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Semiconductor (NYSE:SMI)

Manufacturing International Corporation

Q4 2007 Earnings Conference Call

January 29, 2008, 7:30 PM ET

Executives

Theresa Teng - Head, IR

Morning Wu - Acting CFO, Chief Accounting Officer

Richard Ru Gin Chang - Executive Director, Founder, President & CEO

Analysts

Randy Abrams - Credit Suisse

Velin Mezinev - Donald Smith & Co.

Donald Lu - Goldman Sachs

Bill Lu - Morgan Stanley

Eric Chen - BNP

Steven Pelayo - HSBC

Dan Heyler - Merrill Lynch

Suresh Balaraman - ThinkEquity

Operator

Welcome to the Semiconductor Manufacturing International Corporation's Fourth Quarter 2007 Web cast Conference Call. Today's conference is chaired by Dr. Richard Chang, Chief Executive Officer & President; Ms. Morning Wu, Acting Chief and Financial Officer, and Ms. Theresa Teng, Head of Finance and Investor Relations.

Today's web cast conference call will be simultaneously streamed through the Internet at SMIC's website at www.smics.com. Please be advised that your dial-ins are in listen-only mode. However, at the conclusion of the management presentation, we'll 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. Without further ado, I would like introduce to you Ms. Theresa Teng, Head of Finance and Investor Relations for the cautionary statement. Please proceed.

Theresa Teng - Head, Investor Relations

Good morning, everyone. Welcome to the SMIC Fourth Quarter 2007 Earnings Conference Call. Joining me on the call today are Dr. Richard Chang, Chief Executive Officer & President and Ms. Morning Wu, Acting Chief Financial Officer. Our call will be approximately 60 minutes in length. The earnings press release and presentation are available for download at www.smics.com. Please note the following Safe Harbor Statements. SMIC 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 the forward-looking statements. Information as to those factors, that could cause actual results to vary can be filed in SMIC Form 20-F filed with the United States Securities and Exchange Commission on June 29th, 2007.

For today's agenda, Morning will highlight our fourth quarter 2007 financial results and first quarter 2008 guidance with the summary of the cash flow statements and balance sheet in the appendix for your ease of reference. Following that, Richard will provide an update on our business. I will now turn the call over to Morning.

Morning Wu - Acting Chief Financial Officer, Chief Accounting Officer

Thank you, Theresa. I would like to highlight the following items, which are all stated in U.S. dollars. Revenue increased by 3% over first quarter 2006 to $395.3 million and increased 1% from $391.4 million in the third quarter 2007 attributable to 17.2% higher wafer shipments year-on-year and 8.5% higher wafer shipments quarter-on-quarter. Gross margins decreased to 8.9% in fourth quarter 2007 from 10.8% in third quarter 2007 due to lower ASPs, primarily resulting from DRAM price decline.

Net loss was reduced by 17% to $21.2 million in the fourth quarter 2007 over third quarter 2007. Fully diluted loss per share was 0.057 per ADS. For 2007 highlights, our total revenue increased by 5.8% over 2006 to $1.55 billion in 2007 despite unprecedented depressed conditions in the DRAM market. Gross profit up by 20% to $152.7 million in 2007 from $127.2 million in 2006, due to solid growth in our non-DRAM business. Gross profit from non-DRAM business increased 104% year-on-year in 2007. Gross margin was 9.9% in 2007 compared to 8.7% in 2006. Net loss of $40 million in 2007 compared to a net loss of $44.1 million in 2006. Capital expenditure decreased from 2006 by 5.6% in 2007. As of the end of the fourth quarter 2007, total capacity increased 1.7% year-on-year to 185,250 8-inch equivalent wafers per month, with a 94.4% utilization rate. Summaries of our income statement, balance sheet, and cash flow statement are available in the appendix.

We would like to highlight our guidance, for the first quarter of 2008 we expect the following: revenues are expected to remain flat or slightly decline in first quarter 2008 primarily due to the DRAM price, depreciation and amortization will be approximately $190 million to $210 million for first quarter 2008, capital expenditure will be up approximately $200 million to $230 million in the first quarter 2008, operating expenses as a percentage of sales for the first quarter are expected to be in the high-teens. I would now turn the call over to Richard for the business update and review.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Thank you, Morning. 2007 was a challenging year for SMIC, as we faced a difficult DRAM environment and increasing global competition. However, our success in developing cutting-edge technologies, converting DRAM capacity to logic, expanding capacity and cultivating the China market has paved the way to a prosperous year in 2008.

