Semiconductor Manufacturing International Corp

HKEX:981

Earnings Call Transcript 2018-Q4

[Operator]

Welcome to Semiconductor Manufacturing International Corporation's Fourth Quarter 2018 Webcast Conference Call. Today's conference call is hosted by Dr. Zhao Haijun, Co-Chief Executive Officer; Dr. Liang Mong Song, Co-Chief Executive Officer; Dr. Gao Yonggang, Chief Financial Officer; and Mr. Tim Kuo, Director of Investor Relations.

Today's webcast conference call will be simultaneously streamed through the Internet at SMIC's website. [Operator Instructions] The earnings press release is available for download at www.smics.com . Webcast playback will also be available approximately 1 hour after the event.

Without further ado, I would like to introduce to you, Mr. Tim Kuo, Director of Investor Relations for the cautionary statement.

[Tim Kuo, executive]

Good morning, and good evening. Welcome to SMIC's Fourth Quarter 2018 Earnings Webcast Conference Call. Today our CFO, Dr. Gao, will highlight our financial performance and give guidance for the next quarter, and then our co-CEOs, Dr. Zhao and Dr. Liang, will provide some business commentary. This will be followed by our Q&A session.

As usual, our call will be approximately 60 minutes in length. The earnings press release and financial presentation are available for you to download at www.smics.com under Investor Relations in the IR calendar section. Let me also 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 risks and uncertainty. Our actual results may differ significantly from those projected or suggested in any forward-looking statements. For more complete discussion of the risks and uncertainties that could impact our future operating results and financial condition, please see our filings and submissions with the U.S. Securities and Exchange Commission and The Hong Kong Stock Exchange Limited, including our annual report on form 20-F filed with the United States Securities and Exchange Commission on April 27, 2018.

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'll now hand the call to our CFO, Dr. Gao, for financial highlights.

[Yonggang Gao, executive]

Thank you, Tim. Greetings to all our listeners. First, I will highlight our 2018 full year unaudited results, which are based on the submission of our unaudited quarterly results for the year of 2018. And then I will summarize our fourth quarter results and give the first quarter 2019 guidance.

Revenue in 2018 was $3.36 billion, a record high compared to $3.1 billion in 2017.

Gross margin in the 2018 was 22.2% compared to 23.9% in 2017. Profits for the period attributable to SMIC in 2018 was $134 million compared to $180 million in 2017. EBITDA reached a record high of $1.16 billion in 2018 compared to $1.12 billion in 2017.

In the fourth quarter 2018, our revenue was $788 million, a decrease of 7.4% quarter-over-quarter, mainly due to a decrease in wafer segment in the fourth quarter.

Gross margin was 17% compared to 20.5%, mainly due to the low [ traditional routes] reached in the fourth quarter. Non-GAAP operating expenses were $243 million. Profits for the period attributable to SMIC was $27 million, while noncontrolling interest was $16 million of credit to SMIC attributable profit.

Moving to the balance sheet. At end of the fourth quarter, cash on hand, including financial assets, were close to $3.8 billion. Gross debt to equity ratio was 38%, and net debt to equity ratio was negative 4%. In terms of cash flow, we generated $377 million of cash from operating activities in the fourth quarter.

Now looking ahead into first quarter of 2019. Our revenue is guided to be down 16% to 18% quarter-over-quarter, mainly due to low seasonality and the macro uncertainty. Gross margin is expected to range from 20% to 22%. Non-GAAP operating expenses are expected to range from $250 million to $255 million. Noncontrolling interest of our majority-owned subsidiaries are expected to range from positive $10 million to positive $12 million, which are losses be borne by noncontrolling interests.

The planned 2019 CapEx for foundry operations are approximately $2.1 billion, mainly for the equipment and the facility in majority-owned Shanghai fab and the FinFET R&D line. The planned 2019 CapEx for non-foundry operations is approximately $106 million. Our planned 2019 G&A is approximately $1.1 billion. Our 2019 gross margin is expected to be range of high teens to 20%.

I will hand the call over to our co-CEO, Haijun, for general remarks.

