Hua Hong Grace Semiconductor Limited (1347) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by, and welcome to Hua Hong Semiconductor's Third Quarter 2024 earnings conference call. The call is hosted by Mr. Junjun Tang, President and Executive Director; and Mr. Daniel Wang, Executive Vice President and Chief Financial Officer. [Operator Instructions]. The earnings press release and third quarter 2024 summary slides are available to download at our company's website, www.huahonggrace.com. Without further ado, I would like to introduce you to Mr. Danny Wang, Executive Vice President and Chief Financial Officer. Thank you.

Good afternoon, everyone, and thank you all for joining our third quarter 2024 earnings conference. Today, we will first have Mr. Junjun Tang, our Executive Director and President, make some remarks on our third quarter performance. President Tang will address in Chinese; and Kathy Chien, our Deputy Director of Investor Relations, will be the translator. After that, I will discuss our financial results and provide guidance for the next quarter. This will be followed by our question-and-answer session. The call will be conducted in English. So please ask your question in English. I now turn the call over to Mr. Tang.

[Interpreted] Good afternoon, everyone. Thank you for joining our earnings call. The overall recovery of the semiconductor market is in line with our expectations, but there is a structural divergence. Demand in areas such as consumer electronics and some emerging applications are improving. However, the improvement in demand conditions for some products such as power discrete remains to be seen. In the third quarter of 2024, sales revenue of Hua Hong Semiconductor reached USD 526.3 million and gross margin was 12.2%, which were both better than guidance and achieved sequential growth. Full capacity utilization was also reached with a diversified product structure and the optimization of operational efficiency, the company has demonstrated it has good resilience in the face of a complex market environment. Construction of the new 12-inch production line in Wuxi continues to progress as planned and expected the trial production and process verification of each process platform will be fully rolled out by the end of this year to the beginning of next year. We will use the new production line for continuous technology iteration of the process platforms to meet the continuous emergence and growth of various emerging downstream needs, driving the company's overall operating performance to a new level. Now I would like to hand the call over to our CFO, Mr. Daniel Wang, for his comments.

