Welcome to the Semiconductor Manufacturing International Corporation's second quarter 2015 webcast conference call. Today's conference call is hosted by Dr. T.Y. Chiu, Chief Executive Officer, Dr. Gao Yonggang, Chief Financial Officer, Mr. Gareth Kung, Executive Vice President of Strategic Business Development, Finance, and Company Secretary, and Mr. Anling Feng, Vice President of Investor Relations. Today's webcast conference call will be simultaneously streamed through the internet at SMIC's website. Please be advised that your dial-ins are in listen-only mode. However, at the conclusion of the management presentation, we will be having a question-and-answer session, at which time you will receive further instructions as how to participate. The earnings press release is available for download at www.smics.com. Webcast playback will also be available approximately one hour after the event at www.smics.com.
Without further ado, I would like to introduce to you Mr. Anling Feng, Vice President of Investor Relations, for the cautionary statement.
Good morning and good evening. Welcome to SMIC's second quarter 2015 earnings webcast conference call. For today's call, our CEO, Dr. T.Y. Chiu, will first provide some general remarks. Afterwards, CFO, Dr. Gao Yonggang, will highlight our financial performance and give next quarter's guidance. Our Executive VP of Strategic Business Development, Finance, and Company Secretary, Mr. Gareth Kung, will give the detailed financial commentary. This will then be followed by our Q&A session. As usual, our call will be approximately 60 minutes in length. The earnings press release and the quarterly financial press download at www.smics.com under Investor Relations in the Events and Presentations section. Before I turn the call over to Dr. T.Y. Chiu, let me remind you that the presentation we'll be making today includes forward-looking statements.
These statements and other comments are not guarantees of future performance, but represent the company's estimates and are subject to risk and uncertainty. Our actual results may differ significantly from those projected or suggested in any forward-looking statements. For a more complete discussion of the risks and uncertainties that could impact our future operating results and financial condition, please see our filings with the U.S. Securities and Exchange Commission and The Stock Exchange of Hong Kong Limited, including our annual report on Form 20-F filed with the U.S. Securities and Exchange Commission on April 28, 2015. During the call, we will make reference to financial measures that do not conform to generally accepted accounting principles, GAAP. These measures may be calculated differently than similar non-GAAP data presented by other companies.
Please refer to the tables in our press release for a reconciliation of GAAP to the non-GAAP numbers we will be discussing. Please note that all currency figures are in U.S. dollars, unless otherwise stated. I will now turn the call over to our CEO, Dr. T.Y. Chiu, for the opening remarks.
Thank you, Anling. Greetings to everyone. Thank you all for joining us for this quarter's call. Today, I'm pleased to share with you SMIC's second quarter achievements, updates, and outlook. Despite the reported inventory adjustment in the industry, SMIC has achieved two quarters of consecutive growth in 2015, and we are guiding an additional quarter of growth for the third quarter. SMIC has successfully ramped up new customer products and new technologies to keep our fabs well utilized. The second quarter of 2015 was an excellent quarter. We had record high revenue of $546.6 million, as well as a record gross margin of 32.3%. Both shipments and utilization exceeded our expectations, resulting in 7.2% quarter-over-quarter revenue growth. We also achieved a record high profit attributable to SMIC in 2Q15. If a gain in 2Q 2010 from commitments to grant shares and warrants is excluded.
We believe that this excellent performance, compared to industry caution, was largely a result of the careful execution of our strategy which includes the diversification of products, technologies, and a close partnership with customers. I would like to reiterate the importance of our strategy, which is to differentiate and diversify our product mix to grow our company in a profitable manner. Our TDs and fabs are generating an increasing array of technology platforms, spanning from various flavors of 28 nanometer technologies to tailor-made technologies to meet customers' unique applications. To address our technology progress, 28 nanometer is in initial risk production. Our first batch performed well, achieving recognition from Qualcomm and mobile phone manufacturers. This marks a new era of 28 nanometer advanced mobile phone chips manufacturing in China. We target to start 28 nanometer revenue contribution in Q4 this year.