[Haijun Zhao, executive]

Thank you, Yonggang. Happy Lunar New Year to our listeners. Thank you all for joining us on today's call. Today, I will begin by highlighting the results of our fourth quarter and our annual 2018 unaudited results. Then, I will update you on our platform strategy, our capacity plans and the market situation and our near-term outlook.

2019 is a year of uncertainty and also a year of opportunity. With strict frictions, [weighing on] macro environment, we are actively seeking growth opportunities through a steady progress in expanding our customer base, enriching mature and speciality technology product mix and applications and exploring value-added opportunities. We continue to strive to be fundamentally strong, as we tied in our customer partnerships and further expand our technology development.

To highlight our Q4 results. Our revenue was on the high-end of our guidance and the decrease 7.4% quarter-over-quarter due to low seasonality and a softer demand. Revenue from communication, consumer, computer and auto/industrial segments applications respectively declined 11%, 9%, 21% and 2% sequentially, largely due to weaker handsets and tablet demands.

Revenue from North America and the China customers declined 11% and 8%, respectively. Eurasia revenue increased by 9% due to some increase in consumer-related applications. Gross margin was 17% in fourth quarter 2018 compared to 20.1% in the third quarter of that year on the high end of our original guidance.

For the full year of 2018, SMIC had a record high revenue of USD 3.36 billion, a increase of 8.3% year-over-year, representing our fourth consecutive year of growth. Gross profit in 2018 increased to $6 million from $740.7 million in 2017 to $746.7 million. Profit attributable to SMIC was at USD 134.1 million compared to USD 179.7 million last year.

In 2018, we spent only USD 1.8 billion on CapEx compared to the planned USD 2.1 billion. In 2019, our planned CapEx is at USD 2.2 billion, which will be mainly used to build up our new advanced fab. Our new joint venture advanced fab in Shanghai is targeted to have a mini line ready in the second half of this year.

As we expand our capacity to support the needs of our customers, we continue to utilize a joint venture model for our advanced remote facilities. The reported CapEx of USD 2.2 billion includes the contribution from our joint venture partners. In fourth quarter 2018, the company received a capital injection of USD 935 million to our joint venture fabs.

Uncertainty and the limitations in the overall economic environment and a soft [indiscernible] Industry demand have trickle down to our customer and to ours. The first quarter is rough for the industry and for SMIC across most segments, as customers were to digest their inventories and hesitate to [rebuild] given macroeconomic uncertainty.

Nevertheless, we believe that Q1 should be the bottom of 2019 for SMIC. Although we have limited visibility for the year of 2019, we target to be in line with the foundry growth forecast. At the same time, we currently anticipate 8-inch capacity will be full for the year as we have [ indiscernible ] mature nodes technology demands. We continue to refund and build up our various mature nodes platforms. Mature technology is still a growth driver for SMIC, as we plan to have multiple products running up this year, including power management, memory, high voltage RCD driver, CMOS image sensor and a fingerprint sensors. We are conservatively optimistic as we seen an abundance of opportunity knocking at the door. This year, we will begin to see the ramp up of shipments for some of our newly developed technologies and partnerships in our CMOS image sensor, power managements, fingerprint, memory and a high-voltage platforms.

The CMOS image sensor market is growing, and we are expanding our customer reach. We will see growth this year from revenue related to image processors and a backside illuminations. Power management ICs are not an area for growth and opportunities. Our power management business platforms continue to be one of our key revenue drivers, and we continue to be one of the top players in the area.

Memory especially the specialty memory, is another platform wherein SMIC saw growth and an increase in new customers. Flash memory has been a very key growth driver in 2018 as revenue from NOR Flash doubled in 2018 compared to 2017. We also began to ramp up NAND Flash in the second half of 2018 and have been running 38 and 24 nanometers specialty NAND Flash memory with high quality and a good yield. We believe this will continue to contribute to the utilizations of our mature 12-inch capacity.

