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Semiconductor Manufacturing International Corporation (NYSE:SMI)

Q4 2013 Earnings Conference Call

February 18, 2014 07:30 PM ET

Executives

En-Ling Feng - Senior Director, IR

T.Y. Chiu - CEO

Yonggang Gao - CFO

Gareth Kung - EVP, Finance & Company Secretary

Analyst

Randy Abrams - Credit Suisse

Daniel Heyler - Merrill Lynch

Steven Pelayo - HSBC

Bill Lu - Morgan Stanley

Miles Xie - BOCOM International

Szeho Ng - BNP Paribas

Sujeeva De Silva - Topeka Capital Markets

Eric Chen - Daiwa Securities

Andrew Lu - Barclays Capital

Operator

Welcome to the Semiconductor Manufacturing International Corporation's fourth quarter 2013 webcast conference call. Today's conference call is chaired by Dr. T.Y. Chiu, Chief Executive Officer, Dr. Yonggang Gao, Chief Financial Officer, Mr. Gareth Kung, Executive Vice President of Finance and Company Secretary, 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 earning 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 you to Mr. En-Ling Feng, Senior Director of Investor Relations, for the cautionary statement.

En-Ling Feng

Hello, everyone. Welcome to SMIC's fourth quarter 2013 earnings forecast conference call. For today's call, we will introduce our new CFO, Dr. Gao Yonggang. Then our CEO, Dr. T.Y. Chiu will provide some general remarks. Afterwards, our Executive VP of Finance and Company Secretary, Mr. Gareth Kung, will present the financial commentary. This will then be followed by our question and answer session.

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

Before I turn the call over to Dr. T.Y. Chiu, let me remind you that the presentation we'll be making today includes forward-looking statements. These statements and other comments are not guarantees of future performance, but represent the Company's estimates and are subject to risks and uncertainty. Our actual results may differ significantly from those projected or suggested in any forward-looking statements.

For a more complete discussion of the risks and uncertainties that could impact our future operating results and financial condition, please see our Form 20-F, filed with the United States Securities and Exchange Commission on April 15, 2013.

During the call, all references made to 2013 annual figures are based on an unaudited basis, using the summation of reported quarterly results. Also, during the call, we will make reference to financial measures that do not conform to Generally Accepted Accounting Principles, GAAP. This information may be calculated differently than similar non-GAAP data presented by other companies. Please refer to the tables in our press release for conciliation of GAAP to the non-GAAP numbers we will be discussing.

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

T.Y. Chiu

Thank you, En-Ling. Greetings to everyone. We wish you and your loved ones health, happiness, and peace in the Year of Horse. Thank you for joining our fourth quarter 2013 earnings webcast.

First, I would like to take a moment to introduce our newly appointed CFO, Dr. Yonggang Gao. Dr. Gao received his doctorate degree in management from Nankai University. We are very pleased to have him with us this morning on the call.

He has been a director on SMIC's Board since 2009, and is intimately familiar with this enterprise. He had previously acted as Executive VP of Strategic Planning for the Company. He has more than 20 years of financial management and administrative experience in China, as well -- and is well-respected in the Chinese accounting professional circles, and is a standing committee member of the Accounting Society of China. He has a strong working relation to the domestic banking and the government institutions.

In the meantime, we would like to thank Mr. Gareth Kung for his great contribution to imposing financial discipline in SMIC and in helping to return this Company to a sound financial footing. He will remain as the Executive VP of Finance, reporting to Dr. Gao, as well as serving as the Board Secretary.

We believe that a combination of these two gentlemen, with complementary experiences and extremely strong financial capacity will further strengthen SMIC's finance accounting team, and will make this one of the finest teams in the foundry industry. This augmented team will help to expedite this phase of SMIC's rapid growth and ensure our objective of sustained profitability. Gareth will be reporting our fourth quarter financial results this time. Yonggang, would you like to say a few words?

Yonggang Gao

Yes, thank you, TY, for the introduction. Good morning and good evening. It's an honor to take on this new role at SMIC. I'm happy to join the call today with you all and I look forward to meet you in the near future. TY, back to you.

T.Y. Chiu

Thank you, Yonggang. I would like to begin today's remarks by highlighting our 2013 achievements. 2013 was another record breaking year for SMIC. Based on our unaudited financial statements for the full year of 2013, revenue in 2013 reached a record high of $2.07b, an annual growth of 21.6%, when compared to 2012. If we remove the Wuhan revenue contribution, SMIC's revenue growth was a robust 28% (sic - see press release "27%").

Our net profit attributable to the owner of the Company also reached a historical high of $173 million, compared to $22.8 million in 2012, an increase of 6.6 times. Our robust revenue and profit growth is based upon a modest monthly capacity build-up of 6.7% year over year.