Our target for high-k metal gate is still the same, two to three quarters after polysilicon successfully ramps. In terms of 8-inch differentiated technologies, the demands remain strong. We have engaged with new and existing customers over the past few years on a number of new products, and anticipate revenue growth from this year and going forward. 27% of our revenue in the first half of 2015 is contributed by new products launched in the last year. With the diversification of our product offerings and technology mix, we have seen a non-handset related wafer revenue contribution increasing from 48% in Q1 2014 to 63% in Q2 2015. Looking at our 12-inch capacity utilization are also strong, with 65 and 40 nanometer running products with diversified applications. To address the strong utilization, we continue to improve operating efficiencies and adding capacity in order to grow our business.
As mentioned, last quarter, Shenzhen began operating in the second quarter of back-end bottleneck metallization, helping to boost Shanghai and Tianjin's 8-inch output. We will begin the full line of full flow operations in Shenzhen this quarter. By the end of this year, we target to have about 20,000 wafer per month installed capacity in Shenzhen. As a result of operational efficiency improvement, as well as new equipment installation, our Shanghai 8-inch fab increased 2K per month in capacity, and our Beijing 12-inch fab increased 1K per month in Q2 compared to the previous quarter. Our 12-inch fab in Shanghai maintained a 14,000 wafer per month capacity, mainly for 40 and 45 nanometer, as well as R&D. Among the 14,000 per month capacity, 6,000 per month is capable of 28 nanometer production. In August last year, we formed a bumping joint venture with JCET.
Equipment has been moving in and we have begun a qualification for our customer's product and technology. The qualification is going smoothly, and depending on the customer need, production is targeted to commence in 2016. At the end of June, we also announced the formation of a new R&D company jointly invested in by SMIC and our partners. The R&D company will first focus on developing 14 nanometer FinFET logic technology and will be China's most advanced IC development and R&D platform. We are very excited to be working with industry leaders to develop leading-edge technology and shorten time to markets. Our China revenue share has continued to increase in the past quarters, and in Q2, China region revenue contributed more than half of our revenue for the first time.
Not only are we gaining some market share from our China customers, we are also witnessing and helping some of our domestic and global customers gaining IC market share in China. China continued to be the largest consumer of IC globally and the largest manufacturing base for electronics. In the second quarter, China publicized its Made in China 2025 initiative, which aims to upgrade the manufacturing industry while prioritizing 10 sectors, one of which is the integrated circuit. With last year's publication of the National IC Promotion Outline and the Made in China 2025 initiative, it is clear that SMIC is in a key position as the largest and the most advanced foundry in China to capture the many opportunities stemming from China. In conclusion, we have achieved a strong first half with high utilization and are expecting growth again in this third quarter.
Our good performance has been a result of SMIC's careful execution of our strategy, which includes the diversification product and technologies. We are cautious about the second half, given the industry's inventory situation. However, we are optimistic about our future, given our position in China and our strategy. We stay committed to maintaining sustainable profitability and building value for all stakeholders. I thank you for your time. I will now hand the call to Yonggang for the financial highlight and the 2015 Q3 guidance.
Okay. Thank you, Ki-byung. Greetings to all our listeners. I will now highlight our second quarter 2015 results and our third-quarter guidance. Our revenue was a record high of $546.6 million in 2Q15, an increase of 7.2% quarter-over-quarter, and an increase of 6.9% year-over-year. Gross margin was 32.3% in 2Q15, a record high, compared to 29.4% in 1Q15 and 28% in 2Q14. Profits for the period attributable to SMIC was $76.7 million in 2Q15, compared to $55.5 million in 1Q15 and $56.8 million in 2Q14. Excluding the gain of commitment to Griseos and Viris in 2Q15, profits for the period attributable to SMIC was a record high in 2Q15, and China region revenue grew to a record high of 51.1% of overall revenue in 2Q15.
Looking ahead into the third quarter of 2015, our revenue is expected to increase by 1%-3% quarter-over-quarter. Gross margin is expected to range from 28%-30%. Non-GAAP operating expenses, excluding the effect of employee bonus accrual, government funding, and gain from disposal of living quarters, are expected to range from $134 million-$139 million. Non-controlling interests of our majority-owned subsidiaries are expected to range from positive $11 million to positive $30 million, which are losses to be borne by non-controlling interests. I will now hand the call over to Gareth for more details, financial commentary.
