Semiconductor Manufacturing International Corporation's CEO Discusses Q1 2013 Results - Earnings Call Transcript

Semiconductor Manufacturing International Corporation (NYSE:SMI)

Q1 2013 Earnings Conference Call

April 24, 2013 8:30 p.m. ET

Executives

En-Ling Feng – Senior Director of IR

T.Y. Chiu – Chief Executive Officer

Gareth Kung – Chief Financial Officer, SVP

Analysts

Randy Abrams – Credit Suisse

Bill Lu – Morgan Stanley

Dan Heyler – Bank of America-Merrill Lynch

[Seeho Ing] – [BNP]

Steven Pelayo – HSBC

[Roy Chen] – SWS Research

Miles Xie – BOCOM

Eric Chen – Daiwa Securities

Operator

Welcome to the Semiconductor Manufacturing International Corporation's first quarter 2013 webcast conference call. Today's conference call is chaired by Dr. T.Y. Chiu, Chief Executive Officer; Mr. Gareth Kung, Chief Financial Officer; and Mr. En-Ling Feng, Senior Director of Investor Relations.

Today's webcast conference call will be simultaneously streamed through the internet at SMIC's website. Please be advised that your dial-ins are in a listen-only mode. However, at the conclusion of the management presentation, we will be having a question-and-answer session, upon which you will receive further instructions as to how to participate.

The earnings press release is available for download at www.smics.com. Webcast playback will also be available approximately one hour after the event at www.smics.com.

Without further ado, I would like to introduce to you Mr. En-Ling Feng, Senior Director of Investor Relations, for the cautionary statement.

En-Ling Feng

Good morning and good evening. Welcome to SMIC's first quarter 2013 earnings conference call. For today's call, our CEO Dr. T.Y. Chiu will first provide some business remarks, then our CFO Gareth Kung will present the financial commentary. This will be followed by our Q&A session.

As usual, our call will be approximately 60 minutes in length. The earnings press release and quarterly financial presentations are available for you to download at www.smics.com, under Investor Relations, in the Events & Presentations section.

Please also be reminded of the Safe Harbor Statement which provides as follows. SMIC's statements of its current expectations are forward-looking statements subject to significant risks and uncertainties. The actual results may differ materially from those contained in such forward-looking statements. Information as to those factors that could cause actual results to vary can be found in SMIC's Form 20-F filed with the United States Securities and Exchange Commission on April 15, 2013.

I will now turn the call over to our CEO, Dr. T.Y. Chiu, for the opening remarks. T.Y.?

T.Y. Chiu

Thank you, En-Ling. Good morning and good evening to everyone. Thank you for joining us for our first quarter 2013 earnings webcast.

I'm very pleased to report that SMIC has again achieved another record-high revenue of $501.6 million in the first quarter of 2013, representing year-over-year growth of 50.8%. Furthermore, gross margin improved to 20.4% in first quarter 2013 compared to 12% in the first quarter 2012. Income attributable to SMIC was $40.6 million in first quarter 2013 compared to a loss of $42.8 million in first quarter last year. Utilization improved to 89% in first quarter compared to 74.1% last year. Despite normal low seasons of fourth quarter and first quarter, we've achieved five consecutive quarters of revenue growth and four consecutive quarters of net profit.

Now in detail, revenue growth for the first quarter was mainly driven by increased sales from 45/40 and in part from 0.18 micron process technology. Specifically, 40/45 revenue contribution more than -- contribution more than doubled to 6.4% compared to 2.6% of wafer revenue in the fourth quarter of 2012. This increase was mainly driven by higher demand for mobile product from both US and Chinese customers.

Customers continue to express strong demand for our 45/40 services and we are confident that our 45/40 capability will continue to drive our revenue in 2013. We see continued momentum as new tape-out continue to increase in Q2.

In addition, revenue from our China customer grew 14.5% sequentially and 79.1% year over year, contributing 38.6% of total revenue in the first quarter of 2013, an all-time high. According to Gartner, the overall China semiconductor market is forecast to grow 12.1% in 2013 while worldwide semiconductor continues to grow at 4.5%. Under this backdrop, we see that the recent growth within China and some other regions have been largely driven by the growth of smartphone and tablet demand in China.

According to Gartner again, 672m smartphone units are expected to be produced in China in 2013 and they estimate that this unit production will rise to 1.3b units in 2017 compared to 421m in 2012. Meanwhile, 187m tablets are forecasted to be produced in China in 2013, which is estimated to rise to 407m in 2017, compared to 134m in -- last year. Likewise, we are currently witnessing strong interest from our customers for various technology process as they address these growing markets.