As part of our plan to mitigate the continuing DRAM pricing erosion, we reduced our DRAM foundry services in the first quarter. We have successfully reduced our DRAM shipments by about 22% since first quarter 2007, excluding a single large shipment in fourth quarter '07 of about 20,000 wafers to clear inventory of discontinued DRAM product lines. Apart from this single shipment, DRAM revenue was reduced to 16.7% of total revenue in fourth quarter '07, compared to 23.6% in third quarter '07.

Despite being confronted with a more difficult DRAM market in fourth quarter '07 than in the previous quarter, we were still able to reduce our net loss in the fourth quarter. We expect DRAM revenue as a portion of total revenue to decrease even further, to below 20% in the first quarter of 2008 and to continue diminishing throughout the remainder of the year.

SMIC experienced solid growth in this non-DRAM business. Revenue from non-DRAM business increased by 13.5% to $1,121 million in 2008… 2007 compared to $988 million in 2006. Gross profit from non-DRAM business, saw a 104% year-on-year increase in 2007. As more of our logic customers migrated to more advanced technology process nodes, our logic sales at 0.13 micron and the 90 nanometer increased by 17.7% and 166% respectively over 2006.

As the overall semiconductor market continues its rapid expansion in China, SMIC has been well positioned to capitalize on this growth. As demonstrated by a 56% increase in our China sales in 2007, going forward we anticipate increase in Chinese demand for 90 nanometer and 0.13 micron design in the digital TV, baseband and digital broadcast market.

Overall in 2007, we engaged 77 new customers worldwide. A large number of which are PRC base, representing a 23.3% increase in our customer base. To complement our ongoing in house research and development and to strengthen our capability in serving customers, we are pleased to announce that we have entered into a licensing agreement with IBM in which IBM will license its 45 nanometer bulk, CMOS technology to SMIC. This agreement will allow SMIC to accelerate its technology advancement in logic process technology and help provide optimal solution for customers at our 12-inch facility, with the road map extended to 45 nanometer technologies, we observed the trend of more customers seeking our foundry services in the 90 nanometer and 65 nanometer technology nodes.

Our capital expenditure in 2008 is expected to be around $700 million, as we continued to invest in the development of cutting edge technology and continued to plan conversion of DRAM capacity to logic in our Beijing fabrication facility. SMIC continues to make the most progress in building out the two fab projects it manages in Chengdu and Wuhan. With the additional capacity from this managed fab, SMIC is able to support our customer’s increasing demand for our foundry services.

Finally, we are pleased to announce that SMIC plants to start a new IC production project in Shenzhen. In connection with the project, SMIC will register an independent legal entity the SMIC (Shenzhen) Corporation Limited, which will set up an 8-inch wafer production line, a 12-inch fab and an IC technology research and development center, in addition to the existing R&D centers in Shanghai and Beijing.

In the near future, we plan to add R&D centers in Chengdu and Wuhan. The 12-inch fab in Shenzhen will introduce advanced process technology licensed from IBM pursuant to the licensing agreement. With the support of the Shenzhen municipal government in financing, incentive policies, and the ways of operations, we expect this project to break ground in the first half of 2008.

We anticipate that 2008 would be a fruitful year for SMIC. Numerous efforts has been made to assure that SMIC is strategically positioned to take advantage of the many opportunities that lie out ahead. We look forward to sharing our achievement and results with you in the coming year.

I will now hand the call back to Theresa, who will moderate the Q&A session of this call. Theresa?

Theresa Teng - Head, Investor Relations

Thank you, Richard. I will now like to open up the call for Q&A. Please limit your questions. Operator?

Question and Answer

Operator

[Operator Instructions] Your first question comes from the line of Randy Abrams with Credit Suisse. Please proceed sir.

