolidated net income (loss) ( $ 767,288 ) $ 10,098,061 Basic earnings (loss) per share (Note 4 (17)): Before tax After tax Before tax After tax Net income (loss) ( $ 0.17 ) ( $ 0.18 ) $ 2.23 $ 2.17 Diluted earnings (loss) per share Net income (loss) ( $ 0.17 ) ( $ 0.18 ) $ 2.12 $ 2.07 The accompanying notes are an integral part of these financial statements. See report of independent accountants dated February 10, ~5~

7 PROMOS TECHNOLOGIES INC. STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITY FOR THE YEARS ENDED DECEMBER 31, (Expressed in Thousands of Dollars) (Unconsolidated) 2004 Common Stock Capital Capital Surplus Retained Earnings Common Stock Subscribed Additional Paid-in Capital Legal Reserve Special Reserve Retained Earnings (Accumulated Deficits) Cumulative Translation Adjustments Treasury Stock Minority Interest Total Balance at January 1, 2004 $ 38,691,982 $ - $ 2,478,981 $ - $ - $ 330,603 $ - ( $ 1,392,814 ) $ - $ 40,108,752 Issuance of / subscription of common stocks 5,750,000 9,374 3,120, ,879,540 Conversion of convertible bonds 56,056-39, ,548 Appropriation of 2003 earnings: Legal reserve ,060 - ( 33,060 ) Transfer of treasury stocks to employees , ,486 Net income in ,098, ,098,061 Translation adjustment of long-term investments ( 74,328 ) - - ( 74,328 ) Rounding ( 1 ) ( 1 ) Balance at ,498,038 9,374 5,638,639 33,060-10,395,603 ( 74,328 ) ( 551,328 ) - 59,949,058 (Consolidated) 2005 Conversion of convertible bonds 1,166, , ,353,016 Return of common stocks subscribed - ( 9,374 ) ( 9,374 ) Appropriation of 2004 earnings: Legal Reserve ,009,806 - ( 1,009,806 ) Special Reserve ,328 ( 74,328 ) Remuneration to directors and supervisors ( 150,000 ) ( 150,000 ) Stock dividends 4,097, ( 4,097,047 ) Employees stock bonus 465, ( 465,573 ) Employees cash bonus ( 465,573 ) ( 465,573 ) Cash dividends ( 4,097,047 ) ( 4,097,047 ) Net loss in ( 889,158 ) ,870 ( 767,288 ) Changes in minority interest , ,346 Retirement of treasury stocks ( 333,454 ) - ( 38,676 ) - - ( 51,296 ) - 423, Transfer of treasury stocks to employees , ,902 Acquisition of treasury stocks ( 997,123 ) - ( 997,123 ) Translation adjustment of long-term investments , ,938 Balance at 2005 $ 49,893,328 $ - $ 5,786,855 $ 1,042,866 $ 74,328 ( $ 904,225 ) ( $ 35,390 ) ( $ 997,123 ) $1,116,216 $ 55,976,855 The accompanying notes are an integral part of these financial statements. See report of independent accountants dated February 10, ~6~

8 PROMOS TECHNOLOGIES INC. STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, (Expressed in Thousands of Dollars) CASH FLOWS FROM OPERATING ACTIVITIES (Consolidated) (Unconsolidated) Consolidated net income (loss) ( $ 767,288 ) $ 10,098,061 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation 8,635,946 8,795,105 Amortization 1,536,342 1,791,327 Gain on disposal of property, plant and equipment, net ( 4,383 ) ( 11,440 ) Gain on disposal of investments, net ( 67,028 ) - Provision for (reversal of) loss on obsolescence and decline in market value of inventory 32,053 ( 2,050 ) Reversal of allowance for doubtful accounts ( 243,397 ) - Compensation interest payable 318,308 ( 140,067 ) Investment loss accounted for under the equity method - 731,220 Loss on disposal of obsolete inventory 13,873 15,700 Foreign currency exchange loss on convertible bonds 361,394 - Changes in assets and liabilities (Increase) decrease in assets: Notes and accounts receivable 4,158,288 ( 1,663,330 ) Other receivables ( 407,250 ) ( 42,342 ) Inventories ( 706,756 ) 171,658 Prepaid expenses and prepayments ( 2,745,691 ) ( 539,840 ) Other financial assets 13,509 - Deferred income tax assets 90, ,328 Increase (decrease) in liabilities: Accounts payable 376, ,144 Accrued expenses 42, ,627 Other payables ( 16,835 ) ( 1,107,764 ) Other payables - related parties - 302,206 Other current liabilities - 5,708 Accrued pension liabilities 9,381 25,616 Net cash provided by operating activities 11,444,088 19,942,867 (Continued) ~7~