Thank you, Mr. Tang, for the inspiring comments. Now, let me begin with a summary of our financial performance for the third quarter, followed by an outlook on revenue and margin for the fourth quarter 2024. And then we will move on to the question-and-answer session. First, let me summarize financial performance of the third quarter. Revenue was $526.3 million, 7.4% lower than Q3 2023, primarily due to decreased average selling price, partially offset by increased wafer shipments and 10% over Q2 2024, mainly driven by increased wafer shipments. Gross margin was 12.2%, 3.9 percentage points lower than Q3 2023, primarily due to decreased average selling price, partially offset by improved capacity utilization and 1.7 percentage points above in Q2 2024, mainly driven by improved capacity utilization. Operating expenses were $81.4 million, 4.3% lower than Q3 2023 and 9.9% lower than Q2 2024, primarily due to decreased engineering wafer costs. Other income net was $51.8 million compared to other loss net of $19.4 million in Q3 2023 and other income net of $6.9 million in Q2 2024, primarily due to foreign exchange gains versus foreign exchange losses in Q3 2023 and Q2 2024 and increased government subsidies. Income tax expenses were $11.5 million, 11.8% lower than Q3 2023 and 37% over Q2 2024. Net profit for the period was $22.9 million compared to a loss for the period of $25.9 million in Q3 2023 and a loss for the period of $41.7 million in Q2 2024. Net profit attributable to shareholders of the parent company was $44.8 million 222.6% over Q3 2023 and 571.6% above Q2 2024. Basic earnings per share was $0.026, 188.9% over Q3 2023 and 550% above Q2 2024. Annualized ROE was 2.8%, 1.6 percentage points over Q3 2023 and 2.4 percentage points above Q2 2024. Now I'll provide more details on our revenue from Q3 2024. From a geographic perspective, revenue from China was $434.5 million, contributing 82.5% of total revenue and a decrease of 1.5% compared to Q3 2023, mainly due to decreased demand and average selling price for IGBT, super junction and flash products, partially offset by increased demand for CIS and other power management IC products. Revenue from North America was $46.7 million, a decrease of 4.2% compared to Q3 2023, mainly due to decreased demand for MCU, general MOSFET, logic and super junction products partially offset by increased demand for other power management IC products. Revenue from Asia was $27.8 million, a decrease of 19.7% compared to Q3 2023, mainly due to decreased demand for logic, super junction and general MOSFET products. Revenue from Europe was $16.4 million, a decrease of 58% compared to Q3 2023, mainly due to decreased demand for smart card ICs, IGBT and general MOSFET products. Revenue from Japan was $0.9 million, a decrease of 82% compared to Q3 2023, primarily due to decreased demand for super junction, MCU and logic products. With respect to technology platforms, revenue from embedded non-volatile memory was $132.6 million, a decrease of 7.7% compared to Q3 2023, mainly due to decreased demand for smart card ICs. Revenue from stand-alone non-volatile memory was $29.3 million, a decrease of 20.3% compared to Q3 2023, mainly due to decreased average selling price and demand for flash products. Revenue from discrete was $163.3 million, a decrease of 30.8% compared to Q3 2023, mainly due to decreased average selling price and demand for IGBT and super junction products. Revenue from logic and RF was $77 million, an increase of 54.4% over Q3 2023, mainly driven by increased demand for CIS and logic products. Revenue from analog and power management IC was $122.9 million, an increase of 21.8% over Q3 2023, mainly driven by increased demand for other power management IC products. Now let's look at the cash flow statement. Net cash flows used in operating activities was $26.8 million in Q3 2024 compared to net cash flows generated from operating activities of $152.1 million in Q3 2023 and $96.9 million in Q2 2024, primarily due to increased payments of import value-add tax, partially offset by increased government subsidies. Capital expenditures were $734 million in Q3 2023 -- 2024 including $617.7 million for Hua Hong Manufacturing, $87.8 million for Hua Hong Wuxi and $28.6 million for Hua Hong 8-inch business. Other cash flow generated from investing activities was $18.1 million in Q3 2024, which were interest income receipts. Net cash flows used in financing activities was $5 million in Q3 2024, including $4.5 million of bank principal repayments, $3.3 million interest payments and $1 million lease payments, partially offset by $2.3 million proceeds from bank borrowings and $1.5 million proceeds from share option exercise. Now let's move to the balance sheet. Cash and cash equivalents was $5,766.7 million on September 30, 2024, compared to $6,423.9 million on June 30, 2024. Prepayments, other receivables and other assets increased from $75.8 million on June 30, 2024, to $269.2 million on September 30, 2024, mainly due to increased value-add tax credit. Property, plant and equipment was $5.199 billion on September 30, 2024, compared to $3,750.2 million on June 30, 2024. Other non-current assets decreased from $428.6 million on June 30, 2024, to $372.9 million on September 30, 2024, primarily due to decreased advanced prepayments for construction and equipment for Hua Hong manufacturing. Total assets increased from $12,104.8 million on June 30, 2024, to $13,082.4 million on September 30, 2024. Total liabilities increased to $3.687 billion on September 30, 2024, from $3,059.9 million on June 30, 2024. Debt ratio increased to 28.6% on September 30, 2024, from 25.3% on June 30, 2024. Finally, let me give you a high-level outlook for the fourth quarter 2024. We expect revenue to be approximately $530 million to $540 million and our gross margin to be in the range of 11% to 13%. This concludes my financial remarks. Now we would like to start the question-and-answer session. Operator, please assist. Thank you.

[Operator Instructions] We will now take our first question from the line of Ziyuan Wang from CITIC Securities.

Congratulations on the very good third quarter performance. It is better than the guidance. And my first question is, what is your current outlook for the capacity utilization and prices in the fourth quarter? Is there any possibility of the further exceeding expectations in the first quarter?

[Interpreted] Thanks for your question. As for the Q3, our whole company worked together with our customers and face a challenge from the market and achieved a stable growth for our performance. As for the Q4 outlook, we think the overall market is still in a condition of a mild growth. We are still facing some pressure on some certain platforms. We will focus on our embedded flash analog and [indiscernible] our privileged platforms. We have very high utilization rate in our 12-inch fab at Wuxi. We adjust our capacity allocation very flexibly and achieve a record high of our…Management team and all staff of our company will work together to achieve the Q4 guidance. Thank you.