Randy Abrams - Credit Suisse

Yes, good morning. I wanted to see if you can expand on your new Shenzhen facilities, could you talk about the plans on RAM capacity and timing of the RAM for the 8-inch and the 12-inch fab. And to follow up with that, will the terms be similar to Wuhan and Chengdu, where you earn a management fee and then a share of the profits?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Okay, Randy. This Shenzhen project is a new project; it's very challenging and very mutually beneficial project. Allow me to share this with you. This project will be strongly supported by Shenzhen municipal government, in financing, in strategic policies, and so on and so forth. And so the business model will be somewhat different from Shenzhen... Chengdu and Wuhan will be different. Shenzhen project will be different. Most of the buildings, facilities will be built by the government. However, SMIC will be happy to use the facility at a very, very favorable term.

And as we will be able to equip the facility with high quality refurbished equipment, those equipment should be able to support the technology from 0.35 micron all the way to 0.13 micron. Aluminum interconnection goes up to 90 node. So, this model is different and ramp up plan is… initially we will start with 8-inch fab, because in year 2007, we already observed that the demand for the 8-inch services are still very strong in China. So we desperately need another 8-inch facility to support the strong demand in China, especially in Southern part of China, around Shenzhen area, that is one of the reasons why we select Shenzhen to add to this capacity to support our customers' strong demand.

And with the success of the 8-inch fab, we will start to plan the 12-inch fab. However, Shenzhen municipal government, they will support us to build the 12-inch fab simultaneously with debuting [inaudible] at an early stage, so we welcome and we thank them for the support.

Randy Abrams - Credit Suisse

Okay

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

But this is overall, our plan.

Randy Abrams - Credit Suisse

And can you talk about capacity milestones for the 8-inch facility and then for the 12-inch facility?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Okay, as of today, we have visited many customers in Shenzhen area, we add up the demand. They want us to build the capacity minimum 20,000 wafers initially, then 20,000 was promised initially because the demand already add up more than 20,000 wafers from that. Eventually, we conceded the demand we reach may be 40,000 up to may be 50,000 wafers per month, in the range. So the building will be large enough to support now and to the future needs.

Randy Abrams - Credit Suisse

Okay and could you update us on your plans for capacity ramp in your own Shanghai 300 mm fab, and then also the timetable or the latest timetable on Wuhan and Chengdu.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Shanghai fab, again is also based on our… our company already signed with the customers and we are doing the quantification quite a few different customers doing quantification with them, once it is quantified, different product, different quantification schedule. Some of the products will be qualified Q1 this year. Some will be qualified in Q2 and Q3 and Q4. So, every quarter we'll have new customers and new products will be qualified. So, we ramp up according to this demand and to give you the number, we expect by the end of first quarter... first quarter of next year. The demand... the demand based on the agreement we've signed with the customers, we've reached between 12,000 to 15,000 wafers per month by the end of first quarter 2009. For your information.

So, we'll basically plan on the capacity ramping up based on customers demand and also the foundry service agreement we've signed with customer. In Beijing, we already start to convert DRAM capacity into logic. So, by the end of this year, we've basically planned for… very precisely for the coming four quarters along, four quarters. And by the end of this year Beijing's DRAM were reduced to... maintained just a small amount to keep the [inaudible] moving and the rest of those will be all DRAM. The capacity should be anywhere between 27,000 to about 30,000 range. Thank you.

Operator

Your next question comes from the line of Velin Mezinev with Donald Smith & Co. Please proceed.

Velin Mezinev - Donald Smith & Co.

Hi, there. All of my questions relate to the intangible in the balance sheet, they were more than... they more than tripled to $232 million. Could you explain what that $232 million consist of, one. And second, the cash flow says you spend $80 million on intangibles, while the balance sheet entry went up by $160 million. So, the second question is why such discrepancy, and finally assuming you don't enter into other licensing agreements, where would the intangible asset on the balance sheet go in future?

Morning Wu - Acting Chief Financial Officer, Chief Accounting Officer

Our intangible assets, including a way of purchase and license agreement from the people and the customer. So, the... if we buy the IBM, the license agreement we'll put in the intangible asset on the balance sheet.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Not only the one customer?

Morning Wu - Acting Chief Financial Officer, Chief Accounting Officer

Yes. Not only the one customer. Yes all the customers from the 2007--.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Partners.

Morning Wu - Acting Chief Financial Officer, Chief Accounting Officer

Yes, partners.

Velin Mezinev - Donald Smith & Co.