Meanwhile, our productivity reached an all-time high, in terms of revenue per employee, growing 15% in 2013, compared to 2012. And our asset turnover ratio improved 10.3% in 2013, compared to 2012.

In 2013 we enhanced our financial position. Cash from operation increased 69.6% year over year, to $738 million in 2013. And we successfully raised $200 million in convertible bond offering, with highly favorable terms. Also, our two largest shareholders committed to participate in the convertible bond deal pro rata, which will inject an additional estimated $86 million in cash. In addition, we attained an investment grade credit rating from S&P, and are one of the few semiconductor companies to have obtained such rating.

At the end of 2013 we had $462.5 million cash on hand, an increase of $104 million, compared to the end of 2012. Our total CapEx for the year was $770 million. In addition, our gross debt to equity ended 2013 at 45.2% compared to 48.3% the previous year.

In terms of technology development, during 2013, we made progress in preparing our technology offering for several notable upcoming market opportunities. I'm happy to announce that our 28 high-k metal gate and PolySiON processes are both process frozen and are entertaining commercial ICs and customer product verification, through our MPW offering. We are planning to provide over 100 IPs for internal and third-party IP partners, to facilitate customers' 28 designs, of which also include the recently announced ARM Artisan Physical IP Platform.

We target modest revenue from 28 process technology at the end of 2014 and more significant ramp-up in 2015. Our 45/40-nanometer revenue increased significantly, to account for 16% of the revenue in the second half of 2013.

In terms of differentiated technology, SMIC developed an embedded E-squared prom platform, which had been adopted by a majority of China's bankcard IC design houses. Small volume production is planned to begin in the second half of this year. Meanwhile, a more significant ramp-up of the volume is targeted to take place next year. Development of BSI, or back side illumination, for the CMOS image sensors are also well underway, with initial ramp-up targeted for the fourth quarter this year.

China continues to be a leading source of high growth for SMIC. In 2013 China revenue accounted for 40.4% of our revenue, with a noteworthy growth rate of 44.9%, compared to 2012. As China IC consumption continues to be strong, and with the rollout of LTE and the switch to all bankcard to IC cards, we believe that SMIC has the right technology and is in the right market to capture these future opportunities.

We continue to be prudent in our spending and expansion. 2014 CapEx for foundry operation is planned to be approximately $880 million, of which around $570 million is for our new Beijing project. Our Beijing project is 55% funded by SMIC, and 45% funded by the other JV shareholders. The actual capital required of SMIC to put up is about $625 million, which is well within our means.

Our new Beijing project is targeted to have a small line of equipment moved in during the second half of this year and the actual ramp-up is intended for 2015.

This year we plan to expand our 12-inch fab in Shanghai to 14,000 12-inch wafers per month. We also plan to expand our current 8-inch facility, our Shanghai 8-inch fab, from the current 90,000 wafers per month, to 96,000, and our Tianjin 8-inch fab, from 36,000 wafers per month, to 39,000 wafers per month.

Looking forward, the first quarter of the year is expected to be weak, partially due to seasonality and continuous inventory correction on the 12-inch and as well as 12-inch product transition. To address this situation, some of our heavily loaded 8-inch products are migrating to 12-inch. Meanwhile, new differentiated products are filling our 8-inch capacities.

We are hopeful about the second quarter of this year and in the long run we have confidence in our strategy and capacity, and our capability to capture growth opportunity, especially those in the China IC market. We maintain our target of achieving double-digit annual revenue growth and above foundry industry growth, and target improved gross margin. And we continue to work with our new and existing customers to capture opportunities in 2014 and onward.

Thank you for your time. I will now hand the call to Gareth for overall business and the financial commentary.

Gareth Kung

Thank you, TY and thank you everyone for joining us today. I will now take a few moments to summarize our 2013 unaudited full-year highlights and the fourth quarter 2013 financial results, followed by our first quarter 2014 guidance. You may also refer to four quarterly financial presentation on our website. Please note that all currency figures are in US dollars, unless otherwise stated. To begin, I'll recap our 2013 un-audited full year financial highlights.

Revenue in the 2013 reached a record high $2.07b, an annual growth of 21.6% when compared to 2012. Our net profit attributable to owners of the Company also reached a historical high of $173.2 million, compared to $22.8 million in 2012. Revenue from 40/45 [node] applications increased to 12.1% of wafer revenue, compared to 1.1% in 2012.

Cash from operation increased 69.6%, from $475 million in 2012 to $738 million in 2013. At the end of 2013, we had $462.5 million cash on hand, an increase of $104 million, compared to the end of 2012. Capital expenditures for foundry operations in 2013 were $651 million. Capital expenditure for foundry operations -- capital expenditure for non-foundry operations were $119 million, which were mainly for the construction of living quarters for employees, as part of the Company employee retention program. And our debt/equity ratio was 45.2% at the end of 2013, compared to 48.3% at the end of 2012.

