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Executives

Bill Michalek - Director of IR

Ken Hannah - Sr. VP and CFO

Nabeel Gareeb - President and CEO

Analysts

Brett Hodess - Merrill Lynch

Jesse Pichel - Piper Jaffray

Stephen Chin - UBS

Paul Leming - Soleil - Princeton Tech

Vishal Shah - Lehman Brothers

Jeff Osborne - Thomas Weisel Partners

Pierre Maccagno - Needham & Company, Inc.

Krishna Shankar - JMP Securities LLC

Timothy Arcuri - Citigroup

Stephen O'Rourke - Deutsche Bank

Sam Dubinsky - Oppenheimer

Christopher Blansett - JPMorgan

Mehdi Hosseini - FBR

Stuart Bush - RBC Capital Markets (US)

Satya Kumar - Credit Suisse North America

MEMC Electronic Materials, Inc. (WFR) Q2 FY08 Earnings Call July 23, 2008 5:30 PM ET

Operator

Welcome to the MEMC Second Quarter Earnings Conference. At this time, all lines are in a listen-only mode. Later, there will an opportunity for questions, and Instructions will be given at that time. [Operator Instructions]. And as a reminder, this conference is being recorded.

I will now turn the conference over to Bill Michalek, Director of Investor Relations. Please go ahead, sir.

Bill Michalek - Director of Investor Relations

Good afternoon and thank you for joining our second quarter earnings conference call. Nabeel Gareeb, President and Chief Executive Officer; and Ken Hannah, Chief Financial Officer are with me today.

Before we begin, please note that this call will include forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from management's current expectations. These risks are described in the earnings release published today and in our 2007 Form 10-K.

As a supplement to today's call and as part of the press release, we've included two charts that maybe helpful to investors into which Nabeel refer in the second half of our prepared remarks. A copy of the press release is available on our website memc.com.

I will now turn the call over to Ken Hannah, who will present an overview of the financial results.

Ken Hannah - Senior Vice President and Chief Financial Officer

Thanks, Bill. Second quarter in the MEMC sales of $531.4 million, for 6% higher than in the first quarter and 12% higher compared to the year-ago quarter, driven primarily by higher product volumes.

Gross margin in the quarter was $282.8 million or 53.2% of sales. This represents sequential growth of 9.1% in gross margin dollars and 150 basis points as a percentage of net sales over the first quarter level driven primarily by cost reductions and mix improvement, compared to the 2007 second quarter, gross margin increased by 15.1% in dollar terms and 120 basis points as a percentage of sales.

Operating expenses came in at $40.3 million or 7.6% of sales as compared to 8.2% of sales in the previous quarter primarily due to our higher revenue level and lower stock compensation expense. Operating income in the second quarter was $242.5 million or 45.6% of sales compared to the first quarter $218.4 million or 43.6% of sales. This represents an 11% sequential improvement in operating income and a 200 basis point improvement as a percentage of sales. Compared to the second quarter of 2007, operating income grew by 17% or 170 basis points as a percentage of sales.

Total stock-based compensation expense in the second quarter was $9.6 million or 1.8% of sales. Using our estimated effective cash tax rate of 15% non-GAAP net income for the second quarter, excluding the non-cash effects of the quarterly valuation of the Suntech warrants was $212 million; and non-GAAP diluted earnings per share, excluding warrants, was $0.92 per share.

GAAP net income for the second quarter, using a GAAP tax-rate of 25.6%, was $176.1 million or $0.76 per share, which includes a $0.05 per share impact relating to a decrease in the valuation of the Suntech warrants. The company generated operating cash flow of $205 million or 38.6% of sales. Capital expenditures for the second quarter totaled $87.3 million or 16.4% of sales. And free cash flow, which is operating cash flow minus capital expenditures, was $117.7 million or 22.1% of sales.

During the quarter, the company repurchased 1.1 million shares of MEMC stock. Despite using $79 million in cash for our buyback program, cash and investment balances increased by $80 million to approximately $1.5 billion. With this consistent cash generation and virtually no debt, MEMC continues to strengthen its already strong balance sheet.

Now turning to business conditions, solar application demand continues to be strong. However semiconductor application demand seems to be uncertain due to the current macroeconomic conditions. Although we have made significant progress as a result of the accomplishments mentioned earlier, we did not achieve the targeted level of results for the second quarter and that continues to warrant a degree of caution.

Based on these considerations, we are targeting revenues of approximately $560 million to $620 million for the third quarter. In addition, we are targeting gross margin of approximately 54% to 55% of sales with operating expenses of approximately $41 million. For the full year based on market indicators, customer indications and our projected expansion plans, we are currently targeting revenue of approximately $2.25 billion to $2.35 billion.

Non-GAAP EPS of approximately $4 to $4.30 per share based on a cash tax rate of approximately 50% and excluding the non-cash affects of the Suntech warrant evaluation Capital expenditures of approximately 15% of sales and operating expenses for the year of approximately $163 to $165 million. And these targets would represent 2008 sales growth of 17% to 22% and non-GAAP earnings per share growth excluding the Suntech warrants of 23% to 33% compared to 2007.

On an administrative note, given the number of anticipated events associated with our expansion and ramp during the last few quarters as well as our cautious view, we are planning on providing an interim update this quarter via a conference call on September 2nd. In this update call, we intend to review the status of the company's production rate and provide and update to the quarterly financial targets if appropriate.

Let me now turn on the call over to Nabeel.

Nabeel Gareeb - President and Chief Executive Officer

Thank you, Ken.

While we demonstrated solid financial results in the second quarter as Ken mentioned, we were a bit below the bottom end of our target range. I am going to cover a few topics and provide additional detail, which you may find valuable.

First, I am going to provide a brief summary of why we were below the low end of the range, then I am going to talk about what I was disappointment with, next what accomplishments I was pleased with, and last provide prospective on our opposition looking forward.

We have also provided as a supplement to this press release, two charts that show our daily production of silane and polysilicon in Pasadena. These charts may helpful for you to visualize our production trajectory there. I will pause for a few seconds while you turn to the chart page of the release.

The charts on the slide show a three day moving average of our silane production in Pasadena on the upper chart and poly production on the lower one. As a frame of reference, we have also included on the charts an indication of what level of daily production output would be required to achieve approximately $500 million and approximately $600 million of revenue in the quarter. It is important to note that these are not cumulative quarter to date charge, just daily production points.

So let's start with a summary of what caused us to miss our targeted range of results. The premature failure of the heat exchanger that was relatively new at our Merano facility in June, reduced the company's total second quarter polysilicon output by just under 5% for the quarter. While Pasadena had been running enough ahead of schedule to offset the Merano shortfall, complications there from a loose pipefitting and resulting fire caused us to shut down half the silane production on June 13th.

And while the facility recovered from this fairly quickly and manage to produce enough silane and polysilicon to be in the middle of its targeted range for production, Pasadena could not produce enough product fast enough to offset the Merano shortfall and allow us to finish the quarter within our targeted band of revenue.

I am disappointed that we were not able to avoid additional unexpected events in Q2 or result the complications Merano faster or produce more polysilicon in Pasadena to offset all the Merano shortfalls. However, what I am pleased and excited about is the following: First, in Pasadena, Unit 3 overcame the issues that held us back in Q1 although with some limitations due to the fire, but has recovered well. Second, Unit 4 was started up over a month prior to the end of the quarter and has ramped and run at good rates other than interruption of the fire.

Third, the combined output from Units 3 and 4 during May and early June alone had positioned us on a trajectory to finish the quarter ahead of the upper end of our targeted revenue range and the strong output allowed us to offset a portion of the Merano shortfall in the last week of June.

Fourth, we have completed this technically and operationally challenging phase of silane expansion in Pasadena, and now have a high level of confidence in the longer-term performance of Units 3 and 4. We expect this should eliminate silane production as a constraining element. Fifth, we have mechanically completed the two additional poly-reactors in Pasadena, where the ramp is scheduled to begin next week. As a result of these installations, we are now at 75 to 100 metric tons of annualized poly capacity, have a number of... record number rectors available to produce poly, and have demonstrated good output in July.

Last, but not least, we have replaced the heat exchanger on Merano, started the expansion and are on track to finish the expansion and phases in August 1st, and September 1st, which will get us to the 8,000 metric tons of annualized capacity before the end of the third quarter. So, I would like to put all these events in perspective. Although we have had a difficult first half of this year, with ramps and unexpected events and discoveries, we have achieved numerous milestones and demonstrated capability for extended periods of time that have positioned us for significant growth in the second half of this year versus the first half. This is what we had hoped to accomplish when we last talked in our April call.

