The A-share listing was trapped, and the wafer manufacturing leader SMIC (00981) was listed on the Science and Technology Innovation Board in July 2020, and the opening price was high on the first day, and the current market value has shrunk by 55%, while the market value of the Hong Kong stock market has shrunk by as much as 64%, and long-term investors have suffered heavy losses on their books.
Zhitong Financial APP observed that SMIC's market value continued to shrink, but the performance response was relatively delayed. From 2020 to 2022, the company's performance maintained a steady growth trend, with a compound growth rate of 36.44% and 60.24% in revenue and net profit, respectively, but the market value of the AH stock market fell by more than 40% during the period. However, in 2023, the fundamentals will begin to turn downward, with both revenue and net profit declining, and the market value bottoming out by 20%.
Stocks are the bellwether of corporate value, and although SMIC has rebounded in 2023, it will not last, and AH shares will still be a double kill in 2024, and the market is concerned about the company's fundamentals. According to the latest disclosed financial report, in Q1 2024, the company achieved revenue of US$1.75 billion, an increase of 19.7% year-on-year and 4.3% month-on-month, with no increase in profit, and net profit during the period fell by 76.2% year-on-year and 73.2% month-on-month respectively.
So, are SMIC's fundamentals still expected, and can long-term investors still hold them?
Increase in revenue but not in profit
Zhitong Financial APP learned that SMIC manufactures 8-inch wafers and 12-inch wafer products, and its downstream customers include smartphones, computers and tablets, consumer electronics, Internet wearables, and industrial and automotive industries, with markets covering China, North America, Eurasia and other regions, and is the largest wafer foundry in China. Before 2022, the company's performance maintained double-digit gifts, and in 2023, affected by macro demand and supply chain fluctuations, the performance declined, and in 2024, the demand rebounded, and the Q1 revenue returned to the double-digit growth track.
In Q1 2024, the company's wafer revenue will be 1.628 billion US dollars, returning to double-digit growth, accounting for 93% of revenue. Among them, the revenue contribution of 8-inch wafers and 12-inch wafers was 24.4% and 75.6% respectively, which remained stable month-on-month, and the year-on-year growth of 12-inch wafers was eye-catching. The return to growth was mainly due to the growth in demand for Internet wearables and consumer electronics, with the revenue share of the two major customer segments increasing by 8.1 and 4.4 percentage points to 30.9% and 13.2%, respectively.
SMIC's market is mainly concentrated in China, and its revenue contribution in previous years was relatively stable, with 81.6% in Q1, followed by the US market with 14.9%, and a total of 95.5%. Affected by the domestic supply chain and industry competition, the unit price of products fluctuates greatly, and the gross profit margin and net profit margin have declined to varying degrees in the company's profits. In Q1 2024, the company's gross profit margin was 13.7%, down 7.1 percentage points year-on-year and 2.7 percentage points month-on-month.
On the one hand, the increase in cost of sales was due to the company's continued expansion, which led to a significant increase in depreciation and amortization, which exceeded revenue by 12.7 percentage points in Q1, and on the other hand, higher material and other manufacturing costs, which also put pressure on gross profit. However, operating expenses improved year-on-year and quarter-on-quarter, of which R&D expenses, selling expenses and administrative expenses all improved to varying degrees, with Q1 expense ratios of 10.74%, 5.31% and 6.65% respectively.
Excluding non-operating expenses (depreciation and amortization), the company's EBITDA margin was 50.7 percent, down 14.4 percentage points year-on-year and 9.5 percentage points sequentially. The decline in profit margins led to a significant sequential decline in net cash flow from operating activities to US$470 million and a net investment outflow gap of US$858 million, in fact, under the company's expansion strategy, the net cash gap from operating investments from 2021 to 2023 is very high, US$3.643 billion, US$5.044 billion and US$2.85 billion, respectively, which is basically covered by financing.
It is worth mentioning that at present, the company's financing ability is still relatively stable, mainly driven by equity financing, and the proportion of debt financing is controllable. As of Q1 2024, the company's cash equivalents are US$5.349 billion, plus restricted funds and financial assets with a total cash on hand of US$15.386 billion, while short-term borrowings are only US$1.49 billion, plus long-term borrowings and bonds and other interest-bearing debts of US$10.319 billion, net cash of US$5.067 billion.
