I'm PortAI, I can summarize articles.

Semiconductor Enters Downturn, How Will SMIC Respond? (22Q2 Conference Call Summary)

On the evening of August 11th, Beijing time, Longbridge Hong Kong released its 2022 Q2 financial report (as of June 2022), with the following highlights:

Quarterly core data vs. market expectations:

1) Revenue end: Quarterly revenue achieved 1.903 billion U.S. dollars, an increase of 3.3% QoQ, reaching the upper limit of guidance (1-3%);

2) Gross profit margin: Quarterly gross profit margin was 39.4%, a decrease of 1.3pct QoQ, better than market expectations (38.24%);

3) Capacity utilization rate: Quarterly capacity utilization rate was 97.1%, maintaining a historical high;

4) Business situation: The sluggish mobile phone business weakened to 1/4; the company expanded production around 12-inch wafers, and the 12-inch revenue accounted for about 70%; the revenue from mainland China and Hong Kong accounted for 69.4%, with strong demand for domestic customer localization production;

5) Outlook for the next quarter: SMIC.HK expects revenue growth of 0-2% QoQ in the third quarter of 2022 and gross profit margin of 38-40%. The revenue guidance is slightly lower than market expectations ($1.955 billion), while the gross profit margin guidance is better than market expectations (36.31%).

For more detailed financial information, please refer to Dolphin Analyst's review "[Price Can't Go Up, SMIC Endures the 'Cycle Plunder'] (https://longbridgeapp.com/topics/3297694)"

I. Teleconference Incremental Information Summary:

1) Company business expectations: healthy capacity utilization rate in the third quarter, and stable ASP. [Dolphin Analyst believes that after the impact of the Shanghai epidemic and other factors fades, but due to the possibility of some factories undergoing annual maintenance, the company's capacity utilization rate in the third quarter is similar to that in the second quarter. On the ASP side, the price given by UMC is not increasing, basically consistent];

2) Industry outlook: The integrated circuit industry chain has entered a stage of double-cycle superimposed impact, ① the macro cycle of slowing global economic growth; ② the industry cycle that the semiconductor market enters its own downturn. Demand for mobile/consumer electronics is weak, while demand for automotive electronics, green energy, industrial control and other fields is steadily increasing. The company believes that this round of industry cycle adjustment will last at least until the first half of 23, and the trend of local manufacturing will not change;

3) The main causes of the downturn in this round of semiconductor cycle: One is the economic recession, which reduces consumption, and the other is oversupply within the industry. However, there has not been a significant increase in the supply side of the industry, which actually indicates that the main cause is still weak demand;

4) Prices of various products: ASPs for LCD Drivers (used for large-sized panels), CIS for smartphones, and fingerprint recognition chips have all decreased, and customers are demanding price reductions in order to maintain market share;

5) CAPEX investment in the next few years: The company firmly believes that the logic of local foundry in China will remain unchanged in the long term, and the company will not change the plan of long-term capacity expansion. The company's capital expenditures will remain stable in the long term.

  • 6) Production capacity target: The goal of "doubling production capacity within five years" is based on the baseline of 2020/2021, and the company will continue to adhere to it, but with a more cautious and stable overall strategy.

  • 2.1 Management Report

  • Industry Trends

In the first half of 2022, the integrated circuit industry chain entered a stage where it was impacted by a double-cycle effect. The first cycle is the macro cycle of the slowing growth rate of the global economy. Under multiple factors such as the impact of the pandemic, high inflation, and partial international conflicts, the global economic growth is facing great pressure, and consumption power is insufficient. The second cycle is that the semiconductor market has entered its own downward industry cycle. After several quarters of accelerated consumption in the past, and after the capacity expansion of the manufacturing process has reached a certain degree, the industry has entered a stage of gradually balancing supply and demand, and some links have entered the destocking phase.

Currently, the interaction of the double cycles has brought some panic and uncertainty to the market, and some links in the industry chain have even shown extreme reactions of being frozen and stopping abruptly. In this stack of cycles, different application areas have shown a trend of structural differentiation. The demand for automotive electronics, green energy, industrial control and other fields is still maintaining steady growth, while the demand for smart phones is still digesting inventory, and the demand for consumer electronics is weak.