During this period although our results did not meet investor expectations, we continued to generate gross margins in the 50% plus range, operating margins in the mid-40% range and of course a continued high level of free cash flow, which continues to be a key operational differentiator for us. And although reduced slightly from the numbers articulated earlier this year, our revised full year financial targets would represent sales growth of 20% to 25%, and non-GAAP EPS growth, excluding the Suntech warrants of 23% to 31% compared to 2007.

To close, I continue to take full responsibility for our results. Even due to un-anticipated events and look forward to putting these operational discussions behind us by clearly demonstrating our production capability and growth during the second half of this year. With that, we will now take your questions.

Operator?

Question And Answer

Operator

Thank you. [Operator Instructions]. And our first question is from Brett Hodess with Merrill Lynch. Please go ahead.

Brett Hodess - Merrill Lynch

Good afternoon. Nabeel, given the production status now and the increase over the course of the quarter, I am wondering if you can talk a little bit about the wide range of guidance, if it's simply because you're still uncertain about execution versus also a demand factor built in there. You had mentioned the softer, semi side, but is the solar market not capable of absorbing the increased output?

Nabeel Gareeb - President and Chief Executive Officer

That's a good question, Brett. Very specifically, it's basically it's the gainsay [ph] aspect of it at a greater degree of caution as we had articulated, number one. Number two, we did talk about a little bit about the uncertainty of semi-demand and although it doesn't look increasingly negative at this point, some of the customers have talked about while see back-to-school may not be that great. And we typically won't find out about that until September. And if that does occur, we can always put that into the solar market. The solar market continues to be very strong. However the dollars-per-KG revenue equivalents aren't as great. So that causes a little bit of an offset. So those are the two considerations that went into that range of guidance.

Brett Hodess - Merrill Lynch

Okay. And then a second quick question. If you look at these new capacity expansions as they come on line, the margin guidance... these... I guess the right way to say it is the margin guidance is pretty good for the coming quarter even on the more conservative revenue range. Will we see margins move up a lot as you fill up this new capacity? I have to imagine some what under utilized at this point?

Nabeel Gareeb - President and Chief Executive Officer

Yes, so the capacity... the capacity that is under utilized obviously as we ramp it, it will enable us to actually get cost absorption as well as reduce our costs, so that's an opportunity for margin expansion. We do need to just keep in the back of our minds. If it's softer semi-environment that will offset it somewhat, but obviously with a stronger solar environment and perhaps more solar wafers, then that gives us upside opportunity as well. So those specifics will evolve as the quarter is due. But as an example, Q2 to... Q1 to Q2 part of the margin increase sequentially was cost reduction base in spite of the price reduction in the semi side as well.

Brett Hodess - Merrill Lynch

Thank you.

Nabeel Gareeb - President and Chief Executive Officer

Thanks.

Operator

Thank you. Next we have Jesse Pichel with Piper Jaffray. Please go ahead.

Jesse Pichel - Piper Jaffray

Yes, good afternoon. It appears that some of the problems in the past were the problems were in the purification of silane, and now you are attempting to ramp new FBR reactors, which I believe you have not ramped for many years. What do you see as the risks associated with ramping an FBR reactor versus purification silane units?

Nabeel Gareeb - President and Chief Executive Officer

So, Jesse, on the issues we've had in Q1, they were primarily related to the operation inside of obviously what we call the silane train. And we didn't talk about purification or not, but it's in the reaction phases that we had issues where things were getting more chemical deposits than you would anticipate or getting them quicker if you will. The good news about all of that is obviously Unit 4 that we bought up over a month before the end of the quarter, has had no issues. So, all those lessons are learned if you will from Unit 3 or applied to Unit 4 and we had no issues to speak up when Unit 4 came up ramp and has run like a champ with the exception of the interruption for the fire.

As we move to polysilicon, it is although technically still challenging, the silane part of it is technically much more challenging and complex. The FBR reactors tend to more mechanical and more flow related. So we believe that that ramp should proceed a lot smoother and the side given the silane expansion is the behind us, what we are trying to do both; now the silane piece is done. Now we can focus only on the poly ramps.

Jesse Pichel - Piper Jaffray

I see. And interpreting the second chart, could you just tell me what the revenue run rate was exiting July?

Nabeel Gareeb - President and Chief Executive Officer

Again so...

Jesse Pichel - Piper Jaffray

For poly.

Nabeel Gareeb - President and Chief Executive Officer

Yes, so the charts are provided for you to draw your own conclusions. The daily run rates can tell you... exiting July, we haven't finished July yet. This is basically through yesterday, if you will.

Jesse Pichel - Piper Jaffray

Okay.

Nabeel Gareeb - President and Chief Executive Officer

So, it gives you the first three weeks roughly of the month.

Jesse Pichel - Piper Jaffray

Right. I mean but it looks to me... correct me if I'm wrong that at least through the last few days, you've been running at well over 600 million run rate. But the midpoint of your guidance is below 600, and I'm just wondering why that is?

Nabeel Gareeb - President and Chief Executive Officer

So, I think if you look, if you look back to exactly what Brett asked for, if you look back range of May and June, first half of June, we were running and we were positioned on a trajectory to do quite well. And then obviously the fire incident occurred, and so we are just being again having that extra degree of caution; and in four weeks or five weeks, we will give you another update and share with you where we think we are.

Jesse Pichel - Piper Jaffray

Great. Thank you very much.

Operator

Thank you. We have a question from Stephen Chin with UBS. Please go ahead.

Stephen Chin - UBS

Hi, thank you. Just a follow up to that last question, Nabeel; how can we expect these to silane and polysilicon charts to look come to September second conference call? I mean is it the goal of... is it the operational goal to get this revenue run rate that $800 million, clearly run rate level? What is the realistic goal to look forward to on September 2nd?

Nabeel Gareeb - President and Chief Executive Officer

So Stephen, if I... if we were able to get it close to the $800 million, then that $800 million would become our guidance. So on a steady to state basis, that's not certainly the goal although you will see that even in the middle of June, if you look at the silane chart, it was well above those numbers. You can do your own interpolations.

So that's why you got to look at the trend, you've got to look at the general progress, because these are progress charts, and then you've got to allow for the unexpected events that may or may not occur, so that's what we've allowed for. But the goal certainly is two things: one, to make sure that the trend is and... the trend is in the right direction obviously. But second that the variation in output is more muted, which shows that we've built some buffer inventory as well as the units are operating in rhythm, if you will in concert; and so that's really the goal, and obviously for to show a steady stake run rate that's at least within the range of our targeted numbers.

Stephen Chin - UBS

My second question is given these operational issues, Nabeel, in the polysilicon production and I guess today's announcement of the departure of your Head of Manufacturing, Nabeel, is it your goal to personally take over operations of the silane and polysilicon plants here in the interim? Or if so, how long will you try to that to run those operations?

Nabeel Gareeb - President and Chief Executive Officer

Polysilicon operations will report directly to me to, yes.

Stephen Chin - UBS

Okay. But you will not look to takeover that operation in the interim?

Nabeel Gareeb - President and Chief Executive Officer

Well, they... that's exactly what that means. I mean that operations reports directly to me. So yes, I will continue to be more deeply involved in both the silane and the poly output.

Stephen Chin - UBS

Okay. And the last question I have is... I thought in assets the company approved another $500 million buyback. I guess my question is: why not do an accelerated buyback and why not do it next week if you are confident into the ability to ramp the factory backup and believe that stock might be undervalued. But why not do an accelerated buyback or not do it next week?

Nabeel Gareeb - President and Chief Executive Officer

Well, we haven't said exactly what we are going to do. What we had a pretty lengthy discussion yesterday with our Board, and we were happy to announce that they've allowed us an opportunity to add some flexibility to our current program and increase the size of it to $1 billion.

Stephen Chin - UBS

Okay. Thanks again.

Operator

Was that all, Mr. Chin?

Stephen Chin - UBS

Yes, thank you.

Operator

Okay, thank you. Then we will go to Paul Leming, with Soleil Securities. Please go ahead.

Paul Leming - Soleil - Princeton Tech

Good afternoon. I was just curious given all the problems you've had in past in Pasadena and Merano. I am curious as to what extent you've lost any progress on the expansion projects to get you to 15,000 tons of poly capacity by the end of 2010. Has there been any slippage on those projects or are there very separate engineering teams and you've been able to keep those moving at the desired rate through this difficult period?