Okay. So, what portion is the IBM agreement of that $232 million?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

We cannot give you the portion. By the way, last year, we entered with five major technology partners. And our partner does not want us to disclose any detail information to anybody. We signed an NDA on it, and so, I think you understand our position, but we can give you the total number. Thank you. Anything else please?

Morning Wu - Acting Chief Financial Officer, Chief Accounting Officer

In the cash flow, we have paid on schedule. So usually we've paid a [inaudible] so the cash flow only the 79 million on the cash basis.

Operator

Your next question comes from the line of Donald Lu with Goldman Sachs. Please proceed.

Donald Lu - Goldman Sachs

Hi good morning Richard and Morning and Theresa. Yes, my first question is relating to this Shenzhen plant. When you say you are going to buy an 8-inch equipment. Did you mention you are going up to a 0.13 micron or only 0.48 micron [ph] and also what is the capacity plan for this facility?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Allow me to further elaborate on the first answer I gave to the Credit Suisse gentlemen. We were able to purchase some refurbished equipment or second hand equipment, those equipment always high quality, capable of doing the 100 nanometer technology mode. So we will use this equipment to support customer all the way down to about 0.13 micron and 0.13 micron derivative usually including 1.1 micron and also 0.10. We call this is 0.12 micron and derivatives. But yes, the technology will support customer all the way down to 0.13 micron and the derivative. Capacity, initially we will start with 20,000 wafers per month, which is the customers demand. And we also did a survey with customers in the Pearl River Delta region. And we expect that very soon, they will demand may be 40,000 to 50,000 wafers per month, in the range. So, we already have this in mind that we will build the facility big enough to support the capacity up to may be 50,000 wafers per month. Donald, did I answer your question?

Donald Lu - Goldman Sachs

Yes, yes that's great. And also based on your Q1 revenue guidance and you just also mentioned that DRAM will decrease around 10% sequentially in terms of revenue. So it sounds like your Logic revenue will show sequential increase in Q1. Can you tell us what kind of products is showing the growth trends in Q1?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Yes. We still see a very strong demand in the telecom area especially WiFi, wireless LANS and also like DSP. We start to see a lot of demand on the 3G type of DSP chips and in the… digital TV area is getting stronger. Mobile TV also has started to see customer want more and more of this. And, this is about what I'd like to share with you, is this enough for you? Computer area we see, at least in SMIC we see a flat, did not show any declination although did not show strong growth either for Q1, but telecom still very strong and digital TV and the mobile TV stronger yet.

Operator

Your next question comes from the line of Bill Lu with Morgan Stanley. Please proceed Sir.

Bill Lu - Morgan Stanley

Yes, hi good morning, just a couple of further questions on the memory portion of your business. I understand that DRAM is going to go down throughout this year. I guess the first question is, you had this one-time single lot of DRAM to clear out in the fourth quarter, and what's the eventual situation there? Are we are going to see more of that going forward? Second question is, even going down but I got to assume that the Flash is going to go up with the Spansion deal. What is the total revenues from... total memory at the end of this year?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Okay. We distinguish DRAM from Flash clearly because our Flash doesn't use DRAM technologies, Flash is their own technology closer to logic but not a 100% logic either. So our plan is write off big chunk of the DRAM in first quarter last year. And at this quarter, we saw another customer. We have two major customers. We first quarter we will continue to negotiate with the second customer data, find the best way to support each other. So we expect that we are going to take a… some kind of write off or LCM write off from our revenue at profit, or first profit. That is why we expect the revenue would be less or slightly decline due to the DRAM pricing.

Some customers told us that they expect the DRAM price may slightly improving, but in Q1 this year. And we are very conservative. We hope that is true, but we prepare for the worse. And anyway we will reduce the DRAM and increase Flash. Flash as mentioned here has gone through and we are actively working support them. We expect the real volume to come in the qualification process as long, we expect that in fourth quarter, this year we're going to see some volume POs from our customers, so the total percentage is still very low, I don't have the number yet, but a still very small number.

Bill Lu - Morgan Stanley

Okay. I guess I am asking this question, because my assumption is that... Flash margins be better than DRAM upon what's in logic as well, is that the right assumption that margin is somewhere in the middle?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Yes. Exactly right. Flash is much better than DRAM, but little less than logic or some part less than logic... you're right.

Operator

Your next question comes from the line of Eric Chen with BNP. Please proceed.