My second question is, I'm glad to hear that our second factory in Wuxi is going to production in the Q1 next year. I'm just wondering what's the impact of the depreciation in the Q1 next year? What will be the impact on the gross margin? Maybe how -- can you share that how much depreciation it might be in Q1? And what impact will have on the gross margin?

That was a very good question. I think in general, the impact from the additional depreciation expenses from the second 12-inch fab will be minimal in the first half, okay? So yes, we're going to the fab, the second 12-inch fab will become operational literally in December. And the depreciation expense will start to roll out in the first quarter. But I think the impact will be minimal. I would say it will be anywhere $10 million, $20 million in the first quarter. When you look at the overall for the year for the year 2025, I would imagine it will be around $150 million at the most. But you have to think about this will give potentially a lot of additional revenue for next year. So, the goal is to – it's going to be a gradual ramp. And I think by end of Q4, I think the loading will be roughly around 20,000 wafers in terms of the wafers that will be put in every month, So, it's going to be a gradual process. When I said loadings, meaning literally around 20,000 wafers out by end of next year. So, it's going to be a -- it's going to be a gradual process.

Our next question comes from the line of Leping Huang from Huatai Securities.

The first question is a relatively a general question. So, what's the impact of the re-election of the Trump in this -- on your future business plans?

Look, I know you would ask that question. But let me address that. Personally, I don't feel there will be any impact on our business. President Trump's new win in the U.S. election, I don't think there will be any impact on our business. First of all, Hua Hong has been in full compliance on export control, as all of you know. I mean, so we have been doing that for many years. Internally, we have a strong, robust, it's an internal control program we call ICP, in place that will make sure every wafer we ship will always follow the rules and regulations of export compliance. And the other thing is the curve, so we are a specialty technology provider. And our technology node, most advanced is at 40-nanometer. So, we literally, we're not within the control. So, our goal is to continue to be a specialty technology provider within the semiconductor foundry space. Finally, I also would like to point out that our communication with the U.S. government has always been very transparent. They know us well. We follow the rules, not just the U.S. rules. And I think it is the export control rules by all the relevant nations. So, personally, I don't think there'll be any impact.

Okay. Thank you for clarity. The second question, is that you are now spending around USD 700 million per quarter on the CapEx. So it seems you start to ramp up or finally start to wafer out on this Wuxi new fab. So do you have any color on your CapEx outlook for 2025? Or what's the status of your Wuxi fab? Do you roughly finish its construction and how we should look at Wuxi fab on CapEx in 2025?

Right. The only major capital expenditures for Hua Hong semiconductor at this point is the second -- our second 12-inch fab. So it is as I probably mentioned several times in the -- many times in the past, in fact, it's $6.7 billion investment. It is a -- we're building a twin fab. We're talking about it's got a structure that will house 2 fabs eventually, okay? So this is going to be the structure, the building plus the power facility for the first fab and also the equipment for the entire 83,000 wafer capacity at 40-nanometer technology node, down to 40-nanometer. So this is the total investment, we expect $6.7 billion. This is going to be -- basically will be spent in anywhere starting from last year, 2023, mid of last year, very little minimum cash out 2024, 2025 and 2026. So roughly, average, you're looking at slightly over $2 billion a year. So your numbers are pretty close, talking about $700 million a quarter. It's going to be on and off each quarter based on the progress of the equipment installation. So if the number is anywhere could be $500 million to $700 million, depending on the speed of the capacity that has been installed. So that's -- between this year and 2024, 2025, 2026, I think roughly the major spending will be between 2024 and 2025. It will be around $2 billion to $2.5 billion a year.

Our next question comes from the line of Tony Shen from SPDBI.

[Interpreted] This is Tony from SPDB International. Actually, I've got two questions here. The first question is related to the gross margin guidance for the fourth quarter. It looks like if we look at the average gross margin for the fourth quarter, it's basically flattish quarter-on-quarter. So the 4Q gross margin is similar to 3Q. Could we share some reasons behind this, including the utilization rate or ASP? How do we see these 2 factors impact the gross margin in the fourth quarter?

