424B4 1 d424b4.htm 424B(4) 424B(4)
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Filed Pursuant to Rule 424(b)(4)

Registration No. 333-112720

LOGO

 

Semiconductor Manufacturing International Corporation

(Incorporated in the Cayman Islands with limited liability)

 

97,878,780 American Depositary Shares

Representing 4,893,939,000 Ordinary Shares (par value US$0.0004 per share)

 


 

Semiconductor Manufacturing International Corporation is offering American depositary shares, or ADSs. Each ADS represents 50 ordinary shares. We are selling 55,454,540 ADSs, representing 2,772,727,000 ordinary shares, and certain of our shareholders referred to in this prospectus as selling shareholders are selling 42,424,240 ADSs, representing 2,121,212,000 ordinary shares. This is our initial public offering. The selling shareholders identified in this prospectus have granted to the underwriters an option to purchase a maximum of 15,454,540 additional ADSs, representing 772,727,000 ordinary shares, to cover overallotments, if any. We will not receive any of the proceeds from the sale of the ADSs by the selling shareholders, including any proceeds from the underwriters’ exercise of their overallotment option, if any. The initial public offering price per ADS will be US$17.50, which is equivalent to HK$2.73 per ordinary share at the exchange rate of HK$7.7960 to US$1.00, the noon buying rate on March 11, 2004.

 

This offering of ADSs is part of a global offering of an aggregate of 5,151,515,000 ordinary shares, including a Hong Kong public offering of 257,576,000 ordinary shares. We expect to reallocate 772,727,000 ordinary shares from this offering to the Hong Kong public offering.

 

 

The ADSs have been approved for listing on the New York Stock Exchange under the symbol “SMI.” We have received approval in principle to list the ordinary shares on The Stock Exchange of Hong Kong Limited under the stock code “981.”

 

Investing in the ordinary shares or the ADSs involves risks. See “Risk Factors” beginning on page 10.

 

    

Price to

Public


  

Underwriting

Discounts and

Commissions(1)


   Proceeds to Us

   Proceeds to Selling
Shareholders


Per ADS

   US$ 17.50    US$ 0.6020    US$ 16.8980    US$ 16.8980

Per ordinary share

   HK$ 2.73    HK$ 0.0939    HK$ 2.6361    HK$ 2.6361

Total

   US$ 1,712,878,650    US$ 58,923,026    US$ 937,070,817    US$ 716,884,808

(1) For additional information on underwriting compensation, see “Underwriting.”

 

The information in the above table excludes ordinary shares offered in the Hong Kong public offering, with aggregate proceeds to us of HK$692,879,440, and also excludes proceeds to the selling shareholders from the underwriters’ exercise of their overallotment option, if any. We expect to reallocate ordinary shares from this offering to the Hong Kong public offering, which will reduce the proceeds from the ADSs and ordinary shares offered hereby and increase the proceeds from the Hong Kong public offering.

 

The ordinary shares will be ready for delivery in Hong Kong on or around March 18, 2004, and the ADSs will be ready for delivery in New York, New York on or around March 18, 2004.

 

Neither the U.S. Securities and Exchange Commission nor any U.S. state securities regulators have approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 

Credit Suisse First Boston

  Deutsche Bank Securities

 

The date of this prospectus is March 11, 2004


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TABLE OF CONTENTS

 

     Page

Prospectus Summary

   1

Risk Factors

   10

Special Note Regarding Forward-Looking Statements

   27

Use of Proceeds

   28

Dividends and Dividend Policy

   29

Capitalization

   30

Dilution

   32

Selling Shareholders

   34

Selected Consolidated Financial Data

   40

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   43

Our Business

   70

Regulation

   102

Management

   108

 

     Page

Related Party Transactions

   122

Principal Shareholders

   130

Description of Share Capital

   133

Description of American Depositary Shares

   143

Shares Eligible for Future Sale

   152

Taxation

   155

Enforceability of Civil Liabilities

   159

Underwriting

   160

Notice to Canadian Residents

   171

Legal Matters

   173

Experts

   173

Expenses Relating to this Offering

   173

Where You Can Find More Information

   174

Index to Financial Statements

   F-1

Annex A—Glossary of Technical Terms

   A-1

Annex B—Property Valuation Report

   B-1

 

You should rely only on the information contained in this prospectus. We have not authorized anyone to provide you with different information. We are not making an offer of these securities in any jurisdiction or state where the offer is not permitted. You should not assume that the information in this prospectus is accurate as of any date other than the date on the cover of this prospectus.

 


 

Dealer Prospectus Delivery Obligation

 

Until April 5, 2004, 25 days after the date of this prospectus, all dealers that buy, sell or trade the shares or ADSs, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to the dealers’ obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

 


 

Conventions That Apply to This Prospectus

 

References in this prospectus to:

 

  “China” or the “PRC” are to the People’s Republic of China, excluding for the purpose of this prospectus Hong Kong, Macau and Taiwan;

 

  “HK$” are to Hong Kong dollars;

 

  “Rmb” are to Renminbi, the legal currency of China;

 

  “US$” are to U.S. dollars;

 

  “SEHK” or “Hong Kong Stock Exchange” are to The Stock Exchange of Hong Kong Limited; and

 

  “NYSE” or “New York Stock Exchange” are to the New York Stock Exchange, Inc.

 

All references in this prospectus to silicon wafer quantities are to 8-inch wafer equivalents, unless otherwise specified. Conversion of quantities of 12-inch wafers to 8-inch wafer equivalents is achieved by multiplying the number of 12-inch wafers by 2.25. When we refer to the capacity of wafer fabrication

 

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facilities, we are referring to the installed capacity based on specifications established by the manufacturers of the equipment used in those facilities.

 

References to key process technology nodes, such as 0.35 micron, 0.25 micron, 0.18 micron, 0.15 micron, and 0.13 micron, include the stated resolution of the process technology, as well as intermediate resolutions down to but not including the next key process technology node of finer resolution. For example, when we state “0.25 micron process technology,” that also includes 0.22 micron, 0.21 micron, 0.20 micron and 0.19 micron technologies. “0.18 micron process technology” also includes 0.17 micron and 0.16 micron technologies.

 

References to “U.S. GAAP” mean the generally accepted accounting principles in the United States. Unless otherwise indicated, our financial information presented in this prospectus has been prepared in accordance with U.S. GAAP.

 

The “Glossary of Technical Terms” contained in Annex A of this prospectus sets forth the description of certain technical terms and definitions used in this prospectus.

 

Solely for the convenience of the reader, this prospectus contains translations of certain Hong Kong dollar and Renminbi amounts into U.S. dollars at specified rates. All translations from Hong Kong dollars and Renminbi to U.S. dollars were made (unless otherwise indicated) at the noon buying rates in The City of New York for cable transfers in Hong Kong dollars and Renminbi per US$1.00 as certified for customs purposes by the Federal Reserve Bank of New York. Unless otherwise stated, the translations of Hong Kong dollars and Renminbi into U.S. dollars have been made at the noon buying rates in effect on March 11, 2004, which were HK$7.7960 to US$1.00 and Rmb 8.2772 to US$1.00. No representation is made that the Hong Kong dollar, Renminbi or U.S. dollar amounts referred to in this prospectus could have been or could be converted into U.S. dollars, Hong Kong dollars or Renminbi, as the case may be, at any particular rate or at all. See “Risk Factors—Risks Related to Conducting Operations in China—Devaluation or appreciation in the value of the Renminbi or restrictions on convertibility of the Renminbi could adversely affect our operating results” and “Risk Factors—Risks Related to Our Financial Condition and Business—Exchange rate fluctuations could increase our costs, which could adversely affect our operating results and the value of our ADSs” for a discussion of the effects on our company of fluctuating exchange rates.

 

Except as otherwise indicated, all information contained in this prospectus assumes:

 

  a 10-for-1 share split to be effected in the form of a share dividend immediately after the conversion of our preference shares into ordinary shares and immediately prior to the completion of the global offering;

 

  the conversion of (i) all of our convertible preference shares issued or issuable as of December 31, 2003 into 13,299,009,450 post-split ordinary shares, which amount assumes the closings as of December 31, 2003 of the subscriptions for Series C convertible preference shares convertible into 547,499,980 post-split ordinary shares, which have closed or which we expect to close in the second quarter of 2004, (ii) the Series D convertible preference shares issued in January 2004 to Motorola, Inc. and its subsidiary, Motorola (China) Electronics Limited, or MCEL, which are convertible into 1,605,174,900 post-split ordinary shares and which were issued in connection with our acquisition of assets constituting Motorola’s fab in Tianjin, China, and (iii) the Series D convertible preference shares, which are convertible into 39,290,830 post-split ordinary shares and which are issued or issuable to two of our technology partners upon the closing of our technology transactions with them, one of which closed on February 26, 2004 and the other which we anticipate will be consummated by the end of the second quarter of 2004;

 

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  the conversion of our convertible preference shares into ordinary shares upon the closing of the global offering at the following approximate conversion rates:

 

Series A convertible preference shares

  

1 to 1

Series A-2 convertible preference shares

  

1 to 1

Series B convertible preference shares

  

1 to 1.09

Series C convertible preference shares

  

1 to 1.75

Series D convertible preference shares

  

1 to 1.68

 

  the redemption of all of our outstanding Series A-1 non-convertible preference shares immediately prior to the closing of the global offering;

 

  the filing of our Ninth Amended and Restated Memorandum and Articles of Association following conversion of our preference shares, which increases our authorized number of ordinary shares to 50,000,000,000 and creates 5,000,000,000 undesignated preference shares; and

 

  no exercise by the representatives of the underwriters’ right to purchase up to an additional 772,727,000 ordinary shares to cover overallotments.

 

The automatic conversion of our convertible preference shares into ordinary shares shall be deemed to occur immediately prior to the adoption of our Ninth Amended and Restated Memorandum and Articles of Association, which in turn shall be deemed to occur immediately prior to the implementation of our 10-for-1 share split in the form of a share dividend. Accordingly, when we give information in this prospectus relating to the number and per share prices of preference shares, such information is given on a pre-split basis. However, when we give information relating to the number of ordinary shares, such information is given on a post-split basis. For example, if, prior to the share split, a shareholder owned ten convertible preference shares each of which converted into five ordinary shares, then we would disclose in the prospectus that such shareholder’s convertible preference share ownership was ten, but if we presented his share ownership on an as-converted basis, we would disclose that he owned five hundred ordinary shares.

 

 

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PROSPECTUS SUMMARY

 

The following summary is qualified in its entirety by, and should be read in conjunction with, the more detailed information and the financial statements and related notes appearing elsewhere in this prospectus. You should read the entire prospectus carefully in evaluating an investment in our securities. Please see “Annex A—Glossary of Technical Terms” for a description of certain technical terms and definitions used in this prospectus.

 

Overview

 

We are one of the leading semiconductor foundries in the world. As a foundry, we fabricate semiconductors for customers based on their own or third parties’ integrated circuit designs. We were founded in April 2000 and within three years have developed the capabilities to offer a wide range of leading edge integrated wafer manufacturing services, including copper interconnects capabilities, to our global customer base. We operate 8-inch wafer fabrication facilities in the Zhangjiang High-Tech Park in Shanghai, China and, as a result of a recent acquisition, an 8-inch wafer fab in Tianjin, China. These fabs had an aggregate capacity as of December 31, 2003 of 49,000 8-inch wafers per month for wafer fabrication and 9,000 wafers per month for copper interconnects, which positions us as a leading foundry in China. In addition, we are currently constructing 12-inch wafer fabrication facilities in Beijing, which we believe will be the first 12-inch fabs in China. Fab 1 at our facility in Shanghai was selected as one of the two “Top Fabs of 2003” by Semiconductor International, a leading industry publication. In addition, we were ranked second in a readers’ poll of top global foundries of 2003 conducted by Silicon Strategies, another leading semiconductor industry publication.

 

We currently provide semiconductor fabrication services using 0.35 micron to 0.13 micron process technology for the following devices:

 

  logic technologies, including standard logic, mixed-signal, radio frequency and high voltage circuits;

 

  memory technologies, including dynamic random access memory, static random access memory, flash, electronically erasable programmable read-only memory and mask read-only memory; and

 

  specialty technologies, including liquid crystal on silicon, complementary metal oxide silicon image sensor and system-on-chip.

 

We intend to expand our capabilities in the fabrication of semiconductor wafers using both high-end logic and memory technologies. In addition to wafer fabrication, our service offerings include a comprehensive portfolio of intellectual property consisting of libraries and circuit design blocks, design support, mask-making and wafer probing. We also work with our partners to provide assembly and testing services.

 

We have a global and diversified customer base that includes integrated device manufacturers, such as Fujitsu Limited, Infineon Technologies AG, Samsung Electronics Co., Ltd., STMicroelectronics Pte. Ltd. and Texas Instruments Incorporated, and fabless semiconductor companies, such as Broadcom Corporation, Elite Semiconductor Memory Technology Inc. and Marvell Semiconductor, Inc. The foregoing is not intended to identify our top customers, but rather to provide a representative sampling of our customer base.

 

In recent years, fabless semiconductor companies have grown both in terms of their geographic reach as well as their overall worldwide sales. In addition, integrated device manufacturers have increasingly outsourced their manufacturing requirements for complex and high performance semiconductor devices to semiconductor foundries in order to become more cost competitive. Semiconductor foundries have emerged as key strategic partners to fabless semiconductor companies and integrated device manufacturers, enabling the manufacturing of increasingly more complex, higher performance semiconductor devices at

 

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lower costs. According to IC Insights, a leading semiconductor industry publication, the compound annual growth rate of the semiconductor foundry industry in terms of worldwide sales is projected to be 21.8% from 1998 to 2008, compared to 9.5% for the semiconductor industry as a whole for the same period. We believe that we are well positioned to benefit from the growth of fabless semiconductor companies and the increase in outsourcing by integrated device manufacturers, particularly because our facilities are equipped to manufacture integrated circuits using leading edge technologies at competitive costs.