Eric Chen - BNP

Hi and good morning, Rich this is Eric, and my first question is, could you more elaborate on your 45-nanometer CMOS technology and that [inaudible] and the 45-nanometer the wafer and why you are not saying about [inaudible] technology and upon IBM? Thank you.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Okay. Good, this is a good question. Our agreement with IBM is to license IBM's book CMOS which including at the low leakage and also the generic. Generic is basically both graphic card or chipset people and a low leakages for handheld or those wireless or DSP customers. So we have a new license, two different technology from IBM. I will refer to SOI, we feel that the customers’ basis rather limited. We based on our understanding it will be... maybe only two of... not more than three customers really want SOI and one of that potential customer is Intel, I don't think they really need the foundry services from outside. And so limited, very limited custom base so we do not negotiate this part of it with IBM. My personal feeling is that for the customer base is concerned maybe 95% of customers want to have the 45 ll or 45 G technologies. So, we decided this is what we want to do.

Eric Chen - BNP

Okay. And my second question, could you give us an update on your business with Elpida and with the Spansion and in term of the revenue portion and the [inaudible] even more the significant revenue contribution on the bottom line? Thank you.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Thank you. Elpida has been a very good customer of ours and a good partner. However with the understanding that the DRAM situation is so difficult and Elpida and us reached an agreement that we are going to ramp down the DRAM services to Elpida. We thank them for their understanding, for their support, but we... long term we will keep in a very good partnership with Elpida, we'll keep this

technology alive in our company. Whenever the business is picking up profits become positive, we will continue to service Elpida. Spansion is a new partner, Spansion is one of the leading Flash companies in the world, especially in the NOR Flash. Their new technology also support NAND, they call it ON technology, which is very attractive to us, and we expect the surface and the partnership with Spansion will continue to be very strong. As far the volume concerned, again we cannot disclose this detailed information, but they will be a very good customer to us, and also long-term partner, and also customer. Erick, does that satisfy you?

Operator

Your next question comes from line of Pranav Sharma [ph] with Securities [ph]. Please proceed.

Unidentified Analyst

Yeah, thank you for taking my questions. My first question is on… last quarter I have seen your revenue contribution from management fee has come down, could you elaborate a bit on that? And secondly, mainly on the CapEx side, of this 2008 CapEx could you give us some break down of where you want to spend, how many CapEx or whether it include some CapEx for Shenzhen fab as well?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Okay good question. Our management fee coming down because in Chengdu we stopped our mass production. So while we start a mass production, our improvement [ph] is to reduce the management fee by the weekend, enjoy the profit sharing so that [inaudible] profit sharing usually takes one to two process, after we get it done. So you will see SMIC reporting our profit sharing from our management... managed operations from Chengdu and Wuhan to answer your first question. Second question is about 2008, the CapEx break down, usually we do not disclose the details of the break down, but you asked a question about Shenzhen.

Unidentified Analyst

Yeah, out of that $700 million, how much will be for Shenzhen and its 20-K will be by end of 2008 you are reaching Shenzhen capacity?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Shenzhen project, as I early part I mentioned, that initially majority of the CapEx or the expenses will be supported by the municipal government, so may be you already noticed that in 2008 even we stated Shenzhen project but our CapEx did not change at all, this is the... very good business model with Shenzhen government and in first quarter 2009 we expect that we are going to deliver our wafers to customers from Shenzhen facility, this is our plan.

Operator

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

Steven Pelayo - HSBC

Great. Richard, two-part question. The first one is really on the strategy. A year ago, we were talking about trying to decrease our CapEx and depreciation to try to raise the breakeven rate and kind of adopted virtual fab at Chengdu and Wuhan. Now, we're kind of going back here and keeping the CapEx at a higher levels and I guess a I am little... I want to talk about the strategy one, and then the second is what does this really mean from a margin perspective on the layers. If you think about it… decreasing the DRAM mix I guess is good for gross margin but then potentially you are running maybe a lower utilization rate, potentially of higher depreciation going on and then we're also learning this quarter that looks like you guys have higher SG&A from the engineering wafer. So, could you talk a little bit about the strategy and then really what the margin implications are on the both the gross and the operating line in 2008 with this somewhat new strategy?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Very good. And our strategy is continue to increase our capacity to meet customers demand. As you can see that for the logic part, fourth quarter 2007 obviously addition rate is very, very high, overall its high even DRAM decreasing but logic increased. So, utilization rate at 94.1% is very high to us because there're few... some capacity we are in the middle of conversion. Converting from DRAM to logic. We expect once this is completed, the conversion is completed, we will continue in Q1, the conversion process will continue.

