Welcome to TSMC's Q3 2015 earnings conference and conference call. This is Elizabeth Pan, TSMC's Director of Corporate Communications and your host for today. Today's event is webcast live via TSMC's website at www.tsmc.com. If you are joining us through the conference call, your dialing lines are in listen only mode. As this conference is being viewed by investors around the world, we will conduct this event in English only.
The format for today's event will be as follows. 1st, TSMC's Senior Vice President and CFO, Ms. Laura Ho, will summarize our operations in the Q3, followed by the guidance for the Q4. Afterwards, TSMC's 2 Co CEOs, Doctor. Mark Liu and Doctor.
C. C. Wei and CFO, Laura Ho, will jointly provide our key messages. Then we will open both the floor and the line for the Q and A. For those participants on the call, if you do not yet have a copy of the press release, you may download it from TSMC's website at www.tsmc.com.
Please also download the summary slides in relation to today's earnings conference presentation. As usual, I would like to remind everybody that today's discussions may contain forward looking statements that are subject to significant risks and uncertainties, which could cause actual results to differ materially from those contained in the forward looking statements. Please refer to the Safe Harbor notice that appears on our press release. And now, I would like to turn the podium to TSMC's CFO, Ms. Laura Ho, for a summary of operations and current quarter guidance.
Thank you, Elizabeth. Good afternoon, everyone. Welcome to join us today. I will start with the financial summary for the Q3 and followed by the guidance of the Q4. In the Q3, demand for TSMC wafers was essentially flat with the Q2, mainly reflecting customers' cautious inventory management.
However, a stronger than forecasted U. S. Dollars against NT dollars caused our 3rd quarter revenue to exceed the high end of our guidance given in July. On a sequential basis, revenue increased by 3.4 percent to NT213 billion dollars and the gross margin decreased 0.3 percentage points to 48.2 percent as the benefit from higher capacity utilizations and the favorable exchange rate were outweighed by unfavorable inventory management and the margin dilution from 16 nanometer. During this quarter, we ceased TSMC Solar operations and incurred a loss of NT2.8 billion dollars Among the total, about NT400 1,000,000 was recorded in cost of goods sold and $2,400,000,000 in other operating expenses.
The loss dragged down our operating margin by 1.3 percentage point and reduced our EPS by about $0.08 Operating margin in the 3rd quarter decreased 0.6 percentage point to 36.9%. Without this one time solar write off, our operating margin would have been 38.2%. For non operating items, ASML shares disposal again were $3,700,000,000 or $0.13 in EPS. For comparison, in the second quarter, we recorded $20,000,000,000 disposal gains on ASML and Vanguard shares. With all these items, our 3rd quarter EPS was $2.91 Now let's take a look at revenue by application.
During the Q3, communication, computer, consumer and industrial increased 1%, 15%, 3% and 11%, respectively. This number reflected a change in favorable foreign exchange rate already. In terms of revenue by technology, we are pleased to report a Q1 of 60 nanometer volume shipments. 60 nanometer and 20 nanometer combined contributed 21% of our total wafer revenue in the 3rd quarter. Moving to the balance sheet.
We ended the 3rd quarter with cash and marketable securities of TWD525 1,000,000,000. Current liabilities decreased by TWD108 1,000,000,000, mainly as we paid out RMB 117,000,000,000 of cash dividend in July. On financial ratios, accounts receivable turnover days decreased 2 days to 42 days. Days of inventory decreased by 3 days to 59 days. As we now have lower days in working process inventories and we shipped the 20 nanometer wafer we prebuilt last quarter.
Lastly, I would like to make a few comments on cash, cash flow and CapEx. During the Q3, we generated NT118 billion dollars cash from operations, invested $70,000,000,000 in capital expenditure and paid out $117,000,000,000 cash dividend. Additionally, we received about $15,000,000,000 from disposal of ASML shares and borrowed $28,000,000,000 in short term loans for currency hedging purpose. As a result, our cash balance decreased $13,000,000,000 to $516,000,000,000 at the end of the third quarter. So I just finished the summary of the 3rd quarter financial outcome.
Now let me turn to the 4th quarter outlook. Due to the weaker than expected end market demand, customer continue to manage inventory cautiously. Meanwhile, 60 nanometer will ramp strongly and contribute more significant revenue in the 4th quarter. Based on our current business outlook and exchange rate assumptions of US1 dollars to NT32.71, we expect our 4th quarter revenue to be between NT201,000,000,000 and NT 204,000,000,000 Gross profit margin to be between 47.5% percent 49.5 percent and operating margin to be between 36.5% 38.5%. You may notice that the midpoint of gross margin guidance is slightly higher than 3rd quarter gross margin despite lower revenue.
This is because we expect our cost improvement and favorable inventory valuation adjustment to fully offset the impact from lower capacity utilization. In addition, the expiration of the remaining hedging contract of ASML will contribute about $0.01 per share in the Q4, and that will be end of the total accounting treatment. This concludes my remarks. Now let me turn the call in to Co CEO, Mark Liu, for his comments.
Good afternoon, everyone. I'd like to give you some remarks, some messages here. My message has 3 parts. First, I'll talk about near term demand. I'll describe the background color.
And I'll talk about TSMC's long term growth drivers. Then the 3rd part is leading edge technology development update. Now first, the near term demand. This year, due to a weaker global economy, a stronger U. S.
Dollar environment and a volatile financial market, the electronic device market has been negatively impacted, resulting a lack of growth in the overall semiconductor market. In addition, we see the unexpected slowdown of the economy in China since the Q1, resulting in a continued sluggish smartphone demand in China. This led to our relatively flat revenue growth in the 3rd quarter. And we think the inventory level in the fabless industry will be still above seasonal normal by about 10 days at the end of the third quarter. Looking forward, we see the active inventory reduction actions in the fabless companies continue into the 4th quarter.
