Even though the semiconductor industry is declining, there is still no reduction in capital expenditures (SMIC 22Q3 conference call)
China's Semiconductor International (0981.HK/688981.SH) released its Q3 2022 financial report (as of September 2022) after the Longbridge Hong Kong stock market closed on the evening of November 10th. Key points are as follows:
Quarterly core data vs market expectations overview:
1) Revenue end: Achieved USD 1.9037 billion this quarter, up 0.2% QoQ, reaching the lower limit of guidance expectations (0-2%);
2) Gross profit margin: 38.9% gross profit margin this quarter, down 0.5% QoQ, in line with market expectations (38.8%);
3) Capacity utilization rate: The quarterly utilization rate of production capacity fell significantly compared to the previous quarter to 92.1%;
4) Business situation: Weak mobile phone business weakens further to one-fourth; the company expands production around 12-inch wafers, and 12-inch revenue accounts for about 70% of total revenue; Mainland China and Hong Kong's revenue reached 69.4%, and there is strong demand for local production by domestic customers;
5) Next quarter guidance: China Semiconductor International (HK) expects Q4 2022 revenue to decline by 13%-15% QoQ (corresponding to USD 1.62-1.66 billion), which is significantly lower than the market expectations (revenue of USD 1.82 billion); gross profit margin of 30-32%, lower than market expectations (gross profit margin of 33.6%).
For detailed financial information, please refer to the Dolphin Analyst's comment "China Semiconductor International: Long-Term Faith, Cannot Escape the "Cycle Curse".
1. Conference Call Increment Information Summary:
1) Industry cycle: The current adjustment will continue until the first half of next year. Weak demand for smartphones and consumer electronics has caused slow destocking;
2) Capital expenditure: The capital expenditure has been raised by USD 1.6 billion, mainly due to the long delivery cycle of equipment, and the company paid a deposit in advance;
3) Downstream situation: The automotive application currently accounts for about 10% of the foundry industry, and the industry cycle recovery will still depend on large categories such as mobile phones.
2. Original text of the conference call:
- In the second half of 2022, weak consumption demand, international conflicts, and new US export control regulations have brought changes to the industry chain. The destocking speed of smartphones and consumer electronics is slow, and demand is not strong. Although industrial control remains stable, the total demand is not high.
- Although the overall mobile phone industry is still destocking, the company has lowered its capacity allocation since last year. Industrial electricity networks increased by 30%, automation increased by 20%, and the Internet of Things increased by 2%. Overall, Q3 revenue size and structure are basically the same as Q2.
- Due to the downstream demand of some products declining, the company's factories have undergone annual maintenance and capacity has also been newly built (increasing the equivalent of 8-inch 30,000 pieces), resulting in a capacity utilization rate of 92.1%.
- Completed $4.4 billion in capital expenditures in the first three quarters, built 85,000 pieces of capacity (equivalent to 8 inches), and a total of 340,000 pieces (12 inches) of new capacity will be built in Lingang, Beijing, Shenzhen, and Tianjin in the next 5-7 years. As a result, longer lead-time equipment prepayments must be made, resulting in an increase in capital expenditures.
- It is expected that this cycle adjustment will continue into the first half of next year. At present, there is no sign of industry recovery. The impact will also be delayed as it spreads from downstream markets to upstream contract manufacturing industries, so the contract manufacturing industry has not yet reached its lowest point. The company will wait patiently for the industry cycle to recover.
- The assessment of the impact of the new BIS export control regulations on the company's operations is still ongoing. In addition, the downward cycle of the semiconductor industry may mean that this cycle of adjustment could be longer.
2.2 Questions and Answers from Analysts
Q: Can you talk about the reasons for the increase in prepayments?
A: Since the delivery period of the equipment is very long, we paid a deposit first. This is why capital expenditures have increased from $5 billion to $6.6 billion this year. They have excessive orders that take a long time to inspect the equipment. We must pay a deposit to ensure the supply of equipment. In the next five to seven years, in the five new projects, the total production capacity can reach 340,000 12-inch wafers per month. This is a very large scale, but it also takes 5 to 7 years to complete.