Thank you, Gao. Thank you, everyone, for joining us today. I will now comment on the details of our last quarter financial results. On the income statement, revenue increased to $546.6 million in Q2 2015, up 7.2% Q on Q, from $509.8 million in the Q1 2015, mainly because of increase of wafer shipments in Q2 of 2015. Cost of sales increased to $370.2 million in Q2 2015, up 2.9% Q on Q, mainly because of the increase in other manufacturing costs in Q2 2015. Gross margin increased to 32.3% in Q2 2015, up from 29.4% in the previous quarter. The change was mainly due to an increase in the fab utilization for the quarter. Operating expenses in Q2 2015 were $115.7 million, an increase of 10.8% Q1Q from $104.4 million in Q1 of 2015.
R&D expenses increased to $55.2 million in Q2 of 2015 from $53.5 million in Q1 of 2015. Excluding the funding of R&D contract from the government, R&D expenses increased by $6.8 million Q1Q to $65.6 million in Q2 2015. Funding of R&D contracts from the government was $10.4 million in Q2 2015, compared to $5.3 million in Q1 2015. General administrative expenses increased to $52.1 million in Q2 2015, up 22.5% Q1Q from $42.5 million in Q1 2015. Mainly because of, first of all, startup expenses relating to the two new fab projects and accrued employee bonus in Q2 of 2015. Excluding the effect of employee bonus accrual, government R&D funding, and gain from the disposal of living quarters, Non-GAAP operating expenses were $110.9 million in Q2 2015, compared to $99.7 million in Q1 2015.
Profit from operations in Q2 2015 was $60.7 million, compared to $45.5 million in Q1 2015. Other income was $11.9 million in Q2 2015, compared to $6.1 million in Q1 2015. Finance cost decreased to $2.4 million in Q2 2015, compared to $5 million in the previous quarter. The change was mainly due to the group have repaid some of the bank borrowings in Q1 2015, two, more interest expenses were capitalized as part of the cost of assets under construction in Q2 of 2015. Foreign exchange gains increased to $5 million in Q2 of 2015, compared to $120,000 in the previous quarter, mainly due to an appreciation of RMB against U.S. dollar in Q2 of 2015. Non-controlling interests were $5 million of credit to SMIC attributable profits in Q2 of 2015, compared to $3.9 million in the previous quarter. Moving to the balance sheet.
At the end of the second quarter of 2015, cash and cash equivalents increased to $766.2 million in Q2 of 2015 from $402.4 million in Q1 of 2015, mainly because of the closing of the private placement to China Integrated Circuit Industry Investment Fund in Q2 of 2015. If we include other financial assets, we had approximately $1.3 billion cash on hand at the end of Q2 2015, compared to approximately $1 billion in Q1 of 2015. Our long-term borrowing increased by $46.6 million and short-term borrowing decreased by $73 million compared to the previous quarter. At the end of Q2 2015, our total debt-to-equity ratio was 28.2%, compared to 32.9% in the previous quarter. In terms of cash flow, we generated $154.6 million cash from operating activities in Q2 of 2015, compared to $134.3 million in the previous quarter, mainly because of the increase of profit for the period.
Cash used in investing activities increased to $170.4 million in Q2 2015, compared to $148.9 million in the previous quarter. Cash from financing activities changed from an inflow of $185.8 million in Q1 2015 to an inflow of $379.4 million in Q2 of 2015, mainly because of the closing of the private placement to China Integrated Circuit Industry Investment Fund in Q2 of 2015. To examine our revenue by application, the communication and consumer segments contributed 49.4% and 37.7% of our revenue, respectively, in Q2 of 2015, compared to 44.2% and 46.3%, respectively, in Q1 of 2015. Geographically, revenue from China contributed 51.1% of total revenue. Revenue from North America contributed 32% of total revenue, and revenue from Eurasia contributed 16.9%. In terms of technology, revenue from 45/40 nanometers contributed 15.3%. Revenue from 65/55 nanometers and 90 nanometers contributed 25.2% and 4.8%, respectively.