Nabeel Gareeb - President and Chief Executive Officer

I think Paul the best way to answer that is just give you the example of Unit 4 in Pasadena as an example. We have the issues in Q1 in Unit 3; we learnt those lessons, applied them to Unit 4, brought it up a month ahead of the end of the quarter, and haven't had issues with it. So, we believe we are actually using the lessons we've learnt through the difficult period and applying them to our benefit as opposed to a detriment. So we don't believe there has been any impact; as a matter of fact, we believe that's going to help us during the course of remainder ramps.

Paul Leming - Soleil - Princeton Tech

And if I could just as a follow on, you talked back in April about Unit 3, with Unit 3 up and running full that the company would have a revenue run rate of $700 million to $800 million a quarter. I am wondering with Unit 4 ramping and we can kind of get there with these charts, but would you be willing to specify with Unit 3, with Unit 4, both running full, what you perceive the revenue run rate of company to be?

Nabeel Gareeb - President and Chief Executive Officer

What I've said Paul is that with Units 3 and 4 and the associated poly reactor capacity, which is the two additional reactors that are mechanically complete and scheduled for a ramp next week to start ramping next week and of the Merano expansion, all of that lumped together, the revenue range goes from $700 million to $800 million to $800 million to $900 million.

Paul Leming - Soleil - Princeton Tech

Thank you very much.

Nabeel Gareeb - President and Chief Executive Officer

Sure.

Operator

Thank you. We now have Vishal Shah with Lehman Brothers. Please go ahead.

Vishal Shah - Lehman Brothers

Thanks a lot. In your second quarter output, what percentage of your output did you ship to the spot market?

Nabeel Gareeb - President and Chief Executive Officer

Vishal, we don't specifically break it out on a quarter-by-quarter basis. But it was below Q4 levels, and above Q1 levels. So basically it was in the middle. And Q4 and Q3 and Q2 as you might recall last year was basically flattish. And then Q2 was very low, and then basically or much lower significantly lower than Q4, and then Q2 was basically in between the two.

Vishal Shah - Lehman Brothers

Okay. And in your third quarter guidance, what are your expectations for supply in stock market?

Nabeel Gareeb - President and Chief Executive Officer

Probably about flattish, maybe slightly up, but in that range.

Vishal Shah - Lehman Brothers

Okay. And you said you are cautious in the semiconductor side of the business. Would you say your output in that market would be below normal the seasonality?

Nabeel Gareeb - President and Chief Executive Officer

Well, we are just... what I said was uncertainty, because of the uncertainty of the customer base today. I mean you've seen all the announcements in the last few days even, and you've seen some of the inventory reports as well. So, all we are trying to do is just be cautious about it, because today the growth in units continues; don't get me wrong, it's not negative unit growth. But the rate of unit growth; there is reason to be potentially cautious about the back-to-school, primarily based on the macroeconomic environment, more than anything else and how that's affecting some of these demand applications. So the growth rate may not be as fast as we would like although there... it will exist, and so then therefore it places all kind of interesting pressures on the rest of the supply chain.

Vishal Shah - Lehman Brothers

Great, thank you.

Nabeel Gareeb - President and Chief Executive Officer

Thank you.

Operator

Thank you. We'll go next to Jeff Osborne with Thomas Weisel Partners. Go ahead, please.

Jeff Osborne - Thomas Weisel Partners

Hey great, good afternoon. Just following up on the spot market questioning; just what's your thoughts on the pricing environment for spot silicon and can you just comment on your activity in the spot wafer market?

Nabeel Gareeb - President and Chief Executive Officer

The environment for spot pricing continuous to be healthy, Jeff. And when you ... we sold a very, very nominal quantity of spot wafers last quarter.

Jeff Osborne - Thomas Weisel Partners

Very good, and then just... how should we think about the guidance and your utilization rates. Obviously you are guiding up slightly on sequentially in terms of revenue. Should utilization of your poly facilities across both Merano and Pasadena slightly increase as well?

Nabeel Gareeb - President and Chief Executive Officer

Well, it's a little bit of a mixed bag. So if you look at quarterly utilization, if you look at Q2 utilization versus Q3, obviously there is more capacity in Q3. So the utilization depending on, if you look at the higher end will certainly go up a little bit. But if you look at June utilization versus the quarterly when we had Unit 4 running, again that will also be a potential flattish comparison, because we'll have more capacity in Q3 than we did in Q2, just based on the poly. So it depends if you look at the silane, you look at the poly; it kind of becomes a mixed bag. But in aggregate, it should be a little higher bit, yes.

Jeff Osborne - Thomas Weisel Partners

Great, and then just two more quick ones; can you just comment on the trends you're seeing 200 versus 300 millimeter? And then the second question is just when should we start being worried about Unit 5 and 6 on the silane side?

Nabeel Gareeb - President and Chief Executive Officer

200 and 300, 300 millimeter is somewhere I would guess between 40% and 45% of the total square inches for the industry, and we are basically also within that band. And then in terms of Units 5 and 6, basically units... with Unit 4, we can supply. We are not running well, we are not silane constrained. We become poly-reactor constrained. And therefore that's why you see the poly-reactors being added. There is all sorts of things we can do to the silane units to continue to improve their efficiency, operational efficiency, and we can continue to add more silane, sorry, more poly-reactors to continue to consume that silane above and beyond the ones we are talking about in Q3.

Jeff Osborne - Thomas Weisel Partners

But to get to 15,000 metric tons, do you need more silane capacity or no?

Nabeel Gareeb - President and Chief Executive Officer

Well if we did it all in just in Pasadena, yes we would.

Jeff Osborne - Thomas Weisel Partners

Okay, got you, thanks.

Nabeel Gareeb - President and Chief Executive Officer

Thank you.

Operator

Thank you. We have here Pierre Maccagno with Needham. Please go ahead.

Pierre Maccagno - Needham & Company, Inc.

Hi, Nabeel and Ken. Can you talk a little about the ASP environment for the semi wafers, any change there?

Nabeel Gareeb - President and Chief Executive Officer

I am sorry, Pierre, the... ASP environment; the... basically again Pierre, the... because of the growth rate is not necessarily as fast as we would like, there continues to be the pricing pressure on the semi-front, specifically on 300 millimeter more than on the smaller diameters. As a matter of fact, the smaller diameters seem to be holding their own, and it's primarily seems to be as a result of the back and forth in the memory market that caused the issues in the 300 millimeter. So, we continue to hire; we have pricing declines Q1 to Q2 in the low single digits. We... low to mid single digits, we also anticipate a similar sort of thing from Q2 to Q3, and basically we are offsetting that through cost reduction.

Pierre Maccagno - Needham & Company, Inc.

Okay. And one the history of Units of the silane is equivalent to how much in revenue addition?

Nabeel Gareeb - President and Chief Executive Officer

Yes, we don't break that out per se, but obviously what we have stated is that with Units 1 through 4 in Pasadena and the capacity in Merano and the poly-reactors that are associated with all of those. That entire aggregation at the end of Q3 would be... was somewhere between $800 million and $900 million per quarter using the Q1 mix.

Pierre Maccagno - Needham & Company, Inc.

Okay. Can you give an update on your view of metallurgical grade from silicon as a competition to virgin poly for solar device? I am seeing there is a few companies that are starting to ramp 100% metallurgical grades sort of sale production. So, I just wanted to get your view on this.

Nabeel Gareeb - President and Chief Executive Officer

Yes, there seem to be certain companies using it. And that's... we're continuing to watch it. Basically, the cost advantages that we are... the product cost advantages... it's interesting that their margins are equivalent on both the products whether it's crystalline based... traditional crystalline based or UMG based. So that's interesting to watch and we'll see how the reliability and quality aspects pan out.

Pierre Maccagno - Needham & Company, Inc.

Okay. Will there be any plan to backward integrate? I mean as a possibility of fulfilling erosion [ph] and metallurgical grade for you?

Nabeel Gareeb - President and Chief Executive Officer

Well, I mean, I think if the cost is lower than certainly that's an opportunity, but if the cost leads to the same margins, then there is no real reason to go jumping into it unless it solves an availability problem, and the availability problem doesn't seem to be solved in two to three quarter period. It seems to be solved over the same timeframe that polysilicon seems to be ramping. So certainly an opportunity, we're keeping our eyes on it, and we'll see how we do or don't want to take advantage of any developments that may occur in the marketplace.

Pierre Maccagno - Needham & Company, Inc.

Okay. Well, thank you very much.

Nabeel Gareeb - President and Chief Executive Officer

Thank you.

Operator

Thank you. And next we have Krishna Shankar with JMP Securities. Please go ahead.