Nonetheless, our accelerated ramp up of 16 FinFET plus technology supporting high end smartphone market did uplift the otherwise weak wafer demand. Therefore, we forecast a moderate decline, about 4% to 5% of revenue from the previous quarter. We estimated the fabless industry inventory will likely settle to a seasonal level towards the end of this year, albeit some uncertainty on this still exists. Given the 4th quarter guidance, TSMC should be able to deliver a double digit growth at about 10% to 11% year on year in 2015, thanks partially to the stronger U. S.
Dollar. Our 2015 forecast of the growth of smartphone unit shipment is 10%. PC for the industry is minus 6% Tablets, minus 14% Digital Consumer Electronics, minus 6%. The semiconductor industry growth is about 0%, and our fabless industry growth is minus 5%. The next part, I will talk about TSMC's long term growth driver.
In the past 3 to 4 years, the growth of smartphone market has propelled TSMC's growth. Recently, we see the total unit growth of smartphone appears slowing. However, the silicon content in all segments of smartphone continues to increase. This silicon content increase particularly shows in a high end smartphone. For example, the unit growth of high end smartphone this year will be about flat, but the silicon content of the high end smartphone will still have a mid teen percentage growth.
We see the bifurcation of high end and mid low end smartphone markets continues. And the high end smartphones, which provide richer features, higher performance and lower power consumption, will continue to drive the demand of leading edge technologies. We stand to benefit from this trend. Smartphone will continue to provide growth momentum for TSMC in the next 2 to 3 years. TSMC holds our corporate mission of being the trusted technology and capacity supplier in the logic semiconductor industry for years to come.
We work closely with many of our partners and collaborate with them to produce the best product in many market segments, each with differentiations of its own. From that, we see several drivers of future demand growth. It is very encouraging. Three areas that we will soon add to the growth of TSMC in the coming years. 1st, computing market.
In addition to the smartphones, we see faster growth of processor unit demand in many applications. With the Internet traffic near exponentially increasing, people are to extract intelligence out of the mountains of data. Extensive computation not only needs to be done in the data center, much must be done in a network as well as the distributed edge of the network. Image processor, CPU for automotive, CPU and GPU for augmented reality and virtual reality are examples. 2nd, fabless system company.
We now see a new breed of fabless system companies coming to join the plate of semiconductor product innovation. With the enhanced SoC integration and system software and hardware integration, new usage models with brand new markets are opening up for the semiconductor industry. We have been working with these fabless system companies for several years.
3rd,
Internet of Things. As billions of things are connected to Internet, with sophisticated computing and analysis, they soon will become intelligent enough to create new user experiences and to improve efficiency in many aspects of life, work and leisure. Recently, we see fast innovation taking place in areas such as cars, drones, robots, wearables and smartphone devices. Working with innovators around the world, we continue to see the insatiable need of performance of leading edge technologies. We also see the need of advanced packaging technology to increase the overall system performance.
Thus, we will continue to increase the pace of our leading edge technology development. Leading edge technology will continue to be the major driver of TSMC's future growth. The third part, I'd like to update you about our leading edge technology development. Our 10 nanometer technology development is well on track. This technology has a logic density of 2.1 times of its previous generation, that's 16 FinFET plus with performance of 20% enhancement or a power consumption reduction of 40%.
During this quarter, we will freeze the process and begin technology qualification for our 10 nanometer technology. Customer product paypiles will soon begin in next spring. TSMC's 7 nanometer technology will fully leverage of our 10 nanometer EU learning and the progress of our 7 nanometer is well on track as well. The migration from 10 nanometer to 7 nanometer provides substantial improvement in performance, power and density. We are very happy to inform you that fully functional SRAMs on our 7 nanometer have already been demonstrated.
On advanced packaging development, our InFO technology will enter high volume production with our 16 nanometer technology next year. We are currently working on the 2nd generation info technology for several projects of system integration on 10 nanometer and 7 nanometer. Above is my key messages. Thank you for your attention. I'll turn the podium to C.
C. Wei.
Good afternoon, ladies and gentlemen. I will update you the status of our fab operations on the following topics. First one, 28 nanometer. Due to customers expediting their inventory management, as Mark just pointed out, the demand for our 28 nanometer has been reduced in the 4th quarter. As a result, 28 nanometer utilization rate came down from above 90% in 3rd quarter to a level below 80% in the 4th quarter.
However, the outlook for 28 nanometer remains very promising, thanks to our newly developed 28 HPC and 28 HPC plus technologies. These 2 new technologies not only suit the mid to low end smartphone requirement, but also highly useful for other applications such as Wi Fi, digital TV, set top box and image signal processor, etcetera. Overall, we expect we will ship similar amount of 28 nanometer wafers this year as we did last year, and we expect to ship more 28 nanometer wafer next year. We have increased our market segment share in 28 nanometer this year. We believe our technology and cost advantage will enable us to compete well.
Going forward, we expect to continue to protect our market segment share and gain a good profit. Next, on 20 nanometer. Because of generally weaker demand, as Mark described, and several customers have accelerated their product migration to 16 FinFET plus the demand for 20 nanometer this year was somewhat short of our estimate made at the beginning of this year. That said, we continue to stand by our early prediction that revenue from 20 nanometer this year will be at least double the level we have last year. Given the demand outlook change and the high ratio of common tours, we will continue to convert 20 nanometer capacity into 16 nanometer.
Now let me update you the 16 nanometer. We began high volume production of 16 nanometer in 3rd quarter as planned and saw revenue contribution from 16 nanometer become better than we expected earlier. 16 nanometer year improvement is progressing very well, setting a new record internally for ramping up a new technology node. In addition to 16 FinFET plus we are developing 16 FinFET C for the door application. I'm sorry.
