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Semiconductor Manufacturing International Corporation (NYSE:SMI)

Q3 2010 Earnings Call Transcript

November 2, 2010 8:30 pm ET

Executives

En-Ling Feng – Director, IR

David Wang –President and CEO

Gary Tseng – CFO

Analysts

Randy Abrams – Credit Suisse

Pranab Sarmah – Daiwa Capital Markets

Dan Heyler – Banc of America-Merrill Lynch

Steven Pelayo – HSBC

Rick Hsu – JP Morgan

Operator

Welcome to the Semiconductor Manufacturing International Corporation’s third quarter 2010 webcast conference call. Today's conference call is chaired by Dr. David N.K. Wang, Chief Executive Officer and President; Mr. Gary Tseng, Chief Financial Officer; and Mr. En-Ling Feng, Director, Investor Relations.

Today's webcast conference call will be simultaneously streamed through the Internet at SMIC's website. Please be advised that the dial-ins are in 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 you to Mr. En-Ling Feng, Director, Investor Relations, for the cautionary statement.

En-Ling Feng

Good morning and good evening. Welcome to SMIC's third quarter 2010 earnings conference call. For today's call, we have our CEO, David Wang; and our CFO, Gary Tseng.

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

Please also be reminded of the Safe Harbor statement, which provided 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 June 29, 2010.

For today's agenda, our President and CEO, Dr. David N.K. Wang, will speak on SMIC's key initiatives and comment on our business. Following that, CFO, Gary Tseng, will walk us through our third quarter 2010 financial results and fourth quarter 2010 guidance. Then we will open the call for Q&A.

I will now turn the call over to our CEO, Dr. David Wang.

David Wang

Thank you, En-Ling. Good morning and good evening to everyone. Thank you for joining us. First, I am pleased to report that SMIC is profitable this quarter on both operating and net income levels due to the good overall market environment and SMIC’s internal improvements. With only 3% capacity increase year-over-year, we were able to grow our revenue 27% and our gross margin from 0.8% in Q3 last year to 24.5% this year.

As our fundamentals and corporate culture improved, customers are increasingly seeking enduring partnerships with us. As an example, our recent technology symposiums held in various locations worldwide have all seen more participants than in previous years. Our US symposium had even four times the attendance of the previous one. Highlighting our technology development, we are putting more effort and resources to drive our technology to narrow the gap with the leading players.

Revenue contribution from 65-nanometer doubled compared to the second quarter. Our 40-nanometer low-leakage technology process was frozen on schedule with a leading customer's endorsement. We are accelerating our other 45-nanometer programs, targeting revenue in the second half of 2011. Our 32-nanometer development has begun, and we are in advanced discussions with customers on collaboration.

Businesswise, North America continues to contribute more than half of our revenue with healthy growth from increased leading node revenue contribution. The Chinese fabless industry is estimated to grow 29% this year, outpacing worldwide growth according to our supply research. With the Chinese fabless industry growth, SMIC’s strong sales in the service infrastructure in China and our doubled IP investment this year compared to last year, we continue to grow our China sales. Our Q3 China revenue has grown from 28.7% of our total revenue in Q2 to 32.2% in Q3.

Operationally, our key performance index shows better operations across all fabs, including daily moves, lining yield, cycle time, and the defect density control. Recently we commenced a nine-month qualification period for a customized 65-nanometer technology to just four months with very positive customer feedback on timing and the chip performance. These efficiencies and the core competencies will enable SMIC to progress well for the long-term.

To update you on our managed fabs, we have officially terminated the management business with Chengdu Cension in October. Regarding the management business with Wuhan Xinxin, we have just signed a cooperation framework agreement on October 29 with Wuhan East Lake Hi-Tech Development Zone Administrative Committee. The details are still under discussion, and we will update further after the project is finalized. Until then, our business model with Xinxin remains unchanged. In conclusion, the third quarter is profitable, and we are gaining momentum in all areas.