Meanwhile, 123 micron and above line width contributed 54.7% of total revenue. In terms of overall capacity, total monthly capacity at the end of the second quarter was 255.8 thousand eight-inch equivalent wafers, compared to 251.5 thousand wafers in the previous quarter. The change was primarily due to an increase of fab utilization in our Shanghai inch fab and Beijing 12-inch fab. The overall utilization rate was 102.1% in Q2 of 2015, compared to 99.7% in Q1 of 2015. We reiterate our planned 2015 CapEx for foundry operation to be approximately $1.5 billion. The planned 2015 CapEx for non-foundry operation, mainly for the construction of living quarters, approximately $150 million. The group plans to rent out or sell these living quarter units to employees in the future. I now hand the call back to Anling for the Q&A session.
Thank you, Gareth. I would now like to open up the call for Q&A. As usual, please be reminded to limit your questions to two per person. Operator, please assist. Thank you.
Ladies and gentlemen, we will now begin the question and answer session. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, please press the pound or hash key. Our first question comes from Leping Huang of Nomura. Please ask your question.
Thank you to take my question. Congratulations for your very strong second quarter results. My first question is about your second quarter result. We see that most of your competitors suffer from the smartphone inventory correction in Q2, but you still have a very strong 10% revenue growth. I noticed that your system customer, also your customer from Eurasia, went very strong this quarter. Can you share any color how you achieved this strong result? Is it possible to share any revenue mix by the customer? I think you mentioned 63% from non-smartphone. What exactly the customer mix, the end product mix, I think, since investors are worried about the further smartphone inventory correction. This is my first question. The second question is about your 28 nanometer process ramp-up. Congratulations for the successful commercialization of the 28 nanometer process.
We see that your major customer, Qualcomm, has facing some inventory correction now. What will be the Qualcomm's weakness on the 28 nanometer will affect the ramp-up on the 28 nanometer process in the coming quarters? Do you have any B plan or the other customer which can offset the Qualcomm's weakness? Thank you. These are two questions for me.
Thank you, Leping, for the questions. I will address your first question about our performance in Q2, then Tzu-Yin Chiu will address the question on 20 nanometer. I think I would attribute our outperformance for this quarter mainly to the fact that, actually, started from second half of last year. We've been quite actively trying to diversify both our customer base and also our product technologies. As mentioned in Tzu-Yin Chiu's script, actually, our non-handset revenue have been increasing steadily since the first quarter of 2014. Some of the new applications that we have achieved success, including, for example, smart cards, including some of the non-handset communication application, for example, connectivities, set-top boxes, and others. That had been a very good strategy for us in terms of diversifying our revenue base.
As you know, we have been introducing a number of new technology into production this year, including the BSI technology for CIS and also for some of the MEMS applications. I think we are in a pretty good position right now in terms of our overall diversification of our customer base and also for our applications. The other thing is that even though you may see the overall smartphone growth have sort of slowed down, it also depends on which customers you are supporting as well. I think it so happens that in our case here, some of our customers are doing quite well in the smartphone space, despite the overall slowdown in the market growth. I think that also explains the outperformance for us.
This is Tzu-Yin Chiu. I also want to add a number of comments to say that despite the fact that the smartphone is going through some slowdown, what we see that some of our customers, they are increasing in terms of their market share in this smartphone area. Still, it's a huge market, when they increase their market share, I think that's really translate to a very large volume for us. Secondly, I'd like to talk about the 28. I think that certainly our partner, the largest partner, is a significant customer for us in 28. We also are looking forward to other applications, and we have at least four different customers approaching us, using our 28 and going through a new tape out. I think our 28 volume is still small, from this small basis, we can still maintain a reasonable growth in 28.
Thank you.
Your next question comes from the line of Mr. Randy Abrams of Credit Suisse. Please ask your question.