Today, we have already completed the 1st phase of 16 FFC and obtain good results. Between 16 FFC Plus and 16 FFC, we will have around 100 product takeouts from about 40 customers before the end of 2016 with very comprehensive portfolio, including mobile, networking, CPU, FPGA, consumer and GPUs. We believe our 16 nanometer portfolio, including 16FF plus and 16FFC are very competitive. We anticipate continued ramp up into 2016 as multiple customers in both mobile and consumer applications will drive the production in parallel. Similar to 28 nanometer, we believe 16 TwinFET will become a long node supporting multiple high volume market applications.
TSMC's technology advantage should allow us to capture a large majority of this demand. Now let me update info. We have completed the construction of the new facility in Long Tan and ready for imports of volume production. The manufacturing equipment move in is on schedule and also we target volume ramp up at Q2 next year. Compared to existing package scheme, TSMC's info can bring greater than 20% reduction in overall package shipments, 20% speed gain in performance and 10% better in thermal performance for power generation.
So we are now InFO technology is capable and well positioned to enable next generation mobile applications. So right now, we continue to work with major customers on completion of their product qualification. Meanwhile, we are developing the next generation Inflow process, as Mark just said, for the future application. Our expectation of InFO contributing more than US100 million dollars Quarterly revenue by 4Q 'sixteen remain unchanged. Now let me update on specialty and 8 inches fab.
In order to meet our customers' requirement on the more and more demand, we have developed specialty technology based on our logical processes. We have been doing this for more than 15 years by now. Applications such as MEMS, power management, CMOS image sensor, high resolution display driver and high precision analog have been the main drivers for the specialty technologies. After these years' effort, demand for these specialty technologies has grown substantially and account for more than 70% of all the 8 inches fabs business. Some of the specialty applications have also moved to 12 inches fab, of course.
We expect this trend will continue and we are preparing sufficient capacity, both in 8 inches 12 inches fabs to address the need for specialty technology. Thank you for your attention. Now I'll turn the podium to Laura.
I have a few comments. So let me start with 2015 CapEx. 6 months ago, we gave our 2015 CapEx guidance in the range between US10.5 dollars to US11 1,000,000,000 dollars Due to a combination of factors, including efficiency gains, capital investment program changes, capital deployment schedule changes and foreign exchange rate changes. We now expect our 2015 capital budget to be about US8 $1,000,000,000 On these changes, about 33% or onethree of the reduction of CapEx is due to operating efficiency gains. That led us to spend less money, but still have the same output.
Another one, about 30% of the reduction is due to changes in investment projects, including the conversion between 20 nanometer and 16 nanometer. Another one, about 20% of the reduction is due to changes in capacity schedule. Lastly, the remainder, about 17% of the total reduction is due to the strengthen of U. S. Dollars against euro, Japanese yen and NT dollars.
We expect our 2016 capital budget will be higher than this year. Next one is regarding our structural profitability. In the last few years, we have been able to maintain or improve our structural profitability despite making heavy capital investment. This is mainly due to three reasons. Number 1, operation innovations leading to productivity efficiency and the better asset effectiveness number 2, very careful planning and the build out of capacity number 3, fast year learning when ramping new nodes.
All these three factors allow TSMC to enjoy a large cost advantage, which leads to a better structural possibility. TSMC's cost reduction efforts are as intense as our R and D efforts. As a result of our cost reduction, we have been able to maintain our structured profitability in spite of price pressure, and we expect to continue to do so in the foreseeable future. I'll talk about our solar operations. There has been a lot of changes in the world, solar industry, since we started our solar operations 6 years ago.
Capacity overbuilt in the solar module industry coupled with the substantial price decline has made TSMC Solar's future highly doubtful. Despite hard work at TSMC Solar throughout this 6 year period, we have decided to terminate its operations at the end of August this year. Owing to this change, we have evaluated financial impact across all accounts. The total impact is about NT2.75 billion dollars which reduced our 3rd quarter operating margin rate by about 1.3 percentage points and reduced our 3rd quarter EPS by about 0 point 0 $8 TSMC will continue to honor all product warranties that have been offered to existing customers. And we also extended employment offers to all employees working at TSMC Solar Taiwan at the time of the closing.
My last comment is regarding China investment. In the last several months, we have been actively evaluating the potential investment of a 12 inches fab in China. The consideration includes the positive development of semiconductor market in China and a large pool of engineering talent. On the other hand, the manufacturing cost will be higher in China than in Taiwan due to lack of economy of scale and many other reasons. So as of now, we are still evaluating the potential investments.
This ends my remarks. Thank you.
All right. This concludes our prepared statements. Before we begin the Q and A session, I would like to remind everybody to limit your questions to 2 at a time to allow all participants an opportunity to ask questions. Questions will be taken both from the floor and from the call. Should you wish to raise your questions in Chinese, I will translate it to English before our management answers your questions.
Our first question comes from the floor, and it will be from Deutsche Bank, Michael Zhou.
Thank you. Two questions. First question is regarding your 16 nanometer FMC, would that enter mesh reduction in the second half next year or 2017? That's the first question. Thank you.
That was to repeat your question, you said that it will be in the second half of next year and enter into all 2017. Our initial schedule is actually in 2017, but we might pull you because right now, we have 2 versions of 16 FSC, one is shrink and the other one is on shrink.
Second question is regarding your info, will customer use 2 d or 3 d in the future or is 2 d down?
Sorry. Right now, it's 2 d.
Yes. And
in the future, of course, we are going to the 3 d dimension.
Do you think the 3 d
year rate will be similar to 2 d year rate? We are working on
it. All right. Next, it will be coming from the floor again. That will be from Credit Suisse Randy Abrams.
My first question on 16 nanometer. Some of the 3rd party benchmarks are showing good performance, better battery life than your competitor. I'm curious if this could trigger some incremental strength for your 2016, how you see the ramp up now in 2016 relative to 20% where it ramped to 20% of revenue pretty quickly?