We are also seeing growth from fingerprint-related ICs, as we have expanded our biometric offers to include under-glasses solutions. SMIC's revenue from power management ICs, CMOS image sensors and a fingerprint grow around 4% in fourth quarter 2018 compared to fourth quarter 2017. High-voltage display drivers represent a new addressable market for us at SMIC. In line with our strategy is to work with our customers to gain new market share. High-voltage drivers have already began production and a shipment in fourth quarter 2018, thus increasing our competitiveness.

We expect China business to continue to be strong, but also continue to serve a diverse range of customers. Revenue from our China customers was at 57.5% in fourth quarter 2018 and it grow 12.1% year-over-year. We see upgrade of our customer devices IOT and the migration to 5G in the future. We believe we are in a position to benefit from the future macro trends. There will be [ a plan before gaining ] in this transition of period. Our aim is still to be fundamentally strong company. And in the near-to-medium term future, we must withstand the growth plans of developing underlying strong foundation for our strategy on the business mechanisms.

2019 is an overall slow year. However, we are conservatively optimistic as we begin to see the fruit of our strategies at some of our newly developed technologies on the platform began to ramp up to -- on the second half of this year. We continue to target a balanced strategy to maintain growth and profitability.

I'll now turn the call over to our co-CEO, Mong Song, for further comments.

[Mong Song Liang, executive]

Thank you, Haijun. Happy Chinese New Year to everyone, and thank you for joining us today. I would like to take this opportunity to share our current progress on R&D and business development. Since we always have very limited time left for Q&A session, therefore this time is set to some sensitive data, I will try my best to provide you as much as possible information and hope to cover most of your concerns.

In 2018, we qualified our 14-nanometer FinFET process and developed -- delivered our version 1.0 process design kit for customer circuit evaluations. The ability and ease have readily improved. As customer engagement is going well and smooth, we have already begun the customer product ratification process. The functionality and performance of our customers, 14-nanometer products were proven by multiproject wafers. Multiple products ranging from consumer to mid-end mobile will be tape-out this year.

In addition to 14-nanometer, our first-generation FinFET includes 12-nanometer, which is an enhanced shrink of our 14-nanometer process. We have qualified our process, and our process design kit is ready. Meanwhile, IP verifications are ongoing. When compared to 14-nanometer, our 12-nanometer provides 20% reduction in power, 10% performance enhancement and 20% reduction of error rate. Our first-generation FinFET portfolio is small, comprehensive, and we have increased confidence in our competitiveness.

Our second-generation FinFET is our N-plus-1 technology. Our N-plus-1 technology development is unchecked, demonstrating good device performance and SRAM yield. Meanwhile, we target to offer a performance comparative solution with better power consumption and area shrinkage. In addition to our FinFET foundry manufacturing services, we are dedicated to offer our customers a total solution with a full product portfolio on FinFET, including masks, IP, manufacturing, testing and packaging. Based on the current schedule, we plan to move in equipments in our new facility in Shanghai in Q2 and target to install a mini line by end year to support our advanced node manufacturing.

SMIC also has the most advanced mask shop in Mainland China, and we work to provide FinFET masks for our customers. We also offer a full range of IP to serve a variety of applications. Furthermore, SMIC [ is expanding ], testing and packaging options through our subsidiaries and partners. Our business model is to provide our customers with a complete solution to enable long-term customer relations. To best serve our customers, we are spending our FinFET product portfolio with various applications under development.

We see a lots of business opportunities that include mid-end smartphone application processors and consumer-related products, which are migrating from 20-nanometer to 14-nanometer and 12-nanometer. We see growing advanced demands for mobile and wireless connectivity stemming from 4G, LTE and upcoming 5G, which are areas that our customers traditionally have strong market demand.

Furthermore, FinFET technology may also address applications, such as automotive industry sectors, AI and IoT. We plan to expand our portfolios to cover these areas based on SMIC's customers requirement and demand as well as our internal capacity. We will also benchmark on the industry practice and market demand to ensure both technology readiness and competitiveness.

To conclude, we have made a solid progress on FinFET, and this can be attributed to our strong and capable R&D team. Through our team's continuous innovation and process optimizations, we are confident in our abilities to capture future opportunities. Our team has made commendable efforts in meeting milestones, enhancing effectiveness and coming through with result.

