台積電 ADR (TSM) 2011 Q2 法說會逐字稿

Welcome to TSMC's second-quarter 2011 results webcast conference call.

This conference call is being webcast live via the TSMC website at www.tsmc.com and only in audio mode.

Your dial-in lines are also in listen-only mode.

I would now like to turn the conference over to Dr.

Elizabeth Sun, TSMC's Head of Investor of Relations.

Thank you.

Good morning and good evening everyone.

Welcome to the TSMC's second-quarter 2011 conference call.

Joining us today on the call are Dr.

Morris Chang, our Chairman and Chief Executive Officer, and Ms.

Lora Ho, our Senior Vice President and Chief Financial Officer.

The format for today's conference call will be as follows.

First, Lora will summarize our operations in the second quarter and give you our guidance for the third quarter.

Afterwards, TSMC's Chairman, Dr.

Chang, will provide his general remark on the business outlook and a couple of key messages.

Then we will open the floor to questions.

For those participants who do not yet have a copy of the press release, you may download now it from TSMC's website at www.tsmc.com.

Please also download the summary slides in relation to today's quarterly review presentation.

I would like to remind all listeners that following 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.

Information as to those factors that could cause actual results to differ materially from TSMC's forward-looking statements may be found in TSMC's annual report on Form 20-F filed with the United States Securities and Exchange Commission on April 15, 2011, and such other documents as TSMC may file with or submit to the SEC from time to time.

Except as required by law, we undertake no obligation to update any forward-looking statements whether as a result of new information, future events or otherwise.

And now, I would like to turn the call over to Lora.

Thank you, Elizabeth.

Good morning and good evening to everyone.

Welcome to our second-quarter earnings conference call.

During today's call I will start with the financial highlights in the second quarter.

Then we will move on to the outlook for the third quarter.

You may also refer to the quarterly financial summary slides on our website.

All dollar figures in NT dollars unless otherwise stated.

Looking at the highlights our second quarter revenue has increased by 4.9% sequentially.

Our gross margin was 46% and operating margin was 34.3%.

The sequential decline in margins was mainly due to lower utilization in NT dollar appreciation.

Second quarter wafer shipments were 3.3 million 8-inch equivalent wafers, up 4% from the prior quarter.

Let me move to the income statement.

Our operating expense increased by 3.9% from the previous quarter mainly due to higher R&D spending 20 nanometer.

The percentage of sales is 11.7%, similar to the level in the first quarter.

Overall, our second quarter net margin arrived at 32.5% down 1.9 percentage points from the first quarter and EPS was NT1.39.

Now, let's take a look at our revenue by application.

In the second quarter communication-related revenue decreased by 2% from the first quarter while computer, consumer and industrial increased by 15%, 10% and 6% respectively.

Revenue from communication-related applications represents 45% of our total wafer revenue in this quarter.

Our computer, consumer and industrial applications account for 25%, 11% and 19% of our wafer sales respectively.

Now, let's turn to revenue by technology.

We continue to see strong demand for advanced technologies.

40 nanometer remains the strongest now and its contribution to our total wafer sales increased by 4 percentage points to 26% in the second quarter.

Overall, combined contribution from 40 nanometer and 65 nanometer had increased by 1 percentage point to 55% of total wafer sales in the second quarter.

On balance sheet, we ended the second quarter with NT159 billion in cash and short-term investments similar to the level in prior quarter.

As for liabilities almost all the increase were for dividend payables and dividend that had been paid out on July 20th.

Our inventory turnover days decreased by 3 days in the second quarter and we are expecting a larger scale of decline in the third quarter to be below 50 days.

Let's proceed with cash flows.

Cash flows generated from operating activities totaled NT63 billion, up NT7 billion from the prior quarter mainly due to change in working capital.

Capital expenditure was NT65 billion in the second quarter.

As a result, our free cash flow was a net outflow of NT2 billion during the quarter, up from an outflow of NT25 billion in the prior quarter, thanks to less capital expenditure.

Next, on capital expenditure, we decided to revise down 2011 full-year capital expenditure to $7.4 billion from the original plan of $7.8 billion as the weakened economic conditions has impacted demand for our wafers in the second half of the year.