There are still things to watch in the short term
SMIC's biggest problem at present is that there is overcapacity in the expansion strategy for many years, and ineffective capacity will continue to eat into the company's profit margin due to the lack of demand release. In Q1 2024, the company's monthly production capacity is 814,500 wafers, but the capacity utilization rate is 80.8%, which is between 60-80% quarterly in 2023, with an average of 75%, of which Q1 is only 68.1%.
The low capacity utilization rate is subject to multiple factors such as weak global demand, high industry inventory, and fierce competition. On the other hand, Hua Hong Semiconductor's capacity expansion is relatively cautious, and the capacity utilization rate is very high, with the overall capacity utilization rate exceeding 90% in Q1, of which (200mm) wafer products are as high as 100.3%, and the capacity utilization rate in 2022 and 2023 will be as high as 107.4% and 94.3% respectively.
In terms of Q1 performance in 2024, 8-inch wafers and 12-inch wafers are only 56.2% and 16.6% of SMIC's respectively, which are also concentrated in the Chinese and North American markets, and the gap in volume is also large. Hua Hong Semiconductor's performance is stronger under active demand due to its high capacity utilization, small volume, and stronger performance under active demand, with a compound revenue growth rate of more than 50% from 2020 to 2022 and a decline of 7.6% in 2023, both of which are better than SMIC, but in Q1 2024, the revenue will decline by 27.1%, and the net profit margin will change from 22.3% to a loss rate of 5.5%.
SMIC and Hua Hong Semiconductor, as the two leading wafer foundry participants in China, are not optimistic about the industry in 2024. From the perspective of peers, including TSMC, advanced semiconductors and UMC, etc., especially TSMC, which occupies more than 50% of the global market share, has higher pricing power under price competition, from the perspective of industry scale, the global market size in 2022 will be 136 billion US dollars, only a single-digit growth, and the performance will be weaker in 2023, the dividends of domestic double-digit growth will disappear, and the participants will be differentiated, and the competition will be more fierce in 2024.
The 2024 Q2 guidance released by the two companies reflects the pessimistic expectations of the industry earnings in the first half of the year to a certain extent, with SMIC's revenue guidance of 5-7% growth, a significant slowdown compared to Q1, and a gross margin of 9-11%, with a further decline in profitability. However, SMIC has a large potential profit, announcing in March this year that it will sell its shares in Changdian Technology for 6.636 billion yuan (12.79% of the total number of issued shares), and if the transfer goes smoothly, it will generate a pre-tax income of about 1.245 billion yuan, which is 14.5% of the whole year of 2023.
Most brokerages are worried about the industry's prospects, and some are not optimistic about SMIC's earnings prospects. For example, Huaxing Securities Research Report believes that the company attaches more importance to capacity expansion than profitability, resulting in a significant decline in return and profit growth, among which the company's N28 and more advanced process business, carried out by joint venture chip factories, means that it will not be able to enjoy all profits, downgraded the rating, and raised the target price from HK$18 to HK$14.
From the perspective of secondary market performance, SMIC and Hua Hong Semiconductor both have similar trend characteristics of AH shares, and Hua Hong Semiconductor's listing on the Science and Technology Innovation Board (August 2023) was also the highest price on the first day, and its market value has shrunk by 47% so far. The monthly trend of the two companies has improved, but the long-term trend is still uncertain, affected by the fundamentals of the industry, the performance continues to slow down under the long-term funds or exit, unable to provide momentum for the rise in market value.
However, there are certain investment highlights in the short term, event-driven and three-week consecutive yang bring investors confidence in holding shares, and trend investors pay attention to the inflection point changes, which does not rule out attracting quantitative institutional funds to enter the market. In terms of choice, from the perspective of market premium, SMIC AH shares are at a premium of 178.7%, Hua Hong Semiconductor is at a premium of 83.5%, and from the valuation point of view, the PB value of Hong Kong stocks SMIC is 0.82 times, while Hua Hong Semiconductor is 0.6 times.