9 PROMOS TECHNOLOGIES INC. STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, (Expressed in Thousands of Dollars) CASH FLOWS FROM INVESTING ACTIVITIES (Consolidated) (Unconsolidated) Decrease in restricted assets $ 433,948 $ 51,413 Decrease (increase) in short-term investments, net 5,885,728 ( 2,245,576 ) Acquisition of long-term investments in equity securities ( 250,000 ) ( 700,770 ) Acquisition of long-term investments in bonds ( 1,100,000 ) ( 750,000 ) Acquisition of long-term investment in funds ( 331,800 ) - Acquisition of property, plant and equipment ( 31,854,818 ) ( 14,938,564 ) Acquisition of rental assets - ( 107,479 ) Proceeds on disposal of property, plant and equipment 11,474 61,036 Decrease (increase) in refundable deposits 225,064 ( 164,503 ) Increase in deferred charges ( 502,471 ) ( 170,163 ) Decrease in other assets other - 296,563 Net cash used in investing activities ( 27,482,875 ) ( 18,668,043 ) CASH FLOWS FROM FINANCING ACTIVITIES Increase (decrease) in short-term loans 936,515 ( 1,143,697 ) Increase (decrease) in commercial papers payable 730,000 ( 258,000 ) Proceeds from issuance of in convertible bonds 7,114,500 - Redemption of convertible bonds ( 810,000 ) ( 1,958,813 ) Proceeds from long-term loans 18,328,000 1,710,406 Payment of long-term loans ( 4,341,732 ) - Payment of long-term payables - ( 160,000 ) Increase (decrease) in guarantee deposits received 1,936 ( 822 ) Proceeds from issuance of common stocks - 8,870,166 Payment of cash dividends ( 4,097,047 ) - Remuneration to directors and supervisors ( 150,000 ) - Payment of employees bonus ( 465,573 ) - Proceeds from disposal of treasury stocks 127, ,486 Acquisition of treasury stocks ( 997,123 ) - (Decrease) increase in common stock subscribed ( 9,374 ) 9,374 Net cash provided by financing activities 16,368,004 7,910,100 Effect on initial consolidation of subsidiaries 1,200,066 - Effect of foreign currency exchange ( 25,314 ) - Increase in cash and cash equivalents 1,503,969 9,184,924 Cash and cash equivalents at beginning of period 10,882,403 1,697,479 Cash and cash equivalents at end of period $ 12,386,372 $ 10,882,403 Supplemental disclosures of cash flow information Interest paid $ 627,275 $ 685,970 Less: Capitalized interest expense ( 249,529 ) - Interest paid, excluding capitalized interest expense $ 377,746 $ 685,970 Income tax paid $ 175,071 $ 10,215 Non-cash flows from financing activities Bonds payable converted into common stocks and additional paid-in capital $ 1,353,016 $ 95,547 The accompanying notes are an integral part of these financial statements. See report of independent accountants dated February 10, ~8~

10 PROMOS TECHNOLOGIES INC. NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2005 AND 2004 (Expressed in Thousands of New Taiwan Dollars Except As Otherwise Indicated) 1. HISTORY AND ORGANIZATION (1) Inc. (the Company ) was incorporated on December 12, 1996 as a joint venture company of Mosel Vitelic Inc. (MVI) and Siemens Aktiengesellschaft (Siemens) and is headquartered in Hsinchu Science-Based Industrial Park. The Company s shares have been traded on the GreTai Securities Market (GTSM) in the Republic of China since May 13, In March 2002, Siemens transferred a portion of its shareholding to Infineon Technologies A.G. (Infineon), then Infineon sold all of its shareholding during the year The Company engages in the design, research, development, manufacturing and sales of semiconductor products and also conducts import / export trading of such products. As of 2005, the Company and its subsidiaries had 4,540 employees. (2) Information on of consolidated subsidiaries: Percentage of ownership as of Name of subsidiaries Location Mosel Vitelic Corporation California U.S.A. 50% 50% United Memories, Inc. Colorado U.S.A. 100% 100% PTE. Ltd. Singapore 100% 100% Flourishing Moment Limited British Virgin Island ( BVI ) 100% 100% Putian Maode Technologies (Chongqing) Corporation Chongqing China 49% - The major business activities of each subsidiary were summarized as follows: 1) Mosel Vitelic Corporation: IC research, design, development, manufacturing and marketing. 2) United Memories, Inc.: Development of prototype integrated circuits and service generated. 3) PTE. Ltd. ( ProMOS PTE ): IC design, development, consulting, licensing and marketing. In 2005, ProMOS PTE issued additional 25,000 thousand shares at US$1.00 (in dollar) and the Company obtained 100% ownership of the foregoing shares issued. 4) Flourishing Moment Limited: Holding corporation. 5) Putian Maode Technologies (Chongqing) Corporation ( Putian ProMOS ): A new equity investment acquired by the Company in Putian ProMOS engages in flash research, design, development, manufacturing, sales and technical service. Although the Company did not have majority ownership in Putian ProMOS, it was included in consolidated entities due to its general manager was assigned by the Company and the Company had control over Putian ProMOS operations. ~9~