Meanwhile, we are providing a total solution business model, including IP, masks, manufacturing, testing and packaging, all of which enable long-term commitment and customer engagement. With a committed team, optimized offerings and strong customer relations, we are on a path of plan to transformation to be the foundry of choice.

We thank you for your ongoing support and for joining us today. I will now hand the call back to Tim for the Q&A session of this call.

[Tim Kuo, executive]

Thank you, Dr. Liang. Today's Q&A will be hosted by our co-CEOs, Dr. Zhao, Dr. Liang and our CFO, Dr. Gao. I would now like to open up the call for Q&A. [Operator Instructions] Operator, please assist.

[Operator]

[Operator Instructions] Your first question comes from the line of Randy Abrams from Crédit Suisse.

[Randy Abrams, analyst]

I appreciate the good details in the prepared remarks. The first question I wanted to ask maybe 2 parts, just on the growth when you mentioned the outlook in line with the industry. If you could give more color on your view on the industry growth rate? And then for your own business, would that exclude the licensing last year for your calculation of growth? And maybe within there, how you see the ramp through the year?

The second part of the question is on the gross margin. With -- if you could go through the factors driving the lift sequentially in your guidance for gross margin. And how you see that [equated that] Higher level can sustain or improve from there as utilization comes back?

[Haijun Zhao, executive]

Randy, thank you for the question. And the first question is, yes, my comments on the industrial growth and for SMIC side first to stay with trend. And the industry for this year had overall demands, we should say, and still there, and we do not expect a drastic job of the industry overall for foundry. But we really see the uncertainty and the worry about the customer side at this moment from the fourth quarter last year and we start to see their reluctancy of taking wafer to build up the inventory. And they're trying their best to consume the existing inventory, and we really start to see the inventory getting low. And we already start to receive the second quarter orders to rebuild and refurbish this kind of inventory.

Overall growth for the industry should be slight and/or some very low single digit type of growth. We already -- you already also observed the announcement from different companies. But for SMIC, we will see that existing and mobile phone-related demands and standard digital logic will be down definitely. And -- but for SMIC in order to keep the growth at upper trends, we [add on] the incremental business. That means the new business profit delivery never run. And just now from a statement I already mentioned, that would be, we start to work on this kind of platform more than 7 new platforms from last year and like the BCD charters, like the CMOS imagers, like the advanced technology nodes or specialty NAND Flash and like the high-voltage AMOLED drivers. And these kind of platforms are add-on revenues on wafer orders on top of the existing platform of SMIC [orders], this is running in the past couple years. And we also expand our platforms for 20-nanometer production, and we stated that we have the PolySiON, low-power RF and now we have the [C+], and we also work with the other people on this kind of area. And the total forecasts for 20-nanometer were we're getting higher. And with this kind of incremental business and -- we see that we will maintain the growth trend, but not that much because overall the first quarter we already forecasted and the demands from last quarter is getting low, so we have to experience the done quarter and -- for the beginning of this year.

And the second question you asked that why with this kind of reduced shipments and revenue, but your gross margin getting better, and that's a very good question. And basically, we have 3 factors there. The first one is for Shanghai, the R&D Fab, we have been using it to run 20- and 14-nanometer production. And you know that's a very small-sized mainly due to advanced R&D research. Now we've put it to a minimal running and that slowly phase out production. We dedicated the R&D Fab to advanced technology FinFET research, and have led to the closing down of the production there, and we got a better performance in our operation, this is the first one. The second, just now Dr. Liang already mentioned, for the mask shop for the past 2 years, we have been building up at a very advanced and expensive facilities for leading-edge mask making, but this is running, that's the cost of operation and -- but now we start to see the maturity of technology, we start to see the business of mask making, they contribute on the benefits when -- and Dr. Gao, our CFO, just now mentioned that we also have the income from others, and big part of the others are come from our shop. And the third is the engineering efforts. We mentioned a lot of our platform, specialty technology development in the manufacturing growth. Previously, this kind of wafers are 100% under the manufacturing and R&D production cost, manufacturing cost. But now we already separated this kind of specialty technology development efforts from the standard or pure manufacturing. So they're not allocated to the normal operational part and then grouped into the OpEx. But this kind of factored together on our first quarter. And even though the revenue getting down, we see our better gross margin. And to be exact, our pure manufacturing, that means our stand-alone manufacturing for the mature technology nodes production of our 8-inch and 12-inch, the same, they are still running gross margins about 17%.