And because after conversion, we have to quantify those equipments for customers. So, Q4 last year and Q1 this year, these two quarters would be more... a lot of process, a lot of efforts spent to do the conversion. And as far as the CapEx concerned, our 2008 CapEx compared to the 2007 about same. So, we did not increase 2008 CapEx. And for the... you also mentioned about, if we do not run DRAM, our utilization rate will be lower. This is not necessary tool because we start to increase a lot of logic already. And logic demand in China very strong. So, just… our challenge is that how to convert DRAM capacity into a logic capacity as soon as possible. This is our challenge.

Steven Pelayo - HSBC

The question on the margin side, I just take a look at the depreciation how it increased in the COGS for the current quarter and it looks like it impacted about 200 basis points of gross margin. So, I'm really interested in your 2008 depreciation that's going to impact COGS and then your outlook on the operating expenses because you guys are guiding for about 250 basis point increase from mid teens to the high teens in operating expenses as a percentage of sales. So, really margins on both growth and operating focusing on COGS depreciation and SG&A engineering wafer cost? That's my last question.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Our 2008 depreciation versus 2007 has slightly increased because... slightly increased not a big amount as you can see the number. And as far as the percentage depreciation versus the revenue is decreasing a lot, you also can calculate the number by yourself. About other margins, I think maybe either Morning or Gary [ph], please you answer the Steven’s question.

Morning Wu - Acting Chief Financial Officer, Chief Accounting Officer

We will convert this DRAM to the logic and also our 90 nanometer logic will increase in the second half of the year after 2008. So we believe that the gross margin in 2008, second half will increase. This is our plan.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

And the plan is based on the signed agreement with customers. The customer wants us to ramp up more 90 nanometer and 65 nanometer logic, but we need time to ramp up the capacity. For 2008, most of the CapEx is going to spend to convert DRAM capacity into logic and increase the logic almost... that is going to increase. In Beijing fab, the logic capacity will be increased almost double… NAND DRAM capacity will be doubled increased 100% in 2008 compared to 2007, NAND DRAM portion.

Operator

Your next question comes from the line of Dan Heyler with Merrill Lynch, please proceed.

Dan Heyler - Merrill Lynch

Thank you for taking my call.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Hi, Dan.

Dan Heyler - Merrill Lynch

Quick question Richard on that... going back to the CapEx on 2008. If you could give us a sense of the exact kind of, I guess net capacity increase because you've got a number of things going on, you are converting DRAM to logic. So if you look at the aggregated SMIC core capacity, what will be the total increase in wafers? And then the second part of the question is what would be the total increase in your logic capacity including the converted part on a year-on-year basis?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Very good question, Dan. I will ask Morning to answer this.

Morning Wu - Acting Chief Financial Officer, Chief Accounting Officer

In 2008, for most of the capacity increase... CapEx increase is logic product also the [inaudible] product. So compared to the 2007, so in most of 2008, we are increasing [inaudible].

Dan Heyler - Merrill Lynch

Do you have a number… may be total wafer capacity number for '08 in mind on this those CapEx budget yet?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Yes. Our total capacity by the end of 2007 was about 182... 185,000 wafers per month 8-inch equivalent. By the end of 2008, the total capacity will reach approximately 210,000 wafers per month.

Dan Heyler - Merrill Lynch

Great. And then if you add in the Chengdu and Wuhan on top of that, do you have that number as well to add on top of those numbers?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Yes. Including Chengdu and Wuhan we expect the total capacity will increase to 267,000 wafers months, 267.

Operator

Your next question comes from the line of Suresh Balaraman with ThinkEquity. Please proceed.

Suresh Balaraman – ThinkEquity

Good morning guys. Regarding... based on your guidance for Q1, what kind of mix that you expect for 130 nanometer and 90 nanometer logics?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Q1. Let me find the number for you. For logic, we expect we will be 74.3%, DRAM will be only 17.2%. But however in logic area, [inaudible] will be more than 50%. Okay. Roughly I would say 50%.