11 6) The Company did not prepare consolidated financial statements as of and for the year ended 2004 to include Mosel Vitelic Corporation, United Memories, Inc., PTE. Ltd. and Flourishing Moment Limited due to neither total assets nor operating revenues of those unconsolidated subsidiaries exceeded 10% of those respective unconsolidated balances of the Company, in accordance with to the Rules Governing the Preparation of Financial Statements of Securities Issuers. Effective January 1, 2005, the Company adopted the amended Statement of Financial Accounting Standard ( SFAS ) No.7 Consolidated Financial Statements ( SFAS No. 7 ), under which the Company was not required to restate its financial statements due to the same foregoing reason. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying financial statements are prepared in accordance with the Rules Governing the Preparation of Financial Statements of Securities Issuers and generally accepted accounting principles in the Republic of China. The Company s significant accounting policies are summarized as follows: (1) Principles of consolidation Effective January 1, 2005, the Company adopted the amended SFAS No. 7 and prepared consolidated financial statements to include investee companies in which the Company directly or indirectly owns more than 50% of voting rights or over which the Company effectively controls, even though the Company directly or indirectly owns less than 50% of voting rights, in which case, the whole entity was included in the consolidated financial statements. The amended SFAS No. 7 shall be applied prospectively, and the Company was not required to prepare prior years consolidated financial statements. Unrealized profits and losses on transactions among affiliates and related assets and liabilities were eliminated upon consolidation. (2) Translation of foreign currency transactions The accounts of the Company are maintained in New Taiwan dollars. Transactions arising in foreign currencies are translated into New Taiwan dollars at the exchange rates prevailing on the dates of the transactions. Assets and liabilities denominated in foreign currencies are translated into New Taiwan dollars at the exchange rate prevailing on the balance sheet date. Gains or losses from foreign currency translations are included in current year's operations. The initial investments in foreign subsidiaries and investee companies accounted for under the equity method are carried at cost using the historical rates, and investment income or losses recognized are translated into New Taiwan dollars at the average rates of exchange prevailing during the period. Assets and liabilities of foreign subsidiaries and equity investee companies are translated into New Taiwan dollars at the exchange rate prevailing on the balance sheet date; equity accounts are translated at historical rates, except for beginning retained earnings which are transferred from prior year's ending retained earnings, and income and expense accounts are translated into New Taiwan dollars at the average rates of exchange prevailing during the period. Translation adjustments are taken directly to a separate component of shareholders equity, cumulative translation adjustments. ~10~