Now I will highlight our fourth quarter 2013 results. Revenue, including wafer shipments from Wuhan Xinxin was $491.8 million in Q4 2013, representing an increase of 1.2% year over year and a 7.9% decrease quarter over quarter. Non-GAAP revenue, excluding Wuhan Xinxin wafer shipments, was $483.6 million, representing an increase of 10.6% year over year and a decrease of 4% quarter over quarter. Gross margin, including wafer shipment from Wuhan Xinxin was 18.9% in fourth quarter 2013, compared to 19.9% in fourth quarter 2012 and 21% in 3Q 2013. Non-GAAP gross margin, excluding wafer shipment from Wuhan Xinxin, was 19.2% in Q4 2013, compared to 21.9% in Q4 2012 and 22.1% in Q3 2013.

Now let's look at our financial statement in detail. Revenue decrease in the fourth quarter of 2013 was mainly due to a decrease of wafer shipments, partially due to Wuhan Xinxin wafer shipment decline and 12-inch demand weakness. Revenue from Wuhan Xinxin was $8.2 million in Q4 2013, compared to $30.6 million in Q3 2013. There will not be any wafer shipment from Wuhan Xinxin from Q1 2014 onwards.

Our Q4 2013 gross margin, including wafer shipment from Wuhan Xinxin, was guided 18.5% to 21.5% and resulted in 18.9%. The decrease in gross margin was primarily due to product mix change, low utilization, and provision for customer claims in Q4 2013.

Operating expenses in Q4 2013 were $84.8 million, compared to $63.4 million in Q3 2013. R&D expenses increased to $46.3 million in Q4 2013 from $37.6 million in Q3 2013, mainly due to an increase in R&D expenses associated with higher R&D activities, from quarter to quarter, and a decrease of $4.3 million in funding of R&D contract from the government in Q4 2013, compared to Q3 2013. General and administrative expenses increased to $36.6 million in Q4 2013 from $24.7 million in Q3 2013, mainly due to, one, increased bad debt expenses recognized, and two, a bonus accrual related to an increase in employee productivity in Q4 2013.

Other operating income was $6.4 million in Q4 2013, compared to $8.2 million in Q3 2013. The change was mainly due to a decrease of gain arising from the disposal of the Company-owned living quarters in Shanghai and two, a gain arising from the de-consolidation of Brite Semiconductor Corporation and its subsidiaries, due to loss of control. If excluding the effect of foreign exchange, funding of R&D contracts from the government, gain arising from a disposal of living quarters, employee bonus accrual, the non-GAAP OpEx would be $84.8 million in Q4 2013, compared to $77.5 million in Q3 2013.

Profit from operation in Q4 2013 was $8.1 million, compared to $48.5 million in Q3 2013.

Moving to the balance sheet, at the end of the fourth quarter of 2013, our other financial assets increased to $240.3 million in Q4 from $2.6 million in Q3, primarily because the Company issued $200 million zero coupon convertible bonds in Q4 2013 and temporarily invested them in short-term investment. Meanwhile, our long-term borrowing increased $47.5 million and short-term borrowing decreased $157.8 million, compared to the previous quarter. In Q4 2013, our cash ratio, quick ratio and current ratio all improved, compared to the prior quarter, demonstrating improved liquidity.

In terms of cash flow, we generated $205.4 million cash from operating activities in the fourth quarter of 2013, compared to $269.6 million in the third quarter of 2013. Cash used in investing activities increased by $56 million quarter over quarter. Cash flow from financing activities decreased from $154 million, to $52.7 million. Cash and bank balances at the end of Q4 2013 was $462.5 million, compared to $473.5 million at the end of 3Q 2013.

To examine our revenue by application, the consumer segment was our biggest contributor to revenue this quarter. Revenue from this sector contributed 48.3%. Revenue from the communications contributed 39.8%.

Geographically, revenue from North America contributed 48.3% of our total revenue. Revenue from China contributed 40% of total revenue. Eurasia contributed 11.7%.

In terms of technology, revenue from 45/40 nanometers contributed 16.3%. Revenue from 65/55 node and 90 nanometers decreased 29.2%. Meanwhile, 0.13 micron and above [line] increased 3% quarter over quarter.

In terms of our overall capacity, total monthly capacity at the end of the fourth quarter was 234,000 wafers, compared to 231,800 wafers in the third quarter. The change was primarily due to increased 45/40 capacity in our 12 -- in our Shanghai 12-inch fab. The overall utilization was 87.4% in the fourth quarter of 2013, compared to 82 -- 8.2% in the third quarter of 2013.