I think Randy's question is whether or not the reported differences in the chip will lead us to have more demand.
We are very confident on our technology, of course. And if you say what reported in the newspaper, I would say that we our customer already made an announcement that there is a very minimal difference between TSMC and our competitors in the normal usage condition. And we respect their analysis.
If I could ask a follow-up just on 2016 and on the second question. How are you seeing now then the ramp of 16 are broadening out to additional customers? Should we expect contribution and diversification of the customer base to grow quite a lot in the next couple of quarters? Or do we need to wait for 16 FFC for that We
expect the ramp up and probably quicker than 20 SoC. And we develop FFCs. Certainly, we hope that the 16 nanometer will become a major node. And so we expect that more business, of course.
My second question on looking ahead because you talk about normal inventory by the end of the year. If you could talk the last 4 or 5 years, you've actually held flat sequentially Q4 to Q1. If we should think normal inventory, do we have restocking again in Q1 where we could have similar the new post price of seasonality where things are stable? I guess if you can give a view how we look for demand in inventory into Q1?
The inventory in the Q4, our estimate is close to seasonal normal. But as you know, the inventory going to Q1 really depends on the burn rate in the Q1. That estimate still is a 3 month backward numbers. So that's why I mentioned about some of the uncertainty at the end still exists. But we certainly hope that Q1 next year will come to a normal quarter.
All right. The next question will be also coming from the floor. It will be JPMorgan's goku, Harry Hana.
Hi, thanks for taking my question. My first question is on the new opportunities that you mentioned on the computing side. Could you talk a little bit about what are the developments that you're seeing? Are we going to see the opportunity from the computing side primarily on the data center side coming through? And also maybe a quick stab at what you think the opportunity could be in the next, say, couple of years on the computing side?
And I have a second question to follow-up. Let
me repeat the question so that I make sure
I answer Yuan.
You mentioned about asked me to comment more on the computing side, whether the computing side is more on the data center or other areas?
On the client computing
side.
Yes. I think TSMC has been in supplying the processors, distributing processors in bigger shares. And more recently, we see the processors growth increasing. And therefore, we think the computing market, we meant not just data center, but also the distributed processors, namely application processor. If you look at the application process, the unit growth is much faster than smartphone growth, microprocessors.
Image processors, when you diagnose absorbed images, you need to process on-site. And we still fall quite short about the capability of an automated car, for example. And network processor is also important. And of course, we include microprocessors and CPU definitely is one area. By CPU, I mean the Chromebook type of distributed processors.
That area we think we see growth and we believe as the data continue increasing, the local processing capability has to increase tremendously.
And when you scope out this market, do you see this market probably exceeding what the current mobile application process or mobile process market is? Or any kind of estimate that you can talk about within a bit more longer term horizon?
Well, it is hard to estimate because usage model, the service, those big data service, analytic services are still yet to prevail to our lives. So at this point, it's not as big. And I think it will take off before the smartphone growth stops.
Okay. Just my second question is on the CapEx intensity. I think previously, Laura had mentioned that we've come down to a 35% level in CapEx intensity. I think this year, we are down to around 30%. Should we think about the $8,000,000,000 CapEx this year as kind of a one off and then we kind of go back to the normalized like $9,500,000,000 $10,000,000,000 kind of levels or even higher that we saw in the last few years?
Or just some color, initial color in terms of what kind of CapEx jump are you expecting next year as you support some of this newer opportunities as well?
Just mentioned this year, dollars 8,000,000,000 is kind of low. And next year, expect to be higher than $8,000,000,000 That's too premature to give a precise number. Back to my earlier comment of the future CapEx intensity will be at a mid-thirty level. I still that statement still holds. I think it will be within 30% to 35% range.
Okay. Thank you.
All right. Next question will be coming from the floor. It will be Goldman Sachs Donald Lu.
Liu. My first question is about CapEx. So TSMC CapEx quite substantially in 3 months. Last time we had the guidance back in July. And I think there are three reasons.
I think the efficiency gain and conversion, those things doesn't seem like it's something you just find out in the last 3 months. Is there anything new that you realize that make you to change CapEx so much? Or is that and also I remember in the past, we always talk about the CapEx today for production a year later. Do you become very cautious about something next year? Thank you.
CapEx management is a continued effort. As you said, it's just come out in 1 month or 2 months. So, we have seen the trend. But in the last quarter, I mentioned about the CapEx. We still hold the original number, but there may be some changes.
So, things evolved and we continue the effort to drive the CapEx efficiency. And we have gained a lot of experience doing this in the company. So, if you look at the reductions, actually more than half is truly effort. Efficiency gain, of course, with some help from foreign exchange rate and some program change, including the migration and schedule change, that's response to the market. Some of them will be shipped to the next year.
Okay. My second question is on 16 nanometer ramp. CEC, you talked about it's going to be faster than 20 nanometer. Would that imply it will be over 22%, I believe, in Q1 next year of your total revenue?
Right now most of the volume come from 1 single customer. So it will be very difficult for me to give you the exact number to say with that is a quarter percentage. Otherwise, I release too much of information.
Okay. But it will be faster than
20 nanometer. It won't be faster. That's what we say.
Okay. Thank you.
All right. Next, it will be from Citigroup's Roland
Good afternoon. I think it's unusual for TSMC have this within quarter pre announcement also give the guidance 1 month ahead of the revenue earnings release. So just wondering what have you seen by then and how does it compare with the view now? Is it improving or is it stabilized or even your RTC rating? Thank you.
Okay. Let me take these questions. The announcement we did on September 23 is a pre alert. Actually, we have given better guidance for Q3. So, it's not really regarding Q3.