12 (3) Financial derivatives Forward exchange contracts entered into for hedging purposes are recorded using the spot rates on the contract dates. Discounts or premiums on forward contracts are amortized over the period of the contracts. Gains or losses on forward contracts are determined by the difference between the spot rates at the balance sheet date and at the contract inception date. Exchange gains or losses are included in current year s operations. The amount of the foreign currency option contracts entered into for purposes other than trading, is not recorded as asset or liability at the contract inception date. The exchange gains or losses arising from the exercise of the options are charged to the current period results of operations. Premiums paid or received on option contracts are amortized over the contract periods on a straight-line basis. Options contracts are revalued at market value at the balance sheet date and recorded as financial assets or liabilities. Unrealized gains or losses arising from the revaluation are charged to current period results of operations. The notional amount of the interest rate swap contracts entered into for purposes other than trading is not recorded as assets or liabilities at the contract inception date. Any differential interest receipts and payments arising from the difference between the contractual interest rates and the market prevailing interest rates are recorded as an adjustment to the interest income or expense of the hedged assets or liabilities. (4) Cash equivalents Cash equivalents are short-term, highly liquid investment, which are readily convertible to known amounts of cash and with maturity dates that do not present significant risk of changes in value because of changes in interest rates. (5) Short-term investments Short-term investments are recorded at cost when acquired. The carrying amounts of the marketable security portfolio are stated at the lower of its aggregate costs or its market values on the balance sheet date. Costs of investments sold are determined using the first-in, first-out method. Any loss due to the decline in market value is charged to the current period results of operations. (6) Allowance for doubtful accounts Allowance for doubtful accounts is provided according to the evaluation of the collectibility of ending balances of notes receivable, accounts receivable and other receivables. (7) Inventories Inventories are stated at the lower of cost or market value. The market values of raw materials are determined based on current replacement costs while the market values of work in process and finished goods are determined based on net realizable values. Inventories are stated at standard costs, which are adjusted to actual costs based on the weighted average method on the balance sheet date. Inventories are stated at actual costs in consolidated subsidiary Putian Maode Technologies (Chongqing) Corporation. Cost is determined using the weighted average method. Provision for slow-moving, obsolescence and decline in market value of inventory is assessed and provided at balance sheet date. ~11~

13 (8) Long-term investments Long-term investments in which the Company owns less than 20% of the investee company s voting rights and has no ability to exercise significant influence on the investee company s operational decisions are accounted for at cost, unless the investee company is a publicly listed company, in which case the lower of cost or market value method is adopted. Under the lower of cost or market value method, the allowance for unrealized loss is deducted from the shareholders' equity. Long-term investments in which the Company owns at least 20% of the investee company s voting rights are accounted for under the equity method, unless the Company has no ability to exercise significant influence over the investee company, in which case the investment is accounted for at cost. The excess of the acquisition cost over the investee company's net asset value is capitalized and amortized over five years using the straight-line method. The Company prepares semiannual and annual consolidated financial statements, in which all majority owned subsidiaries were included. The capital reserve and long-term investment amounts are adjusted for the variance between the investment costs and net asset values of the investee companies arising from the disproportionate changes of interest in connection with the capital increase or reduction by the investee company. Unrealized downstream gains and losses between the Company and investee companies accounted for under the equity method are fully eliminated when the Company has control over the investee companies, otherwise are eliminated in proportion to the percentage of interest holding at period end. Unrealized upstream gains and losses are eliminated in proportion to the percentage of interest holding. Unrealized gains and losses between affiliates are eliminated in proportion to the percentages of interest holding of investee companies in which the unrealized gains and losses arisen when the Company has control over both investee companies, otherwise are eliminated by multiplying the percentages of interest holding in both investee companies. (9) Property, plant and equipment Property, plant and equipment are stated at cost. Interest incurred relating to the acquisition and construction of property, plant and equipment is capitalized. Significant renewals and improvements are treated as capital expenditure and are depreciated accordingly. Maintenance and repairs are charged to expense as incurred. Depreciation is provided using the straight-line method over the estimated economic service lives that range as follows: 1) Building: 20 years. 2) Facilities: 10 years. 3) Machinery and equipment: 5 years. 4) Computer and communication equipment: 3 to 5 years. 5) Transportation equipment: 3 to 5 years. 6) Office equipment: 3 to 5 years. 7) Leasehold improvements: 3 to 5 years. 8) Leased assets: 5 years. ~12~

14 When the estimated economic lives expire, property, plant and equipment that are still in service, are depreciated over the newly estimated remaining useful lives based on its salvage values. Properties under capital leases are carried at the lower of the market value of the leased equipment or the present value of the minimum lease payments at the inception of the leases and are depreciated over the useful lives of the leased properties. Interest expense is accrued on the basis of the outstanding capital lease obligation using the effective interest rate method. The difference between the proceeds from sale-leaseback transactions and the book value of the leaseback assets is amortized over remaining service lives as adjustment to depreciation expense. Assets held for leases are classified as other assets. Depreciation of such assets is charged to non-operating expense. (10) Intangible assets Patents and acquired technology know-how are amortized using the straight-line method over their economic service lives or the related contract periods. (11) Deferred charges Deferred charges are amortized using the straight-line method over the following periods: Computer software cost, 3 to 7 years; bond issuance costs, the terms of the bonds. (12) Convertible bonds The excess of the stated redemption price over the par value is recognized as interest expense and compensation interest payable using the effective interest method for the period from the issuance date to the last day of redemption period. When bondholders exercise their conversion rights, the book value of bonds is credited to common stock at an amount equal to the par value of the common stock and the excess is credited to capital reserve; no gain or loss is recognized on bond conversion. (13) Retirement plan and net periodic pension cost Under the defined benefit pension plan, net periodic pension cost, which includes service cost, interest cost, expected return on plan assets, and amortization of unrecognized net transition obligation and gains or losses on plan assets, is recognized based on an actuarial valuation report. Unrecognized net transition obligation is amortized on a straight-line basis over 15 years. Under the defined contribution pension plan, net periodic pension cost is recognized as incurred. ~13~