Looking ahead to our first quarter in 2014, revenue is expected to -- revenue is expected to decrease 5% to 9% quarter over quarter, which is $440 million, to $460 million. This revenue guidance is given in relation to the revenue without wafer shipment from Wuhan Xinxin in Q4 2013. There will not be any wafer shipment from Wuhan Xinxin from Q1 2014 onwards. Gross margin is expected to range from 16% to 19%.

Non-GAAP operating expenses, excluding the effect of foreign exchange, employee bonus accrual, funding of R&D contracts from the government, and gain from disposal of living quarters are expected to range from $88 million to $92 million. Funding of R&D contracts from the government and other operating income is targeted to be around $15 million to $20 million in first quarter of 2014.

The planned 2014 capital expenditure for our foundry operation is approximately $880 million, of which around $570 million is for our new Beijing project, which is 55% funded by SMIC and 45% funded by the other shareholders of the project. In addition, we have budgeted in 2014 capital expenditure of non-foundry operation of approximately $110 million, mainly for the construction of living quarters.

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

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. Operator, please assist.

Question-and-Answer Session

Operator

Ladies and gentlemen we will now begin the question-and-answer session. (Operator Instructions) Your first question comes from the line of Randy Abrams from Credit Suisse. Please ask your question. Randy Abrams, Credit Suisse.

Randy Abrams - Credit Suisse

Yes, hi. Good morning. Thank you. My first question, actually, on the N minus 1. The 65 and 55 dropped by about 6 points to 21% of sales. If you could talk a bit about what is taking place on that node, if it's a inventory correction or if you're seeing some applications migrating down to 40, and if you expect this node to come back or more of the growth needs to come from 40 now.

T.Y. Chiu

Thank you, Randy. Yes, we are seeing a migration of this -- some of our existing customers to the more lower node. But we -- in the meantime, we are also seeing and actively recruiting a lot more new tape-outs. And so in first quarter this year, we will have very strong new tape out -- number of tape outs, so that in the future, we expect to make up this loss in the wafered amount. So we have a -- we are targeting to get more loading in the quarters to come.

Randy Abrams - Credit Suisse

Thank you. The follow-up question then, in the remarks you talked about targeting over foundry growth and over 10%. If you could kind of list out where you’re most optimistic for this year to achieve that, maybe taking the different opportunities between the bucket of China customers, the specialty, and then also the leading edge, like 40 nanometer, where you're most confident and optimistic on some of the growth, which areas?

Tzu-Yin Chiu

Okay, I think there are a couple of areas. Last year, our 40 nano had grown from the year before about less than 20 million to 200 million revenue. And this year because of the fully built capacity, we expect to have a significant growth again. In addition, we’re building up slightly our 8-inch capacity to entertain additional customer loading. And so upon these two areas, we’re aiming to have this growth again this year. As you can notice that last year, our capacity growth is around 6% to 7%, but we were able to have a significant revenue growth. Okay. And we will like to target the same type of revenue growth.

Randy Abrams - Credit Suisse

Okay. And the final question just on the CapEx, to think would be implied depreciation would be? And for the building -- the 110 million for the dorms, how would that flow through would be depreciated, does that just flow to the OpEx or is there some amount that hits COGS with that, but if you could also say the 2014 depreciation and how that ramps through the year?

Tzu-Yin Chiu

Randy, we’re expecting that there will be a slight increase in the deprecation overall maybe in 20, 20 million now in terms of year-over-year deprecation increase, yes.

Randy Abrams - Credit Suisse

Okay. And does the land or the dormitories, does that just go in as a OpEx or is that depreciated over a longer lifetime?

Tzu-Yin Chiu

For the living quarters probably then we’re going to serve to our employees, so that we’re going to have a, no -- rather quick recovery for capital. And probably then we’re going to grant it the employees and then we’re going to depreciate over already a long period of time.

Randy Abrams - Credit Suisse

Okay, great. Thanks a lot.

Operator

Your next question comes from the line of Daniel Heyler from Merrill Lynch. Please ask your question.

Daniel Heyler - Merrill Lynch

Thanks. Good morning, gentlemen and thanks for taking my call, just a couple of quick ones first. I was wondering if you could elaborate a little bit on the bankcard initiative. Why is that ramping in 2015? And I understand there are a number of competitors in that space. So after this does ramp significantly, what kind of contribution to revenue do you think it would be?

Tzu-Yin Chiu

Okay. I think that right now we can see that the government’s mandate is to changeover from magnetic card to IC card in 2015. So this year most of our customers are verifying their products and with a small volume of production at end of the year and a more significant contribution to our revenue will happen in 2015.