Our second quarter capital expenditure totaled $2.3 billion bringing first half capital expenditure to two-thirds of our overall year's budget.

As a result of capital expenditure adjustments our total capital -- total capacity in 2011 will be 2% lower than the previous plan.

Under the current capacity plan overall capacity is expected to increase 17% to 13.2 million 8-inch equivalent wafers in 2011.

12-inch wafer capacity will increase by 30%.

Total installed capacity was about 3.3 million wafers in the second quarter representing a 8% growth from the prior quarter and we expect to grow by another 3% in the third quarter and keep flat in the fourth quarter.

Now, let's turn to the outlooks for the third quarter.

Based on current business expectation and a forecast exchange rate of NT28.72 we expect our consolidated revenue in the third quarter to come in between NT102 billion and NT104 billion.

The third quarter guidance reflects deconsolidation of Global UniChip which contribute around 1% of our consolidated revenue in the previous quarter.

However, the change of recognition method will now impact our strategic relationship with Global UniChip.

In terms of margins we expect our third quarter gross margin to be between 40.5% and 42.5%, operating margin to be between 28% and 30%.

This concludes my remark today.

Now, I would like to turn the call to over -- over to Dr.

Morris Chang our chairman and CEO for his remarks.

Good evening and good morning.

I like to talk about the world economy and the semiconductor market first.

And then I like to comment on the supply chain inventory, demand, prices and foundry market.

And then I'd like to say a few words about the third quarter gross margin and then I'd like to report our progress in technology.

First, on the world economy and semiconductor market.

World economic growth this year is below earlier expectation.

US growth is below earlier expectation and is lately troubled by debt limit uncertainties.

Europe has been troubled by debt problems of several countries.

Japan's slow growth has been exacerbated by the March earthquake tsunami.

China is trying to control inflation.

We now forecast world GDP growth rate at 2.8%, down from 3.8% at the beginning of the year.

The lower revision of world GDP growth has impacted the semiconductor growth.

We now expect semiconductor X memory, semiconductor X memory to grow at 4% this year down from the 7% we expected early this year.

Now, I want to make a few comments on supply chain inventory, demand and foundry market.

The semiconductor foundry sector has been further impacted by inventory adjustment problems.

Earlier in the year semiconductor supply chain anticipated a better second half of 2011 and started building inventory.

The March 11th earthquake in Japan further prompted the supply chain to build more inventory for precautionary purposes.

Now that Japan's suppliers' recovery has been better than expected but the end demand has softened due to slow economic growth.

Many IC companies need to reduce their inventory levels.

In our current estimate the supply chain's days of inventory at the end of 2Q is about 5 days above seasonal.

And since all of the companies are managing inventory attentively we believe the inventory adjustment will be mostly done by the end of third quarter.

But the demand for TSMC's wafers in 3Q has been negatively impacted us by both the softening economy and the supply chain's inventory management.

Prices have remained stable.

And because of our differentiated technologies and our customer partnerships we expect that the prices will remain stable in the foreseeable future.

We now expect the world foundry sector revenue to grow 7% versus the 15% growth that we expected in January.

Now I like to make a few comments on the third quarter gross margin.

If we compare 3Q '11 gross margin guidance's mid-point which is 41.5% with a year ago 3Q 2010 when we had gross margin of 50% there is an 8.5 percentage point decline.

360 basis points is attributed to foreign exchange rate change.

The NT has risen 10% from 3Q '10 to 3Q '11.

1,150 basis points is attributed to lower utilization.

Utilization was significantly above 100% in 3Q '10 and is now below 100%.

So that's a total of 1,510 basis points.

Now, cost reduction offsets approximately 660 basis points, making the difference now about 850 basis points.

Beyond 3Q we expect foreign exchange to be stable.

We expect that inventory correction will have run its course by and large by the end of the third quarter.

So our utilization should improve in the fourth quarter.

The negative elements will be diminished.

Our cost reduction momentum is expected to continue.

And, therefore, we are optimistic about our margin improvement from the third quarter onwards.