Now let me address the progress of our differentiation strategy. Our PMIC E-square prompt and the CIS development are making progress very well. We have new PMIC customers ramping up, contributing to the healthy demand of our 0.18 micron process.

In terms of our E-square prompt, encouragingly, two of our customers recently had their [bank card] solution qualified by China UnionPay. We target to see meaningful revenue growth from our differentiated application in 2014.

Now I want to continue to comment on our technology. We were very encouraged that SMIC was recently selected as 2013 -- 2012 to 2013 [inaudible] of the Ocean Tomo 300 Patent Index, which is based on the value of intellectual property -- value of intellectual property and represents a diversified portfolio of 300 companies that own the most valuable patents relative to their book value.

In addition, China's State Intellectual Property Office, SIPO, granted 530 invention patents to SMIC in 2012, an increase of over 45% from the previous year. According to data released by SIPO, SMIC ranked fifth among all domestic patent generators in 2012, compared to ninth place ranking in 2011. We will continue to focus on developing innovative patents in order to ensure adequate legal protections to maintain our industry leadership while bringing greater value to our customer and investors.

Along the same line, our 28nm advanced development for both high-k metal gate and poly/SiON process continue to be on track and targeted to be ready by fourth quarter of 2013 for customer design.

Before I move on to the overall outlook of -- for 2013, I want to share with you that on March 25 we announced that SMIC had ceased all responsibility in managing and operating the 300-millimeter fab in Wuhan owned by Wuhan Xinxin. When we exclude wafer shipment directly from Wuhan Xinxin, SMIC revenue actually grew 8% in first quarter 2013 compared to fourth quarter 2012. This decision is in line with our strategic direction for sustainable growth and profitability as we focus our effort on expanding SMIC's existing sites.

As for the overall outlook for 2013, we currently expected Q2 to continue to grow 3% to 5% sequentially, which means SMIC would achieve six consecutive quarters of growth.

Our growth driver in 2013 will continue to be 40/45 process, servicing primarily mobile-related applications as well as the strong demand from the China region. As a result, we revised our plan to expand our 12-inch capacity in Shanghai for 40/40 to reach 15,000 12-inch wafers per month at the end of this year from the previous plan of 12,000 wafers per month.

In conclusion, I would like to reiterate that we will continue to focus on sustained profitability, growth and shareholder value. And I would like to thank our employees for delivering another excellent quarter, our shareholders, customers and partners for their continued trust and support.

I will now hand the call to Gareth for overall business and financial commentary.

Gareth Kung

Thank you, T.Y, and thank you everyone for joining today. I would now take a few moments to summarize our first quarter 2013 financial results and provide our second quarter 2013 guidance. You may also refer to our quarterly financial presentation on our website. Please note that all currency figures are in US dollars unless otherwise stated. Also please be aware that the company has started to prepare the financial statements in accordance with IFRS in order to improve comparability with peers within the semiconductor industry, and reduced the cost of financial reporting under different financial [ops] and different accounting framework.

Now, to highlight our first quarter 2013. We are pleased to report another strong quarter. Again in the first quarter 2013 we achieved record revenue of $501.6 million, our fourth consecutive quarter of record-high revenue, representing an increase of 50.8% year over year, an increase of 3.2% quarter over quarter. Revenue from China-based customers contributed 38.6% of overall revenue in the first quarter of 2013 compared to 32.5% in the first quarter of 2012 and 34.8% in the fourth quarter of 2012.

Gross margin was 20.4% in the first quarter of 2013 compared to 12% in the first quarter of 2012 and 19.9% in fourth quarter of 2012. Net income attributable to SMIC was $40.6 million compared to a net loss of $42.8 million in the first quarter of 2012 and net income of $46.6 million in the fourth quarter of 2012.

Now looking into detail of our income statement. Revenue growth in the first quarter of 2013 exceeded our original guidance, mainly due to increase in 40/45nm wafer shipments. Wafer revenue from Wuhan Xinxin was $29.2 million in the first quarter of 2013 compared to $40.5 million in the fourth quarter of 2012. As we exceed the management and operational repsonsibilities at Wuhan Xinxin at the end of March, wafer revenue from Wuhan Xinxin is expected to diminish over the course of the year. Excluding wafer revenue from Wuhan Xinxin for both quarters, our revenue increased 8% quarter over quarter.