Suresh Balaraman – ThinkEquity

Okay. And in terms of pricing trends, are all of the customers at 130 nanometers and 90 nanometers, are they all staying the… are all of them on per wafer basis now?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

No. Most of the customers they set a goal, that with quality and the use… minimum use, then they basically, we signed contract with them on the wafer basis. And this was a past history and a mutual trust because our history and record is indicating that we've promised on the yield. We always can exceed the yield, the target. So our customer feels comfortable to sign a contract with us on wafer basis.

Operator

Your next question comes from the line of Sailesh Jetley [ph] with Numero Singapore [ph]. Please proceed.

Unidentified Analyst

Yes hi, thanks. Richard you've mentioned that the demand from customer… logic customers in China is very strong and the difficulties you have is pretty much in converting the DRAM capacity. Could you quantify these difficulties as to how much time roughly it takes to convert a full fab, I'd say 30,000 wafers from DRAM to logic, and what kind of amount needs to be spent on it?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Okay. Usually for 30,000 wafers we would… let me give you the number, 10,000, 10,000, 10,000. Every 10,000 capacity, it takes us about three months to convert [inaudible] majority of the DRAM. We already started last quarter. So we did certain conversion already. But starting this quarter and the next quarter, we will spend a lot of effort to convert majority of the DRAM into logic. The biggest challenge is that logic usually has a lot of metal layer as much higher number and [inaudible] they use aluminum interconnection conversion is the challenge. But we just need to add a lot of more at the adequate amount of backhand processing equipment. But [inaudible] and more advanced basically we are using the copper interconnection. And that takes even more challenges to do it. Fortunately in Shanghai we have a... one with a biggest copper vacant facility. We can support the [inaudible] interconnection services. Also for the 12-inch fab when we convert DRAM into logic, we face equally challenges... takes almost the same amount of time to convert.

Unidentified Analyst

And for this addition of back-end equipment, roughly what kind of funding is required again for the same 10,000 wafers?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Depends on how many layer of metal we are assuming. I can say that fortunately at this moment, at this moment for the 8-inch conversion is not that expensive because we can buy the refurbished equipment from vendors. So, it takes a lot of efforts, but money wise it is not that height. It is very reasonable, very profitable conversion to do this. For 12-inch fab, unfortunately there are no refurbished equipment available on the market so we have to negotiate very hard with vendors and ask them to support us to do this within time, within the timeframe, a very aggressive target and also with a support on the cost concerned.

Operator

Your next question comes from Andrew Lu [ph] with Citibank. Please proceed.

Unidentified Analyst

Good morning. Two questions, Richard I saw the 90 nanometer breakdown on logic side have a sound significant drop in Q4 and can you elaborate a little bit what's the reason behind, with the 14% revenue contribution on logic only by Q3 to 7.7% by Q4? That's the first question.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

For the 90 nanometer, quite a few customers they migrate from the old design to the new design. For example, one customer alone changed seven products 90 nanometer node seven products. So, in Q4 we are doing most of the qualification and in Q1 immediately you will see that December recovered more than Q3 and the Q2, Q3 and Q4 this number will be much higher than any quarter last year, much higher.

Unidentified Analyst

When will you start to ramp up 65?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

65, we are... our goal is to ramp up later part of Q2.

Unidentified Analyst

Thank you.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

We will start in Q2, but just ramp up… the significant amount will be second half of this year 65. By the way 90 nanometer surprised to us, it is still going strong. Many customers do demand higher volume in 2008 and also extended all the way to 2009.

Operator

Your next question comes as a follow-up from Donald Lu with Goldman Sachs. Please proceed.

Donald Lu - Goldman Sachs

Yes. In your last quarter guidance for CapEx for Q4, the CapEx guidance was $60 million to $90 million but you end up spending $260 million. Number two is that your depreciation and amortization guidance for Q4 was $185 million to $205 million, but the result... I think it is $180.9 million, can you tell us where the difference come from?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Yes. I will ask Morning to answer this question. I will support her. Okay. Just one moment. Okay. [inaudible] has the number, he want to explain this to you.