Okay, thank you. I want to expand on the last question on the business environment. If you could talk looking forward now for third quarter, the applications you see holding up to drive your third quarter to continue to grow. Could you give a comment on recent tone of business just over the past month, given a lot of the mixed reporting, if you've seen how the overall order environment, whether you've seen any pull-in or cancellations, and how it could imply for fourth quarter continuing to hold up?
We are seeing as given in our guidance, we are still guiding growth in Q3. I think that the strength that we have seen in Q2 will continue in Q3. Mainly, as I mentioned, applications to the smart cards, set-top boxes, and others. Also, Ty mentioned that some of the smartphone customers that we are working with, they continue to receive very strong demand in the market. That also translates into more orders for us. Right now, we cannot comment on Q4 because obviously the market is very dynamic. Overall, I think we are cautiously optimistic.
Okay, great. I want to follow up also on 28. Could you talk about now impact as some of those costs are getting held in OpEx ahead of the ramp? The outlook, if 28, let's say, turns on in fourth quarter with the impact on OpEx and cost of goods sold or gross margin as those costs come on. Then if you can provide an update on the Beijing fab, are you still planning that fully for 28? You could also do some of these 40 or 55 nanometer applications in that fab.
Okay. Let me comment on the 28 nanometer, and specifically the Beijing Fab. Indeed, in Beijing Fab, we are even from the very beginning to target a transfer of 40 nanometer technology as well as 28 nanometer. Right now, I think both are getting significant interest from the customers, so we see that Beijing Fab is doing pretty well. This year, however, like Gareth has mentioned, our overall CapEx will remain the same. The foundry-related CapEx is $1.5 billion. However, our P2, we will be holding
The B2 investment to 6,000 wafer per month. Because of the very high customer demand, we are planning to expand our Fab 8 to about 16,000 to 18,000 from the 14,000 per month case. Because Fab 8 expansion will generate a much faster capacity to meet our very tight customer demand. Yeah. In that case-
Yeah
our overall investment CapEx will remain the same.
Okay. Then could you comment on the OpEx and margin implication, I guess, when the Beijing Fab comes online, if we should factor more depreciation or a shift of cost from OpEx to gross margin?
Yes. Our Shenzhen Fab will go into commercial production in Q3, and our Beijing Fab 2, will go into commercial production in Q4. That will impact somewhat our gross margin. In terms of OpEx, you're going to see the peak of the OpEx in Q3, and it will come down significantly in Q4 because some of the expenses that was captured in OpEx will move to the cost of goods sold line. We will look at the OpEx back to about 20% level, excluding the R&D funding and also excluding the stock bonus accrual. Yeah.
Okay. My final question, just on the FinFET. You had a recent announcement that I think talked about the government objective to have FinFET by 2020. Curious on your timetable, just the plans for that R&D venture and when you could bring FinFET into commercial production. Thank you.
Could you repeat the question again?
Yeah. I think when you announced the R&D project for FinFET, there was more like a national objective to have FinFET production by 2020, which was in that original release. I'm curious when you're looking at your timeline, if you think you could pull that in, when your target to have the first customers ramp up for FinFET or potentially the risk production on that.
I think that we believe that it is maybe possible to pull in somewhat. Definitely, we have a goal to be able to go into production by this day 2020.
Okay. All right. Thank you.
Your next question comes from Steven Tseng of HSBC. Please ask your question.
Okay. I'm sensing you probably don't want to answer, is there any way you can quantify a little bit more specifically your 28 nanometer contributions and kind of ramp over the next few quarters or so? Also, maybe you could then quantify what you were just suggesting on the shift from OpEx to COGS. If we just assume in the fourth quarter, let's just say everything was flat revenues, but you had this shift. How much basis point impact to gross margins would we see? That's kind of my first question.
Yes, Steven, right now our plan is going to start mass production for 28 in Q3, we're going to see revenue contribution in Q4. Right now, I think it's a little bit difficult for us to quantify, because even though right now our products have been qualified, but also depending on the end market demands for our customers. We don't have a clear visibility at this point in time. In terms of the gross margin impact from the fact that both Shenzhen Fab and the B2 Fab go into production in the second half of the year, we have already given our Q3 guidance on the gross margin, which is ranging from 28%-30%. For Q4, right now, as I said, the market is very dynamic. Also, very much depend on the fab utilization overall.