Krishna Shankar - JMP Securities LLC

Yes. Nabeel, can... given some of the recent operational issues, do you still have confidence in the I guess $5 to $7 earnings potential you've thrown out for the 2011-2012? Any sort of new points on the long-term revenue and earnings per share target?

Nabeel Gareeb - President and Chief Executive Officer

Well, Krishna, we haven't changed anything, number one. Number two, we have... we provided annual targets... revised annual targets for this year in the range of $4 to $4.30, and we made a little over $3 last year. We made a little... about $2 the year prior. So, we don't believe we significantly changed the trajectory that we were on. The slope in the intermediate term on a very short term may have changed a little bit here, but the longer term trajectory we don't believe we moved at all.

Krishna Shankar - JMP Securities LLC

Okay. And do you see any constraints that you talked about having now Unit 3 and 4 up and running for silane and poly. Are there any constraints upstream there in either production equipment for further silane expansion or further poly reactor expansion of any equipment or other types of constraints?

Nabeel Gareeb - President and Chief Executive Officer

Well, I mean all these pieces of equipment specifically in Pasadena are a custom made if you will, right? So they are all custom designed, custom ordered, custom made. And so it's really raw material that... and it's lead time that becomes more of a constraint than anything else. And we try to make sure that we are planning for that. So, that's through the pipeline and then obviously there is a traditional things of construction and permitting and qualification and start up and all of those aspects of it. But in terms of absolute pieces of equipment, because they're custom designed, those aren't the traditional constraints for us.

Krishna Shankar - JMP Securities LLC

So the equipment is custom made both for polysilicon and the silane production?

Nabeel Gareeb - President and Chief Executive Officer

Yes, FBR... we're the largest volume manufacturer of FBR in the planet. So the fluidized bed reactors are custom designed and custom made, yes.

Krishna Shankar - JMP Securities LLC

And my final question is... what do you see in terms of new entrants into the polysilicon production market? Any comments on some of the new entrants like DC Chemical or McTech.

Nabeel Gareeb - President and Chief Executive Officer

Well, I mean, I can only comment on what I read, and DC seems to be doing well; McTech I haven't heard things, but rather than talk about what I have heard. They seem to be making progress. The other guys they are all trying to start up. We haven't heard any significant output changes from anybody else in terms of the new entrance. So we've heard some backward looking things or negative things, but other than that we haven't heard any massive expansion that have come to the forefront if you will in terms of success beyond the DC and McTech.

Krishna Shankar - JMP Securities LLC

Okay. And can you give us some update on the progress that your solar wafers subcontractors, Gintech and... contract, how is that going and can you give us a sense of how those arrangements are ramping and any future plans to bring that in house some of that?

Nabeel Gareeb - President and Chief Executive Officer

Well, Gintech and Suntech from a customer arrangement standpoint seem to be doing well. We are continuing to increase our supply to them quarter-after-quarter. And in terms of bringing in, obviously we'll continue to sub contract it. We are doing R&D in house on processes to install equipment in house. We've installed a furnace or two here in St. Peters actually to continue to do R&D on that. And we said some time in 2009; we look forward to bringing some of that in house. So we are still looking forward to it.

Krishna Shankar - JMP Securities LLC

Thank you.

Nabeel Gareeb - President and Chief Executive Officer

Thanks.

Operator

Thank you and next we have Timothy Arcuri with Citi. Please go ahead.

Timothy Arcuri - Citigroup

Hi guys. Couple of things; first of all the deal... did you fulfill your obligation to Suntech and Gintech in the first half of this year?

Unidentified Company Representative

For the most, yes. There were some nominal misses as a result of this, but not any significant quantity.

Timothy Arcuri - Citigroup

Okay. So there is no make up that you have to do there?

Nabeel Gareeb - President and Chief Executive Officer

Well, first of all, it's a... the make up piece, Tim, should we be short in any given year. It's an annual quantity, and if you are short in any given year, I would... Suntech it's measured that we have here for the first two years, I think or three years. But if we are short in any given year, we basically have up to three years to make that up in a rolling basis. And, but we try obviously not to do that. We understand these customers are dependent on us, so we try to make every effort to fulfill that.

Timothy Arcuri - Citigroup

Right, okay. And can you give us some guidance, Nabeel, in terms of what kind of some interim targets might be for next year? You are going to probably sounds like the higher than that 8000 ton guidance that you gave, exiting the year and then you are still saying 15,000 tons by 2010. So what are you thinking in terms of trajectory kind of first half '09, second half '09, or can you somehow draw a line between those two points for us?

Nabeel Gareeb - President and Chief Executive Officer

Tim, what we had said when we put out the 15,000 announcement last year, we had told the world that we are targeting 8000 by the end of 2008, and 15,000 by end of 2010. And that 2000... end of 2009 could be basically approximately linearly extrapolated between the two points. And that those would be second half weighted expansions both for '09 and '10 so that the 8,000 metric tons if you will that would be at the end of this year would feed the growth for the first half of '09, and then the expansion would come online in the second half of '09.

Obviously, we have accelerated that to 8,000 metric tons to the end of the third quarter or to the middle to end of third quarter. And... but we haven't updated any thing as far as the linear extrapolation for or changed anything for the second half of '09 in terms of those expansion targets. And if we do that, we would do that in the January '09 time table.

Timothy Arcuri - Citigroup

Okay. And then last thing, Nabeel, it sounds like the key bottlenecks now to get into kind of $800 million to $900 million a quarter are obviously the poly reactors and also the remaining extension in Italy. So I am wondering, how we can handicap those things... what can go wrong there, given what's kind of happened the last couple of quarters, what can go wrong? And I am kind of wondering do you have all those poly reactors on site and what could potentially go wrong to prevent you from getting to $800 million to $900 million per quarter exiting the year?

Nabeel Gareeb - President and Chief Executive Officer

Okay. So in terms of the $800 million to $900 million, specifically what we had said is we would complete the Pasadena poly reactors at some point in the third quarter or early in the third quarter. And what we said in the press release is that we have completed... mechanically completed both of those reactors in Pasadena and basically are scheduled to ramp them starting next week.

We have also started the expansion in Merano, which we said we would complete by the end of the third quarter. And we stated that... I stated that we would complete it in phases, because you don't do it just all in one big lump sum, we would do it in phases. The piece would be completed here by August 1st and another by September 1st. So, all the physical equipment is on site. It's being... Merano is being installed and Pasadena, it's already being installed, and then basically the objective is to do the ramp, and the ramp is where you make sure you get all the bumps worked up.

Timothy Arcuri - Citigroup

Okay. So there is new equipment that you're waiting for to kind get that level?

Nabeel Gareeb - President and Chief Executive Officer

Well, we are doing the upgraded Merano. Basically, we are upgrading the existing reactors to be able to crack more output from them, and not to add some additional capacity. So that's going to happen here over the course of the couple of months; but in Pasadena, we have already installed that equipment.

Timothy Arcuri - Citigroup

Okay, thanks.

Nabeel Gareeb - President and Chief Executive Officer

Sure.

Operator

Thank you. Our next question is from Steve O'Rourke with Deutsche Bank. Go ahead, please.

Stephen O'Rourke - Deutsche Bank

Thank you. Nabeel, a couple of questions; just a follow up on a prior questions; are there penalties to missing the half year quantities in the Suntech contract for example over a short-term?

Nabeel Gareeb - President and Chief Executive Officer

No, they... what Suntech has allowed to do basically, they can choose to roll it over to the subsequent period in wafers. Or they can choose to take the poly instead of the pre-determined price, which basically translate the wafer pricing. So either one they can choose. And so far they have chosen basically to get and keep getting wafer deliveries even as they rolled over for the nominal quantities if there is any.

Stephen O'Rourke - Deutsche Bank

Okay. And I'm sure you've done a lot of recalled analysis of what caused some of these issues that you've got operationally. There are subsequent ramps coming, and how you handicapped the probability that similar events won't happen in the future? I mean they almost seem to sound kind of random.

Nabeel Gareeb - President and Chief Executive Officer

Well, I think that's part the issue. So I think what we want to do is make sure that everybody... that we clearly communicate that the problems during the third quarter of last year through the first quarter of this year were primarily tied to the silane expansion, which is the trickiest and most chemically complex part of this total expansion piece.

And I think we've demonstrated that the lessons we learnt in Unit 3, which was the first expansion unit in quite a while. We applied to Unit 4, which basically came up pretty flawlessly. Now the issue obviously becomes how do you avoid a fire well? You watch out for things like that. In the future, you can't really avoid the incorrect installation of a loose pipe fitting, but you watch out for that.