Gross margin was guided 17.5% to 19.5% and resulted in 20.4% in first quarter of 2013 compared to 19.9% in the fourth quarter of 2012, primarily due to decreased -- primarily due to decreased shipments from Wuhan Xinxin, we had a lower gross margin.

Total expenses from continuing operations in the first quarter of 2013 were $71.1 million which was offset by R&D grants of $10.9 million. Meanwhile, total expenses from continuing operations in fourth quarter of 2012 were $64.7 million, offset by R&D grants of $10.1 million. R&D expenses decreased mainly due to lower usage of wafer [moss] four our R&D activities.

G&A expenses decreased to $39.8 million from $29.4 million, mainly due to -- sorry. G&A expenses increased to $39.8 million from $29.4 million, mainly due to employee bonus accruals and recovery of bad debt in fourth quarter of 2012. The increase in employee bonus accruals is a component of SMIC's employee retention program for 2013. The bonus accrual is contingent upon the company's full-year overall profitability.

Looking at the other income and loss, finance costs totaled $10.9 million in first quarter of 2013, which includes interest expense of -- which includes interest expense and minority interest accretion. Other expenses were $1.4 million in first quarter of 2013 compared to $2.1 million in the fourth quarter of 2012, mainly due to the decrease of school revenue and increase of living quarter expenses. Other gains in the first quarter of 2013 totaled $22.4 million, of which $20.3 million was from the sale of SMIC living quarter units.

Profit before tax was $43 million in the first quarter of 2013 compared to $49.1 million in the previous quarter. Income tax expense was $2.5 million in the first quarter of 2013 compared to $2.7 million in the fourth quarter of 2012, both of which were mainly comprised of land appreciation tax related to the sale of SMIC living quarter units. Fourth quarter land appreciation tax was [receded] downwards. Income attributable to SMIC was $40.6 million in the first quarter of 2013 compared to $46.6 million in the fourth quarter of 2012.

Moving to balance sheet, at the end of the first quarter 2013, our debt-to-equity ratio was 41.3% compared to 48.2% in the fourth quarter of 2012. The reason it declined is long-term debt decreased $99.6 million and short-term borrowing decreased by $38.4 million compared to the end of the fourth quarter of 2012.

In terms of cash flow, we generated $154.6 million of cash from operating activities compared to $183.8 million in the fourth quarter of 2012. Cash and bank balances together with restricted cash at the end of the first quarter 2013 decreased to $478 million from $576.1 million in the previous quarter, mainly because we used the cash on hand to repay some of our bank borrowing.

To examine our revenue by application, the communication sectors were again our biggest contributor to revenue this quarter. Revenue from this quarter -- revenue from this sector increased to $237.3 million, representing a sequential growth of 2.9%. This growth is mainly from an increase in handset-related products.

Revenue from the consumer segment grew 3% quarter over quarter, contributing $213.2 million, mainly from gaming devices, set-top box and smart cards. Geographically, revenue from North America declined 2.5% sequentially, contributing 51.4% of total revenue. Revenue from China grew 14.5%, contributing 38.6% of total revenue. Eurasia declined 4.4%, contributing 10% of our total revenue.

In terms of technology, revenue from 45/40nm more than doubled sequentially, contributing 6.4% of revenue in the first quarter of 2013. Revenue from 65/55nm and 90nm declined 7.4%, mainly as a result of a decline of wafer revenue from Wuhan Xinxin. Meanwhile, from 0.13 micron and above revenue grew 4.7%, with strength from CIS and PMIC applications.

In terms of overall capacity, total monthly capacity at the end of the first quarter was 219,600 wafers compared to 219,300 wafers. The change was mainly due to product mix change in our Tianjin fab and improved efficiency in our Shanghai and Beijing fabs. The overall utilization was -- the overall utilization was 89% in the first quarter of 2013 compared to 19.5% in the fourth quarter of 2012. The utilization decrease was mainly due to lower utilization of our Beijing fab.

We've revised our 2013 CapEx estimate for foundry operation to be approximately $675 million from the previous estimate of $600 million. The additional CapEx is to further expand our Shanghai 12-inch fab to 15,000 wafers per month by end of 2013 to meet the increased customer demand for 45/40nm capacity.

Looking ahead in the second quarter of 2013, we're guiding revenue to increase 3% to 5% quarter over quarter. Gross margin is expected to range from 20% to 22%. Total expenses from continuing operation are expected to range from $85 million to $88 million excluding foreign exchange and R&D grants.