Now I like to report on our technological progress, specifically on, first on 28 nanometer.

We reported earlier that we had the tape-outs for 89 individual products.

And the tape-out of each of those is on schedule.

The first silicon of every tape-out was fully functional with consistently satisfactory yield.

Defect density reduction is on plan.

The ramp of 28 nanometer however is taking longer than expected due to the softening economy and the demand outlook of 2011.

Second item that I want to report on is that our close cooperation with ARM CPU core is allowing us to optimize our technology or ARM designs.

Recently in 28HP which stands for 28 high performance we have delivered first industry silicon with high speed than any other competitor using ARM.

And in 28HPM which stands for 28 nanometer high performance mobile we have been able to first tape-out of even better performance.

Next item is our transistor at the 14 nanometer node.

We have demonstrated a high mobility P-channel FinFETs with greater than 30% mobility gain over silicon channel for low voltage 14 nanometer SoC.

Next item is subsystem integration.

We have demonstrated a fully functional subsystem having logic chip silicon interposer with gold impassive components and bumps manufactured at TSMC.

The entire component was assembled at TSMC.

As we forge ahead with Moore's Law in IC development we are also trying to realize the potential of subsystem integration.

This concept can be described in the following view graph.

The silicon interposer solution reduces packages from 9 to 1.

Reduces size and power and increases the memory bandwidth and the system speed.

The next item that I want to report on is bump on trace, BOT.

And we show the next view graph.

This is the first time we have revealed this to the investing public.

It is a TSMC invention protected by patents.

We completed the [four] reliability qualification of BOT process.

This BOT process reduces substrate bumpage from 140 microns to 100 microns with significant cost saving from using standard infrared reflow, eliminating pads and solder [mess] on substrates and potentially reducing metal layers on substrates.

It also reduces form factor most suitable for mobile applications.

The last but not the least I want to report that on CMOS image sensors we are ready to introduce 1.1 micron pixel/process early next year for 8 meg pixel products.

We have also demonstrated a 0.9 micron pixel for 16 meg pixel products to be released a year later.

Both processes gives a world leading backside illuminating illumination technology and are well-positioned for smartphone and tablet applications.

Okay, these are my prepared comments.

This concludes our prepared statements.

Operator, please open the floor to questions.

At this time we will open the floor for questions.

(Operator Instructions).

Please limit your questions to two at a time with one follow up to allow all participants an opportunity to ask the management members questions.

Randy Abrams, Credit Suisse.

You give good disclosure in the prepared remarks on the gross margin change on a year-over-year basis.

I was wondering if you could do the same sequentially so the different factors in gross margin from second quarter to third quarter brings us from utilization or form inventory or FX sequentially.

Okay, Randy, the second quarter margin was 46%, and we -- the mid point of our third quarter guidance is 41.5%.

So there is a 4.5 percentage point difference.

The difference comes from three parts, number one is the utilization decrease in the third quarter, this part accounts for a little bit over 3 percentage point of gross margin.

Number two, in third quarter we will ship about 3 days of finished goods inventory which was billed in the second quarter.

This 3 days of inventory has contribute to second quarter productivity and the margin rate.

But since these wafers are sold in this quarter so we will need to reverse the favorable impact in this quarter.

This accounts for about 1 percentage point of margin drop this quarter.

And lastly, the foreign exchange rate during the quarter has NT$ has appreciated another 1.5%.

This contribute to roughly 0.3 percentage point margin decrease.

So if you add these three things together 3 percentage point, a little bit more than 1 percentage point and another 0.2 or 0.3 percentage point you get this 4.5 percentage point difference Q-over-Q.

I hope I answered your question.

Okay.

No, that's helpful.

The follow-up question, you mentioned some about the 3D packaging in the backend opportunity also at the afternoon conference, maybe if you could talk about the potential contribution or scope like how big this backend opportunity could be.

And, traditionally, the backend margins are more 20% to 25% for the independent backend companies.

But as you weave that into your business, do you see similar type of profitability for these opportunities?

Well, this is MorrisChang.