Q: What is your preliminary view of capital expenditures and expansion plans for 2023, including 8-inch and 12-inch expansion plans?
A: We have a regular expansion plan for 8 inches to meet the growing demand in the industry. In 2021, we expanded our production capacity by 40,000 wafers per month, and we will have similar capacity growth next year because our customer demand and the Chinese market are still growing.
Q: Is there a plan to expand 12-inch production capacity this year and next year? What is your preliminary view of capital expenditures for 2023?
A: We have a production capacity expansion plan of 40,000 8-inch wafers per month this year, and the remaining $5 billion in capital expenditures will be allocated to 12-inch wafers. At the beginning of this year, we announced that the 12-inch wafer capacity expansion would be the same as or higher than last year, but the year is not yet over, and more equipment will be introduced in the fourth quarter.
We have successively announced new projects, and the focus next year will be on the new Beijing plant, the new size, and the new Shenzhen plant. The 12-inch and 8-inch wafer capacity will be roughly the same as this year's incremental capacity.
Q: Is the increased prepayment level for 12-inch expansion capacity the same? Is the benchmark $5 billion or $6.6 billion since the prepayment level increased this year and more deliveries may arrive next year?
A: We do not yet have final delivery time guidelines. These five projects may be completed in different years and, in the next 5-7 years, if everything is executed according to the scheduled time, there will be a basically equal increase in production capacity. A: Both the current and previous upgrades did not include the construction of the Tianjin new plant and land acquisition, so there were costs for the launch of partial production. The planning and procurement of equipment in Tianjin are still being planned.
Q: Looking forward to the expansion rhythm next year, in which quarter will the equipment delivery, wafer shipment, and revenue be concentrated?
A: The long lead time of the international supply chain is still tight, and the delivery period of the PO and advance payment we opened is long. The new capacity cannot be formed all at once. Some surplus equipment has been around for a long time, but some have not arrived. This is why we have to pay advance payment, so that the delivery time of the equipment can follow the planned time, rather than being uncontrollable. Therefore, there will not be an outbreak of shipments next year, and the amount of shipments in each quarter should be relatively uniform if the delivery cycle is as originally planned, which is similar to this year.
Q: Did the upgrade consider the expansion plan of these 40,000 wafers?
A: Our planning is conservative and cautious, and we focus on the necessary parts. For example, if we establish a capacity of 100,000 wafers, we will first give an advance payment for 30,000 wafers, rather than doing too much, but also making the plan have a certain insurance factor. We only increased 1.5 billion U.S. dollars, which is actually only a small part compared to such a large future plan. Its biggest function is to ensure the first 30,000 wafers of production capacity, and it is okay to have a longer delivery period for the later parts. What we are afraid of is that if the first part is not done well, the impact will continue.
Q: How long is the equipment delivery time?
A: Companies with long delivery times have two situations.
The first is objective necessity, such as lithography machines. Although the other party is relatively large, the material preparation cycle is very long, and it is also running at full capacity now. The order has been placed by others first. If a new order is placed now, the material preparation cycle will be very long, which is about 1.5-2 years.
The second situation is that the company is relatively small, and a slight increase in orders will push the delivery time very long.
Our delivery time may be between 16 months and 2 years.
Q: What is the situation of talent reserves?
A: On the one hand, with the expansion of scale, we need a large number of engineering and management personnel for so many factories. The second part is to increase production capacity. The incremental market is one aspect, and more importantly, SMIC needs to do things that have not been done before, so we need to do a lot of R&D work with customers in the early stage. Therefore, R&D personnel are also very important. Talent reserves and development have been good this year. It may be because of the epidemic. The turnover rate has dropped significantly to the lowest level. This year's graduates attach great importance to the semiconductor industry, and there are many excellent sources of talent. SMIC had about 15,000-16,000 employees last year, and more than 20,000 this year.
Q: When will the downward cycle bottom out? Which fields will drive the industry's upward cycle in the next cycle?