 

China has emerged as a global manufacturing center for electronic products that are sold both within China and abroad. In addition, according to China’s Ministry of Information Industry, the domestic market for electronic information products in China has grown in terms of overall sales from US$20.2 billion in 1999 to US$77.1 billion in 2002. An increasing proportion of the semiconductors required for these products has been sourced in China. We believe our position as a leading foundry in China will allow us to take advantage of this growth in local semiconductor sourcing to meet domestic Chinese demand as well as for use in electronic products for export.

 

Our Solutions and Competitive Advantages

 

We offer a wide range of integrated manufacturing services and solutions to our global customers to assist them in bringing their products to market rapidly and cost effectively. Our solutions and competitive advantages include the following:

 

  Leading edge process technology capabilities;

 

  Flexible and customizable manufacturing;

 

  Integrated one-stop manufacturing service;

 

  Proximity to electronics manufacturing supply chain in China;

 

  Cost-effective services;

 

  Focus on high quality customer service; and

 

  Strong management team, corporate culture and availability of qualified personnel.

 

Our Strategy

 

The key elements of our strategy consist of the following:

 

  Capitalize on our first mover advantage to capture semiconductor industry growth opportunities in China;

 

  Target a diversified and global customer base;

 

  Maintain leading edge technology and innovation through internal research and development and strategic alliances and partnerships;

 

  Provide high quality customer service; and

 

  Shift product mix to logic wafers while maintaining expertise in dynamic random access memory technology.

 

Risks of Investment

 

See “Risk Factors” beginning on page 10 for a description of the risks relating to an investment in our shares or ADSs.

 

Corporate Information

 

We are a limited liability company that was incorporated in the Cayman Islands in April 2000. Our principal executive offices are located at 18 Zhangjiang Road, Pudong New Area, Shanghai 201203, China. Our telephone number in Shanghai is (+86-21) 5080-2000. Investor inquiries should be directed to our Investor Relations Department at (+86-21) 5080-2000, extension 16012. Our website is www.smics.com. Information contained on our website does not constitute part of this prospectus.

 

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The Global Offering

 

ADSs offered by us

55,454,540 ADSs, representing 2,772,727,000 ordinary shares.

 

ADSs offered by the selling shareholders

42,424,240 ADSs, representing 2,121,212,000 ordinary shares.

Global offering

The global offering consists of the offering of a total of 5,151,515,000 ordinary shares, including ordinary shares represented by ADSs, pursuant to the U.S. offering, the international offering and the Hong Kong public offering.

 

U.S. offering

56,666,660 ADSs in a public offering in the United States and on a private placement basis in Canada.

 

International offering

41,212,120 ADSs outside the United States and Canada, including to professional and institutional investors in Hong Kong and in a public offering without listing in Japan.

 

Hong Kong public offering

257,576,000 ordinary shares in a public offering in Hong Kong.

 

 

If the number of ordinary shares validly applied for in the Hong Kong public offering is 15 times or more but less than 50 times, 50 times or more but less than 100 times, or 100 times or more than the number of ordinary shares initially available for subscription in the Hong Kong public offering, then we will reallocate an additional 128,788,000 ordinary shares, 386,363,000 ordinary shares or 772,727,000 ordinary shares, respectively, to the Hong Kong public offering from the U.S. offering and/or the international offering in a manner the underwriters consider appropriate. We expect 772,727,000 ordinary shares will be reallocated from the U.S. and international offerings to the Hong Kong public offering. Any unsold ordinary shares in the Hong Kong public offering may be reallocated to the U.S. offering and/or the international offering.

 

Global coordinator

Credit Suisse First Boston (Hong Kong) Limited.

 

Joint bookrunners

Credit Suisse First Boston (Hong Kong) Limited and Deutsche Bank AG, Hong Kong Branch.

 

Election of American depositary shares or ordinary shares

Purchasers in the U.S. and international offerings may elect to take delivery of our ordinary shares in lieu of ADSs.

 

Overallotment option

The selling shareholders have granted an option to the underwriters to purchase up to 15,454,540 additional ADSs, representing 772,727,000 ordinary shares, exercisable in whole or in part by the representatives of the underwriters to cover overallotments, if any. We will not receive any proceeds from the exercise of the underwriters’ overallotment option.

 

American depositary shares

Each ADS represents 50 ordinary shares, which will be held by JPMorgan Chase Bank as depositary. The ADSs will be evidenced

 

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by American depositary receipts, or ADRs. To understand the terms of the ADRs, you should carefully read the section in this prospectus entitled “Description of American Depositary Shares.” That section describes the deposit agreement under which the ADRs are issued. We also encourage you to read the deposit agreement, which is an exhibit to the registration statement of which this prospectus forms a part.

 

Price per ADS and per ordinary share in the U.S. and international offerings

The initial public offering price per ADS will be US$17.50, which is equivalent to HK$2.73 per ordinary share at the exchange rate of HK$7.7960 to US$1.00, the noon buying rate on March 11, 2004.

 

 

The initial public offering price for ADSs under the U.S. and international offerings is payable in U.S. dollars.

 

Price per ordinary share in the Hong Kong public offering

The initial public offering price per ordinary share in the Hong Kong public offering, when increased by a 1% brokerage fee, a 0.005% Hong Kong Securities and Futures Commission transaction levy, a 0.002% investor compensation levy and a 0.005% Hong Kong Stock Exchange trading fee payable by purchasers, is effectively equivalent to the initial public offering price per ADS in the U.S. and international offerings, based on an exchange rate of HK$7.7960 to US$1.00, the noon buying rate on March 11, 2004, and adjusted for the ratio of 50 ordinary shares per ADS.

 

 

The initial public offering price for ordinary shares in the Hong Kong public offering is payable in Hong Kong dollars.

 

Timing of the global offering

The following is a tentative timetable of various events in the global offering (Hong Kong time):

 

Commencement of the Hong Kong public offering    March 8, 2004

Closing of the Hong Kong public offering

   March 11, 2004

Pricing of the global offering

   March 11, 2004
Final allocation of ordinary shares under the Hong Kong public offering    March 17, 2004
Commencement of trading of ADSs on the New York Stock Exchange    March 17, 2004
Commencement of trading of ordinary shares on the Hong Kong Stock Exchange    March 18, 2004

 

Five business day gap between pricing and trading of ordinary shares

The ordinary shares offered in the global offering will not commence trading on the Hong Kong Stock Exchange until all of

 

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the conditions contained in the underwriting agreement for the Hong Kong public offering have been satisfied, which is expected to be five business days in Hong Kong after the date of pricing of the ordinary shares. The ADSs offered in the U.S. and international offerings are expected to commence trading on the New York Stock Exchange on the business day in New York immediately preceding the day when trading of the ordinary shares commences on the Hong Kong Stock Exchange. You will not be able to sell or otherwise deal in the ordinary shares or ADSs prior to the commencement of their trading on the Hong Kong Stock Exchange or the New York Stock Exchange, respectively.

 

Use of proceeds

We intend to use the proceeds of this offering for constructing and ramping up our Beijing fabs, upgrading the technology and increasing the capacity at our Shanghai and Tianjin fabs and for general corporate purposes. We may use a portion of the proceeds of the global offering to fund strategic acquisitions or investments. See “Use of Proceeds.”

 

Listings

The ADSs have been approved for listing on the New York Stock Exchange under the symbol “SMI” and the ordinary shares have received approval in principle for listing on the Hong Kong Stock Exchange under the stock code “981.”

 

Dividend policy

We do not intend to pay dividends on our ordinary shares for the foreseeable future.

 

ADS depositary

JPMorgan Chase Bank.

 

Lock-up and monetization

We and all of our securityholders have agreed to a lock-up of our securities for a period of 180 days after the date of this prospectus. See “Underwriting.”

 

In addition, substantially all of our larger securityholders have agreed to a further lock-up of securities, subject to certain exceptions, for a period equal to the shorter of three years from the expiration of the 180-day lock-up period and the date on which these securityholders collectively own less than 10% of our ordinary shares. The purpose of these additional monetization restrictions is to provide a mechanism following completion of the global offering for orderly sales of our securities by some of our larger shareholders, which sales are consistent with our expected need to raise capital. See “Related Party Transactions — Registration Rights Agreement” for more information on this additional lock-up.

 

Ordinary shares to be outstanding immediately after the global offering

The number of ordinary shares to be outstanding immediately following the global offering is 18,216,373,180, based on (i) 13,541,604,450 post-split ordinary shares issued or issuable as of

 

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December 31, 2003, (ii) 1,605,174,900 post-split ordinary shares issuable upon conversion of Series D convertible preference shares issued in connection with our acquisition in January 2004 of the assets constituting Motorola’s fab in Tianjin, China, and (iii) 39,290,830 post-split ordinary shares issuable upon conversion of Series D convertible preference shares issued or issuable in connection with the closing of our transactions with two technology partners, one of which closed on February 26, 2004 and the other which we anticipate will be consummated by the end of the second quarter of 2004, and excludes the following post-split as-converted shares:

 

  583,813,880 ordinary shares issuable upon the exercise of options outstanding as of December 31, 2003, with exercise prices ranging from US$0.005 to US$0.35 per share (on a post-split basis);

 

  623,380 ordinary shares issuable upon conversion of Series B convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, which warrant is automatically exercised upon the attainment of certain milestones and has an exercise price of US$3.50 per convertible preference share;

 

  17,272,730 ordinary shares issuable upon conversion of Series B convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, which warrant is automatically exercised upon the attainment of certain milestones and has an exercise price of US$3.00 per convertible preference share;

 

  314,999,280 ordinary shares issuable upon conversion of Series C convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, with an exercise price of US$0.01 per convertible preference share, which warrant is not exercisable prior to and shall terminate upon the completion of the global offering;

 

  11,978,920 ordinary shares issuable upon conversion of Series D convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, with an exercise price of US$0.01 per convertible preference share, which warrant is not exercisable prior to and will terminate upon the completion of the global offering; and

 

  413,451,380 ordinary shares reserved for future grants under our employee stock option plans as of December 31, 2003.

 

Assuming that all of the options outstanding as of December 31, 2003 and outstanding warrants that will not terminate upon completion of the global offering are exercised, the number of ordinary shares to be outstanding immediately following the global offering would be 18,818,083,170.

 

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Summary Consolidated Financial Data

 

The following summary consolidated financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes, both of which are included elsewhere in this prospectus. The summary consolidated financial data presented below has been prepared in accordance with U.S. GAAP. The summary consolidated financial data presented below as of and for the years ended December 31, 2001, 2002 and 2003 is derived from our audited consolidated financial statements included elsewhere in this prospectus. The quarterly consolidated financial data presented below has been derived from unaudited consolidated financial statements not included in this prospectus. In our opinion, all adjustments necessary for a fair presentation of the quarterly consolidated financial data are contained in the financial statements that are included elsewhere in this prospectus. The historical results are not necessarily indicative of results to be expected in any future period.

 

    For the year ended December 31,

 
  2001

    2002

    2003

 
    (in US$ thousands, except for per share
and per ADS data)
 

Income Statement Data:

                       

Sales

  $ —       $ 50,315     $ 365,823  

Cost of sales(1)

    —         (105,238 )     (363,241 )
   


 


 


Gross profit (loss)

    —         (54,923 )     2,582  
   


 


 


Operating expenses:

                       

Research and development

    (9,326 )     (37,459 )     (32,070 )

General and administrative

    (16,870 )     (17,782 )     (27,912 )

Selling and marketing

    (751 )     (4,371 )     (9,447 )

Amortization of deferred stock compensation

    (712 )     (1,769 )     (5,900 )
   


 


 


Total operating expenses

    (27,659 )     (61,381 )     (75,329 )
   


 


 


Loss from operations

    (27,659 )     (116,304 )     (72,747 )

Other income (expenses):

                       

Interest income

    18,681       10,980       5,616  

Interest expense

    —         (176 )     (1,425 )

Other, net

    384       2,897       2,411  

Subsidy income

    5,942       —         —    
   


 


 


Total other income, net

    25,007       13,701       6,602  
   


 


 


Net loss

    (2,652 )     (102,603 )     (66,145 )
   


 


 


Deemed dividend on preference shares(2)

    —         —         (37,117 )
   


 


 


Loss attributable to holders of ordinary shares

  $ (2,652 )   $ (102,603 )   $ (103,262 )
   


 


 


Net loss per share, basic and diluted

  $ (0.33 )   $ (12.74 )   $ (11.35 )
   


 


 


Ordinary shares used in calculating basic and diluted net loss per share(3)(4)

    8,000,000       8,053,580       9,098,320  
   


 


 


Pro forma basic and diluted net loss per share on a post-split basis (unaudited)

                  $ (0.01 )
                   


Shares used in calculating pro forma basic and diluted net loss per share on a post-split basis (unaudited)

                    10,914,204,700  
                   


Net loss per ADS, basic and diluted

                  $ (56.75 )
                   


ADSs used in calculating basic and diluted net loss per share(4)

                    1,819,664  
                   



(1) Including amortization of deferred stock compensation for employees directly involved in manufacturing activities.
(2) Deemed dividend represents the difference between the sale and conversion prices of warrants and Series C convertible preference shares we issued in the third and fourth quarters of 2003 and their respective fair market values.
(3) Anti-dilutive preference shares, options and warrants were excluded from the weighted average ordinary shares outstanding for the diluted per share calculation. For 2001, 2002 and 2003, basic loss per share did not differ from diluted loss per share.
(4) Share and per share information for the 10-for-1 share split to be effected after the conversion of our preference shares into ordinary shares and upon completion of the global offering has been excluded from the weighted average ordinary shares and ADSs outstanding for the basic and diluted per share and per ADS calculation.