Now I will hand the call over to our CFO, Gary Tseng, to update us on the financial results. Thank you.

Gary Tseng

Thank you, David. Good morning and good evening to everyone. I will now take a few moments to outline our financial results for the third quarter ended September 30, 2010, and then I will provide our fourth quarter 2010 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.

Let’s start with the income statement. In the third quarter of 2010, total revenue exceeded our original guidance of 4% to 6% and increased 7.6 % quarter-over-quarter to $410.1 million due to our successful ramp up of 65-nanometer technology and the robust business from the Chinese customers, particularly in communication products. Revenue from Xinxin and Cension totaled $25.7 million in the third quarter, which was 6.3% of our total revenue, excluding revenue from the managed fabs for both quarters.

The company revenue growth was 5.8% quarter-over-quarter. Third quarter gross profit increased significantly by 69.5% quarter-over-quarter to $106 million, as gross margin improved to 24.5% compared to second quarter’s 15.6%, with outlook of revenues from managed fabs. The company’s gross margin would have been 25.1%.

As I mentioned last quarter, the second quarter gross margin should be 18.3% if we exclude Wuhan and the Cension revenue and those special items such as annual preventive maintenance in Shanghai and the Beijing idle equipment restart costs. Therefore the normalized gross margin in the second quarter and the third quarter should be 18.3% and 25.1% respectively, which represent a significant improvement of 6.8 percentage points, which mainly contributed by the decrease in depreciation costs and have increased in blended ASP and the fab utilization.

Looking at our operations, we’ve recorded operating income of $20.7 million in the third quarter compared to negative $0.1 million last quarter. However, operating expenses amounted to $80 million in the quarter, which was the bottom of the guided range compared to the actual amount of $78.4 million in the second quarter by excluding the foreign exchange gain and the government subsidy in the quarter. With these in mind, our current and ongoing operating expenses should be in the range of $80 million to $84 million range for the quarter, excluding the government subsidy and the foreign exchange difference.

Gain attributable to holders of ordinary shares was $30.4 million in the third quarter of 2010, including again in the fair value of commitment to grant shares and warrants amounting to $10.4 million. Excluding this non-operating gain, we are pleased to see that the company reported a third quarter gain of $20 million compared to a loss of $9.9 million in the second quarter, excluding the mark-to-market gain in the fair value of commitment to grant shares and warrants.

Regarding this mark-to-market adjustment, SMIC has fully issued the new common share and warrants on July 5, 2010 that any adjustment on this application has ceased. Going forward, the only adjustment network in anti-dilution adjustment on the number of warrants, which will be immaterial unless our share price exceeds the warrant price of Hong Kong $1.3 before July 2013. All in all, we achieved a positive net income of $30.4 million, which translates to fully diluted earnings of $0.60 per ADS in the third quarter of 2010.

Let’s move into the balance sheet. In the third quarter, we completed the placing of 1.5 billion newly issued shares at a placing price of 52 Hong Kong cents per share for a net cash injection of $97 million. This share issuance together with an education [ph] related liability has been replaced by equity, increased our equity to $2 billion compared to $1.7 billion in the end of second quarter of 2010. As we (inaudible) pay-down time long-term debt in the third quarter, our debt-to-equity ratio was significantly lowered to 46.4% compared to 58.1% in the second quarter.

In terms of the cash flow we generated, $125.2 million operating cash compared to $167.5 million in the second quarter. Our operating cash decreased as inventory and (inaudible) expenses increased.

Regarding our revenue breakdown by product, we witnessed growth across the board. Communication remained our target – our largest contributor, factoring in 45.9% of our total revenue, with a steady sequential growth of 4.8%. Consumer grew to 42.5% in our total revenue with a strong sequential growth of 8.6%. This growth was mainly driven by products like IC card, home appliances, and the set-top box.