[Randy Abrams, analyst]

Okay. Appreciate the color. And then, I guess, just the second question on the 14-nanometer. If you could give a feel of the capacity that you'll have for that mini line. And if that's the segment, what we should expect for 2020 if everything goes to plan to ramp into production, the capacity or contribution if its -- if you can by this time? And then at the state you're seeing industry pricing and cost structure, is there a way to think about the profitability for this note, like if it will take a certain scale to get to breakeven or get to your corporate profitability?

[Haijun Zhao, executive]

Randy, for this one, just now we mentioned the schedule. So we're still in the business at stage with our customers and in the acquisition of the machines. And yes, I apologize that we cannot give too much comments on that. But we already say that we are building out the fab already and then we are moving the machine in the second quarter of this year. We will get the mini line ready in the second half of this year. The plan is there and then we also announced the CapEx for this year.

[Randy Abrams, analyst]

Okay. And one final clarification. The OpEx in the first point about the cost from the Shanghai R&D Fab and from the specialty technology, what would be the change in the OpEx? Is that, I guess, explaining the R&D increase in the second quarter? Or maybe how much would shift to the R&D line then?

[Haijun Zhao, executive]

Actually, I just now mentioned, 2 factors. One of the factor is that we shutdown the production in the R&D Fab. That saved us operational margins. And there's one thing, because previously, we grow under 20- or 40-nanometer production and at very early stage we introduce the customer to the R&D Fab, we can't stop them. And even though with very low volume, we have to maintain our Fab and to run the minimum production in the R&D Fab. Finally, we work together with our customer to relocate the production to Beijing microfab and that will save us a lot of efforts on the cost in operation.

And another thing that just now I mentioned, from last year, we started a lot of study and the development work on a mature technology to form a new platform like CMOS imaging sensors, high-voltage MCU memory structure, but this kind of cost has been under the manufacturing cost, probably our pure R&D. So now, in the first quarter, we've grouped them into the OpEx. And for Shanghai Fab, actually, the effect already showed up in the first quarter. And currently, we already running very, should I say, smaller production than before in -- we already allocated majority of the customers and the product to Beijing fab.

[Randy Abrams, analyst]

Okay. But the mature technology, the shift, is that a shift to like to R&D, like a certain amount of expense that we shift to R&D instead of cost of goods sold?

[Haijun Zhao, executive]

Previously, this kind of our mature technology, they don't work between our high quarter TD and fab manufacturing group. And majority runnings grouped into the manufacturing cost. But now since we already allocate all the efforts to a dedicated team and activities, so this is one of the area and -- to streamline the manufacturing yield improvement and the new platform development. This is one of the factor. No major factors. This is one of the factor. So just now I mentioned that for the pure manufacturing in the first quarter for the gross margin maintained in fourth quarter, they're 17% for gross margin in the pure manufacturing, but we have add-on revenues from our new mask shop, this kind of area. And then we have the top up additional percentage. That's why we forecast we will have 20% to 22% gross margin in the first quarter. Yes.

[Operator]

Your next question comes from the line of Leping Huang from CICC.

[Leping Huang, analyst]

So the first question is a financial question. So if you look at your profits from the operations, so you're making around $14 million loss in the fourth quarter versus around $5 million in third quarter. But if you look at your profit attributable to the SMIC, you're roughly the same, $26 million. So actually, no operating side is quite changing quarter to quarter. So can you clarify? Especially, you have income tax benefits and not the expense this time. So can you further elaborate what's the inside these 2 items, other income and the income tax benefit?