15 (14) Treasury stock Treasury stocks are accounted for under SFAS No. 30 Accounting for Treasury Stocks. Related policies are summarized as follows: A. When the Company repurchases its outstanding common stock, the cost of the reacquired stock is recorded as treasury stock as a deduction to shareholders equity. B. When treasury stock is sold, related gain is first credited to capital reserve-treasury stock and any loss is offset against this capital reserve account and any remaining amount is charged to retained earnings. C. When treasury stock is retired, the treasury stock account is credited and all capital account balances related to the treasury shares, including capital reserve from paid-in capital in excess of par, are debited on a proportionate basis. When the book value of treasury stock exceeds the sum of the par value and additional paid-in capital, the difference is first charged to capital reserve-treasury stock and any remaining amount is charged to retained earnings. When the book value of treasury stock is less than the sum of the par value and additional paid-in capital, the difference is credited to capital reserve-treasury stock. (15) Income tax The company uses inter-period as well as intra-period tax allocation for income tax. Any over-provision or under-provision of prior years income tax liabilities is included in current year s income tax expense. Any tax credit arising from the purchase of machinery and equipment and research and development expenditures is recognized using the flow-through method. The additional 10% income tax on undistributed earnings is recognized in the year when the shareholders approved the resolution to retain the earnings. (16) Revenue, cost and expense recognition Revenue is recognized when the earning process is substantially complete and considered realized or realizable. Costs are recognized when the associated revenue is earned. Expenses are recognized as incurred. (17) Capital expenditure and operating expenditure Costs and expenditures which have future economic benefits are capitalized as asset. Otherwise they are expensed when incurred. (18) Asset impairment Property, plant and equipment and other non-current assets, including investments, are reviewed for impairment losses whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. Impairment loss is recognized for the amount by which the carrying amount of the asset exceeds its recoverable amount. The recoverable amount is the higher of an asset s net fair value and its value in use. The net fair value is the amount received under an arm s length transaction. The value in use is the present amount calculated by discounting the expected cash flows generated from the use of an asset in future service years. ~14~

16 When the value of the impaired asset subsequently recovers, the carrying amount of the asset is increased to the revised recoverable amount, but only to the extent that the increased amount does not exceed the original carrying amount without taking into account any impairment loss recognized in prior years. The reversal of goodwill impairment is not allowed. (19) Use of estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and the accompanying notes. Actual results could differ from those assumptions and estimates. 3. EFFECTS OF CHANGES IN ACCOUNTING PRINCIPLES Effective January 1, 2005, the Company adopted the SFAS No. 35 Accounting for Asset Impairment. The change in accounting principle had no significant effect on the Company s financial statements for the year ended SUMMARY OF SIGNIFICANT ACCOUNTS (1) Cash and cash equivalents Cash and bank deposits $ 8,400,664 $ 3,420,946 Time deposits 2,129,513 5,466,582 Cash equivalents 1,856,195 1,994,875 $ 12,386,372 $ 10,882,403 (2) Short-term investments Beneficiary certificates $ 207,000 $ 6,025,700 (3) Accounts receivable, net Accounts receivable $ 3,946,861 $ 5,776,825 Accounts receivable-related parties 1,531,579 3,754,518 $ 5,478,440 $ 9,531,343 ~15~