Regionally, China, in the third quarter, contributed 32.1%, almost one-third of our total revenue, with a largest quarter-on-quarter increase of 20.8%. US continued to grow at 7.4%, while revenue from Eurasia dropped 11.5% in the third quarter. In terms of technology, our 90-nanometer revenue declined 0.9% quarter-over-quarter due to a lead customer product result. Despite this, 90-nanometer and below revenue grew 4.9% compared to the last quarter, as contribution from 65-nanometer doubled from $13.1 million in the second quarter to $26.5 million in the third quarter, contributing 7.1% to the wafer revenue.

In the third quarter, our utilization was driving up to a five years high of 96.4% with few shipments growing 4%. Meanwhile, our capacity increased mainly due to the increase of aging capacity from 20,500 (inaudible) into wafer per month to 22,500. We expect further ramp-up to 23,500 in the fourth quarter with 5,500 of 65-nanometer capacity.

Looking ahead at our fourth quarter of 2010, we are guiding revenue to be flat compared to the third quarter. Revenue from XinXin and Cension will remain around 4.5% of our total revenue. Gross margin is expected to range from 21% to 23%. But we hope our normalized gross margin from the wafer sale to be flat.

We expect our operating expenses, excluding the government subsidy and the foreign exchange difference, to range from $80 million to $84 million. In terms of CapEx, we’ve spent $453 million in the first three quarters of the year. We are bringing our whole year CapEx to be between $750 million to $800 million, over 75% of our CapEx (inaudible).

I will now hand the call back to En-Ling for the question-and-answer session of this call.

En-Ling Feng

Thank you, Gary. I would now like to open up the call for Q&A. As usual, please be reminded to limit your questions to two questions per person. Operator, please assist.

Question-and-Answer Session

Operator

(Operator instructions) And your first question comes from the line of Randy Abrams with Credit Suisse. Please proceed.

Randy Abrams – Credit Suisse

Yes. Thank you. Good morning. For gross margins you made good improvement to get up to 24.5%. Could you go through the factors in fourth quarter guidance where you're guiding it down a bit to the 21% to 23% on flat sales?

Gary Tseng

Randy, this is Gary. As I mentioned in the guidance, the normalized gross margin for the fourth quarter we hope to be flattened. And the reason we guided in a bit lower number is because there will be interference by our managed fab revenue, which bears a lower margin.

Randy Abrams – Credit Suisse

Okay. Thanks for that clarification. And on the target model, as you continue to ramp up 65 and then back half 40-nanometer, gross margin is mid-20 for that pretty full utilization, do you think mid-20s is the right way to think about target model or do you see kind of an area you could start even pushing that a bit further? And then on OpEx, should we think $80 million to $84 million you will hold it pretty constant on OpEx, or do you need to actually grow that as you start moving to the next technology nodes?

Gary Tseng

Our goal at this stage is target for 25% gross margin. But as we ramp up more advanced technology, specifically in the short-term will be 35-nanometer, later on it will be 40, 45-nanometer, we would expect our gross margin should move forward and grow gradually.

Randy Abrams – Credit Suisse

Okay. And on the operating expense, if you expect to grow that or if we should factor in growth in OpEx into next year?

Gary Tseng

Well, at this point in time, it’s a bit earlier to talk for next year. But I would expect $80 million to $84 million should be our next few quarters’ target.

Randy Abrams – Credit Suisse

Okay, thank you. And on 32-nanometer, could you talk if you've set the strategy for your road map for rolling that out and whether you'll stay on the IBM like process or if you're considering a change, moving to 32-nanometer?

David Wang

40, 45-nanometer, we acquired technology from IBM. But we have not done anything with 32 or 28 with any partner yet. What we did is we started to organize a team who work on this program, and starting with the high tech metal gate study. And according to our schedule, we should be able to freeze the process beginning of 2013 and getting into the pilot production in the same year.

Randy Abrams – Credit Suisse

Okay. Have you established the metal gates that you want to –like which approach you want to take in terms of gate first, gate last?

David Wang

Well, I think that the advantage we have is we can make decision later on as the gate first or a gate last.