We would not want to comment on the gross margin for Q4 at this point in time.
Okay. Well, just a quick follow-up then. If you think about it, the wafers that you're going to be starting here in the next few weeks or so is ultimately your fourth quarter revenues. Do you want to just give any general qualitative thoughts on fourth quarter at this point?
Right now, we are seeing the strength that we have seen in Q2 carry to Q3. So far for Q4, the indications have been still quite strong. As I say, right now it's too early for us to commit on any revenue numbers.
Okay. Last question, more of a longer term one. 13 quarters of profitability, three years plus, congratulations. Record revenues, record margins, congratulations again. The strategy has been sustainable profitability for that time period, and you've clearly delivered on that. Any new targets that we can talk about? ROE targets, cash flow targets? Is there some other metric we can focus on besides a vague above break-even target?
Yes. I think our target have remained the same. We still have this ROE target of trying to achieve 10%. I will also say that, we are going to start two new fabs in Shenzhen and in P2, in the next few months. As you can appreciate, as you start two new fabs, there will be some cost that will impact our gross margin. We are still working very hard in terms of securing more customers and also introducing more technologies to keep our fab fully loaded.
Okay, fair enough. Thank you.
The next question comes from Ken Hui of Jefferies. Please ask your question.
Thank you for taking my question. First, on your 3Q gross margin guidance, I guess, you hint that, part of the decline relative to 2Q is due to the Shenzhen fab. If this is true, and if we exclude the impact from Shenzhen fab, what would be your expectation for 3Q gross margin? That is my first question.
Yes. Right now, our forecast is based on the fact that our Shenzhen fab will go into commercial production in September. The impact, based on our estimation, is about 1%.
If this is the case, then if we exclude the impact, then the 3Q gross margin could be actually very close to 2Q, and can we take it as actually really a strong indicator going into seasonal slow 4Q?
As I said, right now, we do see that the order book for Q3 for us is still relatively strong. As I said, the market is very dynamic. I think we still have to wait and see what's going to pan out for Q4.
My follow-up is regarding your customer mix. I think it was mentioned earlier that we saw a big jump in terms of your revenue coming from system and other customers. Is the contribution mainly from the single largest system customer, or it is actually a combination of a diversified group of customers?
I think that right now we are gradually seeing that there are a number of system customers that's starting to utilize SMIC's service. It is a diversifying system customers.
They include Chinese and non-Chinese, right?
Yeah. That's true. Both are Chinese as well as global system customers. Yeah.
Okay, thank you very much.
The next question comes from Daniel Heyler from Bank of America Merrill Lynch. Please ask your question.
Yeah, thanks for taking my question. Congratulations on the sustained growth on your new product strategy, TY. I wanted to ask, it looks as though you had mentioned some key new product areas, smart cards and set-top boxes with good visibility into the third quarter. Is some of your caution relating to the fourth quarter relating to sustainability of that, or is it more the rest of the business, the core business that's shaky because of the high inventories? I just wanted to get a feeling for the visibility in both of those areas, both new products and core business, as you look out to your order book for fourth quarter right now.
Okay. As Gareth said, our recent weeks, still we are seeing the order books remaining relatively stable into the fourth quarter. However, we do see the industries, in general, our industry peers, reporting a very cautionary view. We are also seeing some macroeconomic shifts, for example, that some of the foreign exchange fluctuations that may be affecting the overall IC market. We need to have some time to see a stabilization of these factors. Although we remain cautiously optimistic, we still think that the visibility in the fourth quarter is not good enough to give a very firm comment.
Yeah. It sounds like you have very good visibility on new products, but you're just not sure about the rest of the business because of the macro situation. Is that right?
That's correct. Yeah.