Being a transparent company, we like to be transparent. We kind of view the expectation for the rest of the year analyst expectation for the rest of the year may be higher than our forecast. So we feel there's a need to come out and say something. That was the basis
for the announcement. Okay. And so now for the 4Q revenue guidance, low end is higher than what the company guided a month ago. So that means that we are actually seeing more confidence on the demand side.
I recall the alert. We gave a higher range, a bigger range. I was saying, in the RMB198,000,000,000 to RMB 204,000,000,000. Now the range gets smaller, but toward the high end side. As time goes by, we have more clear picture of what we are looking at in the Q4.
And also for the margin forecast, I think in 3Q, we have margin impact by the inventory variation adjustment and also for this 60 nanometer ramp dilution. So, are these going to be the key impact in 4Q or going forward? How about, is there any margin downside impact upon this one?
The inventory is related to the utilization changes, not too much about how big utilization changes. Whether it's an upswing, there will be a negative inventory adjustment. Whether it's a downswing, there will be positive inventory adjustments. It has been like that for a long time. The other one is 16 things like dilution.
Since we just started renting and there will be some dilution, We expect the dilution will be smaller next year, about 1 percentage point to corporate average. And beyond that will be less than 1 percentage point. So it will be smaller.
So the whole year impact will be 1 percentage point.
For this year, it's 2 to 3 percentage points. Next year, it will be about 1 percentage point. After that, it will be more smaller than 1 percentage point.
Okay. Thank you. My second question is for the 15 nanometer info. So how many percent of the 15 nanometer wafers is adopting info packaging next year?
That's a question pretty hard to estimate at this time, but I would say is quite a portion of it.
Okay. So by this definition, how are you going to build your info capacity accordingly?
According to customers' demand, of course.
Okay. Thank you. And I think one last question. Yes, even for the 15 nanometer, the 50 nanometer is going to be a long node, same as the 20 nanometer. So what is the ultimate capacity you are going to build for 50 nanometer?
It will be according to customers' demand again.
Thank you very much.
All right. Next will be questions will be coming from the floor. It will be UBS Eric Chan.
My first question very quickly, Laura, you talked about the CapEx car, right? And how about the capacity of the plan? And for the 8 inches what kind of capacity expansion we should put on our model for this year? And how about the 28 nanometer process? Can you give us update more in February?
Thank you.
I will talk about the company as a whole capacity plan. With the CNY 8,000,000,000 CapEx I was talking about, we expect the year over year capacity for the TSMC will increase by 12% combined, mostly majority 12 inches
I see.
So no idea for the 28?
I prefer not to disclose in this geotechnological capacity.
Okay. Thank you. Appreciate it. And also the data way, I remember you talked about the 7 narrow fully leveraged the 10 narrow equipment, right, over the data layer and process. That's interesting point.
When you talk about the full leverage, I mean, the compatible equipment available to compatible the switch from the 10 narrow to 7 narrow based on your internal the plan. Is that correct?
Eric, I think your question is asking whether or not there's a lot of common tools between 7 nanometer and 10 nanometer, the way like between 20 16 nanometer.
Yes. We developed our 7 nanometer with low cost target. Therefore, when we develop this technology, we will make use of 10 nanometer equipment as much as possible. At this point, more than 90% of the 10 nanometer tool can be directly used by 7 nanometer.
How about from the 16 to 10, how many percent? Is that possible to quantify?
From 16 to 10 is the lesser requirement, because we 16 will be a long node and will be fully utilized. Instead, 10 nanometer will be a shorter node, but therefore, we take particular focus on the tool migration efficiency.
Okay. That's interesting. For the 2016, how you judge it as a long note? If we look at the schedule, probably around the 5 quarter, the switch from the 16 to 10 and from the 10 to 7, right, in terms of the geometry migration schedule almost the same. So how you define the 16 is alone, the no and the 16 is a loan, Are you making such a judgment?
Thank you.
Actually, we are working with the customer and then according to their product requirement and also their product roadmap. So customer in TSMC determine which node will be the best performance and best cost effective. So that's why we can say that the 16 feedback right now, it will be a long load as compared with 20 nanometer.
So more like the based on the client?
Yes. That's between cooperation, the PHMC and customers. Okay.
Last question. In terms of the info, are you going to build out the standard in the industry for the info technology?
To build InFO to meet customers' demand and to fulfill their requirement, we did not think about something else. Okay.
But you will be the standard, right? That is it. Okay. Thank you. Thank you very much.
Thank you.
All right. Next one will be coming from the floor. It will be Morgan Stanley's Bill Lu.
Hi, thank you very much. So a follow-up on Eric's question on this concept of equipment reuse. I guess, first of all, does that change how you depreciate? And secondly, I'm not sure if you agree, but it seems to me like it's not just a 1 mill phenomenon, but next several mills, you might have more and more equipment reuse than what you've seen in the past. I'm just wondering if you could tell me whether you agree with that.
And if you do, what does that mean for your business model as far as return on investment?
Let me answer the first part of your questions regarding the reuse, which meant you any depreciation rule. For the manufacturing tool, we use 5 years straight line depreciation. But there are some called open idle tool. That means the tool cannot be converted to next generation. For those tools, we use 3 years.
So, we especially identify which parts cannot be converted. Actually, with the effort from our operation people, this non convertible part becomes smaller and smaller. Mark was talking about about 90%, very close to 95% are convertible to next generation.
So just to be clear, so if you start a tool at 20, it now converts to 16, the schedule doesn't change on the depreciation of this conversion, right?
It doesn't change. It doesn't change.
Can I ask you what do you mean about business model you have in mind?
I guess I just feel like the smartphone is now such a big part of the overall industry and that's driving a lot of the leading edge. When that starts moving to the next generation, maybe the 2nd wave and the 3rd wave aren't going to be as big as they used to be in comparison, right? And so maybe you convert more of 16 to 10 than you did historically where you kept all these old nodes for a long, long time. I wonder if you see that as a trend, what does that mean for your business model?