Daniel Heyler - Merrill Lynch

Could you give us a sense of how big this will be? And it seems to be taking longer than previously expected, right. So I'm wondering because -- as that gets delayed, that probably would invite more competition, I would think and I'm wondering how much of this market you think you can take?

Tzu-Yin Chiu

Actually, we have consistently projected that this changeover has been published a while ago and this changeover has always been 2015, so our expectation has been that the ramp-up will in 2015. But certainly we had done our preparation for long time and to make sure that we’re engaged and heavily advanced in this particular market, that’s why we think that we are well positioned in this market. 4 out of 6 products that have gone through the domestic certification process, uses SMIC’s. And we’re getting new engagement from other customers as well, so we feel that this part of the market is coming together pretty well.

Daniel Heyler - Merrill Lynch

Okay. And my second question was relating to your comments previously on some of the government funding. I was wondering if we could just get some specifics there. I think I heard you say the first quarter would be about $15 million to $20 million government funding. And what was the number -- maybe Gareth could tell us, what the fourth quarter number was just so we have an apples-to-apples comparison on how that is affecting the quarter-on-quarter change?

Gareth Kung

In the fourth quarter in terms of the R&D grant is about 4.7 million, but we have also received other grants, together it’s about $19 million.

Daniel Heyler - Bank of America

Okay, what -- go ahead.

Gareth Kung

And therefore for the first quarter what we mentioned is 15 million to 20 million which is including R&D grants and other operating income this is not just purely R&D grants, yes.

Daniel Heyler - Bank of America

Okay. So just to be clear, in the fourth quarter, the 4.7 and then there was another 16, so net-net, about 20-21 for the fourth quarter. And you are anticipating that to go to 15 to 20 in the first quarter?

Gareth Kung

15 to 20, that’s right.

Daniel Heyler - Bank of America

Right, from about 21, aggregated 21 including all grants in the fourth quarter?

Gareth Kung

That’s correct, yes.

Daniel Heyler - Bank of America

Okay, great. Thank you.

Operator

Your next question comes from the line of Steven Pelayo from HSBC. Please ask your question.

Steven Pelayo - HSBC

Great. I'm wondering if you could talk a little bit about breakeven levels. I know you talked about objectives of sustainable profitability. But it looks like at the mid-point of guidance here, especially if we exclude kind of your grants and subsidies, it maybe looks like your kind of structural breakeven may be deteriorating. Could you talk a little bit about breakeven targets just currently and targeted for this year? And what are the assumptions for gross margin and OpEx at that breakeven level?

Tzu-Yin Chiu

First of all I want to make some slight correction in terms of Q4, the R&D grants and other grants altogether it’s about 13 million not 19 million, just made a correction there. And secondly in terms of breakeven utilization, I think we’re still at about low 80s, so I think that no changes, yes.

Steven Pelayo - HSBC

Well, beyond just breakeven utilization rates, can you talk just a little bit about even from kind of an ongoing operating expense perspective? It does seem like OpEx, excluding R&D is maybe actually migrating -- or excluding R&D subsidies and other grants, it seems to be migrating maybe a little bit higher. I'm just trying to understand that has the structural profitability changed in any way as far as you are concerned?

Tzu-Yin Chiu

Yes, in terms of OpEx I think if you go beyond quarter-to-quarter fluctuation this year our OpEx as a percent of revenue is about 15%, this excluding all the R&D funding and other operating income. Going forward just going to invest more in the R&D, so we’re going to have some slight uptick in the R&D expenses, but I think overall, OpEx will maintain at above mid to high-teens.

Steven Pelayo - HSBC

Okay. Next question was just on 200 millimeter versus 300 millimeter utilization rates. Could you talk a little bit about what they were in the fourth quarter and kind of the expectations as you go into the first quarter?

Tzu-Yin Chiu

I’m sorry, could you repeat the question again.

Steven Pelayo - HSBC

The 200 versus 300 millimeter utilization rates, what kind of absolute levels were they in the fourth quarter and where do you think they are in the first quarter?

Tzu-Yin Chiu

For the inch, it is pretty high, it’s over 90% and in the -- for the 12 inch will be a bit lower.

Steven Pelayo - HSBC

I'm sorry. That's in first quarter or is that in the fourth quarter?

Tzu-Yin Chiu

No, fourth quarter, fourth quarter, yes.

Steven Pelayo - HSBC

And do they both fall equally into the first quarter given the total revenue guidance or is there some relative shifts that are taking place?

Tzu-Yin Chiu

We are looking at [indiscernible] the loan utilization in the first quarter, yes.

Steven Pelayo - HSBC

Okay. And then my last question is just if you could make any comments on the first quarter guidance. You talked a little bit about 200 millimeter versus 300 millimeter being, I guess, the same kind of fall-offs going on. I'm curious about regional mixes or technology mixes. For example, your China revenues actually underperformed your total top-line in the fourth quarter. Is there something more to discuss there? And I'm also interested, can the 4X node continue to grow on an absolute level basis, even though total revenues are declining in the first quarter. Can you talk a little bit about the first quarter mix? That is the last question from me.