Randy Abrams – Credit Suisse

Okay. That makes sense.

David Wang

Or keep flexibility.

Randy Abrams – Credit Suisse

Okay. Thank you.

David Wang

Okay.

Operator

And your next question comes from the line of Pranab Sarmah with Daiwa Capital Markets. Please proceed.

Pranab Sarmah – Daiwa Capital Markets

Thank you for talking my questions. Congratulations on getting your OP profit, positive OP profit in 24 quarters. My first question is on your CapEx side. You have raised your CapEx by about $100 million compared to last quarter. Could you elaborate a bit, like where this $100 million you are going to spend in and what is your CapEx you have in your mind for next year, any initial thought?

David Wang

This year, most of the CapEx is invested in our Beijing expense, which we have the low 20,000 per month capacity. That fab can be equipped all the way to 45,000 a month, and this will be our major CapEx spending every year. And all the newer capacity will be either 65-nanometer or lower. So we would expect to ramp it up steadily. With a strong capital momentum, as we can see into the future, definitely we would expect to ramping up more capacity in 2011. Last year, at this point of time, it’s a bit earlier for us to declare the 2011 CapEx number yet. Thank you.

Pranab Sarmah – Daiwa Capital Markets

What will be the Beijing fabs capacity by year-end, 2010? I think previous guidance was 23,500.

David Wang

By the end of this year, we are talking about 23,500. That is due to the machinery delivery schedule was delayed.

Pranab Sarmah – Daiwa Capital Markets

Okay, got it. And my next question is on your inventory side, your inventory has gone up about 10% Q-on-Q, but where – you are guiding for 4Q is a sequential flat shipment. Why do you have to raise inventory on this particular quarter, or does it mean like your utilization rate on the fourth quarter will come down quite significantly?

David Wang

The inventory increased somewhere around $22 million. That was due to the increase in sales and also we are ramping up more products. I wouldn’t expect at the end of fourth quarter the inventory going up continuously. We hope we would be able to manage that even better. We will see how we will do by the end of fourth quarter. Thank you.

Operator

And your next question comes from the line of Dan Heyler with Banc of America-Merrill Lynch. Please proceed.

Dan Heyler – Banc of America-Merrill Lynch

Thanks. My couple questions would be – first, on the utilization side, it looks as though the 12-inch utilization may not have improved much. I want to understand that, because if you look at the net difference between 65 is going up, but 90-nanometer is down by about as much. And since the 65 ASP is higher, I'm wondering if unit shipments actually grew much at all in the 12-inch fab or if it's more of a product mix taking place.

David Wang

Well, first, the product mix; second is we have a line of customers waiting for taper out of 65 and 55-nanometer technology. So we have to use at least 5% of the utilization rate of the equipment to do the engineering, project and the taper out. That’s why you’re seeing a little bit lower utilization rate compared to before.

Dan Heyler – Banc of America-Merrill Lynch

Okay. So, how were you able to – did margins improve on the 12-inch fab in that environment, or were margins flat or down on the 12-inch? I'm just wondering how that's going to play out over the next couple of quarters.

David Wang

I think that the margin has improved from 10% to 20% increase.

Dan Heyler – Banc of America-Merrill Lynch

And that's due to the decline in depreciation, is that right?

David Wang

It’s the product mix because the 65-nanometer has reached almost 7,000 wafers per month and accounts for 7% of our total revenue compared to only 3.4% last quarter.

Dan Heyler – Banc of America-Merrill Lynch

So there's significantly better margins on 65 than 90 is what it looks like?

David Wang

Yes, absolutely.

Dan Heyler – Banc of America-Merrill Lynch

Got it. Okay, great. Let’s see. And then I guess I wanted to ask a question more on the managed fabs. How – because that seems to be still not improving in terms of margins and contribution, and maybe just give us an update on your thinking there. What do you want to do to bring up the financial situation amongst those fabs and profitability?