In terms f the issues in Merano, it was pretty uncharacteristic that a heat exchanger that's typically should be running for 20 years has a welding failure on the inside of the heat exchanger manufacturers defect after only a couple of years. So you watch out for those, but that's also partly why we take $800 million to $900 million capacity number or $700 million to $800 million capacity number, and we handicap it and provide guidance that talks about $560 million to $620 million.

Stephen O'Rourke - Deutsche Bank

Okay. And just one last question one this front; there's been speculation and maybe some fact, I don't know that some people leave companies, right? And have you lost talent that may actually contribute to some of this considering how many companies out there are starting up new silicon ventures?

Nabeel Gareeb - President and Chief Executive Officer

Absolutely, Stephen, we have lost talent last year that a part of the poly that had polysilicon expertise. But as we go through these ramping pains that certainly could have been a contributing factor, but I think there were more contributing factors to basically the units, the chemistry of the units, the discoveries that we had on Unit 3 as again, I'll point out the same example, Unit 3, the lessons learnt from that and applied to Unit 4, and again Unit four came a month before the end of the quarter, ramped hasn't had any issues. So we feel pretty confident that we've demonstrated the capability on those units and again you can draw your own conclusions from the charts that we've provided for that very purpose.

Stephen O'Rourke - Deutsche Bank

Fair enough, thank you.

Nabeel Gareeb - President and Chief Executive Officer

Sure.

Operator

Thank you. We'll go next Sam Dubinsky with Oppenheimer. Please go ahead.

Sam Dubinsky - Oppenheimer

Hey guys couple of quick questions. It seems just do the size estimate, just surprising that you guys can do a pre-announcement. I am just wondering what the reasoning was for not doing a pre announce this time as you served down on in the past with sort of these ramp up issues and then I have a couple of follow up questions.

Nabeel Gareeb - President and Chief Executive Officer

Sure, basically when we had the Merano issue, we thought that pretty comfortable that we could offset that with the strength of the silane... the poly production Pasadena as you can see from the charts through the month of May and early June. They are really up for the fire in Pasadena. We felt okay may be we won't be at the top end of the range, but we should be in the range. And basically we ended about 2% outside the range, which is about a couple of days' worth of production. And so we didn't take that as a pre announcement in terms of doing it earlier in this quarter if you will, primarily because we didn't think 2% outside the bottom end of the range was material if you will.

But also we wanted to provide a second half up date that we would not have been ready to provide. And we also wanted to have the demonstrated recovery both from the fire as well as the replacement of the equipment in Merano to ensure that we had a pretty solid set of numbers in our head for Q3 and for the second half of the year.

Sam Dubinsky - Oppenheimer

Okay. And then when you guys talk about 1,700 for Unit 1 to 3 in terms of dollarized capacity of $800 million to $900 million including Unit 4, and you guys give guidance that's significantly below that. Could you maybe just discuss what makes this semi demand you have in there on a percentage basis like what you think on the semi side of the business? And then I have one last follow up question.

Nabeel Gareeb - President and Chief Executive Officer

Yes, basically the mix for that dollarized capacity is basically the mix we had in Q1 of this year. So basically we took that same mix and said okay if you wanted to dollarize it, because that's when we gave the numbers, that's what it would look like.

Sam Dubinsky - Oppenheimer

So in Q1 typically semis I assume is a soft business, and it's normally a down business; so does that infer that semis is a soft a business, and if there a down business, so does that infer that semis as relatively... I'm referring semi strengthening and give those types of numbers?

Nabeel Gareeb - President and Chief Executive Officer

Yes, it gets pretty complicated, pretty fast, because one thing I got to -- I said was... it's $700 million to $800 million based on a Q1 mix. And then I said by the end of Q3, when we are done with this 8,000 metric tons and it becomes $800 million to $900 million. And I told people, I said look I understand and the reason for that wide range is because as we add or grow the mix of solar wafers, that's at the lower dollars per KG of poly so the multiply isn't as great for revenue. So I understand that mix shift.

I also understand that when I give those types of numbers, they have to kind of -- people might end up quoting those numbers back to me about a year from the time I quote them. So I understand that it has to handle the mix shifts over the course of that year even as we ramp the solar wafers. So I think you can trying to get too precise with it within the quarter or quarter-to-quarter is not really feasible, but over the course of the year you can probably use those as guide -- as goal posts.

Sam Dubinsky - Oppenheimer

If I look at the year from now, basically I'm trying to get at is what percentage of you business will be semis, versus solar, 50-50, 60-40? And then one last quarter, and I'll let you off and let you go.

Nabeel Gareeb - President and Chief Executive Officer

Yes, I think we haven't broken it out specifically that way. What we have provided people is that last year in 2007, poly sales to the solar market were around a little over 20% of our revenue stream. And then basically what we said is Q1 on spot poly and all of that was basically spot poly sales; that did include, that did not include wafers for people like Gintech and Suntech. And then since then basically our spot poly sales came down significantly in Q1 and then basically have been midway between Q1 and Q4 and Q2. And then obviously the sore wafers have ramped and we provided modeling guidance, if you will for those ramps I think year before last, so we can cover that your offline if you'd like as well.

Sam Dubinsky - Oppenheimer

And then my last question: it seems like the silane expansion is sort of the difficult part of these poly ramps. If you can only just [ph] discuss in terms of next year, when then next silane expansion and sort of what types of proxies you had in place sort of mitigate to risks going forward?

Nabeel Gareeb - President and Chief Executive Officer

Right. So we have not stated again for next year or basically for Pasadena, if you were to do the all the expansion in Pasadena for 15,000, then we would need more silane. This expansion says that silane actually allows us to continue to expand poly reactors obviously as we are in this quarter and even through some part of next year before we have to get back into the silane piece of it if we continue to ramp in Pasadena.

The last point I would make also is, please don't forget that Unit 3 was where we had the vast majority of the issues in terms of learning... lessons learned and discoveries made, if you will. Unit 4, having applied all those lessons, has run very, very well. And then has come up in very short order.

Sam Dubinsky - Oppenheimer

Okay, thank you.

Nabeel Gareeb - President and Chief Executive Officer

Thank you.

Operator

Thank you. We'll go next to Christopher Blansett with JPMorgan. Go ahead please.

Christopher Blansett - JPMorgan

Hi, Nabeel; thanks for taking my questions. Two things here; when you look out into the difficulties you had in Merano, I mean could you quantify that just kind of get some color. It seems like that facility was down in a big way, based on its relatively small size. And then it's been resolved or you are in the midst of upgrading that right now. When will it come back online?

Nabeel Gareeb - President and Chief Executive Officer

Yes. I don't... heat exchanger, there is not just one heat exchanger, right?

Christopher Blansett - JPMorgan

Right.

Nabeel Gareeb - President and Chief Executive Officer

So, exchanger goes down; basically, you lose cooling capacity for a portion of your facility. And you can't run the same number of reactors that you would run if you had all of them operating. And basically that heat exchanger, so it wasn't like the whole facility was down, it was the portion of the facility was down. And then subsequent to that, we basically obviously removed the heat exchanger and gas chemicals running through it and all kind of interesting stuff. And you've got to clean that out. It's accustomed piece of equipment. I mean these are large heat exchangers, so they don't sit on somebody's shelf. So you have to take that apart, understand what the issue was, figure out to fix, get accustomed one and then get installed. And all of that has been done, so new heat exchanger has been installed, it is up and running. And basically at Merano, we've got some reactors down primarily... not primarily, exclusively for the expansion. Basically, we are taking reactors down, modifying, upgrading them and basically for the expansion basis I talked about earlier. But the heat exchange is done, it's finished.

Christopher Blansett - JPMorgan

Andthen I was thinking along the lines of you indicated semi demand might be a little weak in the... for the second half of the year. Is it possible for you to incrementally under serve that market to service the seller side without longer-term structurally effecting your market share.

Nabeel Gareeb - President and Chief Executive Officer

You can... yes, you can certainly do that, and that's why we said it's uncertain. And we did say solar is strong, and so that we have that ability to do that swap. And we've... that's been our knobs and return as we've talked to investors over the past two to three years. The only thing that happens obviously you've got to watch out for like you said making sure that you are servicing the customers that you want to continue to service in the semi market, but also you also get a lower revenue multiply if you choose to serve the solar market more than you would prefer. So that revenue multiply causes you to need to more poly or get you a lower revenue multiply for the same amount of poly.

Christopher Blansett - JPMorgan

Okay. And then one last question: as you indicated some of the margin uplift was due to cost reduction, could you just kind of give us some color on that and what maybe we can expect to the next few quarters on that same cost reduction basis?