And Randy, no, at this point it's much too early to try to estimate the margin contribution that the subsystem integration will make.

Now, it's -- you refer to the backend, the assembly and testers margin being 20 some percent and I don't think that's an apt comparison because in our case I think that we would consider this an expansion of our IT processing technology and it will be incremental contribution and I think that it's certainly far too early to say quantitatively what the margin contribution will be.

Okay.

And if I could follow up, maybe on the 3D packaging, what applications are you seeing the interest now for these applications and maybe timeline, how quickly do you think some of these could start to ramp up?

Actually, all the -- well, with the exception, I reported on six items of technology progress, the first item is 28 nanometer, and I think 28 nanometer will be used for a lot of products, a lot of products other than just mobile products.

But the other five items, the ARM CPU core, the 14 nanometer transistor, the subsystem integration, the bump on trace and the CMOS image sensors are really primarily applicable.

Well, I need to accept the 40 nanometer transistor because I think that's applicable to a lot of applications.

But the ARM CPU core, the subsystem integration, the bump on trade -- on trace and the CMOS image sensors are, they all share a common theme which is that they are primarily used on mobile products.

Okay.

Thanks a lot.

Michael McConnell, Needham & Company.

Yes, in looking at the commentary about the inventory production being short-lived really Q3 and a recovery in Q4, that's a pretty important statement I think from TSMC.

Morris Chang, outside of just the inventories being 5 days above seasonal, exiting Q2, what else gives you some confidence to make a statement like that?

It's our internal forecasting, internal market forecasting, the data that we gather from our customers, and perhaps just also a feel that we get from talking to customers.

I am -- I think that we have got it identified right.

But I mean no forecasting is absolutely guaranteed by any means.

Sure.

But I am reasonably confident that the inventory adjustment will run its course in the -- well, I would say that at most it will run -- most of its cost in the third quarter and then in the fourth quarter it will run further.

So by the end of the year I think that the inventory adjustment will have run its course.

So with that commentary I guess my next question would be looking at the slope of your utilization improvements in Q4, should we anticipate a more moderate slope, obviously some improvement but how sharp of a recovery should we think about in terms of Q4 or do you think in terms of magnitude maybe Q2 next year would have more of a sharper increase in improvement with utilizations of even maybe Q1 which I know is not normal.

Well, in our case you have to remember, I think Lora mentioned it, that we are reducing our own in-process inventory too.

We were at how many days at the end of --?

56 days in first quarter and 53 days in second quarter.

And --

Third quarter, we expect to further reduce below 50 days.

Below 50 days and so all the inventory.

So the third quarter actually for us, the third quarter utilization is particularly low.

And I am quite confident of an increase of utilization in the fourth quarter.

And you ask how sharp will it be.

Well, I -- well it depends on what you mean by sharp.

In my mind it's a -- it will be a significant recovery, significant utilization recovery.

Edwin Mok, Needham & Company.

So regarding CapEx reduction and lower capacity increase in the back half of this year, you talk about utilizations starting to pick up in the fourth quarter would that imply that going -- you got to look beyond the second half, will imply that you would start to pick up and tap out the expansion again in the first half picture?

We have reduced our capital expenditure by about 5% this year, and at this moment we are still planning next year's capital.

So at this point really I think its too early, I really think we have to see, yes.

Well, I'm confident that the utilization will pick up and recovery will continue in the next year but I think that by the end by the time we have to make a decision on next year's capital expenditure we will already have data and data always beats even confident predictions.

I see.

And then my fourth question is regarding 20 nanometer.

You mentioned that 28 nanometer is taking a little bit longer.

Can you describe if that is relate to just maturity of the process or is it related to just customer not ramping the design that they have and you have previously (inaudible) expect them now to ramp.

And finally, how much of your sales do you expect to come from 20 nanometer for lets say second half or the fourth -- or for the fourth quarter of this year?

Lora, you want to answer that?

Okay, the delay of 28 nanometer is not due to their quality issue.

Actually we have very good tape-out and [E zero] is on plan.

The delay ramping is mainly because of the softening economy from our customers.

So customers delay the tape-out to us.