17 (4) Inventories Raw materials and supplies $ 941,183 $ 741,621 Work in process 4,301,350 3,211,637 Finished goods 893, ,068 6,136,400 4,404,326 Less: Allowance for loss on obsolescence and decline in market value of inventory ( 203,440 ) ( 171,387 ) (5) Long-term investments A. Details of long-term investments are summarized as follows: Name of investee (A) Investments accounted for under the equity method: Amount $ 5,932,960 $ 4,232,939 % of ownership Amount % of ownership Mosel Vitelic Corporation $ - - $ 1,181,181 50% United Memories, Inc , % PTE. Ltd , % Flourishing Moment Limited , % Putian Maode Technologies (Chongqing) Corporation (B) Investments accounted for under the cost method: - 1,514,592 Inapac Technology, Inc. 114, ,740 - NanoAmp Solutions, Inc. 32, Chinese Commercial Bank 250, (C) Long-term investments in bonds: 397, ,740 Debenture of Macoto Commercial Bank - 200,000 Debenture of Chinese Commercial Bank - 250,000 Bonds of China Rebar Company, Ltd. 480, ,000 Bonds of Chia Hsin Food and Synthetic Fiber Co., Ltd. 470, ,000 Debenture of Hsinchu International Bank 150,000 - Debenture of Chinfon Commercial Bank 500,000 - (D) Long-term investment in funds: 1,600, ,000 Regency Fund L.L.C. 328,500 - $ 2,326,325 $ 2,585,332 ~16~

18 B. The investment income (loss) is recognized based on each of the equity investee s audited financial statements, which is summarized as follows: For the year ended 2004 Mosel Vitelic Corporation ( $ 176,953 ) United Memories, Inc. ( 6,266 ) PTE. Ltd. ( 548,001 ) ( $ 731,220 ) C. The shareholdings in Inapac Technology, Inc., NanoAmp Solutions, Inc. and Chinese Commercial Bank were preferred stocks without voting rights and were accounted for under the cost method. D. In 2005, the Company pledged its long-term investments in bonds for the issuance of commercial papers, which consisted of debentures of Macoto Commercial Bank and Chinese Commercial Bank. (Shown in Other asset - other, please refer to Note 6) (6) Property, plant and equipment Land $ 207,762 $ - Buildings 27,867,049 17,554,259 Machinery and equipment 77,079,575 62,513,406 Computer and communication equipment 1,003, ,700 Transportation equipment 11,369 3,602 Office equipment 76,775 3,354 Leased assets 1,835, ,715 Leasehold improvements 26,510 2, ,107,427 81,569,322 Less: Accumulated depreciation ( 54,861,446 ) ( 46,441,764 ) 53,245,981 35,127,558 Construction in progress and prepayment for equipment 15,950,062 5,962,236 $ 69,196,043 $ 41,089,794 A. On October 27, 2004, the Company s Board of Directors approved the purchase of an office building from Mosel Vitelic Inc. The acquisition price, determined based on the average appraised value obtained from four appraisers, was $1,100,000. Title transfer of the office building was completed on January 11, 2005, and the related proceeds were fully paid in March B. In January 2005, the Company s Board of Directors approved the purchase of employee dormitories from Mosel Vitelic Inc. The acquisition price, determined based on the average appraised value obtained from two appraisers, was $620,000. On March 11, 2005, title transfer of the employee dormitories was completed. ~17~

19 C. Certain machinery and equipment are financed through sale-leaseback transactions entered with domestic and foreign leasing companies and are accounted for as capital leases. The lease payments are payable on a quarterly basis. Please refer to Note 4(10). D. Certain property, plant and equipment were pledged as guarantees for long-term loans. Please refer to Note 6. E. In 2005, the second 12-inch wafer fabrication plant was under construction and the related interest capitalized was $249,529. (7) Intangible assets Patents $ 1,651,142 $ 1,986,336 Technology know-how 1,680,302 2,541,982 Goodwill 283,323 - $ 3,614,767 $ 4,528,318 A. To enhance the Company s core capability in memory manufacturing processes, design ability, patent portfolio and global logistic, on December 22, 2003, the Company s Board of Directors approved the purchase of DRAM-related patents and the process technologies for flash memory from Mosel Vitelic Inc. in the amount of US$72,500 thousand. B. The technology know-how was the technology transfer fees paid to Siemens Aktiengesellschaft and Infineon Technologies AG in connection with the acquisition of the dynamic random access memory (DRAM) manufacturing process and product technologies C. In November 2004, the Company and Infineon Technologies AG entered into the First Amendment to the License Agreement (the Amendment ). This Amendment confirms that the Company has the perpetual license to the proprietary technology transferred from Infineon Technologies AG. In addition, the Company was authorized to develop its own advanced processes and products, and to sublicense to its subsidiaries. The parties agreed to amend the variable royalty payments provided for in the original license agreement, which was determined based on a certain percentage of total sales of the Company, to a fixed royalty payment, payable in accordance with the payment schedule below. Under the Amendment, the Company would have no obligations to pay any license fees or royalties thereafter other than the following payments. The fixed installment payment terms were as follows: a) US$70 million before December 15, 2004; b) US$36 million before March 31, 2005; c) US$25 million before August 31, 2005; and d) US$25 million before April 30, D. The difference between original investment costs and the amount of underlying equity in net assets of investee companies was recorded in goodwill and amortized on a straight-line basis over five years. ~18~