Tzu-Yin Chiu

In 2014, we are aiming to grow our full year revenue further and this is one of the major objective we have. Overall, we think this inventory correction is quite temporary and is mostly, when we look at our customer base and I think they are experiencing some slowdown and some of it is our customers going through a, I think a commercial merger and acquisition that has somewhat slowed down their revenue stream. And so we believe that in the long-term that revenue or the strength of our customer base will come back. I don’t know whether that answered your questions.

Steven Pelayo - HSBC

Yes.

Operator

Your next question comes from the line of Bill Lu from Morgan Stanley. Please ask your question.

Bill Lu - Morgan Stanley

Yes, hi. Good morning. This is kind of a follow-up to Steven's question. But if you look at your 40-nanometer capacity this year, can you help me with how much capacity growth? A little bit hard to figure out because I know you are going to use some of the capacity from the Beijing facility as well for 40. So can you help me with how much capacity growth at 40?

Tzu-Yin Chiu

Okay. In this year we will have a full 14,000 wafer per month of capacity, whereas last year we are ramping and going from 5K to 12K. So that effective capacity this year will be a significant increase over the last year.

Bill Lu - Morgan Stanley

But the 14, is that an average of this year or that's the end of the year?

Tzu-Yin Chiu

Average, so starting from the beginning of the year.

Bill Lu - Morgan Stanley

Okay. So if you look at 40 as you just mentioned, your Chinese customer going through some changes in terms of consolidation and such. Do you think that the Chinese customer base starts ramping in 2Q or is that going to take a little bit longer?

Tzu-Yin Chiu

We hope that there will be a recovery of the overall business in 2Q indeed.

Bill Lu - Morgan Stanley

Okay. When you look at your full year guidance, you said that you hope to grow above the industry average. Can you help me with how much of that is unit driven versus ASP driven?

Tzu-Yin Chiu

Say that again, whether it’s...

Bill Lu - Morgan Stanley

I'm wondering, if you had go above, say 10%, are you mostly assuming that unit growth above 10% or are you assuming that ASP is going to increase as well?

Tzu-Yin Chiu

We definitely expect that there will be growth, a combination of the unit as well as the ASP.

Bill Lu - Morgan Stanley

Okay. And then my last question is on the smartcard, the bank card business. I guess I also had a sense that maybe that was going to ramp you know, maybe in the second half of this year as well. If you look at what you are expecting out of that business now versus say three months ago, if the timing is the same, has the volume expectations changed at all?

Tzu-Yin Chiu

Our internal model looking at the volume there has not been a -- in our model there has not been a significant change.

Bill Lu - Morgan Stanley

Okay, great. Thank you.

Tzu-Yin Chiu

Thank you.

Operator

Your next question comes from the line of Miles Xie from BOCO. Please ask your question.

Miles Xie - BOCOM International

Good money, thank you for taking the question. So, my question is a follow-up on the 40-45 nanometer and we see this will be an important growth driver in 2014. On the gross margin side, I'm wondering how fast the pace that the 45 nanometer will, gross margin will approach the corporate average level?

Tzu-Yin Chiu

Miles, right now we’re still in the process of ramping up the 40/45, not sold margin right now was still below corporate average. As to when we can reach to corporate average, it depends very much on the utilisation for that fab. We expect that if we can maintain very high utilisation we can get close to the corporate average margin.

Yonggang Gao

Yes, there are two factors this year that we’re working very diligently, certainly one is the attracting number of new tape out so that we can ensure the utilisation. Secondly, that we’re working heavily on the cost and so we’re already seeing our fab efficiency and our cost doing well and in accordance to our expectation.

Miles Xie - BOCOM International

So can you give a bit more, for example, in the first quarter of this year, how was cash between let’s say for the 45 nanometer to the corporate average? Was there something like a just a...?

Yonggang Gao

We don’t disclose gross margin by note. But it’s safe to say that it’s positive but it is still below the corporate average.

Miles Xie - BOCOM International

But it'll still be below the average?

Yonggang Gao

Yes.

Miles Xie - BOCOM International

Okay. And my second question would be on the 28, so we know we are going to start the contribution in this year. So I was wondering what kind of application we are targeting and who will be the major campaigns for the 28?

Tzu-Yin Chiu

Okay. We have a number of potential customers that includes both pad like as well as communication base band applications and we also have interest and tape out to utilize the note for the RF application.

Miles Xie - BOCOM International

Okay, thank you.

Operator

Your next question comes from the line of Szeho Ng from BNP. Please ask your question.