So therefore 28 nanometer revenue contribution at the end of fourth quarter this year will be roughly above 1% to our total wafer revenue.

Mehdi Hosseini, Susquehanna.

Yes, thanks for taking my question.

This is a follow up to the previous question, with the 28 nanometer to what extent the ramp beyond Q4 is going to be driven by attracting new customers or is that going to be just the volume ramp of these 70, 80 tape-outs that you have?

No, we are not counting on attracting new customers.

Actually we have almost all of the major customers of the foundry business anyway.

And all of them are using, are planning to use, I wish I should say almost all of them are planning to use our 28 nanometer.

And our tape-outs of the 89 tape-outs that I have mentioned a couple times I think are equal to 10 times the combined tape-outs of all our competitors.

So no we're not planning, we're not counting on attracting new customers on the 28 nanometer.

And I believe that the ramp up of 28 nanometer is mainly a function of demand and it will, I think it will start in the December, this coming December and January period sharply, there will be an inflection point in the ramp-up curve at the end of the year.

Got it.

And then, Morris, in the past you have talked about a 20% revenue growth target and given the reduced expectations for just overall semi industry revenue and foundry growth how should we think about your year-end revenue growth target?

I am afraid that I have to now at this point since the whole semiconductor market is going to be less the whole foundry market is going to be less, the 20% growth which was always in US dollars is now unachievable.

And, however, I will say that we still expect a very much up year compared to last year.

Would you at least outgrow the foundry growth of 7% by two times or less than that?

Well, I really -- I cannot answer that question without violating the guidelines of the Taiwan regulatory agency.

Actually I may say that the -- even the 20% prediction I got a slapped on the wrist already.

Now, so I would -- I would have loved to quantify for you but I -- but right now I am -- I think I can only say that we will be up, will be up this year.

Thank you.

[Xing Hao Ming], BNP.

Two questions from my side.

The first one please, the Company has done a lot of things on cost reduction just want to know if there is change in the breakeven utilization for the Company at a [mass] level and also at the EBITDA level?

The breakeven utilization I can see that today's environment will be at high 40s this has (inaudible) a little bit from the low 40s when in the very, very good years.

All right.

Satya Kumar, Credit Suisse.

I was wondering if you could add a little bit of color on capital intensity and what it means for yields.

In the past I think you had talked about equipment cost for 28 nanometer as being significantly more than 65.

First part of my question is do you see any changes in that trend as you continue to ramp 28 nanometer and move to 20 nanometer later on?

And the second part of my question is given the fact that the equipment cost is higher at the smaller technology node, does that result in a higher yield threshold that is required in order to ramp the volume to keep the economics attractive for you and your customers?

The reason I ask is I know you mentioned that 28 nanometer yields are good from your perspective but are they good enough to ramp given the higher cost of 28 nanometer outside the economic issues you mentioned?

Well, I will give you a straight-forward answer first and then perhaps Lora may elaborate on my answer.

The straight answer to the capital intensity of the smaller nodes is that, yes, the equipment cost is higher, therefore it will take a higher margin to get the same return on assets, return on invested capital.

And that can of course be achieved by slightly higher price and slightly more aggressive cost reduction.

And we are actually pursuing both avenues.

Yes, if I can elaborate a little bit more.

For every (inaudible) that we invest for and we have a return model to make decision on how we should invest, the chairman just mentioned about actually, it has two components the first one being the gross margin, meaning the pricing and cost relationship.

The other one is the asset turnover.

Because the CapEx was a little now getting more expensive you can imagine the asset turnover will be slightly lower therefore with the higher margins managing by the cost and price so you can still get the same return on investor capital.

So that is how we think the right model for our decision-making on capital investment.

Aaron Husock, Lanexa Global.

Thanks for taking my questions.

Can you give us some rough numbers around how much of your CapEx spend in the first half was for 28 nanometer?

And how much do you think your 28 nanometer CapEx spend will be in the second half of the year?

In total for this year if we just revise down the CapEx to NT7.4 billion.

I can roughly tell you more than NT2.5 billion will be on 28 nanometer which is mainly on the first half of this year.