Unidentified Company Representative

[inaudible] the expected CapEx increase for number of reason, we will pull in few more equipments in Q4 as far as we find a few IP agreement.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

By the way for Q1, Q2 this year we've received a lot of more orders in the 90-nanometer and 65-nanometer logic, so we pull in a lot of equipment. But, overall, which try to… for 2007, 2008 which had to balance this… the number and also [inaudible] mentioned that we also... we also spend money for the IP.

Donald Lu - Goldman Sachs

But, your capacity at the year-end is pretty much similar to your guidance, while you pull in the equipment or where did you put them?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

This is full [ph] equipment, because the equipment pulling we need to install it, qualify it and then take minimum three months. Usually it is about a four to five months so when we pull in the equipment you will see that capacity increase one quarter behind or even… within two quarters you will see a lot of the capacity increase. We [inaudible] for 2008.

Operator

Your next question comes as a follow up from Pranab Sharma [ph] with [inaudible].

Unidentified Analyst

Thank you. Morning you have mentioned your gross margin likely to improve from the second half of '08, could you give us little bit of idea like whether gross margin will be sufficient enough to offset your operating expenses, so that you are at least breaking even some time in the operating level in third quarter '08.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Yes. Maybe Morning can answer this question. Okay, I will answer for her. She is tried to find all the numbers to support you, but I remember it is on the numbers in my mind is second quarter this year... second half this year we are going to increase a lot of project, our defense [ph] logic foundry service to many different customers, 90 nanometer, 65 nanometer, so that we know the profit margin will be much higher. So it is going to increase and any other thing you want to add on? Did I answer your question?

Operator

Your next question comes as a follow-up from Dan Heyler with Merrill Lynch, please proceed Sir.

Theresa Teng - Head, Investor Relations

Operator, we are ready for the closing statement, it is 9:30 already.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

That's okay. We will answer one more question, please. Thank you, Dan.

Dan Heyler - Merrill Lynch

Okay, great, thanks. Thanks, Richard. Can you hear me okay?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Yes. We can hear you.

Dan Heyler - Merrill Lynch

Okay. As you look at your second half ramp and a variety of products. I guess what I see across the industry is quite a seed migration to 65 particularly some of your larger competitors, which I presume is the lower cost and fairly efficient node. So what is going to drive your 90-nanometer and staying competitive at that node. Is that customer’s basically don't want to migrate forwarded or are you seeing new customers exactly, help us understand because clearly 65 looks as though it is a ramping steeply and it will be very competitive in terms of cost. So I'm wondering how you are going to be competitive on your logic business in '08?

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

We observed that, different customers have their own strategy. For example, some customer, they used to be very strong in 0.13 micron node and that some of them skipped in 90 nanometer, they directly move from home entry to 65 nanometer technology node. However some customer, they are very strong 90 nanometer. They decide to skip the 65 nanometer entering 45 nanometer directly, with this kind of customers that is due a lot of them from our own customer base, we know that quite a few of them, they remain at 90 nanometer but migrate to 45 nanometer. I ask them the reason why they do this, why don't they move to 65 nanometer, they said, starting from 90 nanometer and more advanced the design cost is very high and also they feel that it take the strategy of leapfrog is better for them.

And that's not only one there are quite a few of them thinking the same way. So it ended that some people that designed 45-nanometer, they remain very strong in 90-nanometer for the next year or two-year. And some people they... the majority... their major [inaudible] 0.13 micron or 0.11 micron logic, they move to 65 directly, they skip 90 nanometer. At the end this is very interesting phenomena. So each customer they have their own strategy. We noticed that some graphic people… graphic customers, they like to move from generation to generation and some just like that, but some non-graphic customers, they like to take leapfrog strategy. Dan, for this question.

Theresa Teng - Head, Investor Relations

Operator, would you just make the closing statement for us.

Operator

Ladies and gentlemen, this concludes the presentation. You may now disconnect. Have a good day.

Richard Ru Gin Chang - Executive Director, Founder, President & Chief Executive Officer

Ladies and gentlemen, again thank you for spending the time with us, and thank you for your questions and usually helped us to understand how to serve not only our customers nicely, but also to communicate with the financial world better. The Chinese New Year is nearby very soon. So at this time I'd like to wish you a happy Chinese New Year and keep in touch, God bless everybody. Bye-bye.

Theresa Teng - Head, Investor Relations

Thank you.

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Source: Semiconductor Manufacturing International Corp. Q4 2007 Earnings Call Transcript
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