Szeho Ng - BNP Paribas

Hi, good morning. Just want to know about your ramp-up schedule for the Shenzhen fab?

Tzu-Yin Chiu

Okay. Yes, we are in the process of already installing the equipments so Shenzhen fab is scheduled to be ramped this year. So we are installing some equipments at hand and we are also looking at the number of opportunities to acquire -- use the tools in the whole retire the fab, running fab that’s retiring. And so there are a number of opportunities this year that will enable us to have significant acquisitions of these tools.

Szeho Ng - BNP Paribas

I see. Yes, I know that the maximum capacity is 50k. But what will be the target at installed capacity say at end of this year?

Tzu-Yin Chiu

That we have not -- we are not ready to disclose that yet because it will depend very much on the opportunity and where we can -- and how much equipments we can acquire in the market.

Szeho Ng - BNP Paribas

Okay, alright. And my second question is on the interest expense. If I look at the Q4 number, it seems to be a big drop off compared to Q3. How should we model the interest expense on a quarterly basis going forward?

Tzu-Yin Chiu

I think yes Q4 is lower than Q3 mainly because we have the system grants from the government. I think the Q3 number would be more of a ongoing number you can use for modeling.

Szeho Ng - BNP Paribas

Okay, alright. Okay, thank you very much.

Operator

Your next question comes from the line of Sujeeva De Silva from Topeka. Please ask your question.

Sujeeva De Silva - Topeka Capital Markets

Hi. Thanks for taking the questions. So it sounds like the R&D in the fourth quarter, maybe the first quarter you're guiding, has more tape-outs front-loaded than you would expect throughout the year? Is that correct to think the R&D has some tailwind as the tape-outs level off in the first half of the year?

Tzu-Yin Chiu

To real answer to that question, indeed that we are seeing a very much increased interest in both our 28 nanometers both our high-k as well as polythyron as well as a number of our unique process differentiated process. So therefore we are going to see a somewhat of a increase in R&D expense which I think will guarantee our future profitability as well as revenue growth.

Sujeeva De Silva - Topeka Capital Markets

Okay. And then do you have -- how many 10% customers do you have and might you expect a China customer to grow into the 10% range by the end of 2014?

Tzu-Yin Chiu

10% -- actually note the customers still fluctuate from quarter-to-quarter but mutually we have about one to two customers that’s above 10%.

Sujeeva De Silva - Topeka Capital Markets

And would you potentially expect the China customer to grow to be a 10% customer by the end of this year?

Tzu-Yin Chiu

I think the China customers are growing significantly but at this moment they may be approaching but it’s very difficult for me to say that whether they will be able to grow beyond 10%. But we are already seeing that the top 10 customers about almost half of them come from China nowadays.

Sujeeva De Silva - Topeka Capital Markets

Thanks. That color helps. And then lastly, can you tell us how many customers are evaluating your 40/45 nanometer versus the past couple of quarters how much that's growing and maybe even 28 nanometer just to get a sense of how many customers are looking at it now? Thank you.

Tzu-Yin Chiu

I think we have four or five additional new customers that’s evaluating our 40/45 and on 28 we have at least four or five different customers looking at our 28.

Sujeeva De Silva - Topeka Capital Markets

Thank you very much.

Operator

Your next question comes from the line of Eric Chen from Daiwa Securities. Please ask your question.

Eric Chen - Daiwa Securities

Thanks and good morning. This is Eric from Daiwa. And the data to -- I may miss. Do you talk about the CapEx for this year and for your CapEx this year, there are any plans and internal percentage of how many percent and then for equipment, R&D, and the 28 nanometer process, and 40 nanometer process? Thank you.

Tzu-Yin Chiu

I would want to refer the detail number to Gareth.

Gareth Kung

Yes, our CapEx for foundry operation in 2014 as we mentioned in our opening release is 880 million of which 570 million is for our new Beijing fab which is 55% funded by SMIC and 45% funded by the other shareholders of the project. And then we also plan about 110 million CapEx for the construction of living quarters for employees this year.

Eric Chen - Daiwa Securities

Okay. For the Beijing fab, the 570 million, that's pretty much for the 28-nanometer process, right or for the 40-nanometer process?

Gareth Kung

That’s correct. I think our 570 million, half of it is for the equipment CapEx and the other half is our fulfilling CapEx. The equipment CapEx definitely that is for our 28 nanometer, but certainly these are 40 nano capable as well. So there is a fungible part in this particular capacity. The capacity let me -- is that our plant capacity for this investment is about 6k per month.

Eric Chen - Daiwa Securities

So you are talking about a 50% for equipment compared to the less 28 and the 40, right? Or you mentioned 20 as well is it I am sorry I…?