I think the reason we care very focused on the tool compatibility is indeed what you mentioned. The 2nd wave and 3rd wave, some of them may not catch up as fast as in the past. But we do this. It's for the maximum
effectiveness
to provide our technology to our customer. Many of our customers have their product schedule differently. So some of the customers will ride on will have their product launch at different times than the other. And we pace our technology so that they can take the maximum benefit of a particular set of tools and with the most updated technology capability. And so that's our value to our customers.
But the added burden for us is, of course, manage the tool compatibility. And I think we are we have the profitability target in mind to ensure that we'll keep that.
I wasn't exactly clear. I guess what I was getting at is if you have more reuse and more conversion, maybe it means lower capital spending going forward structurally, right?
Can you repeat your question or your comment?
One might help. My interpretation of Liu's question is that because we are using
a lot of those we use because of
the high common tools and therefore the need for our fresh new capital investments, actually the burden is lighter and it should actually help our profitability and returns.
Of course. That's why we want to make it most effective of the tools.
How do you quantify that?
How do I quantify the effectiveness?
Well, maybe I don't know if you can help me with the amount of reuse today versus a last generation or how you think about CapEx intensity now versus a last generation?
The CapEx intensity for each node is for the capital intensity is increasing for each node. Therefore, we try every way to reduce that and make it more effective to counter that heavy loading. And that's the migration tool migration is about. You want me to quantitize, Maybe Laura can help me.
Let me try a few. Remember, this question has popped up quite often. Maybe 2 or 3 years ago, we were talking about the conversion rate is more than 70%. And then we said it's more than 85%. And now we are saying it's above 90% 95%.
That's the effort we made during this process. In many ways, you have to start from the design phases. You have to look at design. You make sure those 2 get utilized more than one generation. That's one thing.
Otherwise, you need to know how to modify the tool so that you don't have to buy a new one. That's another reason. So, there are many, many things happening in the factory, and we are giving the aggressive target on this and we measure that.
Thank you. Second question is for Doctor. Liu. You had given us some of your new demand drivers, which is very helpful. Can you look at how that impacts the foundry industry?
If you look at 10 nanometers, how big do you think is the foundry market with these added demand drivers versus say 16 versus 28? I just feel like we talked a lot about the ramp, right? But the ramp is a little bit different now because it's one customer
The drivers I mentioned about mostly is to show the demand for the leading edge technology where the computing is hunger for either has fast speed or more for mobile, lowest power. And therefore, you can see we benefit more on the leading edge technology compared to other foundry players. And I do see the trend will continue. The leading edge portion of profitability will increase as time goes.
Do you think 10 nanometer will be bigger than 28?
It's too early to tell. I think in the beginning of 28 nanometer, we didn't think 28 is so big either. And I believe as we right now size our capacity only according to our customers' demand. But as time goes on, we may see that differently. And we expect it should be comparable.
But at this point, at early stage, it's indeed much like 28 in the beginning. It's smaller than
28 today. Okay. Thank you.
Okay. I think it's about time that we will take our next question from the call. Operator, please proceed with the next caller on the line.
Your next question on the line comes from Brett Simpson from R. I. Research. Brett, please go ahead.
Yes, thanks very much. I have a question for Laura on FX. Laura, can you just confirm, do you sell does TSMC sell all its wafers in U. S. Dollar?
And on the gross margin side, can you perhaps give us a sense for how cost of sales breaks down between U. S. Dollar and Taiwan, so we can understand the movements in FX on the gross margin side? And maybe for Mark, regarding 16 nanometer and 20 nanometer, so your sales in Q3 combined is just over 20% of sales. How do you see these combined nodes as a percent of sales in 2016?
And how might it split between 20 60 nanometer? Thank you.
Let me answer the first part of the question regarding the foreign exchange rate. It's indeed our revenue more than 99% denominated in U. S. Dollars. In terms of purchasing, not so much on cost of sales, in terms of purchasing, I think we have about 50% in U.
S. Dollars and 20% in euro, 20% in NT and the rest in Japanese yen. So that's the effect of revenue minus the cost impact. If you still recall, we have said earlier, 1% FX impact will change our gross margin rate by 0.4 percentage points. This rule of thumb still holds today.
2nd part of Brett's question is combined 16 and 20 nanometer proportion to revenue next year.
That will be greater than this year, I can say, but I cannot have a very accurate number right now to share with you.
So Brad, we'll have
to wait a little bit longer.
Maybe if I can follow-up about 2016. I think you talked in your prepared remarks about growing sales next year, double digits. And I know you mentioned FX would be a big driver in achieving double digit revenue growth next year. But if I look at the market on a U. S.
Dollar basis, what are the demand drivers you see in 2016? Because it's clear the Android smartphone market is having a lot of price pressure and next year iPhones will have much tougher compares. So what are you most optimistic about in demand? And is there a risk that leading edge demand maybe disappoints year? Thank
you. So Brett's question is about next year's growth driver. Given that smartphones is experiencing very heavy pricing pressure and it has actually been a pretty significant growth driver for TSMC in the last few years, So what would be the demand driver for TSMC next year?
Well, it's still going to be leading edge technology, and we see mostly will still be high end smartphone.
Brett, maybe I can add one element to that, not only it is the smartphones, but also TSMC increasing our penetration in the smartphones. All right. Next question will still be coming from the line. Operator, could you please go to the next person on the line?
Your next question today comes from the line of Mehdi Hosseini from SIG. Mehdi, please go ahead.
Thank you. Thanks for taking my question. First question has to do with the Q1. It seems unusual that your customers' forecast are still uncertain, especially after several quarters of working down inventories. Is that right to assume that this cycle, inventory correction cycle is indeed different than the previous cycles, especially when we look at your cycle time average in 2 months and keep in mind that Chinese New Year in February coming and your customers even after several quarters of inventory digestion are still not willing to refresh inventories.