Nabeel Gareeb - President and Chief Executive Officer

Well, I think... yes, from a cost reduction perspective, again, it's yield improvement. It's people productivity, it's equipment productivity, it's purchase materials usage of materials. I mean all of those things affect costs and obviously when you can start ramping. So even though we had all these... the fire issue for example in Pasadena, even the heat exchanger in Merano. And that costs us money to do all those repairs et cetera. In spite of that as you can ramp up volume that also helps you on the absorption of some of the fixed costs. So, it's a little bit of both.

Christopher Blansett - JPMorgan

All right, thank you guys. Appreciate it.

Operator

Thank you. We have a question from Mehdi Hosseini with FBR.

Mehdi Hosseini - FBR

Yes, thanks for taking question. I was wondering how come you didn't provide similar chart for the ramp up in your facilities in Italy.

Nabeel Gareeb - President and Chief Executive Officer

Yes, Mehdi basically on Italy, basically it's a simply very similar straight line across the... with the spike down for a day based on the issue and then coming back up and running at a lower rate. So the major interest seems to in Pasadena, the churns in Pasadena, et cetera, based on the issues we had had. So we thought that rather than complicated with four charts or three charts or what have you, we just provided the capacity amount [ph].

Mehdi Hosseini - FBR

Should we assume that in Italy more rather than straight line?

Nabeel Gareeb - President and Chief Executive Officer

Yes, it's more of a straight line phenomena, because... one because there is not significant amount of expansion gong on there. And second obviously that the expansion that's occurring primarily this quarter, not last quarter or the quarter before.

Mehdi Hosseini - FBR

Okay. And then going back to the wafering, I didn't see you early on talking about, story to do the wafering for sort of the wafer application. Sometime in 2009, doing it in-house and we are already into July. At some point, you either have to start order the equipment or just make a small acquisition and I would imagine that you see... it may happen, it should happen before we close the year. So, help us understand what are the mileages going... what are the in-depth process or what needs to happen? Are you sort of involved with polysilicon manufacturing powders that we're doing there is no bandwidth to work on these other projects or how should we think about it?

Nabeel Gareeb - President and Chief Executive Officer

We have people working on it. I... certainly my focus is on making sure that our poly ramps according to the targeted outputs if not better that we've indicated, but we do have people working on that last quarter. I believe we said we were actually in the tail end of site selection, et cetera and yes, the time table you've outlined... yes, we need to ordering equipment and yes, we need to have a site already picked out if not bought. All those are good observations. We are just not disclosing that we have or have not done it. And I think you need to assume that we're being pretty prudent about it, and we'll do the right thing to achieve those goals.

Mehdi Hosseini - FBR

Sure. And when that happens, remind us again, when you bring that in house, we then have a material impact on margin so far?

Nabeel Gareeb - President and Chief Executive Officer

Well,Mehdi, I think this is not a -- it's not flip of a switch. It's... for an extended period of time over several years, I anticipate in-house ramping and outsourcing continuing. So I don't see any either or, but yes that for the volume that comes in house, there should be a little bit of a margin help, because the cost will lower.

Mehdi Hosseini - FBR

So the reason I ask is that given the manufacturing bottleneck over the past six months, I just want to understand how you're planning for the ramp up of wafering. And again it's more somewhat... where I come from is more of a confidence building, and wafering you may sound very trivial, but I imagine it's going to take some time and you are starting from scratch. So, how should we think about the rest of any bottleneck there?

Nabeel Gareeb - President and Chief Executive Officer

Okay. The question, Mehdi, the good news there is we already have significant quantities of wafering happening from an outsource standpoint. So, the back up plan is okay, while there is outsource capacity that we can still use sort of the in-house wafering, be constrained for whatever reason; with poly, it is not so. And so, I think that allows us basically a contingency plan if you will.

Mehdi Hosseini - FBR

Okay, thank you.

Nabeel Gareeb - President and Chief Executive Officer

Thank you.

Operator

Thank you. Our next question is from Stuart Bush with RBC Capital Market. Go ahead, please.

Stuart Bush - RBC Capital Markets (US)

Yes, good afternoon, Nabeel. To follow up, you said that silane capacity would take you through mid-2009. Does that mean you'll need to have additional silane units up by the back half of '09 to be on track for the volume increases you have laid out?

Nabeel Gareeb - President and Chief Executive Officer

No, we haven't communicated anything about that. Basically all that at least that I was trying to indicate is we don't need to expand silane. We have excess silane capacity with units 3 and 4 such that we can add more poly reactors now and next year to be able to consume it. We haven't indicated anything in terms of additional silane or poly for the second half of next year's expansion, what we may or may not need. That's specifically what I was trying to articulate.

Stuart Bush - RBC Capital Markets (US)

Okay. So you said you will get to a decision in early'09 on whether to... on how to pursue this next expansion phase. What exactly from a demand or operational metrics that you are going to be looking for to make that decision?

Nabeel Gareeb - President and Chief Executive Officer

No. What I tried to articulate, Stuart, is that we would communicate perhaps what that was, and what the expansion was in the January period of '09. And like we typically do at the start of the year, the decisions of where we're doing the expansions for '09 were made two years ago.

Stuart Bush - RBC Capital Markets (US)

Okay. Very good. You said in the past that you have enough capacity left for another large solar wafer contract. Given some speculation on forward supply coming on and all the suitable metallurgical, have you seen any changes to the economics in those discussions?

Nabeel Gareeb - President and Chief Executive Officer

We continue to have people that are very interested to sign large long-term... long-term being 10 year type wafer deals. So, no, we haven't seen any significant changes in the economic parts of the discussion.

Stuart Bush - RBC Capital Markets (US)

Okay. And my last question is, once you got unit 3 and 4 ramped up, what percentage of this capacity... this new capacity is servicing all the existing contracts you have right now?

Nabeel Gareeb - President and Chief Executive Officer

Percentage of this existing capacity is servicing the existing. Again, I don't know that there is a simple way to answer that, Stuart. So I think I would just point you back to all unit 3 and 4, and Merano and all that expansion. When it comes up, we're looking at $800 million to $900 million of dollarized capacity, and then whatever your models say in terms of whether it's spot poly sales, whether it's the ramps of Suntech and Gintech which we have provided some ideas on how to kind of look at them over a lengthy period of time. Then you add on Conergy and Tainergy et cetera, you'll have to make those guesstimates out of that on your own because that's... because we also gave you a data point because I've given you the dollarized capacity that ties to 8,000 metric tons. So, by deduction, you've got almost a dollar per kg.

Stuart Bush - RBC Capital Markets (US)

Okay, great. Thanks.

Nabeel Gareeb - President and Chief Executive Officer

Thanks.

Operator

Thank you. Our next question is from Ben Peng [ph] with Caris & Company. Please go ahead.

Unidentified Analyst

Thanks for taking my question. First a follow up. You talked about your ability to toggle between the semiconductor and the solar business as one of your variations that you can achieve your revenue numbers. At what point do you have to actually decide that you are going to service one customer base or another within the quarter, like the third quarter?

Nabeel Gareeb - President and Chief Executive Officer

Well, I mean, I think if you... the way we try to do this is we allocate the poly, we say, look, this is how much we are going to use for semi, this is how much we are going to use for the long-term solar agreements, and then this is how much we might have leftover for spot, whether it is spot poly, or spot wafers. And then as production proceeds through the quarter, we decide if we want to change allocations et cetera.

Now if it turns out, for example, in the beginning of September we see that semi is soft that's plenty of time for us to be able to take that and convert it even into solar wafer should we so chose. If it turns out that it's in the last two weeks of the quarter, then we would basically put a swap it over to spot poly, which is basically a phone call.

Unidentified Analyst

So is it right to think that if you guys are already kind of conservative on semiconductors side, I mean, you are kind of already could account for a worst case scenario with your ability to toggle the different markets?

Nabeel Gareeb - President and Chief Executive Officer

When you say worst case, I am not sure I understood question.

Unidentified Analyst

I guess if you look at the history for your semiconductor business, is there some sort of a scenario that you can point to where you wouldn't be able, under the current condition, to take up the demand on the solar side?

Nabeel Gareeb - President and Chief Executive Officer

Based on the health of the solar market, it seems pretty reasonable if there is uncertainty or weakness on the semi side assuming reasonable poly production that why we couldn't take that poly and put it over to the solar side. The only thing obviously you got to understand is that the revenue multiplier is not as great.

Unidentified Analyst

Okay. And also one last follow-up on the issue that you had in the second quarter. Did that impact any of your customers or you were just able to satisfy your solar customers by pulling out of the spot market again?