20 (8) Short-term loans Working capital loans $ - $ 594,877 Borrowings for material purchase 1,986, ,798 $ 1,986,918 $ 1,048,675 Interest rates 0.62%~6.14% 0.60%~3.62% (9) Commercial papers payable Commercial papers payable $ 730,000 $ - Interest rates 1.20%~1.55% - (10) Long-term interest-bearing liabilities A. Bonds payable.first domestic secured bonds payable $ 1,890,000 $ 2,700,000 Less: Current portion ( 810,000 ) ( 810,000 ) 1,080,000 1,890,000.First overseas unsecured convertible bonds payable - 806,780 Less: Redemption of convertible bonds payable - ( 806,780 ) - -.Second overseas secured convertible bonds payable 2,956,500 2,859,715 Less: Conversion of convertible bonds payable ( 1,217,092 ) ( 96,188 ) 1,739,408 2,763,527.Third overseas unsecured convertible bonds payable 7,391,250 - Less: Conversion of convertible bonds payable ( 234,877 ) - Add: Compensation interest payable 306,390 - Less: Current portion ( 7,462,763 ) $ 2,819,408 $ 4,653,527 ~19~

21 a) The Company issued its first domestic secured bonds payable with a par value of $2,700,000 during the period from May 23, 2002 to June 4, The bonds bear interest at 4.2%, payable annually. The bonds are due in annual installments starting from May 2005 and are fully due by June A guarantee has been provided from a syndicated agreement with a consortium of 12 banks led by the Bank of Taiwan. Under the terms of agreement, the Company is required to maintain certain annual and semiannual financial ratios, including current ratio, liability ratio, and interest coverage ratio and endorsement amount over capital ratio, at certain levels throughout the terms of the bonds. As of 2005, the Company provided time deposits amounted to $270,000 as a pledge (shown as Other assets - other, please refer to Note 6). b) The Company issued its first overseas zero coupon unsecured convertible bonds with a par value of US$180 million. The bonds were listed on the Luxembourg Stock Exchange on April 6, The bonds were fully redeemed, and/or converted into common shares prior to c) On October 8, 2003, the Company issued its second overseas zero coupon secured convertible bonds, with a par value of US$90 million, issued at 105% of par. The bonds are traded on the Luxembourg Stock Exchange. The principal is due in a lump sum at maturity on October 8, 2008, endorsed by ABN AMRO Bank. Starting from 30 days after bond issuance to 10 days prior to the maturity, bondholders may request to convert the bonds into the Company s shares. In addition, bondholders may request to redeem the bonds at par value on October 8, As of 2005, the conversion price was $12.07 (in dollars) and bonds totaling US$37,050 thousand were converted into 101,128 thousand common shares. As of 2005 and 2004, the Company pledged cash amounted to US$52,950 thousand and US$87,150 thousand, respectively, to ABN AMRO Bank as guarantees (shown in Other assets - other, please refer to Note 6). In connection with bond conversions, redemptions and cancellations, the Company may reduce the pledged amounts in proportion to bonds outstanding balance. d) On June 20, 2005, the Company issued its third overseas zero coupon unsecured convertible bonds in the amount of US$225 million at par value. The bonds are traded on the Singapore Stock Exchange. The principal is due in a lump sum at maturity on June 20, Starting from 30 days after bonds issuance to 10 days prior to maturity, bondholders may request to convert the bonds into the Company s shares. In addition, bondholders may request to redeem the bonds at % of par on December 20, At any time on or after December 20, 2006, if the closing price of the Company s common shares traded at the R.O.C. GreTai Securities Market exceeds 125% of the conversion price in effect for 20 consecutive business days, the Company may redeem the outstanding bonds in full or in increments. As a result, the Company has transferred these bonds to current liabilities one year prior to the first day bondholders can exercise their conversion right. As of 2005, the conversion price was $10.64 (in dollars) and bonds totaling US$7,150 thousand were converted into 21,090 thousand common shares. ~20~