 

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     As of December 31,

   2001

   2002

   2003

     (in US$ thousands)

Balance Sheet Data:

                    

Cash and cash equivalents

   $ 178,920    $ 91,864    $ 445,276

Short-term investments

     —        27,709      27,165

Accounts receivable, net of allowances

     —        20,110      90,539

Inventories

     4,749      39,826      69,924

Total current assets

     235,196      185,067      680,882

Land use rights, net

     48,913      49,354      41,935

Plant and equipment, net

     478,950      1,290,910      1,523,564

Total assets

     763,059      1,540,078      2,290,506

Total current liabilities

     249,071      263,655      325,430

Total long-term liabilities

     —        405,432      479,961

Total liabilities

     249,071      669,087      805,391

Stockholders’ equity

   $ 513,988    $ 870,991    $ 1,485,115

 

     For the year ended December 31,

 
   2001

    2002

    2003

 
     (in US$ thousands, except
percentages and operating data)
 

Cash Flow Data:

                        

Net loss

   $ (2,652 )   $ (102,603 )   $ (66,145 )

Adjustments to reconcile net loss to net cash provided by (used in) operating activities:

                        

Depreciation and amortization

     1,445       84,537       233,905  

Net cash provided by (used in) operating activities

     3,360       (48,802 )     114,270  

Purchases of plant and equipment

     (459,779 )     (761,704 )     (453,097 )

Net cash used in investing activities

     (501,779 )     (751,144 )     (454,498 )

Net cash provided by financing activities

     583,152       712,925       693,497  

Net increase (decrease) in cash and cash equivalents

   $ 84,630     $ (87,056 )   $ 353,412  

Other Financial Data:

                        

Gross margin

     —         (109.2 )%     0.7 %

Operating margin

     —         (231.2 )%     (19.9 )%

Net margin

     —         (203.9 )%     (18.1 )%

Operating Data:

                        

Wafers shipped (in units):

                        

Logic(1)

     —         26,419       188,316  

Total(2)

     —         82,486       476,451  

Average selling price (in US$):

                        

Logic(1)

     —       $ 794     $ 896  

Total(2)

     —       $ 558     $ 733  

(1) Excluding copper interconnects and memory wafers.
(2) Including logic, memory, copper interconnects and all other wafers.

 

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     For the three months ended

 
    

Mar. 31,

2002


   

June 30,

2002


   

Sept. 30,

2002


   

Dec. 31,

2002


   

Mar. 31,

2003


   

June 30,

2003


   

Sept. 30,

2003


    Dec 31,
2003


 
     (in US$ thousands, except for percentages and operating data)  

Income Statement Data:

                                                                

Sales

   $ 560     $ 6,441     $ 18,917     $ 24,397     $ 38,442     $ 75,193     $ 107,141     $ 145,047  

Cost of sales(1)

     (4,426 )     (16,887 )     (36,989 )     (46,936 )     (63,495 )     (88,645 )     (96,768 )     (114,333 )
    


 


 


 


 


 


 


 


Gross profit (loss)

     (3,866 )     (10,446 )     (18,072 )     (22,539 )     (25,053 )     (13,452 )     10,373       30,714  
    


 


 


 


 


 


 


 


Operating expenses:

                                                                

Research and development

     (3,275 )     (6,042 )     (16,500 )     (11,642 )     (6,339 )     (8,118 )     (8,272 )     (9,341 )

General and administrative

     (2,528 )     (5,763 )     (2,408 )     (7,083 )     (3,916 )     (2,849 )     (8,896 )     (12,251 )

Selling and marketing

     (401 )     (781 )     (941 )     (2,248 )     (2,145 )     (2,285 )     (2,747 )     (2,270 )

Amortization of deferred stock compensation

     (171 )     (410 )     (553 )     (635 )     (879 )     (1,199 )     (1,587 )     (2,235 )
    


 


 


 


 


 


 


 


Total operating expenses

     (6,375 )     (12,996 )     (20,402 )     (21,608 )     (13,279 )     (14,451 )     (21,502 )     (26,097 )
    


 


 


 


 


 


 


 


Income (loss) from operations

     (10,241 )     (23,442 )     (38,474 )     (44,147 )     (38,332 )     (27,903 )     (11,129 )     4,617  

Other income (expenses):

                                                                

Interest income

     6,209       1,417       2,778       576       678       392       1,563       2,983  

Interest expense

     —         —         (44 )     (132 )     (146 )     (146 )     (207 )     (926 )

Other, net

     696       (116 )     395       1,922       (252 )     (2,857 )     1,317       4,203  

Subsidy income

     —         —         —         —         —         —         —         —    
    


 


 


 


 


 


 


 


Total other income (expenses), net

     6,905       1,301       3,129       2,366       280       (2,611 )     2,673       6,260  
    


 


 


 


 


 


 


 


Net income (loss)

     (3,336 )     (22,141 )     (35,345 )     (41,781 )     (38,052 )     (30,514 )     (8,456 )     10,877  

Deemed dividend on preference shares(2)

     —         —         —         —         —         —         (34,586 )     (2,531 )
    


 


 


 


 


 


 


 


Income (loss) attributable to holders of ordinary shares

   $ (3,336 )   $ (22,141 )   $ (35,345 )   $ (41,781 )   $ (38,052 )   $ (30,514 )   $ (43,042 )   $ 8,346  
    


 


 


 


 


 


 


 


Other Financial Data:

                                                                

Gross margin

     (690.4 )%     (162.2 )%     (95.5 )%     (92.4 )%     (65.2 )%     (17.9 )%     9.7 %     21.2 %

Operating margin

     (1,828.8 )%     (363.9 )%     (203.4 )%     (181.0 )%     (99.7 )%     (37.1 )%     (10.4 )%     3.2 %

Net margin

     (595.7 )%     (343.8 )%     (186.8 )%     (171.3 )%     (99.0 )%     (40.6 )%     (7.9 )%     7.5 %

Operating Data:

                                                                

Wafers shipped (in units):

                                                                

Logic(3)

     208       5,512       9,490       11,209       11,577       28,607       55,678       92,454  

Total(4)

     220       7,919       26,185       48,162       74,596       117,950       130,780       153,125  

Average selling price (in US$):

                                                                

Logic(3)

   $ 627     $ 756     $ 906     $ 721     $ 635     $ 797     $ 883     $ 967  

Total(4)

   $ 684     $ 682     $ 667     $ 477     $ 494     $ 614     $ 771     $ 910  

Average utilization rate

     72 %     89 %     92 %     99 %     88 %     97 %     93 %     97 %

(1) Including amortization of deferred stock compensation for employees directly involved in manufacturing activities.
(2) Deemed dividend represents the difference between the sale and conversion prices of warrants and Series C convertible preference shares we issued in the third and fourth quarters of 2003 and their respective fair market values.
(3) Excluding copper interconnects and memory wafers.
(4) Including logic, memory, copper interconnects and all other wafers.

 

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RISK FACTORS

 

An investment in our ordinary shares or ADSs involves a high degree of risk. You should carefully consider the following information about risks, together with the other information contained in this prospectus, including our consolidated financial statements and related notes, before you decide to buy our ordinary shares or ADSs. If any of the circumstances or events described below actually arises or occurs, our business, results of operations and financial condition would likely suffer. In any such case, the market price of our ordinary shares or ADSs could decline, and you may lose all or part of your investment. This prospectus also contains forward-looking information that involves risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of many factors, including the risks described below and elsewhere in this prospectus.

 

Risks Related to Our Financial Condition and Business

 

Our short operating history makes it difficult to evaluate our business and prospects.

 

We were founded in April 2000 and did not commence commercial production until January 2002. Because of our limited operating history, there may not be an adequate basis upon which to evaluate our future operating results and prospects, and we have only limited insight into the trends that may emerge that may adversely affect our business and operating results.

 

We have incurred significant operating losses since our inception, may continue to incur substantial operating losses in the future and may not be able to achieve or maintain profitability, primarily due to our high fixed costs and correspondingly high levels of depreciation expenses.

 

Since we were founded in April 2000, we have incurred significant operating losses. Our losses from operations were US$0.9 million in 2000, US$27.7 million in 2001, US$116.3 million in 2002 and US$72.7 million in 2003. We may continue to incur substantial operating losses in the future, primarily because our business is characterized by high fixed costs relating to equipment purchases, which result in correspondingly high levels of depreciation expenses. In the next two years, we will continue to incur high capital expenditures and depreciation expenses as we equip and ramp up our new fabs in Beijing, expand our capacity in Shanghai and upgrade and expand the capacity of our recently acquired fab in Tianjin. Thereafter, we expect to continue to incur high capital expenditures and depreciation expenses as we expand our capacity and construct new fabs. Our operating losses may continue or increase in the future and we may not become profitable. Even if profitability is achieved, we may not be able to maintain such profitability.

 

The cyclical nature of the semiconductor industry and periodic overcapacity in the industry make our business and operating results particularly vulnerable to economic downturns.

 

The semiconductor industry has historically been highly cyclical and, at various times, has experienced significant downturns characterized by fluctuations in end-user demand, reduced demand for integrated circuits, rapid erosion of average selling prices and production overcapacity. Companies in the semiconductor industry have expanded aggressively during periods of increased demand in order to have the capacity needed to meet expected demand in the future. If actual demand does not increase or declines, or if companies in the industry expand too aggressively in light of the actual increase in demand, the industry will generally experience a period in which industry-wide capacity exceeds demand. If industry-wide capacity exceeds demand, our operations would be subject to more intense competition, and our results of operations may suffer because of the resulting pricing pressure and capacity underutilization. Severe pricing pressure could result in the overall foundry industry becoming less profitable, at least for the duration of the downturn, and could prevent us from achieving, or if achieved, maintaining, profitability. For example, from 2001 to mid-2003, the semiconductor industry experienced a downturn due to a number of factors, including a slowdown in the global economy and in the communications sector

 

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in particular. We expect that industry cyclicality will continue. In addition, a slowdown in the growth in demand for, or the continued reduction in selling prices of, devices that use semiconductors may decrease the demand for our services and reduce our profit margins. If we cannot take appropriate or effective actions in a timely manner during future downturns, such as reducing our costs to sufficiently offset declines in demand for our services, our business and operating results may be adversely affected.

 

Our results of operations may fluctuate from quarter to quarter, which may make it difficult to predict our future performance and may result in a decline in the prices of our ordinary shares and ADSs if we fail to meet our expectations or those of public market analysts and investors in these periods.

 

Our sales, expenses and results of operations may fluctuate significantly from quarter to quarter due to a number of factors, many of which are outside our control. Our business and operations are subject to a number of factors, including:

 

  our customers’ sales outlook, purchasing patterns and inventory adjustments based on general economic conditions or other factors;

 

  the loss of one or more key customers or the significant reduction or postponement of orders from such customers;

 

  timing of new technology development and the qualification of this technology by our customers;

 

  timing of our expansion and development of our facilities;

 

  our ability to obtain equipment and raw materials; and

 

  our ability to obtain financing in a timely manner.

 

Due to the factors noted above and other risks discussed in this section, many of which are beyond our control, you should not rely on quarter-to-quarter comparisons to predict our future performance. Unfavorable changes in any of the above factors may adversely affect our business and operating results. In addition, our operating results may be below the expectations of public market analysts and investors in some future periods. In this event, the price of our ordinary shares and ADSs may decline.

 

If the recent trend of increasing demand for foundry services reverses or slows down, we may achieve a lower rate of return on investments than anticipated and our business and operating results will be adversely affected.

 

The demand for foundry services by IDMs, fabless semiconductor companies and systems companies has been increasing in recent years. We have made and are planning to make significant investments in anticipation of the continuation of this trend. A reversal of, or slowdown in, this trend will likely result in a lower rate of return on our investments than anticipated. For example, if IDMs change their strategy and target greater internal production or become dissatisfied with the services of independent foundry service providers, such as our company, they may reduce their outsourcing of wafer fabrication. In addition, in the event of an industry downturn, in order to maintain their equipment’s utilization rates, these IDMs may allocate a smaller portion of their fabricating needs to foundry service providers and perform a greater amount of foundry services for system companies and fabless semiconductor companies. If this occurs, our business and operating results will be adversely affected.

 

If we are unable to maintain high capacity utilization, optimize the technology and product mix of our services or improve our yields, our margins may substantially decline, thereby adversely affecting our operating results.

 

Our ability to achieve and maintain profitability depends, in part, on our ability to:

 

  maintain high capacity utilization, which is the actual number of wafers we produce in relation to our capacity;

 

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  optimize our technology and product mix, which is the relative number of wafers fabricated utilizing higher margin technologies as compared to commodity and lower margin technologies; and

 

  continuously maintain and improve our yield, which is the percentage of usable fabricated devices on a wafer.

 

Our capacity utilization affects our operating results because a large percentage of our costs are fixed. In general, more advanced technologies sell for higher prices and higher margins. Therefore, our technology and product mix has a direct impact upon our average selling prices and overall margins. Our yields directly affect our ability to attract and retain customers, as well as the price of our services. If we are unable to maintain high capacity utilization, optimize the technology and product mix of our wafer production and continuously improve our yields, our margins may substantially decline, thereby adversely affecting our operating results.

 

Our rapid growth has presented significant challenges to our management and administrative systems and resources, and we may experience difficulties managing our growth, particularly as we handle the additional responsibilities of becoming a public company, which may adversely affect our business and operating results.

 

Since our inception in 2000, we have grown rapidly. Our wafers shipped and sales grew from zero in 2000 to 476,451 wafers and US$365.8 million in 2003. During this period, we constructed and initiated commercial production at three fabs, and the range of process technologies we offered grew significantly. In addition, we recently acquired one fab, and are in the process of constructing additional fabs. At December 31, 2000, we had 122 employees; at December 31, 2001, we had 1,476 employees; at December 31, 2002, we had 3,193 employees; and at December 31, 2003, we had 4,443 employees. We plan to hire a significant number of additional employees as our newly acquired fab in Tianjin ramps up and fabs currently under construction become operational. This expansion has presented, and continues to present, significant challenges for our management and administrative systems and resources. If we fail to develop and maintain management and administrative systems and resources sufficient to keep pace with our planned growth or to handle the additional responsibilities of becoming a public company, we may experience difficulties managing our growth and our business and operating results could be adversely affected.

 

If we lose one or more of our key personnel without obtaining adequate replacements in a timely manner or if we are unable to retain and recruit skilled personnel, our operations could become disrupted and the growth of our business could be delayed or restricted.

 

Our success depends on the continued service of our key executive officers, and in particular, Richard R. Chang, our President and Chief Executive Officer. We do not carry key person insurance on any of our personnel. If we lose the services of any of our key executive officers, it could be very difficult to find, relocate and integrate adequate replacement personnel into our operations, which could seriously harm our operations and the growth of our business.