Okay, okay.

Have you seen the demand environment weaken some?

Have you seen any changes in competitive intensity or the competitive landscape?

Some people have talked about 65 nanometer wafer pricing getting worse.

Okay, what have you seen as far as the competitive landscape?

Well, we have heard of some competitive pricing activities.

But I must say, as I said earlier, our prices in all nodes have remained stable.

And I also attribute this stability to the fact that we do have differentiated the proprietary technologies in every node actually.

Okay, good.

Thank you.

Donald Lu, Goldman Sachs.

My question is on the margin side.

I think Lora had at the afternoon conference commented that the profitability, structural profitability should remain the same now versus a year ago and would that mean that if your utilization recovers to above 100%, growth profit margin would potentially recover to nearly 50%?

I would say -- I cannot comment with the 50%.

I would say the structural profitability remains as good as before.

You have to remember that also another factor that is exchange rate which we cannot control.

However, given the same structural profitability if utilizations rate improves, the, of course, the margin will go up too.

Well --

But if the FX remains stable and utilization goes up to, let's say, 100%, would the margin be relatively comparable with a year ago?

Well, remember, actually last year, almost all year last year we ran -- I used to work significantly, significantly above 100% last year.

So last year was quite unusual.

And also Lora mentioned the exchange rate, relative to this year last year's exchange rate was favorable.

So, yes, I think our structural profitability compared to last year has actually improved a little, but this year it has actually improved a little bit.

However, the very high utilization rate of last year and the favorable exchange rate I think made a comparison to last year very difficult.

All right, all right.

Okay, thank you.

In the interest of time I think we'll only accommodate two more caller's questions.

Steven Pelayo, HSBC.

You're expressing a lot of confidence about this fourth quarter pick up, significant utilization rate recovery.

I guess kind of two questions along that.

When I first look at your third quarter guidance down about 6% to 8%, does that imply that the ForEx nodes and below are still growing quarter-on-quarter and all the softness is kind of in the middle nodes, the 65, 90 nanometer portion?

And then further as I then think about the fourth quarter significant utilization rate recovery, I guess that implies that if it is in the middle nodes you're going to, assuming, I guess those -- all that inventory is burnt and it's the middles nodes coming back driving utilization rate pick up.

Can you give me a little color about the guidance in the sequential growth rate by node?

Lora, you want to do that?

Well, I will answer the question.

Actually, the demand of 40 nanometer node is rising, has risen and is rising.

The demand on the -- the demand in the middle nodes, that's 65, 90 and 130 are not good.

Now, the demand on 0.18 and 0.25 0.35, 0.6 are all very good.

So it's the middle nodes that we have insufficient demand on.

I want to add one point to Chairman's, just comments.

We will have some 28 nanometer on fourth quarter as well.

Michael McConnell, Pacific Crest Securities.

Just wanted to know when you say inventory levels are 5 days above seasonal, what would they be?

What is seasonal in your view for those?

Just trying to get a base for that level of DOI?

Well, Michael, this full supply chain is 5 days above seasonal.

And I have a graph but I have a hard time to read the numbers but I can share with you just our customer side which is about 4 days above seasonal.

In this case we think our fabless customer's current level is about 69 days and the seasonal level is 65 days.

And the IDM customers, the current level is 87 days and the seasonal level is 82 days.

So that's about 4 to 5 days above seasonal.

But I also --

Great --

-- understand people calculate the DOI a little bit differently so this is all relative.

Okay, yes, that's very helpful.

And then last question just on the FinFET ramp at 14 nanometer, is that 2014 or 2015?

I don't know.

No, that's let's see, that should be the fourth quarter of '13.

'13, okay.

Fourth quarter.

Fourth quarter.

Forth quarter of 2013.

Okay, great.

Thank you.

There are no further questions at this time.

So this concludes our q-and-a session.

Thank you for joining us this morning, and we hope that you will join us again next quarter, and goodbye.

Before we conclude TSMC's second-quarter 2011 webcast conference call today, please be advised that the replay of the conference call will only be accessible through TSMC's website at www.tsmc.com.

Thank you, all.