Nabeel Gareeb - President and Chief Executive Officer

Yes, we took a hit basically on the spot market numbers and targets. There was some nominal impact, but it was minimal. And... but most of the hit was one the spot market piece of it.

Unidentified Analyst

Are your customers at all concerned on the solar side about some of these operational difficulties over last half a year or so?

Nabeel Gareeb - President and Chief Executive Officer

No, I mean, the good news is we are continuing the steep ramps that we had committed to them. So they see what those steep ramps are. They do see that we are having some of the difficulties. But I believe, I mean, I don't want to put words in their mouths. So, you'd have to ask them, but I do believe that they are pleased that we are making sure that we are taking care of them even in these difficult ramps.

Nabeel Gareeb - President and Chief Executive Officer

Okay. Last question on the heat exchanger issue. You commented on a previous answer that is was a custom piece of machinery. Do you need to switch out all of those heat exchangers from the supplier?

Nabeel Gareeb - President and Chief Executive Officer

No.

Unidentified Analyst

Is there any more risk there or?

Nabeel Gareeb - President and Chief Executive Officer

We are still investigating through that in terms of the root cause and what. It looks like potentially a welding aspect and what caused the welding aspect and all those good things. So we will do what we think is prudent and make sure that there's other heat exchangers from the same welder that have been working for very long period of time.

Unidentified Analyst

Thank you very much.

Nabeel Gareeb - President and Chief Executive Officer

Thanks.

Operator

Thank you. Our next question is from Satya Kumar with Credit Suisse. Please go ahead.

Satya Kumar - Credit Suisse North America

Yes, thanks for taking the question. Nabeel, there's a lot of polysilicon capacity coming into '09 and clearly at least in one geography, Spain, the one that's probably going to lower next year. How concerned are you that the extra polysilicon is going to put pressure on spot prices and your long term contracts as you look out into 2009?

Nabeel Gareeb - President and Chief Executive Officer

I think, Satya, I look at it every day and I only have two barometers, if you will. And the two barometers I have to judge that. One is the health of the spot market in terms of pricing, which seems to be very healthy, and the second is the number of people that are interested in signing up long-term arrangements in spite of this continued increase in capacity based on the continued increase in demand. So both of those barometers seem to be pretty darn healthy. And so you keep your eye out forward, which you need to do. But until those barometers turn negative, I don't really panic.

Satya Kumar - Credit Suisse North America

Okay. I mean, just at the high level, I appreciate the little bits of extra information you're giving out each time you have had these issues. But, I guess, the issue is how do we get folks confident that there won't be future execution issues? Along those lines, are you willing to host an analysts day at Pasadena, allowing investors to get more comfortable with the status of the plant and meet your sort of second level management team that's in charge of getting this thing up and running?

And also, ultimately what all of us are trying to do with this extra information is to just get the right numbers for pricing, volume and mix. Why not just provide the actual kind of just silicon produced each quarter, allocation to semi, spot and solar and pricing? Most commodity companies do provide that information. Just from a modeling perspective, just given all the uncertainty in the execution and backing having the model, it'd be helpful to have a lot more information and disclosure.

Nabeel Gareeb - President and Chief Executive Officer

Yes. So I think a couple of things, Satya. One, let's just work backwards. We have provided this particular trend chart because obviously as we've had the issues, we need to provide more insight into what our typical run rates might be. And we provide... try to provide it in the same context as which we provide guidance, which is in dollarized revenue terms, not in terms of polysilicon we produce each quarter. So we've tried to map it to the same set of numbers and then people can draw their own conclusions to the degree of confidence we have... they have based on the run rates, let's say, in the months of May and early June, and then in the pace of recovery, if you will, based... subsequent to the fire incident and the run rates we've had in the July so far.

So I think that is probably significant amounts of information without giving away the entire store to the competition on what our price mix ratio is on every part number, because that also to some degree should be provided could be misleading, because people will assumptions about it. And as the mix shifts each quarter, you will end up with a totally different mix. So I think this information should give probably... another third piece of information we have also provided is 8,000 metric tons is worth between $800 million and $900 million in capacity. You now have a range of dollars per kg that you can probably use to get more insight.

Satya Kumar - Credit Suisse North America

Absolutely, I appreciate the information. But I mean, at the end of the day you are making polysilicon and at this point in terms of the number of people who are competing against you, that number has obviously gone up quite a bit from last year to this year. My math on the revenue potential of these polysilicon per kilogram is a wide range between a few hundred dollars per kilogram, already up to $800 a kilogram depending on the mix. So the point this there is a lot of sensitivity to the numbers and --

Nabeel Gareeb - President and Chief Executive Officer

And I think, Satya, sorry to interrupt. But I think that's exactly the point I'm agreeing with you 100%. First of all, we don't make poly, poly... we do to make to make wafers. We are not in the poly business, we are in the wafer business. The reason we are providing all of this insight into the poly part of the operation is because that's where we have had the issues and it's been the limiting factor. The mix shift and mix changes that occur on the wafer side of the business are significant and would cause more confusion than resolve it.

So for example, I could give you a range exactly like you said not just from $200 to $800, but $200 to $1,500 a kilo, depending on the type of product we produce, the type of wafer specifically we produce and the technology node that it is directed towards. So that average number with such a wide range eventually becomes meaningless because the variation of the three sigma is so high. So rather than cause more confusion and then give away bunch of competitive information, we felt that it was beneficial to stick to this for now.

Now in terms of the analyst day, et cetera, yes, that would be an interesting thing. We've thought about potential analyst days. At this stage, our focus is, let's get the poly output up and demonstrate it to people through the third quarter and perhaps make sure that that's close off to the fourth quarter and then we can revisit that topic.

Satya Kumar - Credit Suisse North America

Alright. That's helpful, Nabeel.

Nabeel Gareeb - President and Chief Executive Officer

Alright. Thanks Satya.

Operator

Thank you. We have a question from Shaun Conners [ph] with FAF Advisors. Please go ahead.

Unidentified Analyst

I just have one quick question. Now that unit 3 is fully ramped, what I am trying to get at a little bit is, I think... I thought originally you'd said that once unit 3 is ramped, it'd be in the $700 million to $800 million in annualized revenue. But if I look at the charts, you're barely at maybe 650-ish. And I am just wondering what is it that gets you up above the $700 million?

Nabeel Gareeb - President and Chief Executive Officer

Right. So, really the key here is if you look at that slope, that slope is the recovery from basically the fire incident that occurred. When the silane output goes down, as shown on that green chart, we had built up excess inventory as a result of actually units 3 and 4 operating pretty well, excess silane inventory which we've fed into the polysilicon piece. And that allowed us to actually reduce the impact for some period of time. But eventually, obviously that inventory ran out.

And so now basically the poly reactors are ramping back up and as those ramp back up you're seeing a continues ramp of those existing poly reactors without the new ones added on. And you see where that blue line is. And so once those are completed ramping we should be able to... those will hit, number one.

Number two, that's on a 90% plus utilization rate and no unanticipated events. So assuming there is no unanticipated events, we should conceivably see that in that range and you've seen that obviously in the middle of June as well.

Unidentified Analyst

And then, I apologize, one follow-up question, on the poly... ramping the new poly reactors, what is kind of the timeframe for that? And are these basically the same size poly reactors is what you ramped in the past. So, you are... you should at least be theoretically pretty knowledgeable on ramping these?

Nabeel Gareeb - President and Chief Executive Officer

Yes, the poly reactors are identical to the ones we have, both mechanically and from a hookup standpoint. As a matter of fact, when we do maintenance on these poly reactors, we end up taking them apart and putting them back together again. So the mechanical installation of this is pretty darn similar, if you will.

The ramping, however, we allow for three to six months to complete the ramp. We've traditionally said that. And if it goes well, it could be a lot sooner. If it doesn't goes so well, then it will take the longer end of the range.

Unidentified Analyst

Alright. Thank you very much.

Operator

Thank you. We have a follow-up from Paul Leming. Go ahead please.

Paul Leming - Soleil - Princeton Tech

Good evening. I confess to being utterly confused at this point and I am hoping you can help me get this squared away. You've said with units 3 and 4 fully ramped, you get to $800 million and $900 million of revenue. I think you've indicated that you've now or with units 3 and units 4, you've got excess silane in Pasadena that will allow you to take company capacity to beyond that 8000 tons. You've got the silane already in place to move beyond 8000 tons.