 

We will require an increased number of experienced executives, engineers and other skilled employees in the future to implement our growth plans. There is intense competition for the services of these personnel in the semiconductor industry. In addition, we expect demand for skilled and experienced personnel in China to increase in the future as new wafer fabrication facilities and other similar high technology businesses are established there. If we are unable to retain our existing personnel or attract, assimilate and retain new experienced personnel in the future, our operations could become disrupted and the growth of our business could be delayed or restricted.

 

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Our customers generally do not place purchase orders far in advance, which makes it difficult for us to predict our future sales, adjust our production costs and efficiently allocate our capacity on a timely basis and could therefore have an adverse effect on our business and operating results.

 

Our customers generally do not place purchase orders far in advance of the required shipping dates. In addition, due to the cyclical nature of the semiconductor industry, our customers’ purchase orders have varied significantly from period to period. As a result, we do not typically operate with any significant backlog, which makes it difficult for us to forecast our sales in future periods. Also, since our cost of sales and operating expenses have high fixed cost components, including depreciation and employee costs, we may be unable to adjust our cost structure in a timely manner to compensate for shortfalls in sales. Our current and anticipated customers may not place orders with us in accordance with our expectations or at all. As a result, it may be difficult to plan our capacity, which requires significant lead time to ramp-up and cannot be altered easily. If our capacity does not match our customer demand, we will either be burdened with expensive and unutilized overcapacity or unable to support our customers’ requirements, both of which would have an adverse effect on our business and results of operations.

 

Our sales cycles can be long, which could adversely affect our operating results and cause our income stream to be unpredictable.

 

Our sales cycles, which measure the time between our first contact with a customer and the first shipment of product orders to the customer, vary substantially and can last as long as one year or more, particularly for new technologies. Sales cycles to IDM customers typically take relatively longer since they usually require our engineers to become familiar with the customer’s proprietary technology before production can commence. In addition, even after we make initial product shipments, it may take the customer several more months to reach full production of that product using our foundry services. As a result of these long sales cycles, we may be required to invest substantial time and incur significant expenses in advance of the receipt of any product order and related revenue. Orders ultimately received may not be in accordance with our expectation with respect to product, volume, price or other terms, which could adversely affect our operating results and cause our income stream to be unpredictable.

 

We must consistently anticipate trends in technology development or else we will be unable to maintain or increase our business and operating margins.

 

The semiconductor industry is developing rapidly and the related technology is constantly evolving. If we are unable to anticipate the trends in technology development and rapidly develop and implement new and innovative technology that our customers require, we may not be able to produce sufficiently advanced products at competitive prices. As the life cycle for a process technology matures, the average selling price falls. Accordingly, unless we continually upgrade our capability to manufacture any new products that our customers design, our customers may use the services of our competitors instead of ours and the average selling prices of our wafers may fall, which would adversely affect our business and operating margins.

 

Our sales are dependent upon a small number of customers and any decrease in sales to any of them could adversely affect our results of operations.

 

We have been dependent on a small number of customers for a substantial portion of our business. For the year ended December 31, 2003, our five largest customers accounted for approximately 57% of our total sales. We expect that we will continue to be dependent upon a relatively limited number of customers for a significant portion of our sales. Sales generated from these customers, individually or in the aggregate, may not reach or exceed our expectations or historical levels in any future period. Our sales could be significantly reduced if any of these customers cancels or reduces its orders, significantly changes its product delivery schedule or demands lower prices, which would have an adverse effect on our results of operations.

 

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Since the proceeds from the global offering, as well as our operating cash flows, will not be sufficient to cover our planned capital expenditures, including the cost of expanding our Shanghai and Tianjin facilities and constructing our Beijing fabs, we will require additional external financing, which may not be available on acceptable terms or at all. Any failure to raise adequate funds in a timely manner could adversely affect our business and operating results.

 

We currently expect our capital expenditures in 2004 and 2005 to total approximately US$1,950 million and US$1,373 million, respectively. These capital expenditures will be used primarily to expand our operations in Shanghai and Tianjin and complete the construction, equipping and ramp-up of our Fab 4, Fab 5 and Fab 6C in Beijing. In addition, our actual expenditures may exceed our planned expenditures for a variety of reasons, including changes in our business plan, our process technology, market conditions, equipment prices, customer requirements or interest rates. Future acquisitions, mergers or other developments also may require additional financing. The amount of capital required to meet our growth and development targets is difficult to predict in the highly cyclical and rapidly changing semiconductor industry.

 

Our operating cash flows are currently insufficient to meet our capital expenditure requirements. In addition, we expect that our aggregate net proceeds from the global offering will be approximately US$1,022.0 million, which will not be sufficient to meet our expected capital expenditures in 2004 and 2005. As such, we plan to fund the shortfall of approximately US$2,353.0 million through income from operations and external financing, including offerings of equity, equity-linked securities and debt securities, as well as bank loans. Our ability to obtain external financing is subject to a variety of uncertainties, including:

 

  our future financial condition, results of operations and cash flows;

 

  general market conditions for financing activities of semiconductor companies;

 

  our future stock price; and

 

  our future credit rating.

 

External financing may not be available in a timely manner, on acceptable terms, or at all. Since our expansion in Shanghai and Tianjin and the addition of our Beijing fabs are key components of our overall business strategy, any failure to raise adequate funds could adversely affect our business and operating results. At a recent press conference, one of our officers made an inaccurate statement regarding our ability to meet our capital expenditure requirements through 2005. Please see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Inaccuracy of Statements Made at a Recent Press Conference”.

 

The construction and equipping of new fabs and the expansion of existing fabs are subject to certain risks that could result in delays or cost overruns, which could require us to expend additional capital and adversely affect our business and operating results.

 

Our Beijing fabs are currently in various stages of construction and equipment move-in, and we plan to continue to expand our business through the development of new fabs, in particular using the additional land we have available at our Shanghai and Beijing sites. We also plan to expand the capacity at our existing fabs in Shanghai and Tianjin. There are a number of events that could delay these expansion projects or increase the costs of building and equipping these or future fabs in accordance with our plans. Such potential events include, but are not limited to:

 

  shortages and late delivery of building materials and facility equipment;

 

  delays in the delivery, installation, commissioning and qualification of our manufacturing equipment;

 

  seasonal factors, such as a long and intensive wet season that limits construction;

 

  labor disputes;

 

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  design or construction changes with respect to building spaces or equipment layout;

 

  delays in securing the necessary governmental approvals and land use rights; and

 

  technological, capacity and other changes to our plans for new fabs necessitated by changes in market conditions.

 

As a result, our projections relating to capacity, process technology capabilities or technology developments may significantly differ from actual capacity, process technology capabilities or technology developments.

 

Delays in the construction and equipping or expansion of any of our fabs could result in the loss or delayed receipt of earnings, an increase in financing costs, or the failure to meet profit and earnings projections, any of which would adversely affect our business and operating results.

 

If we cannot compete successfully in our industry, particularly in China, our results of operations and financial condition will be adversely affected.

 

The worldwide semiconductor foundry industry is highly competitive. We compete with other foundries, such as Taiwan Semiconductor Manufacturing Company, Ltd., or TSMC, United Microelectronics Corporation, or UMC, and Chartered Semiconductor Manufacturing Ltd., or Chartered Semiconductor, as well as the foundry services offered by some IDMs, such as IBM. We also compete with smaller semiconductor foundries in China, Korea, Malaysia and other countries. Some of our competitors have greater access to capital and substantially higher capacity, longer or more established relationships with their customers, superior research and development capability, and greater marketing and other resources than we do. As a result, these companies may be able to compete more aggressively over a longer period of time than we can.

 

Both TSMC and UMC have announced plans to build or acquire fabs in mainland China in order to compete for the growing domestic market in China. We understand that the ability of these companies to proceed with such plans is subject to restrictions by their home jurisdiction. Such restrictions could be reduced or lifted at any time, which may lead to increased domestic competition with such competitors and adversely affect our business and operating results.

 

Our ability to compete successfully depends to some extent upon factors outside of our control, including import and export controls, exchange controls, exchange rate fluctuations, interest rate fluctuations and political developments. If we cannot compete successfully in our industry and are unable to maintain our position as a leading foundry in China, our results of operations and financial condition will be adversely affected.

 

We may be unable to obtain in a timely manner and at a reasonable cost the equipment necessary for our business and therefore may be unable to achieve our expansion plans or meet our customers’ orders, which could negatively impact our competitiveness, financial condition and results of operations.

 

The semiconductor industry is capital-intensive and requires investment in advanced equipment that is available from a limited number of manufacturers. The market for equipment used in semiconductor foundries is characterized, from time to time, by significant demand, limited supply and long delivery cycles. Our business plan depends upon our ability to obtain our required equipment in a timely manner and at acceptable prices. During times of significant demand for the types of equipment we use, lead times for delivery can be as long as one year. Shortages of equipment could result in an increase in equipment prices and longer delivery times. If we are unable to obtain equipment in a timely manner and at a reasonable cost, we may be unable to achieve our expansion plans or meet our customers’ orders, which could negatively impact our competitiveness, financial condition and results of operations.

 

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We expect to have an ongoing need to obtain licenses for the proprietary technology of others, which subjects us to the payment of license fees and potential delays in the development and marketing of our products.

 

While we continue to develop and pursue patent protection for our own technologies, we expect to continue to rely on third party license arrangements to enable us to manufacture certain advanced wafers. To date, we have been granted ten patents, all in Taiwan, whereas we believe our competitors and other industry participants have been issued numerous patents concerning wafer fabrication in multiple jurisdictions. Our limited patent portfolio may in the future adversely affect our ability to obtain licenses to the proprietary technology of others on favorable license terms due to our inability to offer cross-licensing arrangements. The fees associated with such licenses are not presently determinable, but could adversely affect our financial condition and operating results. They might also render our products less competitive. If for any reason we are unable to license necessary technology on acceptable terms, it may become necessary for us to develop alternative technology internally, which could be costly and delay the marketing and delivery of key products and therefore have an adverse effect on our business and operating results. In addition, we may be unable to independently develop the technology required by our customers on a timely basis or at all.

 

We may be subject to claims of intellectual property rights infringement owing to the nature of our industry, our limited patent portfolio and limitations of the indemnification provisions in our technology license agreements. These claims could adversely affect our business and operating results.

 

There is frequent intellectual property litigation, involving patents, copyrights, trade secrets, mask works and other intellectual property subject matter, in our industry. In some cases, a company can avoid or settle litigation on favorable terms because it possesses patents that can be asserted against the plaintiff. The limited size of our current patent portfolio will not likely place us in such a bargaining position. Moreover, some of our technology license agreements with our major technology partners do not provide for us to be indemnified in the event that the processes we license pursuant to such agreements infringe third party intellectual property rights. We could be sued for allegedly infringing one or more patents as to which we will be unable to obtain a license and unable to design around. As a result, we would be foreclosed from manufacturing or selling the products which are dependent upon such technology, which could have a material adverse effect on our business. We may litigate the issues of whether these patents are valid or infringed, but in the event of a loss we could be required to pay substantial monetary damages and be enjoined from further production or sale of such products.

 

If we are unable to successfully defend pending patent and trade secret litigation by TSMC, we may be required to pay damages, obtain a license from TSMC or discontinue sales of certain of our products in the United States.

 

We are currently the subject of a lawsuit in the United States brought by TSMC in December 2003 relating to alleged infringement of five U.S. patents and misappropriation of alleged technical and operational trade secrets relating to methods for conducting semiconductor fab operations and manufacturing integrated circuits. Prior to the start of the lawsuit in the United States, TSMC had instituted a legal proceeding in Taiwan in January 2002 that alleged improper hiring practices and trade secret misappropriation. In the Taiwan proceeding, the Hsinchu District Court in Taiwan issued an ex parte provisional injunction that prohibits our wholly owned subsidiary, Semiconductor Manufacturing International (Shanghai) Corporation, or SMIC Shanghai, from improperly soliciting or hiring certain categories of employees of TSMC or causing such employees to divulge to us, or use, trade secrets of TSMC. According to the TSMC complaint filed in the United States, the Taiwan provisional injunction has no territorial effect outside of Taiwan. The provisional injunction may be challenged by us at any time, but we have thus far seen no cause for engaging in that litigation, and to date the provisional injunction has not adversely affected our operations.

 

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In the event TSMC were to succeed on its patent infringement claim in the United States, we may be ordered to pay damages for past infringement, discontinue sales of certain of our products in the United States and, as to future sales, either enter into a license agreement with TSMC or incur the cost of designing around the patent claims that were found valid and infringed. If TSMC were to succeed on its trade secrets claim, it could seek damages or an injunction, the materiality of which would depend on the amount, nature and significance of the trade secrets we would be found to have misappropriated. The occurrence of any of these events could have a material adverse effect on our business and operating results and, in any event, the cost of litigation could be substantial. At a recent press conference, one of our officers made an inaccurate statement about the status of and our position on the litigation with TSMC. Please see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Inaccuracy of Statements Made at a Recent Press Conference.”

 

If our relationships with our technology partners deteriorate or we are unable to enter into new technology alliances, we may not be able to continue providing our customers with leading edge process technology, which could adversely affect our competitive position and operating results.

 

Enhancing our process technologies is critical to our ability to provide high quality services for our customers. We intend to continue to advance our process technologies through internal research and development efforts and technology alliances with other companies. Although we have an internal research and development team focused on developing new process technologies, we depend upon our technology partners to advance our portfolio of process technologies. We currently have joint technology development arrangements and technology sharing arrangements with several companies and research institutes. If we are unable to continue our technology alliances with these entities, or maintain on mutually beneficial terms any of our other joint development arrangements, research and development alliances and other similar agreements, or are unable to enter into new technology alliances with other leading developers of semiconductor technology, we may not be able to continue providing our customers with leading edge process technology, which could adversely affect our competitive position and operating results.

 

We may be unable to integrate successfully the Beijing fabs and the assets acquired from Motorola (China) Electronics Limited with our existing operations in Shanghai in a timely manner, which could adversely affect our operating results.