A: This round of industry cycle should be more of an economic cycle, rather than caused by semiconductor supply and demand imbalance. For example, photoresist and silicon wafers, the delivery speed of equipment in the past year is not fast. The incremental production capacity of SMIC last year is about the same as the previous year and this year, so everyone did not grow that much. Last quarter I mentioned the sudden decrease in demand across the industry due to quick-stop measures. For instance, for smartphones, the decrease could reach 30% within one quarter. This makes it more apparent that previously existing inventory grows, and when the market returns to a healthier state, this inventory may recover as well. As such, at present, customers are hesitant to stock too much inventory on account of limited funding resources. They are also afraid that after purchasing at high prices, the products would require a price cut to clear when new products are released because the stocked products become outdated. The primary electronic components in the industry of cell phone integration, household appliances, and smart terminals upgrade rapidly. If there is an inventory of 18 months, the stocked products could become unsalable after that timeframe. Therefore, inventory expansion can only be adopted if sales increase.
We constructed a factory that will operate for a minimum of 20 years. We will not cease production because this year is less successful or produce more because it's prosperous. We will expand production capacity according to the customers' demands and technological development - year after year. Because the factory is long-lasting, the industry demand will not halt as this year's demand is gloomy. Furthermore, the SMIC global production market share only accounts for about 6%. Therefore, increasing our company's capacity will not result in a significant industry supply-demand relationship.
Q: Can the automobile industry lead the economic recovery?
A: Car electronics account for fewer than 10% of orders in the industry. A single pathway cannot lead the industry to prosper. Initially, cell phones dominated half of the industry. If such mass demand is not met, and other industries cannot supplement, the industry would be difficult to recover. An insufficient capacity utilization rate would appear. Regarding new demand, we observe the newly added energy storage, inverters, and so forth, no matter the percentage but a net increase, and of high quality.
Q: How do you distribute new production capacity between overseas and domestic customers? How do you distribute downstream markets?
A: Currently, about 70% are Chinese customers, and this will likely continue in the future. The distribution of downstream markets will depend on the incremental market. At least one-third are universal applications with the rest designed for specific applications. For example, some factories specialize in display drivers, while others focus on simulation and power. Thus, equipment purchases may lean towards uniformity.
For example, the Tianjin factory mainly focuses on analog circuits and industrial ICs, while the Shenzhen factory caters to the needs of the panel industry.
Dolphin analyst's historical review of SMIC:
Financial Report Season
November 10th, 2022, "SMIC: Long-term belief and failure to escape the "cycle curse"."
August 11th, 2022, "The price cannot continue to rise and SMIC endures through the "cycle snatching"." 2022 年 5 月 13 日电话会《疫情影响有限，半导体呈结构化短缺（中芯电话会纪要）》
2022 年 5 月 12 日财报点评《疫情跪、市场跪？中芯的业绩就不 “跪”》
2022 年 2 月 11 日电话会《行业涨价外的 alpha，中芯国际扩产再进发》
2022 年 2 月 10 日财报点评《中芯国际：“涨” 声不停，业绩继续牛 | 读财报》
2021 年 11 月 12 日电话会《业绩超预期后却迎大跌，中芯管理层交流了什么？》
2021 年 11 月 11 日财报点评《别再质疑周期到顶了，中芯依然牛气！》
2021 年 8 月 6 日电话会《中芯国际 21Q2 财报后，管理层如何看待？》
2021 年 8 月 5 日财报点评《中芯国际：崛起的中国 “芯” 势力》
** 深度 **
2022 年 6 月 24 日行业深度《砍单砍单砍单，半导体真要 “变天” 了？》
2021 年 7 月 16 日公司深度《中芯国际（下）：被低估的中国 “ 芯”》
2021 年 7 月 9 日公司深度《中芯国际（上）：论龙头的攻 “芯” 术》
直播 2022 May 13th "SMIC (00981.HK) 2022 Q1 Earnings Call"
2022 February 11th "SMIC (00981.HK) 2021 Q4 Earnings Call"
2021 November 12th "SMIC (00981.HK) 2021 Q3 Earnings Call"
2021 August 6th "SMIC (00981.HK) 2021 Q2 Earnings Call"
2021 May 14th "SMIC (00981.HK) 2021 Q1 Earnings Call"
Risk disclosure and statement for this document: Dolphin Analyst Disclaimer and General Disclosure.
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