I will now hand the call back to En-Ling for a Q&A session of this call.

En-Ling Feng

Thank you, Gareth.

I would now like to open up the call for Q&A. As usual, please be reminded to limit your question to two per person. Two at most. Thank you.

And operator, please assist.

Question-and-Answer Session

Operator

[Operator Instructions].

Your first question today comes from the line of Jimmy Huang from Credit Suisse. Jimmy, please go ahead.

Randy Abrams – Credit Suisse

Okay, yes. This is Randy Abrams, Credit Suisse. The first question, on the Shanghai fab where you're pulling in for this year, actually want to ask more on as you look to drive growth continuing for next year, if you could talk about where the next headroom on fab capacity is, with how far you can expand Shanghai or what other fab options you have to continue to grow 40nm next year.

And maybe the follow-on to that is the 65nm is coming down, if there's any [opposite issue on] 65nm where you might get a bit of excess capacity and perhaps could migrate lines to 40nm if that is the case?

T.Y. Chiu

All right. I'd like to say that our Shanghai fab can still grow to up to 22,000 wafer per month. And so as we see the customers demand situation next year, we'll continue to expand the Shanghai operation.

As far as the additional 40nm capacity, as we set up Beijing fab, the initial capacity will be able to -- certainly we will set it up for 28nm, but it will address the urgent 40nm customer ramp as well.

Now, and as we look into second quarter, our 65nm loading has been very robust. And so we do not see that there is a persistent reduction in the 65nm -- 65nm loading. And that to us we believe is not an issue in the long term.

Gareth Kung

Randy, I just want to add too one comment.

En-Ling Feng

Jimmy.

Gareth Kung

No. Randy, yeah.

The decline in 65nm in Q1 is mainly because of the lower shipment from Wuhan.

Randy Abrams – Credit Suisse

Okay. Thanks for the clarification insights on that.

The second question, I just want to talk about a few of the cost items because there's been some volatility on the G&A, R&D and I guess if you could go into how you're thinking about the -- like those categories as we move through this year.

And the other -- a couple of the other lines, depreciation moved higher, how you're thinking about depreciation. And one other item was the one-time property benefit, if there's any continued benefits or that's a one-time $20 million incremental benefit you got.

Gareth Kung

Yes, Randy. Let me address your question for that one.

First of all, in terms of the R&D expenses, if you look at our Q1 results, the R&D expenses excluding R&D grant is about 6.8% of our revenue. So as we're going to invest more R&D resources over the course of this year for our advanced technology for our differentiated technology, we will see some uptick in this percentage by about 2 percentage points by the end of this year. So you'll probably see about, you know, close to about [8% to 10%].

And for the [inaudible] decrease in OpEx for G&A and S&M expenses, they pretty much remain constant.

In terms of the depreciation, actually the overall depreciation for Q2 will be flat compared to Q1. But as we ramp up the production in the 12-inch fab in Shanghai, you will see some uptick in Q3 and Q4 by about $5 million per quarter.

And your last question is on the -- your last question on the property sales. We could see some more revenue from that property disposal in Q2, but that would be the end of it and we are not going to see -- we are not going to see -- we are not going to dispose more property in the second half this year.

Randy Abrams – Credit Suisse

Okay. And maybe if I could just clarify real quick, the G&A, S&M remaining constant, is that constant as a percent of sales or constant dollar amount with first quarter? And then the depreciation, is that -- okay. And then depreciation, is that $5 million higher in third quarter and then another $5 million in fourth quarter, or it just steps up and then stays flat in the fourth quarter?

Gareth Kung

On the G&A and the sales and marketing expenses, I'm looking at as a percentage of revenue.

Randy Abrams – Credit Suisse

Okay.

Gareth Kung

And then in terms of the -- in terms of the depreciation, the step-up, we'll see a step-up in Q3 and another step-up in Q4.

Randy Abrams – Credit Suisse

Yeah, okay. Thank you.

Operator

Your next question today comes from the line of Bill Lu from Morgan Stanley. Bill, please go ahead.

Bill Lu – Morgan Stanley

Yeah, hi, good morning. I'm sorry, I joined the call a little bit late, so apologies if you've already talked about this. But 40nm, can you give us some guidance as for how big that could be as a percentage of revenue by the end of the year?

Gareth Kung

Sorry, can you repeat your question again?

Bill Lu – Morgan Stanley

Yes. Forty-nanometer revenue growth for the rest of this year.