 

The ramp-up of our Beijing fabs and our acquisition of assets constituting an 8-inch wafer fab in Tianjin from MCEL, involve the integration of new facilities with our existing operations in Shanghai. Our facilities are located in three different locations and have different operating configurations.

 

The challenges of combining our Beijing and Tianjin fabs’ operations with our Shanghai operations include integrating personnel with diverse business backgrounds, combining different corporate cultures and managing a geographically dispersed organization. Since most of our Tianjin employees previously worked for MCEL, it will require additional time for them to become familiar with our corporate culture and become fully integrated. Operating in three different locations also requires us to liaise with three different sets of local and municipal governmental authorities, which places additional administrative burdens on our management. In addition, we are currently in the process of obtaining the approval of the Chinese governmental authorities to defer our capital contribution to the registered capital of our wholly owned subsidiary Semiconductor Manufacturing International (Tianjin) Corporation, or SMIC Tianjin, until such time as the transfer of title to the land use rights, buildings and equipment of SMIC Tianjin has been approved by or registered with the relevant Chinese governmental authorities. If such approval to defer our capital contribution is not granted, the validity of SMIC Tianjin’s certificate of approval under Chinese law could be affected, and SMIC Tianjin could be subject to various administrative sanctions, including the possible revocation of its business license.

 

As a result of these factors, we may be unable to complete successfully this integration in a timely manner, which could adversely affect our operating results.

 

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Global or regional economic, political and social conditions could adversely affect our business and operating results.

 

External factors such as potential terrorist attacks, acts of war, financial crises or geopolitical and social turmoil in those parts of the world that serve as markets for our products could significantly adversely affect our business and operating results in ways that cannot presently be predicted. These uncertainties could make it difficult for our customers and us to accurately plan future business activities. More generally, these geopolitical, social and economic conditions could result in increased volatility in worldwide financial markets and economies that could adversely impact our sales. We are not insured for losses and interruptions caused by terrorist acts or acts of war. Therefore, any of these events or circumstances could adversely affect our business and operating results.

 

A possible recurrence of a severe acute respiratory syndrome outbreak may materially and adversely affect our business and results of operations.

 

From March to July 2003, China, Hong Kong, Singapore, Taiwan and certain other areas in Asia experienced an outbreak of a new and contagious form of atypical pneumonia now known as severe acute respiratory syndrome, or SARS. According to the World Health Organization, over 8,422 cases of SARS and 916 deaths had been reported in 29 countries from November 2002 to August 2003. A recurrent outbreak could potentially disrupt our operations if any of our employees in any of our fabs is suspected to have contracted SARS, and the fab is identified as a possible source of spreading SARS infection. We may be required to quarantine the employees that have been suspected of becoming infected, as well as any others that had come into contact with them. We may also be required to disinfect the affected fab and therefore suffer a temporary suspension of production. Any quarantine or suspension of production at any of our fabs will affect our overall operations and results of operations. Furthermore, such an outbreak would likely restrict the level of economic activity in affected areas, which would also adversely affect our business and results of operations. We will follow instructions of local health authorities in the event of a subsequent SARS outbreak or if any of our employees contract SARS and currently also have SARS infection outbreak management procedures in place.

 

Exchange rate fluctuations could increase our costs, which could adversely affect our operating results and the value of our ADSs.

 

Our financial statements are prepared in U.S. dollars. Our sales are generally denominated in U.S. dollars and our operating expenses and capital expenditures are generally denominated in U.S. dollars, Japanese Yen, Euros and Renminbi. Although we enter into foreign currency forward exchange contracts, we are still affected by fluctuations in exchange rates between the U.S. dollar and each of the Japanese Yen and the Euro. Any significant fluctuations among these currencies may lead to an increase in our costs, which could adversely affect our operating results. See “—Risks Related to Conducting Operations in China—Devaluation or appreciation in the value of the Renminbi or restrictions on convertibility of the Renminbi could adversely affect our business and operating results” for a discussion of risks relating to the Renminbi.

 

Fluctuations in the exchange rate of the Hong Kong dollar against the U.S. dollar will affect the U.S. dollar value of the ADSs, since our ordinary shares will be listed and traded on the Hong Kong Stock Exchange and the price of such shares will be denominated in Hong Kong dollars. While the Hong Kong government has continued to pursue a fixed exchange rate policy, with the Hong Kong dollar pegged at approximately HK$7.80 to US$1.00, we cannot assure you that such policy will be maintained. Exchange rate fluctuations also will affect the amount of U.S. dollars received upon the payment of any cash dividends or other distributions paid in Hong Kong dollars and the Hong Kong dollar proceeds received from any sales of ordinary shares. Therefore, such fluctuations could also adversely affect the value of our ADSs.

 

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Risks Related to Manufacturing

 

Our manufacturing processes are highly complex, costly and potentially vulnerable to impurities and other disruptions, which could significantly increase our costs and delay product shipments to our customers.

 

Our manufacturing processes are highly complex, require advanced and costly equipment, demand a high degree of precision and may have to be modified to improve yields and product performance. Dust and other impurities, difficulties in the fabrication process or defects with respect to the equipment or facilities used can lower yields, cause quality control problems, interrupt production or result in losses of products in process. As system complexity has increased and process technology has become more advanced, manufacturing tolerances have been reduced and requirements for precision have become even more demanding. As a result, we may experience production difficulties, which could significantly increase our costs and delay product shipments to our customers.

 

We may have difficulty in ramping up production, which could cause delays in product deliveries and loss of customers and adversely affect our business and operating results.

 

As is common in the semiconductor industry, we may experience difficulty in ramping up production at new or existing facilities, such as the new fabs we are building in Beijing and the newly acquired Fab 7 in Tianjin in which we expect to add a significant amount of new equipment. This could be due to a variety of factors, including hiring and training of new personnel, implementing new fabrication processes, recalibrating and requalifying existing processes and the inability to achieve required yield levels.

 

In the future, we may face construction delays or interruptions, infrastructure failure, or delays in upgrading or expanding existing facilities or changing our process technologies, which may adversely affect our ability to ramp up production in accordance with our plans. Our failure to ramp up our production on a timely basis could cause delays in product deliveries, which may result in the loss of customers and sales. It could also prevent us from recouping our investments in a timely manner or at all, and adversely affect our business and operating results.

 

If we are unable to obtain raw materials and spare parts in a timely manner, our production schedules could be delayed and our costs could increase.

 

We depend on suppliers of raw materials, such as silicon wafers, gases and chemicals, and spare equipment parts, in order to maintain our production processes. To maintain operations, we must obtain from our suppliers sufficient quantities of quality raw materials and spare equipment parts at acceptable prices and in a timely manner. The most important raw material used in our production is silicon in the form of raw wafers. We currently purchase approximately 80% of our overall raw wafer requirements from three raw wafer suppliers. In addition, substantially all of our gas and chemicals requirements currently must be sourced from outside China. We may not be able to obtain adequate supplies of raw materials and spare parts in a timely manner and at a reasonable cost. In addition, from time to time, we may need to reject raw materials and parts that do not meet our specifications, resulting in potential delays or declines in output. If the supply of raw materials and necessary spare parts is substantially reduced or if there are significant increases in their prices, we may incur additional costs to acquire sufficient quantities of these parts and materials to maintain our production schedules and commitments to customers.

 

Our production may be interrupted, limited or delayed if we cannot maintain sufficient sources of fresh water and electricity, which could adversely affect our business and operating results.

 

The semiconductor fabrication process requires extensive amounts of fresh water and a stable source of electricity. As our production capabilities increase and our business grows, our requirements for these factors will grow substantially. While we have not, to date, experienced any instances of lack of sufficient supplies of water or material disruptions in the electricity supply to any of our fabs, we may not have access to sufficient supplies of water and electricity to accommodate our planned growth. Droughts, pipeline interruptions, power interruptions, electricity shortages or government intervention, particularly

 

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in the form of rationing, are factors that could restrict our access to these utilities in the areas in which our fabs are located. In particular, our Fab 7 in Tianjin and our fabs under construction in Beijing are located in areas that are susceptible to severe water shortages during the summer months. If there is an insufficient supply of fresh water or electricity to satisfy our requirements, we may need to limit or delay our production, which could adversely affect our business and operating results. In addition, a power outage, even of very limited duration, could result in a loss of wafers in production and a deterioration in yield.

 

We are subject to the risk of damage due to fires or explosions because the materials we use in our manufacturing processes are highly flammable. Such damage could temporarily reduce our manufacturing capacity, thereby adversely affecting our business and operating results.

 

We use highly flammable materials such as silane and hydrogen in our manufacturing processes and are therefore subject to the risk of loss arising from explosions and fires. While we have not, to date, experienced any explosion or fire due to the nature of our raw materials, the risk of explosion and fire associated with these materials cannot be completely eliminated. Although we maintain comprehensive fire insurance and insurance for loss of property and loss of profit resulting from business interruption, our insurance coverage may not be sufficient to cover all of our potential losses due to an explosion or fire. If any of our fabs were to be damaged or cease operations as a result of an explosion or fire, it would temporarily reduce our manufacturing capacity, which could adversely affect our business and operating results.

 

Our new Beijing fabs will be located in an area that is susceptible to seasonal dust storms, which could create impurities in the production process at these facilities and require us to spend additional capital to further insulate these fabs from dust, thereby adversely affecting our business and operating results.

 

The location of our new fabs in Beijing will make them susceptible to seasonal dust storms, which could cause dust particles to enter the buildings and affect the production process. Although we are constructing precautionary filtration systems, these may not adequately insulate the fabs against dust contamination. If dust were to affect production in the Beijing fabs, we could experience quality control problems, losses of products in process and delays in shipping products to our customers. In addition, we may have to spend additional capital to further insulate the Beijing fabs from dust if our current precautionary measures are insufficient. The occurrence of any of these events could adversely affect our business and operating results.

 

Our operations may be delayed or interrupted and our business could suffer as a result of steps we may be required to take in order to comply with environmental regulations.

 

We are subject to a variety of Chinese environmental regulations relating to the use, discharge and disposal of toxic or otherwise hazardous materials used in our production processes. Any failure or any claim that we have failed to comply with these regulations could cause delays in our production and capacity expansion and affect our company’s public image, either of which could harm our business. In addition, any failure to comply with these regulations could subject us to substantial fines or other liabilities or require us to suspend or adversely modify our operations.

 

Risks Related to Conducting Operations in China

 

Our business is subject to extensive government regulation and benefits from certain government incentives, and changes in these regulations or incentives could adversely affect our business and operating results.

 

The Chinese government has broad discretion and authority to regulate the technology industry in China. China’s government has also implemented policies from time to time to regulate economic

 

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expansion in China. The economy of China has been transitioning from a planned economy to a market-oriented economy. Although in recent years the Chinese government has implemented measures emphasizing the utilization of market forces for economic reform, the reduction of state ownership of productive assets and the establishment of sound corporate governance in business enterprises, a substantial portion of productive assets in China is still owned by the Chinese government. In addition, the Chinese government continues to play a significant role in regulating industrial development. It also exercises significant control over China’s economic growth through the allocation of resources, controlling payment of foreign currency-denominated obligations, setting monetary policy and providing preferential treatment to particular industries or companies. New regulations or the readjustment of previously implemented regulations could require us to change our business plan, increase our costs or limit our ability to sell products and conduct activities in China, which could adversely affect our business and operating results.

 

In addition, the Chinese government and provincial and local governments have provided, and continue to provide, various incentives to domestic companies in the semiconductor industry, including our company, in order to encourage development of the industry. Such incentives include tax rebates, reduced tax rates, favorable lending policies and other measures. Any of these incentives could be reduced or eliminated by governmental authorities at any time. Any such reduction or elimination of incentives currently provided to us could adversely affect our business and operating results.

 

Because our business model depends on growth in the electronics manufacturing supply chain in China, any slowdown in this growth could adversely affect our business and operating results.

 

Our business is dependent upon the economy and the business environment in China. In particular, our growth strategy is based upon the assumption that demand in China for devices that use semiconductors will continue to grow. Therefore, any slowdown in the growth of consumer demand in China for products that use semiconductors, such as computers, mobile phones or other consumer electronics, could have a serious adverse effect on our business. In addition, our business plan assumes that an increasing number of non-domestic IDMs, fabless semiconductor companies and systems companies will establish operations in China. Any decline in the rate of migration to China of semiconductor design companies or companies that require semiconductors as components for their products could adversely affect our business and operating results.

 

Limits placed on exports into China could substantially harm our business and operating results.

 

The growth of our business will depend on the ability of our suppliers to export, and our ability to import, equipment, materials, spare parts, process know-how and other technologies and hardware into China. Any restrictions placed on the import and export of these products and technologies could adversely impact our growth and substantially harm our business. In particular, the United States requires our suppliers and us to obtain licenses to export certain products, equipment, materials, spare parts and technologies from that country. If we or our suppliers are unable to obtain export licenses in a timely manner, our business and operating results could be adversely affected.

 

In July 1996, thirty-three countries ratified the Wassenaar Arrangement on Export Controls for Conventional Arms and Dual-Use Goods and Technologies, which established a worldwide arrangement to restrict the transfer of conventional arms and dual-use goods and technologies. Under the terms of the Wassenaar Arrangement, the participating countries, including the United States, have restricted exports to China of technology, equipment, materials and spare parts that potentially may be used for military purposes in addition to their commercial applications. To the extent that technology, equipment, materials or spare parts used in our manufacturing processes are or become subject to the restrictions of the arrangement, our ability to procure these products and technology could be impaired, which could adversely affect our business and operating results. There could also be a change in the export license

 

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regulatory regime in the countries from which we purchase our equipment, materials and spare parts that could delay our ability to obtain export licenses for the equipment, materials, spare parts and technology we require to conduct our business.

 

Devaluation or appreciation in the value of the Renminbi or restrictions on convertibility of the Renminbi could adversely affect our business and operating results.