Since last year, SMIC has been implementing infrastructure layout, strengthening communication with customers, especially with terminal equipment companies, fully understanding the actual market demand, making strategic adjustments to production capacity in advance, reducing production capacity of LCD drivers, fingerprint recognition, and low-end CIS markets that are gradually saturated, avoiding disorderly competition, and increasing the production capacity of special process products such as power management, high-end MCUs or drivers, WiFi six, etc.; the dynamic production capacity of differentiated platforms fits the rapidly changing market, meeting the needs of different application scenarios of terminals.

  • Outlook

It is expected that the production capacity utilization rate of 22Q3E will remain healthy, and ASP will remain stable. Next, the company will continue to pay close attention to market trends and respond according to the company's characteristics:

  1. Fully utilize the flexibility of the company's production line to switch between different nodes in the same factory to produce multiple product platforms. Although the company's market share in the OEM field is still relatively small, the company still has a large number of product categories and customers, and its response speed will be faster;

  2. Optimize high value-added technology and products to solve the production capacity bottleneck of some platforms, improve photomask production capacity, strengthen cooperation with C-design companies, accelerate the development speed of new products, and develop products that others are not good at but are competitive;

  3. Optimize the customer system, cooperate with the customers with the most potential to become leading customers, continue to cooperate with global customers, and flexibly allocate production capacity to respond to the uncertainty of the counter-cyclical period.

The subdivision fields in the second half of 2022 will still show structural shortages. It seems that this round of cycle adjustment will last at least until 23H1, but it can be determined that the demand growth of the integrated circuit industry and the global regional trend remain unchanged in the short term, and the logic of local manufacturing in the long term remains unchanged. We still have confidence in the company's medium- and long-term growth. 2.2 Analyst Q&A

Q: What are the guidance for each sector in Q3 and Q4?

A: The utilization rate of production capacity in Q3 will be close to that of Q2, at a relatively high stage. However, Q4 still remains uncertain.

Q: What is the situation of product prices?

A: The ASP of LCD drivers (used for large-size panels), CIS for smartphones, and fingerprint recognition chips have all decreased. This is because downstream customers want us to lower prices in order to maintain their market share. We can only decrease ASP. It can be seen that the terminal sales of smartphones have decreased by 17%, and inventory has become higher. The prices of other products are still relatively stable and will not change too much. We are also communicating with customers to understand the market situation, but discussing Q4 now is a bit too early.

Q: How will the company respond to the downturn in the industry cycle?

A: Looking at both external and internal factors, one is economic recession, resulting in reduced consumption, and two is oversupply within the industry. Among them, the impact of external cycles is greater, bringing reduced consumption due to economic uncertainty and downturn. However, the oversupply of the entire industry is not obvious. The production capacity of many nodes has not increased significantly, such as slow growth in the supply chain, slow delivery, so production capacity cannot be established, and the monthly shipment volume of the entire industry has not increased much. In the previous quarters, everyone was buying desperately, but now they are not buying as much as before, which has resulted in higher middleman inventories. In addition, the impact on different industries is not uniform. From an external perspective, for example, consumer electronics and mobile phones have suffered particularly serious impacts, but there is still a supply shortage in the industrial supply chain, a supply shortage in new energy vehicles, and a supply shortage in high-end internet fields etc.

Internally, SMIC has better prepared this time, but the surrounding pandemic situation has a certain degree of instability, which will have a greater impact, causing fluctuations in different cities. This is one aspect. The second aspect is that more than 70% of SMIC's revenue comes from the Chinese market, so there will be more interaction with the Chinese market, which will have a greater impact. If the percentage of revenue from other peers does not come from the Chinese market, the pressure we are facing will not be the same. We are an international company, and we also have a large number of international customers and international orders. Therefore, we need to balance these two at this time and reduce the impact brought by a single market.

SMIC now has another characteristic, that is, there are both brand new factories and very old factories, with many nodes, product platforms, and customers. For newly built factories, such as the Shenzhen factory, the production capacity is very tight, but the verified products for its customers are relatively few. If a product suddenly has accelerated market demand, we have to switch to another product, and we have to re-verify it. If there are not that many verifications, the response to these sudden situations will be slower. However, our older factories are more than enough in responding to this area, so the pressure on new factories will be greater, and we strive to balance this. We have tried our best to make the production capacity of different nodes in the same factory as flexible as possible in recent years so that we can switch between them. We have also developed different product platforms and served both domestic and foreign customers. When there are changes in different markets in the future, we can adjust accordingly.