Gareth Kung

Yeah, I think by the end of Q4 we're looking at mid-teens contribution to our overall revenue from that node.

Bill Lu – Morgan Stanley

So is that mainly coming from customers you have today that are ramping or is this a broadening out of the customer base?

Gareth Kung

Mainly from the existing customer but more products.

T.Y. Chiu

Let me add a bit more to that. We are actually getting a couple of more very strong new customers coming in with quite a few new tape-out.

Bill Lu – Morgan Stanley

Okay, great. Thanks very much. That's all I have.

En-Ling Feng

Thank you, Bill.

Operator

Your next question today comes from the line of Dan Heyler of Bank of America-Merrill Lynch. Dan, please go ahead.

Dan Heyler – Bank of America-Merrill Lynch

Thanks. Good morning, guys. Dan Heyler here from Merrill.

Hey, two questions. The first one I wanted to ask you was relating to your expansion of 28nm and how that is affected by -- how that benefits from the R&D grants. My understanding is the incentive for the grants relate to products for the China market in addition to technology. So, maybe elaborate on the 28nm, if that ramps, would you likely see an uptick in grants as it relates to that node going forward in 2014?

T.Y. Chiu

Could you repeat the question again?

Dan Heyler – Bank of America-Merrill Lynch

Yes, 28nm, what kind of grants are you expecting for that just in qualitative terms, because I presume you are seeing nice pickup in 40nm that is driven by the China products. So these grants are particularly, you know, higher for domestic products, right, that relate into wireless, and R&D grants relate to domestic products, yes? So, 20nm, can you support that expansion in technology with meaningful, you know, grants coming from China? Because a lot of this I presume is driven by domestic demand.

T.Y. Chiu

Okay, indeed. I think the R&D contract we have will be a steady part of this -- our 28nm investments. And 28nm ramp-up is planned for, mainly, for our Beijing second fab, B2 fab. However, in our Shanghai fab, we already have got about anything beyond our [10-k] capacity in Shanghai is 28-ready. And so we have a significant capacity in Shanghai able to address the 28nm technology when there's a customer demand.

Our customer interest comes from across the board, not only just from China market but also from our international market. So this is not only exclusive for our domestic customers.

Dan Heyler – Bank of America-Merrill Lynch

Okay, yes. What I was getting at is how this is going to be paid for, really was the essence of my question. And would you expect the grants to be higher next year for instance relative to this year?

T.Y. Chiu

In the relative terms, I think it will be more or less steady. And we, internally, we are fully capable of funding this increased R&D expenditure.

Dan Heyler – Bank of America-Merrill Lynch

Okay, great. Thank you.

And then the second question relates more to, as you're looking at your growth strategy, you've done very well on your specialty process technology. I'm wondering, how much upside do you have to existing facilities as you continue to drive efficiencies across your existing plants? So, can we think, when you say, you know, 89%, 90% utilization, is 100% really full utilization or are you thinking that, you know, perhaps you could see maybe 105 or 110? One of your competitors sometimes gets, you know, more efficiency than they report. Hence, we see sometimes it can be 110 utilization. So I'm just wondering, is your 90% really 90 or, you know, could you see upside to the 100% utilization if demand looks stronger than expected in the third quarter?

T.Y. Chiu

Okay. If you check, in the past indeed SMIC had a loading close up to 100%. And so indeed I think we still have some room ramp up wafer out. In addition though, we constantly are looking at our equipment bottleneck. And by adding some equipment judiciously, we are able to again increase our capacity somewhat.

In addition, now we are constantly looking at opportunities to actually start the new Shenzhen fab. We have already got an 8-inch fab facilitized in Shenzhen. When we find the right opportunity and right equipment mix, we will start that particular facility to address very, very strong demand from the mature technology.

Dan Heyler – Bank of America-Merrill Lynch

Thank you.

Operator

Your next question today comes from the line of [Seeho Ing] from [BNP]. [Seeh], please go ahead.

[Seeho Ing] – [BNP]

Hi. Good morning, gentlemen. With regard to the expanded bonus accrual at the operating expense line, how should we model for the future quarters? I know that it's contingent on the company's full-year overall profitability.

Gareth Kung

Yes. This bonus is reserved at this point in time. Actually the payout of this bonus will depend on that the company overall achieve a certain level of profitability for the whole year.

So as I mentioned, we expect G&A expenses actually will be sort of remain flat as a percentage of revenue over the course of this year. So I think you can model on that basis.