 

The value of the Renminbi is subject to changes in China’s governmental policies and to international economic and political developments. Since 1994, the conversion of Renminbi into foreign currencies, including Hong Kong and U.S. dollars, has been based on rates set by the People’s Bank of China, which are set daily based on the previous day’s interbank foreign exchange market rates and current exchange rates on the world financial markets. The Renminbi to U.S. dollar exchange rate experienced significant volatility prior to 1994, including periods of sharp devaluation, and the Chinese government remains under international pressure to allow this rate to float. The exchange rate may become volatile and the Renminbi may be devalued again against the U.S. dollar or other currencies, or the Renminbi may be permitted to enter into a full or limited free float, which may result in an appreciation in the value of the Renminbi against the U.S. dollar, any of which could have an adverse affect on our business and operating results.

 

In the past, financial markets in many Asian countries have experienced severe volatility and, as a result, some Asian currencies have experienced significant devaluation from time to time. The devaluation of some Asian currencies may have the effect of rendering exports from China more expensive and less competitive and therefore place pressure on China’s government to devalue the Renminbi. An appreciation in the value of the Renminbi could have a similar effect. Any devaluation of the Renminbi could result in an increase in volatility of Asian currency and capital markets. Future volatility of Asian financial markets could have an adverse impact on our ability to expand our product sales into Asian markets outside of China.

 

We receive a portion of our sales in Renminbi, which is currently not a freely convertible currency. For the year ended December 31, 2002, approximately 2.6% of our sales were denominated in Renminbi, while approximately 2.0% of our sales were denominated in Renminbi for the year ended December 31, 2003. While we have used these proceeds for the payment of our Renminbi expenses, we may in the future need to convert these sales into foreign currencies to allow us to purchase imported materials and equipment, particularly as we expect the proportion of our sales to China-based companies to increase in the future. Under China’s existing foreign exchange regulations, payments of current account items, including profit distributions, interest payments and expenditures from trade may be made in foreign currencies without government approval, except for certain procedural requirements. The Chinese government may, however, at its discretion, restrict access in the future to foreign currencies for current account transactions and prohibit us from converting our Renminbi sales into foreign currencies. If this were to occur, we might not be able to meet our foreign currency payment obligations.

 

China’s entry into the World Trade Organization has resulted in lower Chinese tariff levels, which benefit our competitors from outside China and could adversely affect our business and operating results.

 

As a result of joining the World Trade Organization, or WTO, China has reduced its average rate of import tariffs to 11.5% in 2003 and will further reduce it to 10% by 2008. The import tariff for some information technology-related products has been reduced to zero. As a consequence, we expect stronger competition in China from our foreign competitors, particularly in terms of product pricing, which could adversely affect our business and operating results.

 

China’s legal system embodies uncertainties that could adversely affect our business and operating results.

 

Since 1979, many new laws and regulations covering general economic matters have been promulgated in China. Despite this activity to develop the legal system, China’s system of laws is not yet complete.

 

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Even where adequate law exists in China, enforcement of existing laws or contracts based on existing law may be uncertain and sporadic, and it may be difficult to obtain swift and equitable enforcement or to obtain enforcement of a judgment by a court of another jurisdiction. The relative inexperience of China’s judiciary in many cases creates additional uncertainty as to the outcome of any litigation. In addition, interpretation of statutes and regulations may be subject to government policies reflecting domestic political changes.

 

Our activities in China will be subject to administrative review and approval by various national and local agencies of China’s government. See “Regulation.” Because of the changes occurring in China’s legal and regulatory structure, we may not be able to secure the requisite governmental approval for our activities. Failure to obtain the requisite governmental approval for any of our activities could adversely affect our business and operating results.

 

Our corporate structure may restrict our ability to receive dividends from, and transfer funds to, our Chinese operating subsidiaries, which could restrict our ability to act in response to changing market conditions and reallocate funds from one Chinese subsidiary to another in a timely manner.

 

We are a Cayman Islands holding company and substantially all of our operations are conducted through our Chinese operating subsidiaries, SMIC Shanghai, Semiconductor Manufacturing International (Beijing) Corporation, or SMIC Beijing, and SMIC Tianjin. The ability of these subsidiaries to make dividend and other payments to us may be restricted by factors that include changes in applicable foreign exchange and other laws and regulations. In particular, under Chinese law, these operating subsidiaries may only pay dividends after 10% of their net profit has been set aside as reserve funds, unless such reserves have reached at least 50% of their respective registered capital. In addition, the profit available for distribution from our Chinese operating subsidiaries is determined in accordance with generally accepted accounting principles in China. This calculation may differ from one performed in accordance with U.S. GAAP. As a result, we may not have sufficient distributions from our Chinese subsidiaries to enable necessary profit distributions to us or any distributions to our shareholders in the future, which calculation would be based upon our financial statements prepared under U.S. GAAP.

 

Distributions by our Chinese subsidiaries to us other than as dividends may be subject to governmental approval and taxation. Any transfer of funds from our company to our Chinese subsidiaries, either as a shareholder loan or as an increase in registered capital, is subject to registration or approval of Chinese governmental authorities, including the relevant administration of foreign exchange and/or the relevant examining and approval authority. In addition, it is not permitted under Chinese law for our Chinese subsidiaries to directly lend money to each other. Therefore, it is difficult to change our capital expenditure plans once the relevant funds have been remitted from our company to our Chinese subsidiaries. These limitations on the free flow of funds between us and our Chinese subsidiaries could restrict our ability to act in response to changing market conditions and reallocate funds from one Chinese subsidiary to another in a timely manner.

 

Risks Related to Ownership of Our Shares and ADSs and Our Trading Markets

 

Future sales of securities by us or our shareholders may decrease the value of your investment.

 

Before the global offering, there has not been a public market for our ordinary shares or ADSs. Future sales by us or our existing shareholders of substantial amounts of our ordinary shares or ADSs in the public markets after the global offering could adversely affect market prices prevailing from time to time. Only a limited number of the shares currently outstanding will be available for sale immediately after the global offering due to contractual and legal restrictions on resale. Nevertheless, after these restrictions lapse or if these restrictions are waived or breached, future sales of substantial amounts of our ordinary shares or

 

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ADSs, including shares issued upon exercise of outstanding options and warrants in the public markets in the United States or Hong Kong, or the possibility of such sales, could negatively impact the market price in either the United States or Hong Kong of our ordinary shares and ADSs and our ability to raise equity capital in the future. See “Shares Eligible for Future Sale” and “Related Party Transactions—Registration Rights Agreement.”

 

There has been no prior market for our shares or ADSs and the offering contemplated by this prospectus may not result in an active or liquid market for these securities, which could adversely affect the market price of our shares or ADSs.

 

Prior to this offering, there has not been a public market for our shares or ADSs. The ADSs have been approved for listing on the New York Stock Exchange, and the Hong Kong Stock Exchange has granted approval in principle for our application to list our shares. This approval in principle from the Hong Kong Stock Exchange constitutes a conditional approval for the Hong Kong offering that is subject to the satisfaction of the relevant documentary requirements of the Hong Kong Stock Exchange Listing Rules, satisfaction of the Listing Division of the Hong Kong Stock Exchange with the contents of the prospectus and any other conditions or amendments that the Hong Kong Stock Exchange Listing Committee may request prior to commencement of trading of the ordinary shares on the Hong Kong Stock Exchange. However, an active public market may not develop or be sustained after the global offering. If an active market for our shares or ADSs does not develop after the global offering, the market price and liquidity of our shares or ADSs may be adversely affected.

 

The initial public offering price may not be indicative of prices that will prevail in the trading market and such market prices may be volatile.

 

The initial public offering price for the shares and the ADSs has been determined by negotiations between us and representatives of the underwriters and may not be indicative of prices that will prevail in the trading market. Investors may not be able to resell their shares or ADSs at or above the initial public offering price. The financial markets in the United States and other countries have experienced significant price and volume fluctuations, and market prices of technology companies have been and continue to be extremely volatile. Volatility in the price of our shares and ADSs may be caused by factors outside our control and may be unrelated or disproportionate to our operating results.

 

Holders of our ADSs will not have the same voting rights as the holders of our shares and may not receive voting materials in time to be able to exercise their right to vote.

 

Except as described in this prospectus and in the deposit agreement, holders of our ADSs will not be able to exercise voting rights attaching to the shares evidenced by our ADSs on an individual basis. Holders of our ADSs will appoint the depositary or its nominee as their representative to exercise the voting rights attaching to the shares represented by the ADSs. You may not receive voting materials in time to instruct the depositary to vote, and it is possible that you, or persons who hold their ADSs through brokers, dealers or other third parties, will not have the opportunity to exercise a right to vote.

 

You may not be able to participate in rights offerings and may experience dilution of your holdings as a result.

 

We may from time to time distribute rights to our shareholders, including rights to acquire our securities. Under the deposit agreement for the ADSs, the depositary will not offer those rights to ADS holders unless both the rights and the underlying securities to be distributed to ADS holders are either registered under the Securities Act or exempt from registration under the Securities Act with respect to all holders of ADSs. We are under no obligation to file a registration statement with respect to any such rights or underlying securities or to endeavor to cause such a registration statement to be declared effective. In

 

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addition, we may not be able to take advantage of any exemptions from registration under the Securities Act. Accordingly, holders of our ADSs may be unable to participate in our rights offerings and may experience dilution in their holdings as a result.

 

The laws of the Cayman Islands and China may not provide our shareholders with benefits provided to shareholders of corporations incorporated in the United States.

 

Our corporate affairs are governed by our memorandum and articles of association, by the Companies Law (2003 Revision) and the common law of the Cayman Islands. The rights of shareholders to take action against our directors, actions by minority shareholders and the fiduciary responsibilities of our directors to us under Cayman Islands law are to a large extent governed by the common law of the Cayman Islands. The common law in the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands and from English common law, the decisions of whose courts are of persuasive authority but are not binding on a court in the Cayman Islands. The rights of our shareholders and the fiduciary responsibilities of our directors under Cayman Islands law are not as clearly established as they would be under statutes or judicial precedents in the United States. In particular, the Cayman Islands has a less developed body of securities laws as compared to the United States. Therefore, our public shareholders may have more difficulty protecting their interests in the face of actions by our management, directors or controlling shareholders than would shareholders of a corporation incorporated in a jurisdiction in the United States. In addition, Cayman Islands companies may not have standing to initiate a shareholder derivative action before the federal courts of the United States. See “Description of Share Capital—Differences in Corporate Law.”

 

It may be difficult for you to enforce any judgment obtained in the United States against our company, which may limit the remedies otherwise available to our shareholders.

 

Substantially all of our assets are located outside the United States. Almost all of our current operations are conducted in China. Moreover, most of our directors and officers are nationals or residents of countries other than the United States. All or a substantial portion of the assets of these persons are located outside the United States. As a result, it may be difficult for you to effect service of process within the United States upon these persons. In addition, there is uncertainty as to whether the courts of the Cayman Islands or China would recognize or enforce judgments of United States courts obtained against us or such persons predicated upon the civil liability provisions of the securities law of the United States or any state thereof, or be competent to hear original actions brought in the Cayman Islands or China, respectively, against us or such persons predicated upon the securities laws of the United States or any state thereof. See “Enforceability of Civil Liabilities.”

 

The market prices of our shares and ADSs could fall during the five-business day period between pricing and trading of our shares and ADSs as a result of adverse market conditions or other adverse developments occuring during this period.

 

The initial price to the public of our shares and ADSs sold in this offering will be determined on the date of pricing. However, the ordinary shares will not commence trading on the Hong Kong Stock Exchange until they are delivered, which is expected to be five Hong Kong business days after the pricing date. Trading of ADSs on the New York Stock Exchange will not commence until one day prior to commencement of trading of our ordinary shares on the Hong Kong Stock Exchange. As a result, investors may not be able to sell or otherwise deal in our ordinary shares or ADSs during such period, and thus are subject to the risk that the market prices of our ordinary shares and ADSs could fall before trading begins as a result of adverse market conditions or other adverse developments occurring during such period.

 

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We could be subject to potential liability arising out of a possible violation of Section 5 of the Securities Act in connection with an e-mail sent to potential employee participants in our proposed directed share program.

 

We could be subject to potential liability arising out of a possible violation of Section 5 of the Securities Act in connection with an e-mail sent to potential employee participants in our proposed directed share program. On or about February 21, 2004, one of our officers sent an e-mail relating to the proposed directed share program to approximately 80 of our company’s department heads worldwide for their use in administering the directed share program. This e-mail was subsequently forwarded to a large number of the employees that were eligible to participate in the proposed directed share program. The e-mail contained certain inaccurate statements about the mechanics of the directed share program and informed the recipients that they might have an opportunity to participate in the proposed directed share program. We did not deliver a preliminary prospectus to the individuals who received the e-mail prior to sending the e-mail. In light of these events, we have terminated the employee portion of the proposed directed share program and have taken steps to prevent any potential participants in the proposed directed share program who are employees from purchasing any ordinary shares or ADSs in the global offering. If the distribution of the e-mail were to constitute a violation of the Securities Act, and the recipients were able to participate in the global offering despite the measures described above, such recipients could have the right, for a period of one year from the date of their purchase of the ordinary shares or ADSs, as the case may be, to obtain recovery of the consideration paid in connection with their purchase. Any liability for a potential violation would depend upon the number of ordinary shares or ADSs, if any, purchased by the recipients of such e-mail. If any such liability were asserted, we would contest the matter vigorously. We believe that any such liability would not be material to us.

 

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Table of Contents

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

This prospectus, including particularly in the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Our Business,” contains forward-looking statements. These statements relate to future events or our future financial performance, capacity or technology developments, and involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to differ materially from any future results, levels of activity, performance or achievements expressed or implied by these forward-looking statements. These risks and other factors include those listed under “Risk Factors” and elsewhere in this prospectus. In some cases, you can identify forward-looking statements by such terminology as “may,” “will,” “should,” “expects,” “intends,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of these terms or other comparable terminology. Except as required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise after the date of this prospectus. All forward-looking statements contained in this prospectus are qualified by reference to the cautionary statements set forth under this caption “Special Note Regarding Forward-Looking Statements.”

 

 

27


Table of Contents

USE OF PROCEEDS

 

We estimate that our net proceeds from the global offering will be approximately US$1,022.0 million ($1,017.9 million after giving effect to the expected reallocation of ordinary shares to the Hong Kong public offering), after deducting estimated underwriting discounts and commissions and estimated offering expenses. We plan to use:

 

  approximately US$403.0 million of the net proceeds for constructing and ramping up our Beijing fabs; and

 

  approximately US$619.0 million of the net proceeds for upgrading the technology and increasing the capacity at our Shanghai and Tianjin fabs.