[Haijun Zhao, executive]

Hi, Leping, happy new year. Yes, that's a very good question. Basically, this way we have 2. One thing, you see the gross margins and when we run the lower revenue but we control the cost, everything we worry about. And we have other revenues. Just now I mentioned that the other revenues come from our workplace, the mask shops, and we also have the others with our joint ventures. And one of the thing and we highlight a couple of times, is for the R&D cost, actually, will be shared by the joint ventures because we develop the technology to run the production in joint venture. We are utilizing joint venture mode to get CapEx and also get to share the R&D cost. And we treat this kind of thing also other incomes. And in the meantime, the [book] will increase significantly the R&D on the leading-edge technology. And according to the plan and the government grant for R&D support, also, I can now say linearly prorated also getting higher. So to answer your question that what's the other income? One of the thing is mask shop. We finally make the advanced technology in mask shop into business, so that we have income. And the other things that we have the joint venture to share the R&D cost but we treat this kind of assuring as other income and the numbers to reach that, we increase our R&D spending and then prorated to this kind of total amount, we will have higher government grant to this technology development.

[Yonggang Gao, executive]

[Foreign Language]

[Tim Kuo, executive]

So let me add 2 additional points on the other income part. So the first part is actually from our financial investment. So if we calculate that, at the end of 2018, there will be around USD 20 million. At the same time, we also have bunch of financial asset, which is around USD 4 billion. So that also injected some of the financial gains from the financial products.

[Leping Huang, analyst]

Okay. So my second question is about your leading-edge progress. So now your customer -- now you are offering -- and you have 2 new processes, 14-and 12-nanometer, under development. So how do you ask your client to choose between the 14 and the 12 nanometers? And do you have any timetable for the mass production on the 12-nanometer? And what's your current status of the 14-nanometer mass production timetable?

[Haijun Zhao, executive]

And we already announced that we get into production in 2019. And our customer first work with our standard 14-nanometer, but definitely, we are also working with to further down on the 12-nanometer. The production first will be 14-nanometer.

[Leping Huang, analyst]

So if the same group of customer using your 14 and 12-nanometer? Or will be different, hopefully?

[Haijun Zhao, executive]

Fabrications are different customer, but we do have the same customer working with us on both 14-nanometer and 12.

[Operator]

Your next question comes from the line of Peter Chan from CIMB.

[Yiqun Chan, analyst]

My first question would be your competitor on the other side of street is saying that 7-nanometer, 7-nm plus, a transition node and assume they will migrate the customer to the 5-nanometer. As they say that, what is your view on that? And what's your strategy to compete with the competitors of 5-nanometer node?

[Haijun Zhao, executive]

Peter, happy new year, and that's is a very good question. Yes, that's very good. We like to see our leaders in the industry to advance very quickly and every year move to a new technology node. That gives a lot of push on to the growth of this industry and we indirectly benefit in this -- from this kind of advancements. For SMIC, we are serving our customers and the investors. And we do the things to benefit our customer and the investors. So our customer asks us to develop a leading-edge technology to get the price results for their market segmentations, and SMIC follow suite to deliver on schedule. So at this moment, our customer hope that SMIC can move faster, but what they need SMIC to do first is still on this year 14-nanometer and 12-nanometer. Their hope was that after we finish this kind of technology nodes, we can also go on further and we will try our best to serve our customers on these.

[Yiqun Chan, analyst]

So may I take your comment as you also see the 7-nanometer as a transitional node, not a long node -- I mean will it be like 20-nanometer, is that also the view of SMIC?

[Haijun Zhao, executive]

The SMIC, we consider that as a customer strategy. And we do see that some customer really like to skip 7-nanometer directly to 5, but other customers like to stay long on 7, and we respect customers’ choice.

[Yiqun Chan, analyst]

Okay. The other question is regarding your competitors -- their presence in Nanjing. One of the advantage that SMIC has is you being local, serving the local customers, been having that proximity has been the definition of energy in my view. Now your competitors increasing its presence sure. How would you, I mean, deal with that? And would that being an issue to your differentiation advantage in the China market?