If you look at our revenue guidance, it's going to be anywhere from -- as I said earlier, the revenue guidance, it is $530 million to $540 million. So there's going to be a slightly up compared to Q3. I think we had a good strong quarter in Q3. We expect there's going to be a slight ASP increase. Utilization rate for the three 8-inch fabs overall is going to be around, I would say, 90%. There's still some price pressure for the 8-inch business, this is probably true for all the fabs globally. I think the 8-inch business is under pricing pressure. And for the 12-inch fab, it's actually very strong. It's going to be at its full utilization rate, 95,000 wafer capacity. It's going to be running at 95,000 wafers, nearly 100 or even more. We have a few good things that are going strong in the 12-inch fab, the CIS product, the BCD product going for the AI server and also the GPU device. And then the logic and RF also is going pretty strong for us. But overall, I think the market still has some weakness overall, especially for mature technology nodes.

Okay. Got you. It's very clear. And my second question is related to semiconductor cycle. How do we see the cycle into 2025, especially into the next year? I've already noted that some products from Hua Hong is very strong, such as CIS, but some products such as powertrain is still relatively weak. And how do we see Hua Hong is positioned in the semiconductor cycle into the next year? This is my second question.

I think you got these points right. So you guys are all very close to the market. You know the market well. We are a specialty technology provider. We have 5 strong technology platforms we have developed. Certainly, at this point, not all the engine -- all the cylinders are going strong. I think, as I mentioned, the power management IC and the area for power management IC is going strong, both globally and China. The CIS business logic and RF are also doing very well for us. The power discrete business overall, especially the high-voltage products are weak and are very competitive on price in the market, and embedded non-volatile memory is still at the -- I would say, has not recovered completely. But I expect the -- that part of the business will -- we saw throughout the quarters in 2024, things actually had a pretty reasonable recovery. And we expect this trend will continue into 2025. So I expect MCU business will come back, will be doing better next year. The power discrete business, I think, other than the medium low-voltage products, the high-end business -- the high-voltage products are still weak at this point.

Our next question comes from the line of Sunny Lin from UBS.

So my first question is to follow up on the pricing, and there are a few parts. And so number one, for your second 12-inch fab, when you start to ramp from early 2025, how high should we model the ASP? Will it be similar with the first 12-inch fab? And then secondly, for 12-inch overall, Daniel, I recall before, you did have a target to improve the ASP to maybe 1,500 or even a bit higher. And so how should we think about that going to next 2, 3 years? And then number three, for your price increase, I think in the last maybe 2, 3 quarters in selective areas, you were able to revise up pricing to some extent. Into 2025, are there any products that you could still revise up pricing? Or do you think overall, the pricing dynamics are moderating or under a bit more pressure at this point?

Sunny, thank you for the question. Sharp questions, very sharp questions. In terms of pricing for the 12-inch fab, okay, I would say just to model, I think the discrete products, I would say, overall average is going to be around, I would say, $800 to $850, okay. And the ASPs for the IC business should be around, I would say, $1,200 or even more, $1,200 to $1,400, okay. Because I certainly expect the embedded non-motor business will recover. I would say you're going to see an increase in volume quarter through quarter for embedded. And the power discrete and also is going to be pretty stable around over $1,000. And not the power management IC, I'm sorry, I'm misspoken. And then the logic and RF, I think they should be doing pretty well as well. It's going to be around $1,000 to $1,200, okay. So that is for the 12-inch business. Overall, I believe the business will get stronger and stronger. We certainly I mean, if you look at our numbers throughout the year, it's been a tough year, tough year. Price compared to 2022, 2023, price was down, initially it was down close to 25%. Now we slowly, gradually have brought it up. Now the difference is about 20% compared to high. I think we're going to start to gradually minimize basically gradually close that range, okay, hopefully, throughout next year, okay. We are extremely hopeful about our business, our outlook for 2025. It is certain segments continue to be very competitive, okay. There are some new players. They're coming into the market with extremely low price. I very much disagree with their practice. But if that's how they want to play. But you have to remember, we are a specialty technology provider. We have standard price for each of our segments, okay. So we're not going to basically do whatever these guys are doing, okay. We have our price standard. We're not going to easily change that. So I would say things will start to get better and better, hopefully, next year, just like what we had this year, 2024 have been tough, but we have been making progress every year, even though it is not easy.