Okay, great. Thank you. Looking at the R&D credits in the second quarter, and the property gains, and then some Forex gains. It looks like a net benefit relative to first quarter from these to be almost $20 million net benefit, which is about what your profit increased by. I'm wondering why, but your revenue was up about $35 million. I'm trying to understand, excluding these non-credit items, why the profits aren't going up as much. Perhaps maybe talk about the third quarter dynamics there, where you have R&D credits and property maybe playing out again in the third quarter guidance as well.
Dan, I'm not quite sure about your question here. Can you repeat it?
Yeah. As you mentioned in your statements, that FX gain, I think you said, was up about $5 million from the previous quarter. The non, if you exclude the disposal gain, looked like it was about a $10 million gain there. Also your bonus, the R&D funding went up about, I think, $5 million, did you say? You had a $5 million. If you add those three, that's $15 million right there of operating gains. Is that right?
Not quite right, actually.
Okay.
We did not record any disposal gain in Q2. Our foreign change had gained about $5 million, Our R&D funding increased about $5 million. Our net income actually increased about $20 million.
The one-offs were more like $10 million. Is that right? The one-off gains.
If you look at it this way, yes.
Okay, got it. Okay. As you look into I know that these are tough to predict, but should we continue to model maybe some credits going forward into the third quarter, both the R&D credits plus the disposal?
I think that we mentioned that for our full year R&D, government funding is about $45 million-$50 million. I think this is still on target for us. We may be booking some disposal gain in the second half this year from selling some of the living quarter unit to our employees.
Excellent. Okay, great. On the final product question here is, CapEx, $1.5 billion looks pretty much back-end loaded. I think you did only $360 million. How much is left do you expect to actually spend on a cash flow basis for second half CapEx? The $1.5 billion is the budget. I'm wondering, from a cash flow perspective, how much do you think you'll spend in the second half of the year? Thanks.
Dan, I think I need to get back to you in terms of when you asked me about the CapEx on a cash flow basis. Maybe we can talk about it separately.
Remaining on the budget is, was it about $1 billion that's left for the second half, or what's the remaining balance on the budget?
For the CapEx?
Yeah, you spent $370. What was the first quarter spend?
The spending in the first two quarters is already about $500 million.
How much?
You're right. About $500 million.
Okay
on the foundry CapEx so far.
Yep.
You're right, the rest of it will be spent in the second half of the year.
Excellent. Okay. I'll get back in the queue. Thank you.
Thank you.
Your next question comes from Gokul Hariharan of J.P. Morgan. Please ask your question.
Hi. Congrats on the great gross margin performance. A couple of questions. First of all, a more bookkeeping question on the depreciation side. I remember last time you guided for depreciation this year to grow about 3%. When I look at the run rate so far, the run rate seems to be much lower than last year. Could we have an update on what we expect for full year depreciation this year? As well as what kind of a step up should we expect on the depreciation side once the Beijing fab and the Shenzhen fab come online? That's my first question.
We are now seeing there will be about $7 million increase in depreciation in Q3. Another about $20 million increase in Q4. Overall for the year, the depreciation will be in the range of $535 million-$540 million. Year-on-year is a little bit lower than last year. That is right now our depreciation forecast.
Should we be expecting that to continue to increase in first half next year, given, like you answered to Dan's question, a lot of the CapEx is coming in second half of this year. Is that a fair expectation?
Yes, we should see some increase in depreciation next year.
Okay, great. Second, a bit more of a longer-term question. I think you guys have mentioned some products on the memory side. There's been a lot of talk about China getting involved in memory, especially on the NAND side. Is memory something that SMIC would be involved in at some point, participate in China's memory ambitions? What would be the nature of the involvement? Is it going to be kind of a partnership, or you're going to be taking a stake in companies like XMC or something like that? Could you talk a little bit about what your plans are on the memory side? Thanks.
Yes. The memory side, we have in the past 10 years, always had a memory effort, and at this moment, SMIC has a specialty, NAND and NOR technology to serve smartphone cold storage applications. This is our main targeted market area. We remain focused in the logic applications. At this moment, indeed, if there are other discussions going into memory in a large scale, SMIC is not actively considering it.
Okay. Thank you very much. Thanks.
Your next question comes from Sujeet De Silva of Topeka. Please ask your question.