[Haijun Zhao, executive]

Okay, that's a very good question, and even though a little bit sensitive. Generally, we do not comment on our peers in the industry. But we can generally say this way, we are happy to see more players join the group in China, Mainland, to work for semiconductor to serve our customers, that's a very good thing. And SMIC, we never treat ourself as local company, just our name and like our name, SMIC is international manufacturing company. We have been -- in so many years, has been running 50-50 overseas customers and local customers. And we try our best to balance the foreign and the local customers. And we see this way. We see SMIC no difference from other companies in China. And we do not see them local, they are also international company.

At this moment, what we want to see and we do now see very big change in SMIC's strategy. We still like to do follow -- like to follow our customers' request. And in the meantime, we also diversified our technology service. And previously, we -- SMIC, we got a limited resources. We mainly focused on the COT and we focused on the digital and IC technologies. But now -- and since we could not move every year to build up one new fab, every year we move to a new node. Horizontally, we move to the other part to serve a larger base of customer. From today's conversation, you know that we already have a very strong hold in memory, specialty memory. And we start to ramp up high-voltage drivers and the IoT ultra-low-power CMOS, RF and CIS. And we get a larger base, so this is the way for SMIC to serve better our customers, both locally and internationally. And in general, we should say and we are happy to see the industry getting better in Mainland China is a benefit to SMIC in our supply chain and the customer base.

[Yiqun Chan, analyst]

Okay. That's great. One final question. You comment on various nodes. So I want to hear, are you still pursuing the 22-nanometer? And is that still a strategically important to SMIC at this point? That's my final question.

[Haijun Zhao, executive]

We already received from our customers a lot of requests on this 22 technology nodes. And our understanding is this way, Peter, you know that SMIC build up 20-nanometer fab pretty late, very recently. So our machine are more capable, more advanced in the industry. And the technology for that machine actually are capable of doing 22-nanometer. And we have been working on 22-nanometer more than a year. And we already completed the baseline setup, but now we are running up 20 HKC+ type of performance. Some of our customers request us to try 22 production soon, we are working on this now.

[Operator]

Your next question comes from the line of Szeho Ng from China Renaissance.

[Szeho Ng, analyst]

Two questions from my side. The first one regarding the operating expense, OpEx. It has been going pretty fast last 2 years, I can tell. Where should we expect the OpEx to achieve some sort of a steady-state?

[Haijun Zhao, executive]

Can you repeat your question?

[Szeho Ng, analyst]

Okay. The OpEx has been growing up very fast last 2 years. So where should we expect OpEx to stabilize?

[Yonggang Gao, executive]

[Foreign Language]

[Tim Kuo, executive]

Okay. Let me explain on the OpEx. As everybody could see, the OpEx has increased substantially in the past 2 years. If you look at the guidance for the first quarter, it's around USD 250 million to USD 255 million, that's a non-GAAP. So the major 2 reasons behind that is, the first one is about R&D because we are advancing our R&D projects, so R&D expense is increasing. The second part is about the SMIC South, because we are calculating SMIC South related expenses into the OpEx before the fab is officially set up.

[Szeho Ng, analyst]

All right. And second question on the capacity. I can tell that the Shanghai 300-millimeter fab is, actually, the capacity has come down quite a bit in Q4. What's the reason for that?

[Haijun Zhao, executive]

Just now I mentioned that on for the first question from Randy that why the operation margin are not getting better. And one of the answer is, for so many years, you know when a customer base is small and we use our R&D Fab in Shanghai to run a very small volume for this kind of 40-nanometer and 20 PolySiON High-K Metal Gate productions. And we have been running around 15,000 wafer to 20,000 wafer range for past 3, 4 years. But now we already have a fully-fledged manufacturing fab in Beijing, that's a very big size. And finally, we decided to merge the operation into the microfab in Beijing. So we shutdown the machines slowly after working with customers to relocate the product to Beijing to run aside manufacturing.