 

We anticipate that we will use the remaining net proceeds, if any, for general corporate purposes, including working capital and capital expenditures. We may also use a portion of the net proceeds to fund possible investments in, or acquisitions of, complementary businesses, products or technologies or to establish joint ventures. Accordingly, our management will have broad discretion in applying the net proceeds of the global offering. Pending these uses, we intend to invest the net proceeds in interest-bearing, investment-grade securities, certificates of deposit or direct or guaranteed obligations of the U.S. government.

 

We estimate the net proceeds received by the selling shareholders from the global offering will be approximately US$717.0 million, or US$978.0 million if the overallotment option is exercised in full, after deducting estimated underwriting discounts and commissions payable by the selling shareholders. We will not receive any of the proceeds from the sale of ADSs being sold by the selling shareholders, including the proceeds resulting from the underwriters’ exercise of the overallotment option, if any.

 

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Table of Contents

DIVIDENDS AND DIVIDEND POLICY

 

Since our inception, we have not declared or paid any cash dividends on our ordinary shares. We intend to retain any earnings for use in our business and do not currently intend to pay cash dividends on our ordinary shares. Dividends, if any, on the outstanding shares will be declared by and subject to the discretion of our board of directors and must be approved at our annual general meeting of shareholders. The timing, amount and form of future dividends, if any, will also depend, among other things, on:

 

  our results of operations and cash flow;

 

  our future prospects;

 

  our capital requirements and surplus;

 

  our financial condition;

 

  general business conditions;

 

  contractual restrictions on the payment of dividends by us to our shareholders or by our subsidiaries to us; and

 

  other factors deemed relevant by our board of directors.

 

Our ability to pay cash dividends will also depend upon the amount of distributions, if any, received by us from our three wholly owned Chinese operating subsidiaries. Under the applicable requirements of Chinese Company Law, our Chinese subsidiaries may only distribute dividends after they have made allowances for:

 

  recovery of losses, if any;

 

  allocation to the statutory common reserve funds;

 

  allocation to staff and workers’ bonus and welfare funds; and

 

  allocation to a discretionary common reserve fund if approved by our shareholders.

 

More specifically, these operating subsidiaries may only pay dividends after 10% of their net profit has been set aside as statutory common reserves and a discretionary percentage of their net profit has been set aside for the staff and workers’ bonus and welfare funds. These operating subsidiaries are not required to set aside any of their net profit as statutory common reserves if such reserves are at least 50% of their respective registered capital. Furthermore, if they record no net income for a year, they generally may not distribute dividends for that year.

 

29


Table of Contents

CAPITALIZATION

 

The following table sets forth our short-term borrowings (unsecured) and capitalization as of December 31, 2003 presented on:

 

  an actual basis;

 

  a pro forma basis to reflect (i) the conversion of all our convertible preference shares issued or issuable as of December 31, 2003 into 13,299,009,450 post-split ordinary shares, (ii) the conversion into 1,605,174,900 post-split ordinary shares of the Series D convertible preference shares issued in connection with our acquisition in January 2004 of the assets constituting Motorola’s fab in Tianjin, China, (iii) the conversion into 39,290,830 post-split ordinary shares of the Series D convertible preference shares issued or issuable upon the closing of our transactions with two technology partners, one of which closed on February 26, 2004 and the other which we anticipate will be consummated by the end of the second quarter of 2004, (iv) the redemption of all our outstanding Series A-1 non-convertible preference shares, and (v) a 10-for-1 share split to be effected in the form of a share dividend; and

 

  a pro forma as-adjusted basis to give effect to (i) the sale of the ordinary shares and ADSs in the global offering at an initial public offering price of HK$2.73 per share, or US$17.50 per ADS, and (ii) the application of the estimated net proceeds therefrom.
    December 31, 2003

 
    Actual

    Pro forma

    Pro forma
as
adjusted


 
    (in US$ thousands)  

Short-term borrowings (unsecured)(1)

  $ 80,369     $ 80,369     $ 80,369  
   


 


 


Long-term debt (secured)(1)

  $ 479,961     $ 479,961     $ 479,961  
   


 


 


Stockholders’ equity:

                       

Preference shares, US$0.0004 par value. Authorized: nil shares actual, 5,000,000,000 shares on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding: nil shares on an actual, pro forma and a pro forma as-adjusted basis:

    —         —         —    

Series A convertible preference shares, US$0.0004 par value. Authorized: 1,000,000,000 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding: 954,977,374 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis

    382       —         —    

Series A-1 non-convertible preference shares, US$0.00001 par value. Authorized: 1,000,000,000 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding or issuable: 219,499,674 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis

    2       —         —    

Series A-2 convertible preference shares, US$0.0004 par value. Authorized: 42,373,000 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding: 42,373,000 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis

    17       —         —    

Series B convertible preference shares, US$0.0004 par value. Authorized: 50,000,000 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding: 2,350,000 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis

    1       —         —    

Series C convertible preference shares, US$0.0004 par value. Authorized: 215,285,714 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding or issuable: 181,718,858 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis

    73       —         —    

Series D convertible preference shares, US$0.0004 par value. Authorized: 122,142,857 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding or issuable: 7,142,857 shares actual, nil shares on a pro forma basis and on a pro forma as-adjusted basis.

    3       —         —    

Ordinary shares, US$0.0004 par value. Authorized: 2,245,494,480 shares actual, 50,000,000,000 on a pro forma basis and on a pro forma as-adjusted basis; issued and outstanding: 24,259,500 shares actual, 15,186,739,790 on a pro forma basis and 18,217,042,790 on a pro forma as-adjusted basis(2)

    10       6,075       7,287  

Warrants

    37,840       37,840       37,840  

Additional paid-in capital

    1,835,907       2,176,712       3,199,545  

Subscription receivable from stockholders

    (105,420 )     (105,420 )     (105,420 )

Notes receivable from stockholders

    (36,026 )     (36,026 )     (36,026 )

Accumulated other comprehensive income

    200       200       200  

Deferred stock compensation

    (40,583 )     (40,583 )     (40,583 )

Accumulated deficit

    (207,291 )     (207,291 )     (207,291 )
   


 


 


Total stockholders’ equity

  $ 1,485,115     $ 1,831,507     $ 2,855,552  
   


 


 


Total capitalization

  $ 1,965,076     $ 2,311,468     $ 3,335,513  
   


 


 



(1) None of our short-term borrowings or long-term debt is guaranteed.
(2) Because the ratio at which our outstanding Series B convertible preference shares increases from time to time upon the issuance of Series C convertible preference shares and Series D convertible preference shares and because such shares have been issued between December 31, 2003 and the date of this prospectus, the pro forma and pro forma as-adjusted ordinary share amounts are based on the conversion of the Series B convertible preference shares outstanding as of December 31, 2003 into ordinary shares at a conversion rate of 1.12.

 

30


Table of Contents

The number of actual, pro forma and pro forma as-adjusted shares to be issued or issuable immediately following the global offering excludes the following post-split as-converted shares:

 

  583,813,880 ordinary shares issuable upon the exercise of options outstanding as of December 31, 2003, with exercise prices ranging from US$0.005 to US$0.35 per share (on a post-split basis);

 

  623,380 ordinary shares issuable upon conversion of Series B convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, which warrant is automatically exercised upon the attainment of certain milestones and has an exercise price of US$3.50 per convertible preference share;

 

  17,272,730 ordinary shares issuable upon conversion of Series B convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, which warrant is automatically exercised upon the attainment of certain milestones and has an exercise price of US$3.00 per convertible preference share;

 

  314,999,280 ordinary shares issuable upon conversion of Series C convertible preference shares issuable upon exercise of warrants issued or issuable as of December 31, 2003, with exercise prices of US$0.01 per convertible preference share, which warrants are not exercisable prior to and shall terminate upon the completion of the global offering;

 

  11,978,920 ordinary shares issuable upon conversion of Series D convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, with an exercise price of US$0.01 per convertible preference share, which warrant is not exercisable prior to and will terminate upon the completion of the global offering; and

 

  413,451,380 ordinary shares reserved for future grants under our employee stock option plans as of December 31, 2003.

 

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Table of Contents

DILUTION

 

As of December 31, 2003, our net tangible book value per ADS was US$5.18. Net tangible book value per ADS represents total tangible assets minus total liabilities divided by the total number of ADS equivalents outstanding. After giving effect to the sale of the ADSs and ordinary shares offered in the global offering (at an initial public offering price of US$17.50 per ADS) and after deducting underwriting discounts and commissions and other estimated expenses of the global offering, the net tangible book value per ADS would increase to US$7.54 per ADS. This represents an immediate increase in net tangible book value of US$2.36 per ADS equivalent to our existing shareholders, and an immediate dilution of US$9.96 per ADS equivalent to purchasers of ADSs or ordinary shares purchasing at the initial public offering price.

 

The following table illustrates this dilution:

 

Initial public offering price per ADS

   US$ 17.50
    

Net tangible book value per ADS equivalent as of December 31, 2003

   US$ 5.18

Increase per ADS equivalent attributable to the sale of the ADSs and the ordinary shares

   US$ 2.36
    

Pro forma net tangible book value per ADS after the global offering

   US$ 7.54
    

Dilution per ADS equivalent to purchasers of ADSs or the ordinary shares

   US$ 9.96
    

 

The following table sets forth our existing shareholders, the number and percentage of total outstanding ordinary shares purchased, the total consideration and the average price per share and per ADS:

 

     Shares purchased

   Total consideration

  

Average

price per

share


  

Average

price per

ADS


     Number

   Percent

   Amount

   Percent

     
     (in millions)         (in millions)               

Existing shareholders

   15,186    83.4%    US$ 2,126    66.7%    US$ 0.14    US$ 7.00

Purchasers of ordinary shares or ADSs

   3,030    16.6%    US$ 1,061    33.3%    US$ 0.35    US$ 17.50
    
  
  

  
             

Total

   18,216    100.0%    US$ 3,187    100.0%              
    
  
  

  
             

 

The number of ordinary shares to be outstanding immediately following the global offering is 18,216,373,180, based on (i) 13,541,604,450 post-split ordinary shares issued or issuable as of December 31, 2003, (ii) 1,605,174,900 post-split ordinary shares issuable upon conversion of Series D convertible preference shares issued in connection with our acquisition in January 2004 of the assets constituting Motorola’s fab in Tianjin, China, and (iii) 39,290,830 post-split ordinary shares issuable upon conversion of Series D convertible preference shares issued or issuable in connection with the closing of our transactions with two technology partners, one of which closed on February 26, 2004 and the other which we anticipate will be consummated by the end of the second quarter of 2004, and excludes the following post-split as-converted shares:

 

  583,813,880 ordinary shares issuable upon the exercise of options outstanding as of December 31, 2003, with exercise prices ranging from US$0.005 to US$0.35 per share (on a post-split basis);

 

  623,380 ordinary shares issuable upon conversion of Series B convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, which warrant is automatically exercised upon the attainment of certain milestones and has an exercise price of US$3.50 per convertible preference share;

 

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Table of Contents
  17,272,730 ordinary shares issuable upon conversion of Series B convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, which warrant is automatically exercised upon the attainment of certain milestones and has an exercise price of US$3.00 per convertible preference share;

 

  314,999,280 ordinary shares issuable upon conversion of Series C convertible preference shares issuable upon exercise of warrants issued or issuable as of December 31, 2003, with exercise prices of US$0.01 per convertible preference share, which warrants are not exercisable prior to and shall terminate upon the completion of the global offering;

 

  11,978,920 ordinary shares issuable upon conversion of Series D convertible preference shares issuable upon exercise of a warrant outstanding as of December 31, 2003, with an exercise price of US$0.01 per convertible preference share, which warrant is not exercisable prior to and will terminate upon the completion of the global offering; and

 

  413,451,380 ordinary shares reserved for future grants under our employee stock option plans as of December 31, 2003.

 

After giving effect to the issuance of (i) 1,605,174,900 ordinary shares issuable upon conversion of Series D convertible preference shares issued in connection with our acquisition in January 2004 of the assets constituting Motorola’s fab in Tianjin, China, and (ii) 39,290,830 ordinary shares issuable upon conversion of Series D convertible preference shares issued or issuable upon the closing of our transactions with two technology partners, one of which closed on February 26, 2004 and the other which we anticipate will be consummated by the end of the second quarter of 2004, and assuming that all of the options outstanding as of December 31, 2003 and warrants that may not terminate upon completion of the global offering are exercised, the number of ordinary shares to be outstanding immediately following the global offering would increase to 18,818,083,170, and purchasers of ADSs or ordinary shares in the global offering would experience an additional dilution of US$0.21 per ADS equivalent or US$0.004 per ordinary share.

 

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Table of Contents

SELLING SHAREHOLDERS

 

In addition to sales of ADSs by us, 42,424,240 ADSs are being sold by the persons named in the table below as selling shareholders in the global offering. Each ADS represents 50 ordinary shares. The selling shareholders have also granted to the underwriters an option, exercisable in whole or in part at the discretion of the representatives, at any time, from time to time, on or before April 10, 2004, to purchase up to an additional 15,454,540 ADSs at the initial price to the public per ADS less the underwriting discount solely to cover overallotments, if any.

 

The table below sets forth the number of ordinary shares (on a post-split as-converted basis) to be sold in the global offering by:

 

  each shareholder who is known by us to beneficially own more than 5% of our outstanding or issuable ordinary shares (on a post-split as-converted basis);

 

  entities affiliated with our directors; and

 

  other shareholders who have elected to offer their ordinary shares in the global offering.

 

We and/or the underwriters may, at the discretion of us and/or the underwriters, limit or deny the ability of any selling shareholder to sell its ordinary shares in the global offering for failure to deliver requisite executed documents, including legal opinions, to us and/or the underwriters in form, substance and time acceptable to us and the underwriters. Any ordinary shares of a selling shareholder excluded from the global offering for the reasons stated above may be reallocated, at the discretion of us and/or the underwriters, to other selling shareholders who have previously expressed an interest in selling an amount of ordinary shares in excess of the amount set forth next to their respective names in the table below.