[Seeho Ing] – [BNP]

Okay, got you. And also for the Wuhan wafer revenue, when should we expect the contribution to go down to zero?

Gareth Kung

That will happen over the course of this year, but you would see a more [consistent] drop starting from Q3 onwards.

[Seeho Ing] – [BNP]

Okay, got you. Okay, thank you very much. Good quarter.

Operator

Your next question today comes from the line of Steven Pelayo from HSBC. Steven, please go ahead.

Steven Pelayo – HSBC

Yeah, I really appreciate you guys giving guidance on kind of a continuing operations basis, yet, you know, every quarter it's another $10 million, land sale here, so it's very difficult to try to model that. So I guess, first question is -- and movements in Wuhan -- so the first question is, you talked about your revenues would have been up 8% excluding Wuhan. That's actually very impressive to me. What would gross margins have been excluding Wuhan? Would be question number one.

Question number two is then, yeah, same kind of thing, on an ongoing basis, if you didn't have your R&D grants, if you didn't have the land sales, can you talk a little bit about what kind of, you know, op margins and net margins you would have had on more of a continuous operations basis?

Gareth Kung

We don't actually disclose separately the gross margin excluding Wuhan shipments. But as understand, the shipment from Wuhan carry a little bit lower margin than our core operations. So obviously, you know, you can figure out that, you know, the gross margin will be higher without Wuhan.

T.Y. Chiu

Yeah.

Gareth Kung

In terms of the -- in terms of the core operation, as I mentioned, our living quarter sales basically we could have some more booking in Q2, and that should fade away after Q2. And our R&D grants, we have about $10 million this year. And conservatively, you can, you know, you can forecast maybe about $25 million to $30 million for this year. Hopefully that would help to -- in your modeling.

Steven Pelayo – HSBC

The land sales actually, the contribution increased in 2Q? I know it's the final amount in Q2, but what's the dollar level you --

Gareth Kung

It should be lower than Q1.

Steven Pelayo – HSBC

Lower than Q1.

Gareth Kung

It could be lower to Q1, yeah.

Steven Pelayo – HSBC

Okay. And then just last question is really on 40nm. You had talked before about it. Obviously it's a drag on gross margins right now. But each quarter as it ramps, it becomes less and less of a drag. So, can you help us understand, you know, what kind of gross margins are kind of -- relative improvements you see in 40nm as you go to, you know, 10,000 wafers a month of revenue? And as you exit the year at 15,000 capacity even at, you know, only 12 or 13 or something of recognized revenue, help us understand, you know, how much 40nm margins are going to improve as you guys ramp up volume.

Gareth Kung

Okay. As a matter of fact, recognize actually we're guiding a high gross margin for the company for Q2, and that is mainly attributable to the improved gross margin from our 40/45nm ramp-up. And as we continue to ramp up the production there and gross margin for the company will continue to improve. And hopefully, we are still targeting, you know, somewhere between 22% to 25% towards the end of this year.

Steven Pelayo – HSBC

Twenty-two, 25% by the end of the year. Excellent. Okay.

And if I can just sneak one final quick one and I'll get back in the queue, Beijing Fab 4 is a big fab, 65nm, 55nm. Is there any tools that are capable there to be 4x capable? I mean we're capacity constrained right now, can we do any upgrades there or do we have to wait for Beijing Fab 2 or we actually just continue Shanghai [towards the 22-k]?

T.Y. Chiu

Okay. That's a great question. Indeed, you know, some of our Beijing Fab 1 equipment is indeed capable for 40nm. And so we are considering to leverage some of that equipment to -- for building a [mini-line] in the B1. But that decision will, you know, is still being studied within the company, although very -- at a very intense level.

Steven Pelayo – HSBC

Okay, great. I'll get back in the queue.

T.Y. Chiu

Yeah. That particular approach will also reduce the investment intensity.

But I just want to point out that additional investment we have done this year for the additional capacity is at a very much lower, you know, investment intensity as compared to normal capacity build-up.

Steven Pelayo – HSBC

Excellent. Thank you.

Operator

Your next question today comes from the line of [Roy Chen] from SWS Research. Roy, please go ahead.

[Roy Chen] – SWS Research

Thanks. Thank you T.Y., Gareth and En-Ling for taking my questions.

My first question comes that, could you elaborate more on the company's strategy for growth in 2014? As we know, the 28nm revenue is expected to start from 2015.