And I want to get more insight from you on this factor and I have a follow-up. Thank you.
All right. So Mehdi, let me repeat your question. Basically, you're a little bit surprised by the length of time that our customers is going through the inventory digestion. As you said that it has already been going on for several quarters. And then given the cycle time is about average 2 months, why does TSMC still have certain uncertainty about Q1 next year.
Okay. Let
me answer about the inventory for the whole year. For TSMC, as you recall, our 1st year Q1 is a pretty good quarter. It's flat typically in Q4. Q1 is a weaker quarter. Then we find out that actually the Q1, the inventory is actually is higher season normal by several days.
And then we were thinking of how this inventory will work down. But unfortunately, the demand in China turned sour during the first and going to the second quarter, coming down very fast. That surprises us. Therefore, to our customers too. Therefore, inventory really didn't work down that well.
As a matter of fact, it actually increases. So that puts everybody uncertain on the inventory. And we look at the Q3, I think Q3 traditionally is a strong quarter and the people still didn't really down their inventory that boldly. And therefore, we see at the end of Q3, it still didn't come down too much. And however, from the current global economy and perspective, people really put it a realistic view.
And we look at the Q4, indeed, people are actively adjusted inventory just like several other years' end, they try to reach the inventory towards seasonal level. And that's what we see the weaker particularly weaker Q4. And that's the situation. So this year is is very different than last year and I hope it's not going to replay next year.
And then as a follow-up second question, want to revisit the 10 nanometer. In the past, you have suggested the 10 nanometer contribution would start in Q4 of 2016. Is that forecast still remaining the same? And if InFO would start generating $100,000,000 per quarter, Is that part of the 10 nanometer? Or should we account the info as additional line source of revenue?
All right. Nadine's question is, will we, as we said before, begin to see revenue contribution from 10 nanometers starting in Q4 2016. And then whether or not the $100,000,000 quarterly revenue by 4Q 2016 from info included the 10 nanometer revenue?
I'll answer the first question. Yes, we did one time talk about we want to enable customers' production at the end of 'sixteen. But the first customer we have does play it in a conservative way And they didn't set this most aggressive schedule. And they put a production of 10 nanometer as planned at their product plan according to product plan. And that plan has not changed.
And we continue to develop technology to produce the best quality tent to fit that schedule still. So we talk about we're going to freeze this technology at this quarter and going about the qualification and prepare to the same production schedule of 10 nanometer next year.
I'll answer the second question second part of this question. On inverse revenue next year in the Q4, as I stated, it will be more than US100 $1,000,000 by input per quarter, by input alone, not without the silicon wafer or others.
Thank you.
Okay. Let's now coming back to the floor. Next question will be coming from before a follow-up from Credit Suisse Randy Abrams.
I wanted to ask a follow-up. Just you mentioned about info 100,000,000. Dollars Could you
talk about the scope of the
whole back end business? Because you're also doing bumping to co ops, maybe the size of the back end business And as info ramps, what you see as potential, if you have any aspirations, how big you think it could be 12 to 18 months from now?
The Q4's revenue will be part of the whole back end, And certainly, the back end business is much bigger than this US100 $1,000,000 per quarter. As far as how big it is, that will depend on our demand from the customer for the next year. So cannot give you a roughly right number right now.
Okay. And the second follow-up question, we got a lot of reuse this year. Could you talk about for next year, the 2016, are you through with that reuse or you see potential to get some savings from 2016 or from some of the prior notes? So you think next year could be a year you get some of those reuse? And then if we're looking at CapEx $10,000,000,000 this year sorry $8,000,000,000 this year, what that means for depreciation for next year, if it's going to be a much more modest increase on depreciation?
Randy, I did not catch up your first part of a reuse of what?
So sorry for the capacity. If you'll convert more capacity next year, if you see more CapEx savings from converting 20 to 16 or some of your prior notes like 28 or lagging notes sort of reuse and move tools down, if you think next year is another year to reuse CapEx or reuse capacity to save CapEx next year?
In other words, he's asking whether the conversion between 20 nanometer to 16 nanometer will continue into next year and whether there will be other type of conversions, for example, converting from 28 nanometer to some other nodes also occurring next year.
We continue to convert 20 nanometer capacity into 16 to meet the customers' demand, I described in my presentation.
Okay. If I can make some comments on this. Actually, the conversion depends on the demand on those 2 technologies, and it is ongoing process. Obviously, we have started conversion this year. It will depend on next year's demand.
If there's a need, we will convert, continue doing that.
Oh, depreciation. Depreciation, I
can talk about this year first. This year, we expect with CLP 8,000,000,000 tax, depreciation is going to go up by above 11% to 12%. And next year, since we have not fixed the CapEx yet, it will not be a very high number either.
Okay. Next questions will be coming from HSBC, Stephen Pelleo.
Just a couple of quick follow ups here. You mentioned that 16/20 combined will definitely grow year on year. I'm just curious in terms of sequential trends, it's about 21% of revenue. Does that grow every quarter when you look into Q4 and Q1?
It will grow year on year, but I cannot comment on the quarter.
Okay, fair enough. 3, 4, 5 years ago, I think, Chairman mentioned that the one number that really summarized it quite cleanly and easily for us was that this move to smartphones, we were going to see a tripling of the silicon content per phone. And lo and behold, that's really what drove TSMC on top of some share gains and really no Intel in this mobile phone world. I guess, as I'm thinking over the next 3, 4, 5 years, you guys are highlighting Internet traffic and even that's only 11,000,000 servers a year, not really that big. Cars are only 60, 70,000,000 cars per year.
I mean, so it's very difficult, I think, for us now to really see something that can be as significant, even with the size of the market and the silicon content increase potential. So I guess when you're thinking out over the next 3, 4 years or so, what do you think are the biggest drivers? What's that same driver that we saw 5 years ago like we saw smartphones? What excites you most, I guess? And can you quantify it a little bit to simple sentence like that?