David Wang

Yes. We used to have two fabs under our management. One is Cension fab in Chengdu. This fab already sold to Texas Instrument by the local government. So we are no longer doing a management in that fab. The only thing is we still have some of our customer loading in that fab. So in the next probably nine months, we will still report the revenue from our customers although manufactured by the Cension-TI fab. After that, the margin issue will be gone. On Wuhan, the margin level today is only 3,000 wafers per month capacity. And this will be ramped up to 9,000 wafers per month by the end of 2011. And that will definitely improve the margin quite a lot. And also a logic 65-nanometer technology is being transferred to the fab, which will also help the ASP. So we hope and expect we will get better margin operations from Wuhan fab in 2011.

Dan Heyler – Banc of America-Merrill Lynch

Great, thanks for answering my two questions. I'll get back in the queue.

David Wang

Okay.

Operator

And your next question comes from the line of Steven Pelayo with HSBC. Please proceed.

Steven Pelayo – HSBC

Yes. First, just some clarification. I need a little more detail on your gross margin. Even if you look at it excluding the managed fabs, it looks like there is still a more significant impact in the fourth quarter. Your guiding gross margin is down about 250 basis points at the midpoint of your fourth quarter guidance when the difference between your managed fab and the reported number excluding and including was only about less than 100 basis points in the third quarter. So, could you help me better understand the fourth quarter more specifically? What's depreciation going to do? Because that was really the big surprise here in the third quarter and then any other comments.

David Wang

Okay. From the wafer sales, as I mentioned earlier, my expectation will be flattened in gross margin. But when we include all those managed fab revenue and management fee, then you will be kind of inflated and diluted. The third quarter specifically, we see more management fee from all those managed fabs, which helped the overall gross margin to 24.5%. In the fourth quarter, since it’s not finished yet, so we have less estimation on the revenue we will receive from the management fab. So we would expect the gross margin will be tight from 21% to 23%. Thank you.

Steven Pelayo – HSBC

I'm sorry, I still don't understand. The managed fab revenue, I think, you said was $25.5 million in the third quarter. You said it would be 4% to 5% of revenues in the fourth quarter, so that's down. So I think that has less of a negative impact on your gross margins, your overall reported gross margins then. And then further, can you also comment just on the depreciation costs in your fourth quarter cost of goods sold?

David Wang

Okay. There are two revenues from our managed fab. One is the agency cost from sales, which is always kept at 3% [ph] only. This is what drives down our gross margin. At the same time, we also received the management fab revenue from the management fee, which we spend on our people there and we receive the cost recovery from them. And this number in the last few months has been fluctuating because sometimes we receive that, sometimes we didn’t receive that. So this is the reason why I’m trying to explain it through a kind of normalized gross margin. In the third quarter, it’s 25%, and in the fourth quarter, I would expect – I would hope it would be flat.

Gary Tseng

In our last quarter guidance, 20% to 22%, and we ended up with 24.5%. Now this quarter guidance is 21% to 23% is better than last quarter‘s guidance. The whole team here is still averaging five people, it’s still about eight months. And we have a lot of things to solve out. And we’re trying to be comparative. We don’t want to really keep a number if we don’t have 100% sure yet.

Steven Pelayo – HSBC

Okay. Can you comment on the depreciation in your cost of goods sold in the fourth quarter? Because depreciation was down about 11% quarter-on-quarter, which really helped drive the 3Q gross margin.

Gary Tseng

Yes. In the third quarter, as we reported, the depreciation is around $148 million. With respect to the fourth quarter, it will be going down to somewhere around $140 million, $8 million decrease from the third quarter.

Steven Pelayo – HSBC

So, that means the portion of your cost of goods sold likely comes down by the same percentage or so, roughly $112 million in cost of goods sold it looks like?

Gary Tseng

Yes.