Q: What is your view on CAPEX investment in the next few years?

A: We firmly believe that the logic of domestic foundry is unchanged in the long term. The development prospects of the semiconductor industry in China, especially the foundry production industry, are huge. We are very optimistic about it. We have established a very large customer base, and everyone has a plan for future development. Many of them are listed companies and have the resources to conduct research and development. Based on such interactions, we believe that the development of SMIC is still relatively cautious at present. Therefore, we will not change our long-term plan of capacity expansion, and our investment will remain constant.

Q: Does the company have a minimum requirement for margin in a downward cycle?

A: We follow the development needs of the market, industry, and customers. For example, after our factory is built, it is expected to operate for more than 20 years. In these 20 years, there will definitely be a good year with a high gross profit margin, and a bad year with a low gross profit margin. Therefore, when we invest downward, the impact on the development of the entire 20 years is not that significant. We adhere to a cautious principle. If the market is in a slow season, we will communicate with customers and investors well, and we will all be unified in the recognized development logic.

Q: Can you elaborate on the concept of speed-down and emergency stop? How fast does the decline need to be considered speed-down and emergency stop? Because from the financial report, even the consumption, such as mobile phones, has only dropped by 7%.

A: Speed-down and emergency stop is a situation that everyone faces. What we see at SMIC is that it is more obvious in the large-screen TV driver side, such as LCD driver, PMIC, WiFi, TCON, etc., or in the fingerprint recognition, LCD driver, CIS, and other areas of smartphones.

The original production target of mobile phone manufacturers for this year was high, but they found that the sales volume has been very low in recent months and there are already a lot of stockpiles in their hands. They mainly consume their own inventory and only take half or one-third of the products in the market. The inventory of intermediate design companies and product companies is also high. When they suddenly see a reduction of more than half in demand from terminal companies, they immediately request foundries not to produce wafers anymore. This transmission has a particularly large amplification factor, which is what I call a speed-down and emergency stop. Yesterday, the predicted production may still be 10,000 pieces per month, but the next day, they may ask to stop immediately because they need to understand the market demand. That's my take on market sentiment. Looking at phones, TVs and so forth, the points are all the same. First, at the end of 2022, each company has to prepare for the coming year's plan and report the sales target they need to achieve. Regardless of how many phones, TVs or cars are produced, once they estimate their production volume, they will start to calculate how much inventory they need to stock up on and immediately confirm the order. The second checkpoint is around February of the following year, after the New Year is celebrated in China and other countries. At that point, the overall economic situation will be assessed, and the entire industry will adjust their annual plans based on that assessment. They will outsource their orders to intermediate product companies and our OEM factories. Therefore, the period between the end of 2022 and February 2023 is an observation period. We are currently in a period of digestion and rapid stops. If things are improving and orders start to pick up in February, then mass production will be realized by the end of the second quarter.

Q: In terms of healthy capacity utilization, what is a healthy level from your perspective?

A: Each company is slightly different. Our definition of production capacity utilization is when the constructed production capacity is already in use. This is called production capacity. The denominator is the total production capacity, and the numerator is the output. If it's a new factory, it may take two or three months from start to finish, so the production capacity during this time will have a smaller numerator and a larger denominator. This is not a real decline in production capacity utilization. When the production factory is ramping up production, this will inevitably happen. Overall, if it is averaged out, the impact of building new production capacity and the impact of insufficient orders, the capacity utilization rate must be over 90% to be a healthy level.

Q: The telephone conference held last year stated that total production capacity will double by 2025 based on the long-term contracts with system vendors and design companies. Considering the current macro changes, will the capital expenditure plan for next year be adjusted based on the macro impact?

A: I am not at liberty to disclose the specifics of the 2023 capital expenditure plan, but our Capex intensity remains steady, and there will not be significant changes. We are optimistic about the medium and long term.

Regarding the goal of doubling production capacity within five years, it is based on either the 2021 or 2020 base year. It is based on two considerations. First, China's SMIC has a very small share of the foundry industry, accounting for only 5%. The supply and demand relationship in the entire industry will not change significantly because of SMIC's five-year growth. Thus, it will not have a significant impact on the industry as a whole. The second is that even with our existing customer base and new platforms and domains that we are developing, we will not be able to fully meet the needs of the entire industry even if we reach the target. Therefore, we believe we will continue to pursue this five-year goal. It's too early to say whether the number will increase or decrease next year, but the overall approach is to be cautious and maintain a stable course of action. Q: In terms of wafer revenue structure, if the proportion of smart home applications increases, it will basically offset the proportion of smartphones. Regarding smart home products, which downstream products and processes are mainly involved, and whether this structural improvement is relatively long-term in the future?

