The world's largest contract chip maker plans to invest up to NT$5.55 billion (US$168.3 million) in a smaller partner to strengthen their alliance and continue to farm out orders for certain chips to the company.

The deal will see Taiwan Semiconductor Manufacturing Co. Ltd. increase its stake in Vanguard International Semiconductor Corp. by up to 11 percent in coming weeks. TSMC currently holds a 26.8 percent share of the company, but has no intention of merging with Vanguard, it said in a statement.

TSMC will continue to depend on Vanguard to handle certain chip-related work done in older 8-inch chip plants. TSMC has focused its new factory investment on 12-inch factories, which use larger, 12-inch silicon wafers during production. The company still invests in upgrades for its 8-inch plants, but has tried to avoid buying new production lines for the technology, which is slowly going out of use.

Vanguard has put its 8-inch plants to use making specialty chips, including contact image sensors (CIS) and driver chips used in LCD (liquid crystal display) products such as monitors and LCD TVs. In March, Vanguard agreed to buy two 8-inch chip factories from Winbond Electronics Corp. with total production of 40,000 wafers per month. Hundreds of chips can be made on a single 8-inch wafer. By expanding its production, Vanguard can continue to take some orders from TSMC clients as well as increase its overall business. The two companies enjoy a close working relationship.

TSMC may also be buying the stake because a Taiwan government investment fund, the Executive Yuan's Development Fund, wants to sell, according to Warren Lau, a chip analyst at Macquarie Research Equities in Hong Kong. The Development Fund still holds a 26.5 percent stake in Vanguard, and Lau believes that TSMC plans to buy a large portion of the government stake to raise its holding in Vanguard to as much as 50 percent.

And it's a good investment: VIS may be the most profitable contract chip maker in the business, Lau said.

The IDG News Service is a Network World affiliate.