22 B. Long-term loans Bank of Taiwan (BOT)-led bank consortium: $5,000,000, repayable in 6 consecutive semiannual installments from August 2004 to August 2007; semiannual repayment $833,333. $ 2,500,000 $ 4,166,667 Bank of Taiwan (BOT)-led bank consortium: $2,650,000, repayable in 6 consecutive semiannual installments from March 2004 to March 2007; semiannual repayment $441, ,333 1,766,666 China Development Industrial Bank Inc. (CDIB): $400,000, repayable in 17 consecutive quarterly installments from August 2003 to August 2007; quarterly repayment $23, , ,826 China Development Industrial Bank Inc. (CDIB): $400,000, repayable in 15 consecutive quarterly installments from July 2002 to January 2006; quarterly repayment $26, ,330 China Development Industrial Bank Inc. (CDIB): $328,000, repayable in 13 consecutive quarterly installments from November 2006; quarterly repayment $25, ,000 - Chiao Tung Bank: $400,000, repayable in 7 consecutive semiannual installments from August 2004 to August 2007; semiannual repayment $57, , ,857 The Farmers Bank of China: $300,000, 4.5%, repayable in 6 consecutive semiannual installments from April 2004 to October 2006; semiannual repayment $50, , ,000 Taiwan Cooperative Bank-led bank consortium: $3,000,000, repayable in 5 consecutive semiannual installments from March 2005 to September 2007; semiannual repayment $600,000. 1,800,000 3,000,000 Taiwan Cooperative Bank-led bank consortium: $10,000,000, repayable in 8 consecutive semiannual installments from February 2007; semiannual repayment $1,250, ,000,000 - Taiwan Cooperative Bank-lead bank consortium: tranche a) $2,500,000, repayable in lump sum in December 2010; and tranche b) $5,000,000, repayable in 8 consecutive semiannual installments from June 2007; semiannual repayment $625,000 7,500,000 - Ta Chong Commercial Bank (TCB): $300,000, repayable in 6 consecutive semiannual installments from December 2004; semiannual repayment $50, , ,000 Ta Chong Commercial Bank (TCB): $500,000, repayable in 16 consecutive quarterly installments from February 2006; quarterly repayment $31, ,000 - Bank of Kaohsiung (BOK): $150,000, repayable in 6 consecutive semiannual installments from January 2005; semiannual repayment $25, , ,000 Sub-total 24,254,614 10,268,346 Less: Current portion ( 4,358,633 ) ( 4,315,070 ) Total $ 19,895,981 $ 5,953,276 Interest rates 2.65% ~ 6.80% 3.20% ~ 4.43% ~21~

23 a) The syndicated loans led by Bank of Taiwan and Taiwan Cooperative Bank were obtained to finance the purchase of machinery and equipment for the 12-inch wafer fabrication plant and the expansion of the 8-inch wafer fabrication plant. Under the terms of loan agreements, the Company is required to maintain certain annual and semiannual financial ratios, including current ratio, liability ratio, and interest coverage ratio and endorsement amount over capital ratio, at certain levels throughout the terms of the loans. The Company was required to deposit the collections from certain accounts receivable in the account established in managing bank, and to maintain specific accounts receivable at certain level at beginning of each month. b) Please refer to Note 6 for guarantees provided for long-term loans. C. Long-term payables Long-term payables for property, plant and equipment $ 2,670,335 $ - Less: Current portion (shown in Other payables ) ( 31,091 ) - $ 2,639,244 $ - In 2005, the Company entered into long-term property, plant and equipment purchase agreement amounted to JPY12 billion. Under the terms of the agreement, repayments were made semiannually, starting from six months after the date of shipment. The first two repayments represented payoffs of interests, while the principals and remaining interests were to repay from the third repayment and thereafter. D. Capital lease payables (11) Capital Obligations under capital leases $ 905,303 $ 265,000 Less: Current portion ( 404,997 ) ( 167,500 ) $ 500,306 $ 97,500 The Company entered into sale-leaseback agreements with domestic and foreign leasing companies to finance the purchase of certain machinery and equipment. These leases are accounted for as capital leases. The lease payments are payable quarterly from September 2003 to July As of 2005, total common stock issued amounted to $49,893,328, consisting of 4,989,333 thousand shares with the NT$10 (in dollars) par value per share, and total common stock outstanding was 4,881,852 thousand shares. On May 4, 2005, the Shareholders resolved, effective June 25, 2005, to appropriate the Company s earnings for 456,262 thousand shares of common stocks as stock dividends and employees bonus with the amount of $4,097,047 and $465,573, respectively. The Company has completed the amendment procedures for registration. ~22~