Got it. That's very helpful. And so my second question is on power discrete. Do you think the weakness is because of the end market most of the companies reporting in recent few weeks talk about the weakness ongoing in automotive and industrial. So do you think that the main reason for the weak power discrete? Or do you think it's actually an oversupply issue? And for power discrete, what's your expectation for us to see maybe better recovery?

[Interpreted] Power discrete business is stably growing and the capacity from both 8-inch and 12-inch give a solid supply for the overall market. Yes, we also recognize there's more capacity release and the pricing is going down. And our business, we will focus on the quality, we focus accordingly in line with the country's new energy trend, we focus on the wind energy storage and automotive industry control. We will focus on our specialty privileges and enhance our strength in the power discrete.

Sorry, if I could squeeze in one last question. Maybe a bigger picture question. So if you think about the supply/demand in mature foundry overall in China market, on the supply side, do you think we could start to see maybe more consolidation into 2025? I mean on our side, we start to hear that the Chinese central government is now implementing more control on approving the new project. And so maybe some of the smaller projects from here could see some issues on getting the cash flow. And so I just wonder what you think on that side? And also, if at any point, would you consider buying some of the fabs locally?

[Interpreted] So the mature technology still have a very huge market. And no matter AI applications and some other high-end applications still have Growing demand on the mature technologies. So to in line with this growing demand, we will focus on our strength on high-quality, reliability, [ heavy ], and we will keep focusing on that. So we will also focus on some special application areas together with our customers and continuously improving our quality to satisfy the market demand. So we will also communicate with end customers for the overall trend of the legacy sorry, the mature technology, and we will put more efforts on R&D to better satisfy the market demand. So I believe after 1 or 2 years structure adjustment or optimization, the overall market will be very huge, and our business will be improving better and better. Our next question comes from the line of Jian Kuai from Orient Securities.

[Interpreted] The first question is about the AI opportunity. Just now Mr. Wang and Mr. Tang mentioned about it. So could you please give us more color about the opportunities such as the TAM and our business process or business opportunity or these kind of things?

[Interpreted] So the AI development is actually a trend and bring us semiconductor industry a huge opportunity. But it requires very high standard on the stable and quality… With 20-plus years development on specialty technology, we have formed several very competitive and very reliable technologies to provide service for the AI and some new energy technologies. Our analog chips provide power security for the AI chips. And some power discrete chips like SGT or super junction to support the power management chips enter several relative application areas continuously. I think those markets, those applications will continue to support our business to keep growing.

My second question is about the Hua Hong manufacturing about the capacity allocation. Just now Mr. Wang mentioned about the 20,000 capacity by year-end. So what is our outlook for the capacity allocation, maybe by product or by?

Well, it's primarily, it will be in the areas of embedded non-volatile memory, power management IC and some logic and RF, okay, in that order. And there will also be some capacity allocated for power discrete products, the high-voltage power discrete products. And then we're going to scale the capacity as we build more capacity.

[Operator Instructions] We have a follow-up question from the line of Ziyuan Wang from Citic Securities.

Okay. Can I add one more question? I recall that during the IPO last year, it was mentioned that you might acquire Hua Hong Fab 5 in the future. Is there any timetable or when is it expected to be?

That is still the plan. But we have 3 years to do that. We committed to merge that fab into the listed company, Hua Hong Semiconductor. We don't have a timetable yet, but that is certainly something we have always been thinking about.

[Operator Instructions] Ladies and gentlemen, that's all the time we have for questions. I'll now turn the call back to Mr. Danny Wang for closing remarks.

Well, again, I want to thank you all for joining us today and asking all the good questions. We hope you are joining us again next quarter. Please continue to stay safe and healthy. We look forward to meeting you again in person in the near future. Thank you.

[Operator Instructions] Ladies and gentlemen, thank you for your attendance. You may disconnect now. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]