T.Y. Chiu

Okay. Indeed that our strategy in 2014 -- our number one strategy is to maintain our sustainable profitability. And so you will see us still increase the revenue from having a fully-ramped Shanghai Fab 8, having got 40nm full loading. Secondly, indeed that we'll have capacity in Beijing Fab 2 that will be able to address some of the 40nm and perhaps some of the 28nm customers as well.

The third revenue increase is our differentiation technology, and we believe that by, you know, the later half of 2014, some of our new technology that we are working on will be kicking in to generate higher revenue for SMIC.

[Roy Chen] – SWS Research

Great. Thanks. And my second question comes, could you provide a more detailed expectation for each business segment's growth by geography this year? Sort of like a year-over-year growth for US region and China region. Thanks.

T.Y. Chiu

We expect that across the board there will be, you know, significant growth, but still with China growing at a higher rate. So the industry has a forecast for foundry growth somewhere between 10% to 12% according to various sources. We believe that we are able to target a general annual growth above this industry growth.

[Roy Chen] – SWS Research

Great. Thank you.

Operator

Your next question today comes from the line of Miles Xie from BOCOM. Miles, please go ahead.

Miles Xie – BOCOM

Hey, good morning. Just one question on the PMIC product. You mentioned you have a new customer coming from the PMIC. Can you talk a little bit more around the new customer? And what are those, business, I mean [inaudible] if we exclude the new customer what the growth would be.

And we also noticed from the [inaudible] Qualcomm, Qualcomm NPK is set again to simplify their [core] management unit [inaudible] the processors. So I just want to know how this will impact the business of SMIC.

T.Y. Chiu

Okay. First of all, we have got customers, new customers in PMIC from both the mobile phone -- smartphone area as well as in, you know, the pad applications area. And so we are seeing the strong PMIC growth in the -- in various -- from various customers.

I cannot add additional comment to your second question in the new simplified PMIC solutions whereas that the only thing I can say is we are working very closely with all of our customers.

En-Ling Feng

Hello, Miles? Does that answer your question?

Operator

Your next question comes from the line of Eric Chen from Daiwa. Eric, please go ahead.

Eric Chen – Daiwa Securities

Hi, gentlemen. My first question regarding to the 40nm process is -- and you just mentioned the revenue contribution by end of this year from the China grant will reach the meeting of the total revenue. And in [inaudible] I'm wondering how big the capacity will be t the yearend. And in terms of the capacity percentage, how many percent from the Shanghai fab and how many percent from the Beijing fab.

Gareth Kung

Yes. We mentioned that we're targeting to reach about mid-teen revenue contribution from the 40/45nm by Q4 of 2013. And that will be all coming from our Shanghai fab. And right now, as mentioned, we have upped the CapEx this year and we're planning to bring that fab to about 15k capacity by end of this year.

Eric Chen – Daiwa Securities

Okay. So I mean the capacity will jump to the 37k from the 22k now at the end of this year, right?

Gareth Kung

Well, except for that 12-inch fab in Shanghai, we target to reach -- to gain capacity of 15,000 wafers per month.

Eric Chen – Daiwa Securities

Okay. So how many the total capacity? I'm sorry. I'm confused. How many total capacity for the 40nm process let's say in Q4?

Gareth Kung

That will be all. We will -- that will be the only fab that is going to produce 40/45nm for 2013.

Eric Chen – Daiwa Securities

Okay. And also for the 40nm process, the revenue percentages and how many the roughly idea will come from the non-China clients at yearend roughly?

T.Y. Chiu

Okay. Okay. Let me comment on that. I think by the yearend we will have maybe one-third of our 40nm capacity coming from the -- our international customers whereas two-third of our capacity will be from the domestic demand.

Eric Chen – Daiwa Securities

Okay.

T.Y. Chiu

Roughly.

Eric Chen – Daiwa Securities

Okay, thank you. And one more, you talked about the 65nm process, the capacity growth which [stood at 40] and also you talked about [inaudible]. And I'm sorry if you said, I probably missed and I probably lost. Could you give us the clear idea and the in terms of Shanghai fab, Beijing fab, and how many capacity [inaudible] in one year and [inaudible] in the 40/45nm process and the 28nm process, and [inaudible] current CapEx plan? Thank you.

T.Y. Chiu

Okay. Sorry, I apologize, maybe I wasn't very clear in talking about our 65nm and 40nm. Some of our Beijing 1 fab 65nm equipment are capable of doing 40nm technology. And so what we are saying is that there is a possibility of setting up 40nm capacity up in Beijing, leveraging some of these 65/55nm equipment.