Steven Pelayo – HSBC

Okay. And then last question, I'll get back in the queue. The CapEx spend in the fourth quarter looks like it's going to be very large to spend your full year budget. Can you talk a little bit about your cash flow statement in the fourth quarter? You also had some working capital management, maybe some payables and inventories to deal with as well. So help me understand cash flow from operation targets in fourth quarter as well as free cash flow likely.

Gary Tseng

Okay. As you can notice, in the third quarter, the cash flow – the operating cash flow is going down substantially. And this is mainly from the inventory increased $22 million and also the prepaid VAT. At this point of time, when we import the machinery, we need to pay VAT in front and then we claim that from the sales and from the special application. And since the third quarter, the CapEx is moving up compared with the last few quarters obviously caused the operating cash flow going down. In the fourth quarter, I would expect the – as you said earlier, that the CapEx will be going up further. This will be increased our VAT prepay as well. So definitely we would expect our operating cash flow will be going down further. So this will be continuing for one or two quarters. But hopefully, through the application of recovering back the VAT can spin-off, we would expect later on the operating cash can be compared to normal level.

Steven Pelayo – HSBC

Maybe you could just quantify what do you think of the cash balance target for exiting this year – on you balance sheet, cash, restricted cash, what do you think it is at the end of the year?

Gary Tseng

Okay. Cash balance is a number, which can be influenced by a lot of variables. For example, you borrow more money but bring to the cash and your cash balance is increased. But I would expect that this company’s cash balance, we maintain them around $350 million to $400 million will be a healthier situation.

Steven Pelayo – HSBC

Does that assume you are having more debt in the fourth quarter or –?

Gary Tseng

By the way, in the September 21, we have EGM, and one of our major shareholders, Datang, has agreed to invest $102 million into our equity. The part of our July funding planning, and we expect that this will be received somewhere around in the fourth quarter.

Steven Pelayo – HSBC

Okay. I'll get back in the queue.

Gary Tseng

By the way, our CapEx, our leverage will be – the number would be increased. And we hope the percentage against our equity will not increase substantially.

Steven Pelayo – HSBC

Thank you.

Operator

(Operator instructions) And you have a question from the line of Pranab Sarmah with Daiwa Capital Markets. Please proceed.

Pranab Sarmah – Daiwa Capital Markets

Yes. Thank you for taking my questions. I have two questions. The first one is on changes on your customer mix. It looks like you had big changes on your customers in the third quarter, especially from systems to fabless customer. I think that change was quite sharp. Could you elaborate a bit like what happened on that particular area, whether some customer classified as a fabless from systems?

David Wang

Excuse me, can you repeat your question again?

Pranab Sarmah – Daiwa Capital Markets

Yes. If you have, say, like a fabless systems customer, there was a big difference [ph], like, the second quarter, your systems companies accounted for about 18% of revenue, but third quarter it came down to less than 10% of your revenue, whereas the fabless customers' revenue has increased quite significantly. Could you elaborate a bit why there's a big change of swing on these two numbers?

David Wang

Well, our system company’s sales number is not that significant. So any shipment pushed ahead or delayed will influence the number significantly. But all in all, I will say, from a general perspective, I wouldn’t expect the structure will be changing significantly.

Pranab Sarmah – Daiwa Capital Markets

Okay. That was quite substantial actually, like from 17% to 9.9%, which is like 8% loss in one quarter. Anyway, the next one is on government subsidy. I think normally historically you do get some sort of R&D subsidy towards 4Q. What type of subsidies you are looking at this year?

David Wang

You are asking the third quarter?

Pranab Sarmah – Daiwa Capital Markets

No, 4Q.

David Wang

We never really estimate what subsidy we will receive ahead because the government operation and processing is quite unpredictable. So in general, when we are giving the guidance, we always take away the government subsidy, which can come anytime or never come. Thank you.

Operator

And your next question comes from the line of Dan Heyler with Banc of America-Merrill Lynch. Please proceed.