Hi. Congratulations on the strong results here. With the utilization so strong, I'm wondering, were there any customers you had to put on allocations or any delinquencies in the second quarter that are flowing through to help you with third quarter visibility?
Yes, there are.
Okay, great. My other question was, what's the utilization implied in the third quarter gross margin guidance aside from the fab coming online? Thank you.
Right now, our guidance based on very high nineties utilizations.
Okay. Maybe one last question. With China growing so much as a % of revenues, is China going to get to be an even bigger part of the revenues a year or two out here? Or is there an effort to offset that with non-China customers to diversify? Would China get to be 60%-70% of the revenues the way things went track in a few years? Just curious on your thoughts there. Thank you.
I think that for SMIC, we have the full intent to be a global technology service company. It is not our intent to pay attention only to China market. When we ramp up our 28, I think there will be a significant return of our U.S. revenue. In addition, you can see that we are also gaining share and gaining market both in Japan as well as in Europe. Indeed, there is a steady increase in the China revenue as a %, we have not relaxed in our effort in other area and continue to work diligently and work as hard as possible to gain customers from both U.S. as well as Europe, Japan.
Thank you.
Thank you.
Your next question comes from Xie Hao Ng of BNP. Please ask your question.
Hi. Good morning, gentlemen. Congratulations on a strong quarter. Is it fair to say that our company is a net beneficiary from renminbi appreciation? It will be helpful to get some sensitivity analysis. I have a follow-up.
Yes. We recognize there was a one-off depreciation in RMB yesterday. Given the fact that actually we do have substantial costs which are denominated in RMB, and most of our revenues are in US dollar, I think this is going to be positive for us.
I see. All right. Any sensitivity analysis you can share, or is it a bit complicated?
I'm sorry.
Any sensitivity.
Sensitivity.
Yeah.
I think the impact would not be very big because right now, about maybe 20% of our cost, 20%-30% of our costs are denominated in RMB.
Okay. All right. I see. The second question regarding the bumping JV, is it more like to handle the captive demand, or they are free to approach outside customers?
Yes. That JV is fully actually capable of receiving outside customers. Although we hope that a significant amount of the capacity will serve SMIC's own customers.
Okay. All right. Okay. Thank you very much.
Your next question comes from Rick Hsu of Daiwa Securities. Please ask your question.
Yeah. Hi. Good morning, guys, and thank you so much for taking my questions. This question on the 28 nanometer ramp-up. I think initially, you guys talked about this start to ramp up in Q4, but I think initially, this node should be kind of margin dilutive. How do you guys expect this 28 nanometer to ramp up to reach your corporate average margins? How many quarters do you guys expect to take?
It also depends on the market demand as well. You're right that as we start initial production for 28, it will be margin dilutive. We think that as we are able to ramp into an economic scale, for example, in about 20K-25K, the margin should get close to our corporate average.
Okay. Yeah, that's very clear. Thank you so much. Just another follow-up to the 28 nanometer question. Apart from this big customer, Qualcomm, can you share with us your view that how many more new customers are you guys working with for 28 nanometer ramp-up, especially maybe for next year or so, and in what applications in terms of product applications? How many more customers you guys are working with in what kind of applications? Also share with us how many tape-out you guys have so far for 28 nanometer.
Okay. Yes, indeed, we have four or five customers right now already working with us. At this moment, the application spans from the TV set-top box, besides the smartphones, a lot of other consumer applications. We are seeing a significant diverse applications in our 28 technology. Let me calculate. At least right now, we have about six NTOs that is running or will be running within the third quarter.
Also tape-outs. How many tape-outs do you guys have so far?
I mean, the six NTOs. Six tape-outs.
Yeah. Okay.
Sorry.
All right. Thank you so much.
That would be our last question at this time. I would now like to hand the call back to our CEO, Dr. Chu, for the closing remarks.
In closing, I would like to thank everyone who participated in today's call, and again, thank all of you, our shareholders, customers, employees, and suppliers for their trust and support. See you next time.
This is the end of SMIC's second quarter earnings conference call. We thank you for joining us today.