Gareth Kung

No, I did not mention 20. Yes. For 28 and it’s 40 compatible.

Eric Chen - Daiwa Securities

Okay, 40 compatible. Okay and then one more question, that’s a follow-on the question regarding to the China card. We know that around 40% of the total revenue from the China card last year. And how many revenue percentage we should give the expectation for this year and terms of China the card revenue contribution?

Gareth Kung

We expect that China revenue will still grow slightly but I think from the number of tape out we expect that there will be a regular balancing of our global customer base as well as our China our customer base. So it will certainly reach a plateau somewhere north of 40%.

Eric Chen - Daiwa Securities

Okay. You mean that for the whole year, average is somewhere near 40%?

Gareth Kung

Yes, somewhere north of 40%.

Eric Chen - Daiwa Securities

That actually you just mentioned, the whole year revenue growth will be well above the foundry industry growth average, and that will be above the 10% year-on-year growth. So I assume your China card is higher. And so that means that your China card revenues will be higher than the 45% of the total revenue this year. And do I make anything wrong on my assumption?

Gareth Kung

I think that -- and it is close to what we’re perceiving as well.

Eric Chen - Daiwa Securities

And then for your China card, how many percent will roughly the internal unit-wise by using the 40-nanometer process? Roughly?

Gareth Kung

I am sorry; I don’t have that number at this time.

Tzu-Yin Chiu

I think right now for our 40 nanometer revenue I think if you look at the last two quarters probably half is contributed by global customers, half is contributed by our Chinese customers.

Eric Chen - Daiwa Securities

I see. And then for 40 nanometer process, what kind of revenue percentage we will see let's say in Q4 this year, roughly?

Gareth Kung

I think for the whole year we think that 40 nanometer will contribute about mid to high-teens revenue.

Eric Chen - Daiwa Securities

Okay, okay. Thank you.

Operator

Your next question comes from the line of Andrew Lu from Barclays. Please ask your question.

Andrew Lu - Barclays Capital

Thank you for taking my question. A couple of quick questions. Regarding the Q4 utilization rate is about 87%, only small down compared to Q3 last year. But the wafer shipment down about 7% to 8%. What’s the reason behind, how come the utilization is enough for capacity increase but wafer shipment down?

Tzu-Yin Chiu

Yes the utilization is affected by both the current quarter shipments and also what we expect to ship in the next two quarters. So, there is always a timing difference there.

Andrew Lu - Barclays Capital

Okay. So sometime, we always have this kind of issue. So, you now calculate the utilization rate on the wafer out and the wafer stock right?

Tzu-Yin Chiu

Yes, another reason that I want to mention, I think we should bring unique for this quarter is because our shipment which also include the shipment from Wuhan have came down a lot. So, actually the shipment from Wuhan would affect our overall shipment for the quarter but will not affect utilization for our fabs.

Andrew Lu - Barclays Capital

Understood. The second question I have is for first quarter guidance, any color on the shipment versus ASP? You have the revenue guidance roughly down, taking out the Wuhan, roughly down about 6% to 10% that kind of number. So, I wonder whether is the ASP flat or shipment down 6% to 10% or there is some mix change on the ASP as well?

Tzu-Yin Chiu

I think in Q1 we are also seeing a modest jump in the ASP as well.

Andrew Lu - Barclays Capital

Is it on the mix change or on the apple-to-apple price decline?

Tzu-Yin Chiu

I think a combination of both.

Andrew Lu - Barclays Capital

Thank you. The last question I have is for this year, revenue growth guidance, earlier you expected probably similar to last year growth Dr. Chiu mentioned I think earlier. But if second quarter we assume back to 100% utilization rate and remain at 100 in Q3 and Q4 based on the capacity profile, you end up with a 5% revenue growth unless we see another 5% or 10% that kind of increase on ASP. So, I don't know what kind of number you guys are looking for to have a very strong number because for first quarter we actually see year-over-year decline by 10%?

Tzu-Yin Chiu

Okay. I think that here that we need to specify that in our revenue when we are looking at 2014 revenue we are calculating based on the removal of our Wuhan comparing that with 2013 without Wuhan as well as 2014 without Wuhan.

Andrew Lu - Barclays Capital

Okay, understood. Thank you.

Tzu-Yin Chiu

Well just to give you a sense of Wuhan revenue in 2013 is about 110 million, yes.

Operator

Ladies and gentlemen, I would now like to hand the call back to CEO Dr. Chiu for closing remarks.

Tzu-Yin Chiu

In closing I would like to thank everyone who participated in today’s call and again thank all of our shareholders, customers, employees and suppliers for their trust and support. Thank you and see you next time.

Yonggang Gao

Thank you. Bye.

Operator

This is the end of SMIC’s fourth quarter earnings conference call. We thank you for joining us today.

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