Steven, this is a tough one. I mentioned all the trend of computing actually in IoT mostly growth will come computing because the sensor and connectivity are more mature technologies. There is nothing a pillar app as a smartphone today. But as you know, all the computation demand, some of the usage model come and goes. It wasn't successful.
For example, we still get to know whether the watch will be coming a usage people will get used to it or not, a drone or other things, home devices. So I just don't have a clear naming for that gadgets, okay? But I think what I can say is just like 5 years ago, connectivity and communication is a definitive trend. Therefore, we see the smartphone will come. And indeed, it does pay.
However, going forward, how this computation come into what form of gadgets? Actually, I cannot clearly describe to you. But if you people still talk about their smartphone in their pocket is too hot or doesn't take enough long enough time and let alone any virtual reality or augmented reality can be feed through your smartphone. Your smartphone would die within 1 hour if you're doing that. Your entertainment, people like to watch 3 d TV, but really, the kids today really looking at entertainment of a different form.
They want to evolve into the virtual reality and that could be the future form of entertainment. Do we call that movie theater? Maybe, but could be a different name. So the gadgets is still upon the innovator of the product industry to come out. But I think looking at our customers, they are tons of innovators.
They are thinking, come on new products to becoming a next smartphone, but they produce their design continuously. Let's see how will how that will pan out to be a particular gadget for a particular successful innovator.
I'm sorry, if I can
just say one more quick one. When will 10 nanometer debut its revenues? As you said, it was 16 nanometer this quarter. I know you have tape outs coming out in 10 nanometer mid next year. Is that we wait until 2017 before it's a few percentage of revenue?
Or do we think it can actually contribute a few percent by the end of the day?
We will start production maybe the Q4 next year, but revenue we expect from year 2017 in the Q4.
All right. Questions will be coming from Deutsche Bank's Michael Zhou.
Thank you. Could you give some color for 10 nanometer scaling versus 16 nanometer? 10 nanometer scaling?
Scaling, you mean compared to 16 how density and so on, I think? Yes.
That's a point.
Let me comment
on that.
10 nanometer scaling, we designed it very aggressively. Typical node to node scaling is a lot of we talk about logic density, it's about 1.9x
scaling.
I just show you the number, the 10 meter we designed to 2.1x scaling from 16 Ping plus.
2nd one is, as you mentioned, your 10 nanometer production should be Q1 next year, right? Q4. Q4. Okay. So after 1 year reach production, so we should expect you can enter much production in 2017.
So based on your R and D progress to your customers, do you think you can meet the customer's scaling requirement at this moment?
Yes, we can. The take on is imminent.
Okay. Follow-up questions, again, coming from Citi's Roland
Just one follow-up question for depreciation. Lower sales of depreciation based on RMB8 1,000,000,000 in CapEx spending this year, Depreciation will be about up 11% to 12%. And then you said 2016 will not be a very high number. You mean the depreciation or CapEx?
I said CapEx will be higher than RMB 8,000,000,000. And depreciation year over year will not be very big number compared to the changes of this year versus last year.
Okay. Then for this low less spending depreciation and also the Meihuan uncertainty this year and next year. So are you still holding your long term financial goal for PBT to grow more than 10% for the next 5 years? Is this goal still hold? 10% is a good goal.
Yes. But I think previously, you talked about this long term goal.
Long term. I'm talking about 5 year goal, 10%. Yes.
So still hold.
No goal still holds, but we do work on it.
Okay. Thank you.
All right. So there is also a follow-up question from Morgan Stanley, Bill Lu.
Hi. Just very 2 very quick follow ups. One is, I think Doctor. Lee talked about the 2nd generation info that's under development. 2nd generation info, is that still targeted for the mobile processors or is it for new applications?
Probably will be adopted by the mobile processor first and then apply to all other applications. We are working with many customers right now. So, in fact, I cannot really tell you which one will be the first one to use. Secondly, can
you give us an update on EUV? There seems to be some talks recently that you may be exploring other options besides EUV.
Okay. Let me comment on EUV. In the past 3 months, we see quite encouraging progress of EUV development. And we work on our 3,300 tools from SML and to improve their source chamber and the targets and a very good progress. Therefore, we have agreed to go further to moving the 3350 tools.
And that tool has made also major modifications. And we plan to move that in, in the January next year, so that to catch up, not only accelerate development, but also catch up on the 5 nanometer development program.
Follow-up questions from JPMorgan Scou Kuo.
Thanks. Just one follow-up question. Doctor. Liu mentioned that the system fabless companies, the new breed of companies are becoming bigger and bigger. Could you talk a little bit about what kind of customers are these?
I think currently, obviously, there are a couple of them which are really big and primarily in the mobile space. Are we seeing expansion of these companies towards other areas as well, maybe data center and that kind of areas as well?
I cannot name the company's name for you, but let me share with you the thought. Actually, this phenomenon is not new. Today, of course, the smartphone you refer to mobile space, a lot of system company does come out to create new momentum for the demand market. In other area like game, for example, and it's produced by the system companies. And they will we will see other areas for the virtual reality, for example, some of that probably will be driven by the system companies.
And cars, for example, the machine learning, that probably will also be driven by fabless and system company together. So this is a we see this definitive trend that system development developers could not find the standard product on the market. Therefore, they involve on the design to optimize with their system hardware and software to create a more innovative product. And that's what the end, that's where the encouraging is, where the new players of innovation in the semiconductor industry emerges.
I think it's about time that we should end this quarter's conference call, and thank you for coming over for today's conference. Please be advised the replay will be available in 3 hours from now, transcripts 24 hours from now, both of which will be available through our website at www.tsnc.com. Thank you for joining us today. We hope you will join us again next quarter. Goodbye and have a good day.