That has not happened. We are doing an intensive study to see how we can most optimally, you know, doing this kind of investment. So at this point of time, that has not happened.

Now 28nm, our Beijing Fab 2, B2 fab, is intended mainly to do 28nm production. However, in our plan, half of our Shanghai fab will be 28nm capable. And so it is half of our Shanghai Fab 8 capacity can be switched to entertain customer demand in the 28nm.

Is that clear?

Eric Chen – Daiwa Securities

Okay. So --

T.Y. Chiu

So the Shanghai fab does not need additional investment in order to entertain some of the startup for the 28nm ramp-up.

Eric Chen – Daiwa Securities

I see. So how many the capacity goal for the 28nm and how many capacity goal for the 40nm process at the end of the yearend and [inaudible] in one year, probably the end of next year, and based on your plan.

T.Y. Chiu

Okay. So let me say that if we do not do any additional capacity expansion in Shanghai, that in this scenario, and I'm not saying that we will not, but I want to make this a more simple scenario, then of the 15,000 wafers that has been set up by the end of this year, about half of it will be 28nm, ready to produce 28nm production. Okay. But that is -- will depend on the customers' demand situation.

Eric Chen – Daiwa Securities

I see. Okay, that's for 28nm. Okay, thank you. That's very helpful. Thank you, Dr. Chiu.

T.Y. Chiu

Thank you.

Operator

Your next question today comes from the line of Dan Heyler from Bank of America-Merrill Lynch. Dan, please go ahead.

Dan Heyler – Bank of America-Merrill Lynch

Hi, thanks. Just a couple of quick follow-ups. On your previous comments on my question regarding capacity expansion on the mature specialty process, you mentioned Shenzhen -- potential Shenzhen fab, 8-inch fab. Could you elaborate on when we'd see that and what kind of products you'd expect to see that? And how big is that facility to help drive 2014 growth?

En-Ling Feng

Dan, we are still working on the plan for Shenzhen fab. I think we are studying different options and scenario, and we don't -- we have not finalized a plan yet. And we will update the market as we have a firm plan to move forward with the Shenzhen fab.

Dan Heyler – Bank of America-Merrill Lynch

Okay, great. And as it relates to the specialty process technology, you've seen nice improvement there. How much of that market share do you think you're taking relating to say tier 1 foundries? You think you're taking share or have a competitive advantage over tier 2 foundries? And is there any IDM element here to grow this business? I just wanted to understand your competitive dynamics going forward. Thanks.

T.Y. Chiu

Okay. Okay, in the past couple of years that we have been growing -- I mean last year and this year we are targeting to grow faster than the industry average. And indeed that means that we are taking shares. But, you know, we have seen competitors everywhere and every one of our competitors are very capable and very strong.

So at this moment it's hard for me to comment whose share we are taking away. And so we are working diligently to try to work with our customers to attract their business. And so that's the best I can say.

Dan Heyler – Bank of America-Merrill Lynch

Thanks. Maybe just a little bit of follow-up and clarification. Is -- I wanted to see how sticky that business is. I know that it can be price-competitive. So, do you need to price, you know, aggressively to get that business or is there differentiation that you're offering? And I guess, how easy is -- once you win the business, how easy is it to switch between the foundries?

T.Y. Chiu

Okay. I think if you could observe our pricing ASP, I think our ASM -- SMIC's ASP has been relatively steady over the last few quarters, and that reflects our improved quality and service level.

In addition, we're working very closely with our customers to tailor our technology to their demand. Indeed we are spending a significant effort to modify our process to meet some specific needs for each of these applications. And so we believe that through our improved quality and service, that our customer will stay with us would be very satisfied with SMIC not just because of wafer pricing. So we work hard to get their business.

Dan Heyler – Bank of America-Merrill Lynch

Excellent. Congratulations on a great turnaround. And thanks for answering the questions.

T.Y. Chiu

Thank you.

Operator

Ladies and gentlemen, that concludes today's question-and-answer session. I would now like to hand the call back to the CEO, Dr. Chiu, for closing remarks.

T.Y. Chiu

In closing, I would like to thank everyone who participated in today's call, and again, thank all of our customers, shareholders and especially our employees and suppliers for their trust and support as always. Thank you.

Gareth Kung

Bye-bye.

Operator

This is the end of SMIC -- this is the end of SMIC's first quarter earnings conference call. We thank you for joining us today.

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