A: Our current definition of smart home includes all those related to wired, wireless, and networked smart operations in the home. Traditional white goods and remote controls are also considered in consumption. WiFi, Bluetooth, smart TVs, IOT in the home, home monitors, as long as there is something in the home that can access the internet (excluding laptops), it belongs to smart home, such as set-top boxes, wireless speakers, etc.

SMIC is currently working on Bluetooth and WiFi, PICM, MCU, Nor Flash, CIS and ISP, as long as it is used in the home, we all consider it a smart home. If it is used in the industrial industry, we will consider it an industrial class.

Q: The increase in contract liabilities in Q2 was $500 million, close to three times that of last year. Will the long-term contracts face a sudden stop and rapid slowdown situation?

A: Those who sign LTAs are advance payments, and these companies are basically the ones we believe have the potential to develop into top companies in the future or the leaders in the industry. As of now, these areas have not been heavily impacted, and everyone is following the original contract, the original order, and the original price to do business. Long-term cooperation is a good way of operation for SMIC's future development, which can lock in a considerable part of the future, whether it is price, capacity, etc., so there is less risk for us in developing this capacity in the future. (The increase in contract liabilities can be understood as a guide to good future performance.)

Q: Has the performance guidance of Q3 taken into account some of the plant's annual maintenance?

A: Yes, this has already been taken into account.

Dolphin SMIC Historical Articles Backtracking:

Earnings Season August 11, 2022, earnings review, "Unable to raise prices, SMIC is deadlocked in the "cyclical robbery""

May 13, 2022, conference call minutes, "Limited impact of the epidemic, semiconductor is experiencing structural shortages (SMIC conference call minutes)"

May 12, 2022, earnings review, "Epidemic kneeling, market kneeling? SMIC's performance did not "kneel""

February 11, 2022, conference call, "Alpha beyond industry price increases, SMIC expands production and advances again" 2022 February 10 financial report review "SEMICONDUCTOR MANUFACTURING INTERNATIONAL: Bullish Voice Continues, Performance Continues to Be Bullish | Read the Financial Report"

November 12, 2021 conference call "After Unexpectedly Strong Performance, What Did the SMIC Management Team Say During the Plunge?"

November 11, 2021 financial report review "Stop Questioning Whether the Cycle Has Peaked, SMIC is Still Strong!"

August 6, 2021 conference call "How Does the SMIC Management Team View the 21Q2 Financial Report?"

August 5, 2021 financial report review "SMIC: The Rising Power of China's Chip Industry"


June 24, 2022 industry deep dive "Cancellation, Cancellation, Cancellation: Is the Semiconductor Industry Really Going to Turn Upside-down?"

July 16, 2021 company deep dive "SEMICONDUCTOR MANUFACTURING INTERNATIONAL (2): China's "Chip" is Undervalued"

July 9, 2021 company deep dive "SEMICONDUCTOR MANUFACTURING INTERNATIONAL (1): The Strategy Behind the Leader's Attack on "Chips""

Live Streaming

May 13, 2022 "SMIC (00981.HK) Q1 2022 Earnings Conference Call"

February 11, 2022 "SMIC (00981.HK) Q4 2021 Earnings Conference Call"

November 12, 2021 "SMIC (00981.HK) Q3 2021 Earnings Conference Call" 2021 August 6th, "Semiconductor Manufacturing International Corporation (00981.HK) 2Q 2021 Earnings Conference Call", and on May 14th, 2021, "Semiconductor Manufacturing International Corporation (00981.HK) First Quarter 2021 Earnings Conference Call".

Disclosure and statement: Dolphin Analyst is not responsible for any risks and the general disclosure of this article. For more information, please refer to Dolphin Analyst's disclaimer at https://support.longbridge.global/topics/misc/dolphin-disclaimer.

The copyright of this article belongs to the original author/organization.

The views expressed herein are solely those of the author and do not reflect the stance of the platform. The content is intended for investment reference purposes only and shall not be considered as investment advice. Please contact us if you have any questions or suggestions regarding the content services provided by the platform.