Dan Heyler – Banc of America-Merrill Lynch

Yes. Hi guys. I wanted to follow up on the customer movements. There have been adjustments taking place the last few months across the foundry sector. Some customers cutting to address the inventory that's been accumulating, mostly in the PC supply chain and consumer supply chain, and some have been actually quite strong. So I'm wondering within your operations, where are you seeing customers trimming back orders, which end markets were they trimming back orders to address inventory, and which areas are they becoming more aggressive?

David Wang

Our business mix has very little from computation. Mostly it’s consumer products and communication products. So we don’t really have these, what you call the PC inventory issues, not really affect us.

Dan Heyler – Banc of America-Merrill Lynch

So there have been no adjustments to orders and no inventory-driven adjustments to your customers at this point in time?

David Wang

Not at this point of time.

Dan Heyler – Banc of America-Merrill Lynch

Okay. What about in terms of the visibility on new products, looking into what are some of the areas where people are launching new products for early next year. And if you could be more specific about the products themselves, where we can expect growth for SMIC in early 2011?

David Wang

We – right now, we fully utilize our capacity. So therefore we really don’t have this pressure that we must get a new product in order to grow our business. However, we are coming with some specialty product. For example, the USB 3.0, we start to get involved, and they have some volume for manufacturing of this product. And certainly, also we are working on some special embedded flash products. And also demand is getting increased, and demand from most of the customers.

Dan Heyler – Banc of America-Merrill Lynch

Next one, within China, you've alluded this to being – the growth of the Chinese customer base being communications-related. Could you elaborate a little bit more on which segments of communication? Is it mostly handsets or are there other infrastructure or what?

David Wang

Yes. So, in China, our market on communication, mostly in the wide [ph] brand cell phones market. We also – this including CIS, CMOS Image Sensor chips used as the component of the camera module for cell phone, and perhaps some set-top box and also IC cards. So today, Q3, our revenue is 32% coming from Mainland China market. And our forecast estimation overall revenue for SMIC from China in 2010 will be around $350 million. And I’ll give you some idea of the China market. The best estimation of the fabless company total revenue is about $5.4 billion in 2010. So typically, one-third of this fabless revenue becomes the total foundries market size, which is $1.8 billion, the total available market. But for us, because we (inaudible) to 65-nanometer. So our served available market size is about $0.9 billion. And if you take this number, divide $350 million, we are about 40% market share in China market. Now, with our advanced technology node and across the increased capacity of 12-inch for advanced technology node, and we believe our eventually served available market size should be 75% of the total foundry market.

Now, if you take the last 10 years, the Chinese fabless company compounded annual growth rate is 39%. And just take 2009 compared to 2008, their growth rate is positive 15% while the rest of the world was minus 11%. So therefore the momentum for them to grow in 2015, my estimation will be $10 billion to $12 billion total. So if we take the high number, $12 billion, again, the total served available market for foundry will be one-third of $12 billion. So it’s about $4 billion. And there is – our served available market is 75% of this. We’re talking about $3 billion will be our served available market in 2015. If we take 50%, we’re talking about $1.5 billion revenue for us in the next five years.

Dan Heyler – Banc of America-Merrill Lynch

Thank you for your thoughts on that, and that's an interesting analysis. I appreciate that. And a very quick follow-up on your funding thought processes at this point. Could you reiterate your views on funding? Would you have a preference for local loans, potential government loans, or external funding from capital markets and what are you thinking on that? Because your growth trajectory has been pretty good. I assume you want to try to keep the momentum going and may need more funding. Thank you.

Gary Tseng

Thank you. This is Gary. First of all, we need to have a balanced balance sheet. So when we expand our capacity, definitely we need funding. And this definitely will be coming from the equity side and from the loan side. And everybody knows at the current point that you borrowed renminbi interest rate, it’s pretty expensive. We’re talking about 4% or 5% at least. And borrowing US dollars definitely will be cheaper, but for the local strengths to get US dollars capacity is quite a challenge to them as well. So definitely we are working very hard trying to lower down the cost of our funding. So we are working on the equity, on the loan side, and from domestic and international communication as well. But at this point of time, it is too early for us to declare what the result will be. But as time comes, we definitely will update you as soon as possible.