So, my question is, as you go beyond 8000 tons of poly capacity in Pasadena utilizing the excess silane you've got there, is there really no revenue upside as you go from 8000 to 9000 to 10,000 whatever the number, to use up silane because there is no upside to be $800 million and $900 million revenue number because you're already monetizing that excess silane somehow as you give us that $800 million to $900 million revenue number.

Nabeel Gareeb - President and Chief Executive Officer

Yes, I think probably that's an excellent insightful question, Paul. Specifically I should put a box around it, units 1, 2, 3, 4 and all the associated poly reactors capped for poly output, if you will. And then the Merano expansion as well all the way to 8,000 metric tones is what is that dollarized capacity of $800 million to $900 million. So it does not take into account any excess silane that may be there that I may or may not be able to monetize.

Paul Leming - Soleil - Princeton Tech

But am I right from the comment you've made this evening that you do have excess silane there that in point of fact at year-end with everything up and running that 8000 tons, it sounds like in fact... I'm inferring from your comments that you don't have 20 extra pounds of silane in Pasadena that it's a substantial amount, but will run a number of additional reactors. So I think what I am hearing is the revenue run rate of the company at the end of the year, if you introduce the silane and sell it as silane, you in fact have got more than $800 million to $900 million of revenue capability already in place.

Nabeel Gareeb - President and Chief Executive Officer

That certainly is the opportunity, Paul.

Paul Leming - Soleil - Princeton Tech

Bigger than the bread box, smaller than the house, any help on how to think about this?

Nabeel Gareeb - President and Chief Executive Officer

Well, again, you give these wide ranges of $800 million to $900 million and you put out in people's heads because you know that they have to stick there probably for about a year or so. So, we try to give those wide ranges. That excess silane conceivably I don't include in that because I want to use it for additional poly capacity. So I don't want to put that into a range now and then take it out and mix it different in a different range later. So if it's an opportunity, it's an opportunity. If not, we have given a range of $800 million to $900 million.

Paul Leming - Soleil - Princeton Tech

Thank you.

Nabeel Gareeb - President and Chief Executive Officer

Thanks.

Operator

Thank you. Our next follow-up is from Sam Dubinsky. Please go ahead.

Sam Dubinsky - Oppenheimer

Hey guys. Just a quick question. In terms of locking of new contracts, why wait for the spot market to calm down, why not just not lock in new contracts today as you sort of ramp capacity? Just because it seems like these long-term solar wafer contracts are still above your corporate gross margin? And if I run my mind, that's correct, but it seems like your spot sale today are already being deemphasized. So at what point just lock up more long-term contracts today instead of wait for the market to sort of calm down?

Nabeel Gareeb - President and Chief Executive Officer

We are certainly working on it and for example, Tainergy was an example of one of the ones we are working on, it was going to close either a few days before or few days after the Conergy type timeline. So we said okay, let's close both at the same time. And had the Conergy hadn't changed, you would have seen one deal at least come out. So we will continue to work on it, there's additional people interested and those conversations are still ongoing. It's not --

Sam Dubinsky - Oppenheimer

Can you also give more color on Tainergy, at what percentage of... how many megawatts, what percentage of their product supply you are going to... you are going to supply in the next or for next year?

Nabeel Gareeb - President and Chief Executive Officer

Basically, they are just like Gintech was two years ago. They are basically a start-up. They are going to... I believe, their capacity this year was like 60 to 80 megawatts, going to 240 megawatts next year. So they are going to crank that up and --

Sam Dubinsky - Oppenheimer

Assuming that there's still supply, are you like 30% of their poly supply, 50%?

Nabeel Gareeb - President and Chief Executive Officer

You would have to ask them that. I think in the first year we are probably going to be a pretty decent chunk. The second year, we'll drop off and then third year probably drop off more dramatically.

Sam Dubinsky - Oppenheimer

Okay. Thank you.

Nabeel Gareeb - President and Chief Executive Officer

Sure.

Operator

Thank you. And our final follow-up will come from Tim Arcuri. Please go ahead.

Timothy Arcuri - Citigroup

Hi, guys, two things. First of all, Nabeel, was 200 millimeter revenue or was 300 millimeter revenue down more June versus March?

Nabeel Gareeb - President and Chief Executive Officer

June versus March. I don't... neither the semi part in terms of... we saw growth in our semi, units and revenue. And I think if you guys are looking to the numbers, but if I'd looked at the numbers right, they all grew.

Timothy Arcuri - Citigroup

So, your semi revenue was actually up sequentially?

Nabeel Gareeb - President and Chief Executive Officer

Yes.

Timothy Arcuri - Citigroup

Okay. What do you think about the notion that there is a window, say, in the next six to nine months for you to really monetize all this excess supply or all this new supply? And then, as you get into the back half of next year, poly or spot price begins to come down pretty sizably. I guess when you think about what it would take for a customer to break contract with you, is the decision literally that spot would have to go enough below contract that they would forego their prepayment with you and that is literally the only decision for them to break contract?

Nabeel Gareeb - President and Chief Executive Officer

Yes, I mean, you have to give up... if a customer has, let's say, $200 million or $300 million on deposit with us, the spot or whatever they view as their alternatives would have to be that attractive to them and losing the supplies stream to offset the loss.

Timothy Arcuri - Citigroup

Okay. But does every customer had only three month's prepayment or do some contract have less than that?

Nabeel Gareeb - President and Chief Executive Officer

It's multiple months and we have never quantified, I don't think that that number that that you're quoting is awfully low. I don't think we have got anybody at those types of low numbers on security deposits. It's much more than that.

Timothy Arcuri - Citigroup

Okay. So it would have to be, as you kind of get up with these big volumes for a Suntech or a Gintech, it would have to be... pricing would have to go or spot price would have to go significantly below contract given the advanced prepayment beyond a significant amount of supply.

Nabeel Gareeb - President and Chief Executive Officer

Yes, it's well into the... it's significant triple digits.

Ken Hannah - Senior Vice President and Chief Financial Officer

Tim, part of what you're probably looking at the balance sheet and looking at the cash portion, that's just a piece of what they put up. There is also an irrevocable LC that you don't see on our balance sheet, but is at stake.

Timothy Arcuri - Citigroup

Okay. I am just wondering if spot, for example... because in the DRAM markets, spot price goes down pretty quickly. So when spot rolls over, it's going... chances of rollover are very-very quickly, quicker than people probably think. So if you painted a scenario where spot went to, say, $50, and if you ran numbers that delta relative to what the prepayments are, there is a situation where unless your customer was in very significant volumes that it would make sense for them to begin to break contract around $50. So is that... when you kind of run the numbers out, is that the right spot price crossover that you think about or you'd start to worry about customers breaking contract?

Nabeel Gareeb - President and Chief Executive Officer

Yes, so a couple of things, Tim. One is in my mind, spot has to be whatever, their alternatives have to be below our prices not for a three month or a six month period. They have to be there for an extended period of time. And if prices drop that dramatically to that point, which would bring it to well below grid parity, then you would have because of the elasticity of demand in this market, you would get enormous growth in demand, which would within a six month period, maybe a nine month period, may be 12 month period, get eaten up by the solar module manufacturers, and because it takes 2 to 3 years to build a poly factory, you would be back into a constraint situation.

So I don't see this as, okay, well the earthquake will happen, and the tremors will continue to last thereafter. The question is, if the earthquake happens, what happens the day after the earthquake, and that's more important to me than the day of the earthquake.

Timothy Arcuri - Citigroup

Okay. But if sport worth $50, Nabeel, do you think that it's possible that your customers would break contract at that price?

Nabeel Gareeb - President and Chief Executive Officer

Well, let me ask you the reverse. Do you think it's good to go to 50 and stay there for a three to four year period?

Timothy Arcuri - Citigroup

Well, I doubt it, but I just... when you actually run those numbers, is that a reasonable crossover where your customers will consider breaking contract?

Nabeel Gareeb - President and Chief Executive Officer

Well, I think it's again the timetable-dependant, Tim, because the numbers, they've got $200 million, $300 million at risk, it would have to be there for a significant... over a significant volume for them to recoup and pay it back, right?

Timothy Arcuri - Citigroup

Sure, yes.

Nabeel Gareeb - President and Chief Executive Officer

That's the heart of the issue.

Timothy Arcuri - Citigroup

Yes, okay. Thanks.

Operator

Thank you. And gentlemen, we have no further questions.

Nabeel Gareeb - President and Chief Executive Officer

Thank you all for participating in the call tonight. Look forward to much more improved results in Q3 and Q4. Good night.

Operator

Thank you. And ladies and gentlemen, that does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.

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Source: MEMC Electronic Materials, Inc. Q2 2008 Earnings Call Transcript
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