And so for this kind of machines and currently we stopped and we'll relocate this kind of machine to Beijing under the newly set up FinFET fab compatible to the more advanced technologies. And that's why you see the R&D fab productions going for lower. And that's very true, and we're timing to totally shut down the production of this kind of a legacy technology in the R&D fab by the mid of this year or second half of this year up to the agreements of customers.

[Szeho Ng, analyst]

Okay. Got you. So we should not expect the fab to grow as big as Shanghai 300-millimeter fab?

[Haijun Zhao, executive]

No. They will grow, but little. They'll grow 40-nanometer, 20-nanometer capacities. They will merge into the new wafer 5 for FinFET. And just now we announced that for the second half of this year, we will have the mini line of FinFET manufacturing fab fully ready for production.

[Operator]

Your next question comes from the line of Will Lu from UBS.

[William Lu, analyst]

So I just want to be clear because you got some moving pieces this year. If you assume that revenue this year is roughly flat, but gross quarter-on-quarter into the end of the year, what should I expect for gross margins and operating margins by the fourth quarter?

[Haijun Zhao, executive]

Bill, for the whole year and just now we already mentioned that we think the first quarter is at the bottom of the whole year for SMIC. And we'll have more platform of products to ramp up as the incremental revenue is add on to fill out the fab. And the whole year, we are targeting the year high teens to 20% type of gross margin for the whole year. We see a down quarter for the first quarter and the beginning of this year, and we see that our revenue, overall, will be tied together with the industrial trend. Are you there?

[William Lu, analyst]

Yes, sorry about that. So I guess, I’m a little bit unclear. So you're saying that gross margin in the first quarter is 20% to 22%. And by the end of the year, revenue is likely going to be at a higher run rate but margin might be slightly lower?

[Haijun Zhao, executive]

Okay, Will, you're clarifying. Okay, you really catching the point. Basically, this way when we ramp up and like the new wafer fab capacity like 28-nanometer technology or some other new technologies, at the beginning, their margin does not go for higher, it's below average. So that's very true in the industry for new wafer fab running leading-edge technology when the volume is very small, at the beginning, the margin could not be [made up] to the mature technologies. And for example, if I decided, really, today stop all the production of the leading edge and we only running the mature fab, the gross margin is much, much better than what we see today. And so when we have a higher volume of productions and we have more revenue, but in normalized, gross margin could go for lower. Yes, that's very true, Bill.

[William Lu, analyst]

Understood. I guess, based on your comments, I was under the impression that maybe 14 won't be that big this year. Is that drag mostly coming from 28 then?

[Haijun Zhao, executive]

I did not really catch your point. Can you repeat it?

[William Lu, analyst]

I thought maybe 14-nanometer revenue contribution this year would be fairly small, is that correct? And if so, is the margin mostly coming from 28 nanometers?

[Haijun Zhao, executive]

Okay, okay, I got your points. And we will ramp up production for 14-nanometer, but we do not expect the very big contributions from that volume. And so when you mentioned that the margin drag is mainly 20-nanometer, that's true. On previous quarter we also say that. And we really see the whole industry got oversupplied on 20-nanometer. And 20-nanometer, we build up very late. Now, the machines are still at the peak of the depreciation, so 20-nanometer is a really big burden for any fab for running big production.

[William Lu, analyst]

Got it. My second question is, Dr. Liang mentioned a N-plus-1 technology node, that is under development. Could you explain that a little bit more? Is that an iteration of 12? Or is that the next node after 12?

[Haijun Zhao, executive]

Hi Bill, just now I mentioned that, SMIC follow the customer strategies for leading-edge technologies. So they give us the time lines, they give us the requests and we reply to them. We put out a project to follow soon. And at this moment, N-plus-1 is our second generation for FinFET based on customers’ requests.

[Operator]

I would now like to hand the call back to IR Director, Tim Kuo, for closing remarks.

[Tim Kuo, executive]

In closing, we would like to thank, everyone, who participated in today's call. And again, thank all of you for your trust and support. Happy Chinese New Year. Thank you.

[Operator]

This is the end of SMIC's fourth quarter earnings conference call. We thank you for joining us today.