Dan Heyler – Banc of America-Merrill Lynch

Is there an opportunity to raise more money within the Chinese equity market so there is another listing, or what's your thinking there?

Gary Tseng

China equity market is really a totally different story. Right now, we are listed in the Hong Kong and the US. So there is no way we can raise the equity locally. But on the other hand, the Shanghai stock market is quite active. There probably we need to be a long-term project.

Dan Heyler – Banc of America-Merrill Lynch

Why not? Why not list in Shanghai?

Gary Tseng

No. As I said, it’s a long-term project, because we need to go through a complicated application process. And no one can really forecast anytime.

Dan Heyler – Banc of America-Merrill Lynch

Okay. Thanks, Gary. Thank you, guys.

Gary Tseng

Thank you.

David Wang

Thank you.

Operator

And your last question comes from the line of Rick Hsu with JP Morgan. Please proceed.

Rick Hsu – JP Morgan

Hi, good morning. This is Rick from JP. Before I ask questions, I just want to confirm with Gary. You mentioned about your depreciation probably for Q4 was $140 million, right?

Gary Tseng

Yes.

Rick Hsu – JP Morgan

Okay. $140 million. Okay, got you. Thank you. And the first question, can you maybe elaborate your – comment about your customer inventory situation, particularly your customer inventory in China?

Gary Tseng

Well, we didn’t have a (inaudible) of our customers inventory. On the other hand, as David mentioned earlier, most of our customers are really in the communication and in the consumer, which from our perspective, the business is not bad. We have been pushing from, quite a lot of example – instances, so the customers need more wafer. So for us, we could then really build the inventory pressure from our customer.

Rick Hsu – JP Morgan

Okay, thank you. My second question is, can you give us a little bit more color about next year's – your next year’s CapEx budget, your CapEx plan, and also next year's depreciation guidance?

Gary Tseng

Okay. As I said earlier, this is a bit earlier for us to have this number because we didn’t go through all the Board approval and discussion yet. But compared to the overall business momentum, the customers are (inaudible) of our capacity. So I was pushed by our operation guy and a fab guy that we need more capacity. So with this in mind, I would expect we should increase – we hope we will maintain a high CapEx for next year. And the major expansion will be still in the Beijing side, which again toward the end of the year, we’ll have 23,000 per month and we – we will be able to spend to 45,000. At this point of time, still it is more a machine delivery limitation for us. Thank you.

Rick Hsu – JP Morgan

Right. Okay. Would that be part of the close to $1 billion level? Or when you say high CapEx, you will maintain high CapEx level, would that be close to $1 billion level? Just give me some hint.

Gary Tseng

Rick, I would really like to give this number until the next earning release, which we believe by then we will have a much clearer picture.

Rick Hsu – JP Morgan

Okay, that's good. And what about depreciation? It should be increasing next year, right? And roughly how much?

Gary Tseng

Our depreciation bottom, according to our current calculation, will be in the first quarter of ’11. But from there, we will gradually increase our depreciation number, but not in a significant way. I would guess or hope somewhere around $5 million to $6 million per quarter level going forward.

Rick Hsu – JP Morgan

Okay. So in Q1, the increase as to word [ph] by about $5 million to $6 million per quarter, right?

Gary Tseng

Yes. (inaudible)

Rick Hsu – JP Morgan

Thank you so much.

Gary Tseng

Next year.

Rick Hsu – JP Morgan

Sure.

Operator

And I would now like to hand the call back to the CEO, Dr. Wang, for closing remarks.

David Wang

I would like to thank this opportunity to actually thank all our shareholders, customers, employees and the suppliers for their trust and the support. We are counting on your continued support in advancing SMIC. Thank you for joining us.

Operator

Ladies and gentlemen, that concludes today’s conference. Thank you for your participation. You may now disconnect. Have a wonderful day.

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