 

None of our directors or executive officers will be selling any of their shares in the global offering in their individual capacity. For information concerning the beneficial ownership of each person known by us to beneficially own more than 5% of our outstanding or issuable ordinary shares (on a post-split as-converted basis), see “Principal Shareholders.” Certain of the selling shareholders and/or their affiliates may purchase our ordinary shares in the global offering for investment purposes.

 

The percentage of beneficial ownership of our ordinary shares before the global offering is based on 15,186,070,180 post-split ordinary shares, which includes:

 

  13,541,604,450 ordinary shares outstanding or issuable upon conversion of convertible preference shares outstanding or issuable as of December 31, 2003;

 

  1,605,174,900 ordinary shares issuable upon conversion of convertible preference shares issued in January 2004 to Motorola and its subsidiary, MCEL, upon the closing of certain transactions relating to our acquisition of the assets constituting Motorola’s fab in Tianjin, China; and

 

  39,290,830 ordinary shares issuable upon conversion of convertible preference shares issued or issuable to two other technology partners upon the closing of our technology transactions with them, one of which closed on February 26, 2004 and the other which we anticipate will be consummated by the end of the second quarter of 2004.

 

The percentage of beneficial ownership of our ordinary shares after the global offering is based on 18,216,373,180 post-split ordinary shares outstanding after the global offering.

 

Beneficial ownership is determined in accordance with the rules of the U.S. Securities and Exchange Commission and generally includes voting power or investment power with respect to securities. Unless otherwise indicated, we believe that the beneficial owner has sole voting and investment power over such shares. All options and warrants exercisable into ordinary shares or preference shares convertible into ordinary shares within 60 days following December 31, 2003 are deemed to be outstanding and beneficially owned by the shareholder holding such options or warrants for the purpose of computing the number of shares beneficially owned by such shareholder.

 

 

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Table of Contents

The figures in the table below related to the underwriters’ overallotment option assumes the exercise in full of the underwriters’ overallotment option to purchase up to 772,727,000 post-split ordinary shares. The address of each of the selling shareholders listed below is: c/o Semiconductor Manufacturing International Corporation, 18 Zhangjiang Road, Pudong New Area, Shanghai 201203, People’s Republic of China, Attn: Chief Financial Officer.

 

     Beneficial
Ownership
Before Global Offering


   Number of
Ordinary
Shares Being
Offered
Without
Overallotment


   Beneficial
Ownership
After Global Offering
Without
Overallotment


   Number of
Ordinary
Shares Being
Offered With
Overallotment


   Beneficial
Ownership
After Global Offering
With
Overallotment


Name


   Number of
Ordinary
Shares


   %

      Number of
Ordinary
Shares


   %

      Number of
Ordinary
Shares


   %

Greater Than 5% Shareholders

                                       

Motorola (China) Electronics Limited(1)

   1,724,964,070    11.4    297,049,000    1,427,915,070    7.8    427,524,000    1,297,440,070    7.1

Global Growth Fund and International Equity Income Fund(2)

   1,125,011,250    7.4    73,518,000    1,051,493,250    5.8    105,810,000    1,019,201,250    5.6

Beijing Beida Jade Bird Software System Company(3)

   1,027,505,390    6.8    156,842,000    870,663,390    4.8    225,732,000    801,773,390    4.4
    
  
  
  
  
  
  
  

Subtotal

   3,877,480,710    25.5    527,409,000    3,350,071,710    18.4    759,066,000    3,118,414,710    17.1
    
  
  
  
  
  
  
  

Entities Affiliated with Directors

                                       

Asia Pacific Associates III, Ltd.(4)

   633,098,760    4.2    62,060,000    571,038,760    3.1    89,319,000    543,779,760    3.0

The Goldman Sachs Group, Inc.(5)

   450,004,440    3.0    198,166,000    251,838,440    1.4    277,984,000    172,020,440    *

Platinum Creative Group Limited(6)

   423,730,000    2.8    101,947,000    321,783,000    1.8    146,726,000    277,004,000    1.5

Integrated Silicon Solution, Inc.(7)

   366,340,490    2.4    39,210,000    327,130,490    1.8    56,433,000    309,907,490    1.7

Pacven Walden Management Co., Ltd.(8)

   318,168,760    2.1    25,744,000    292,424,760    1.6    36,046,000    282,122,760    1.5

AsiaVest Partners TCW/YFY Ltd.(9)

   219,970,000    1.4    39,210,000    180,760,000    1.0    56,433,000    163,537,000    *

Vertex Management (II) Pte Ltd(10)

   190,001,790    1.3    43,486,000    146,515,790    *    62,586,000    127,415,790    *

Creative Technology Ltd(11)

   140,000,900    *    45,746,000    94,254,900    *    65,839,000    74,161,900    *

Cresciendo Investments Limited(12)

   90,000,900    *    23,526,000    66,474,900    *    33,860,000    56,140,900    *

Singapore Technologies Semiconductors Pte Ltd(13)

   90,000,900    *    20,558,000    69,442,900    *    29,588,000    60,412,900    *

Flextronics International, Ltd.(14)

   49,999,990    *    25,000,000    24,999,990    *    25,000,000    24,999,990    *

WIIG-Japan Management Co., Ltd(15)

   27,666,850    *    3,320,000    24,346,850    *    3,320,000    24,346,850    *

Vertex Israel II Management Ltd.(16)

   24,999,950    *    13,791,000    11,208,950    *    13,791,000    11,208,950    *

AP3 Co-Investment Partners, LDC(17)

   18,000,010    *    2,700,000    15,300,010    *    2,700,000    15,300,010    *

Seed Ventures III Pte. Ltd.(18)

   11,066,730    *    1,330,000    9,736,730    *    1,330,000    9,736,730    *
    
  
  
  
  
  
  
  

Subtotal

   3,053,050,470    20.1    645,794,000    2,407,256,470    13.2    900,955,000    2,152,095,470    11.8
    
  
  
  
  
  
  
  

Other Selling Shareholders

                                       

Fortune Technology Fund II Ltd.†

   417,603,960    2.7    54,450,000    363,153,960    2.0    78,367,000    339,236,960    1.9

Government of Singapore Investment Corporation Pte Ltd.(19)

   343,071,600    2.3    224,199,000    118,872,600    *    322,675,000    20,396,600    *

Managing members of Oak Investment entities(20)

   250,000,000    1.6    63,629,000    186,371,000    1.0    83,404,000    166,596,000    *

Fastcash Finance Ltd.†

   187,740,270    1.2    18,298,000    169,442,270    *    26,335,000    161,405,270    *

Westward Holdings Ltd.†

   163,981,640    1.1    16,070,000    147,911,640    *    23,128,000    140,853,640    *

Advanced Tech International Ltd.†

   155,012,150    1.0    15,031,000    139,981,150    *    21,633,000    133,379,150    *

Top Spot Ltd.†

   138,447,210    *    4,522,000    133,925,210    *    6,509,000    131,938,210    *

Expert Gold Investments Ltd.†

   130,772,900    *    20,912,000    109,860,900    *    30,098,000    100,674,900    *

PROCIFIC†

   125,000,000    *    12,253,000    112,747,000    *    17,635,000    107,365,000    *

Superb Consultants Limited†

   107,362,070    *    19,605,000    87,757,070    *    28,217,000    79,145,070    *

Harvest Equity Company Limited†

   101,251,010    *    23,200,000    78,051,010    *    33,390,000    67,861,010    *

Citicorp International Finance Corporation(21)

   100,000,010    *    65,351,000    34,649,010    *    94,055,000    5,945,010    *

Hanover Technology Limited†

   90,000,900    *    17,645,000    72,355,900    *    25,395,000    64,605,900    *

Towin Limited†

   90,000,900    *    19,605,000    70,395,900    *    28,217,000    61,783,900    *

Strong Fortune Corporation†

   81,000,810    *    26,140,000    54,860,810    *    37,622,000    43,378,810    *

 

35


Table of Contents
     Beneficial Ownership
Before Global Offering


    Number of
Ordinary
Shares Being
Offered
Without
Overallotment


    Beneficial
Ownership
After Global Offering
Without
Overallotment


    Number of
Ordinary
Shares Being
Offered With
Overallotment


    Beneficial
Ownership
After Global Offering
With Overallotment


 

Name


   Number of
Ordinary
Shares


    %

      Number of
Ordinary
Shares


    %

      Number of
Ordinary
Shares


    %

 

Prodigy Fund SPC-Prodigy Strategic Investment Fund X Segregated Portfolio(22)

   75,000,000     *     16,338,000     58,662,000     *     23,514,000     51,486,000     *  

Pearlville Company Ltd.†

   60,000,000     *     11,110,000     48,890,000     *     15,989,000     44,011,000     *  

Shanghai International Shanghai Growth Investment Limited†

   54,000,540     *     11,763,000     42,237,540     *     16,930,000     37,070,540     *  

Technology Associates Management Company, Ltd.†

   50,550,470     *     29,408,000     21,142,470     *     42,325,000     8,225,470     *  

Managing members of DCM Investment Management III, LLC(23)

   50,000,000     *     12,500,000     37,500,000     *     12,500,000     37,500,000     *  

General Motors Investment Management Corporation(24)

   50,000,000     *     7,500,000     42,500,000     *     7,500,000     42,500,000     *  

Temasek Holdings (Private) Limited(25)

   49,915,130     *     24,950,000     24,965,130     *     24,950,000     24,965,130     *  

System Com. Co., Ltd.†

   45,000,450     *     15,000,000     30,000,450     *     15,000,000     30,000,450     *  

CMF Technology Fund I Ltd.†

   39,000,000     *     19,500,000     19,500,000     *     19,500,000     19,500,000     *  

Taurus International Corporation†

   37,000,260     *     13,500,000     23,500,260     *     13,500,000     23,500,260     *  

Always Happy Co., Ltd.†

   35,950,190     *     17,970,000     17,980,190     *     17,970,000     17,980,190     *  

AAA Capital Management, Inc.†

   30,000,000     *     10,000,000     20,000,000     *     10,000,000     20,000,000     *  

Palace Gate Ltd.†

   28,395,280     *     2,840,000     25,555,280     *     2,840,000     25,555,280     *  

Wider Choice Enterprises Limited†

   27,000,270     *     13,500,000     13,500,270     *     13,500,000     13,500,270     *  

Ease Investment Co., Ltd.†

   27,000,270     *     8,100,000     18,900,270     *     8,100,000     18,900,270     *  

Anfu Holdings Ltd.†

   27,000,000     *     13,500,000     13,500,000     *     13,500,000     13,500,000     *  

Sycamore Management Corporation(26)

   25,000,010     *     12,500,000     12,500,010     *     12,500,000     12,500,010     *  

Sim Wong Hoo

   25,000,010     *     12,500,000     12,500,010     *     12,500,000     12,500,010     *  

First Capital International Limited(27)

   20,000,020     *     7,000,000     13,000,020     *     7,000,000     13,000,020     *  

Tang Shi Ming Wang (28)

   20,000,000     *     10,000,000     10,000,000     *     10,000,000     10,000,000     *  

Fair Chance Ltd.†

   18,298,350     *     5,400,000     12,898,350     *     5,400,000     12,898,350     *  

Huitung Investments (BVI) Limited†

   18,000,180     *     9,000,000     9,000,180     *     9,000,000     9,000,180     *  

New Found Developments Limited†

   18,000,180     *     9,000,000     9,000,180     *     9,000,000     9,000,180     *  

Grandtime Associates Limited†

   18,000,180     *     9,000,000     9,000,180     *     9,000,000     9,000,180     *  

Shareholders that in the aggregate hold
less than 1% of our outstanding ordinary shares(29)

   116,575,010     *     45,220,000     71,355,010     *     45,220,000     71,355,010     *  
    

 

 

 

 

 

 

 

Subtotal

   3,445,932,230     22.7     948,009,000     2,497,923,230     13.7     1,233,918,000     2,212,014,230     12.1  
    

 

 

 

 

 

 

 

All Selling Shareholders as a Group

   10,376,463,410     68.3     2,121,212,000     8,255,251,410     45.3     2,893,939,000     7,482,524,410     41.1  
    

 

 

 

 

 

 

 

All Directors and Executive Officers as a Group (17 persons)(30)

   9,378,018,420 (31)   61.7 (32)   1,173,203,000 (33)   8,204,815,420 (31)   45.0 (32)   1,660,021,000 (33)   7,717,997,420 (31)   42.3 (32)
    

 

 

 

 

 

 

 


* Represents less than 1%.
It is our understanding that the board of directors of the selling shareholder has sole voting and investment power with respect to its shares.

 

36


Table of Contents
(1) It is our understanding that voting and investment control over our shares held by Motorola (China) Electronics Limited, or MCEL, are maintained by the board of directors of MCEL, which has the power to delegate such authority. All such delegations are revocable by the MCEL board at any time. MCEL holds of record, and beneficially owns, 1,389,554,390 ordinary shares, or 9.2% of our ordinary shares, before the global offering. After the global offering, MCEL will hold of record, and beneficially own, 1,092,505,390 ordinary shares, or 6.0% of our ordinary shares, assuming that the over-allotment option is not exercised, and 962,030,390 ordinary shares, or 5.3% of our ordinary shares, assuming that the over-allotment option is exercised in full.
   The number of ordinary shares set forth in the table as beneficially owned by MCEL before the global offering and to be owned by MCEL after the global offering includes 335,409,680 ordinary shares held of record, and beneficially owned, by Motorola, Inc., the parent company of MCEL. The number of shares beneficially owned, or to be owned, by MCEL as set forth in the table and as described in the preceding paragraph excludes 138,995,430 ordinary shares (on a post-split as-converted basis) issuable to MCEL and 33,540,960 ordinary shares (on a post-split as-converted basis) issuable to Motorola, upon the exercise of warrants to purchase Series D convertible preference shares, which warrants are not exercisable prior to and will terminate upon the completion of the global offering. Motorola is entitled to appoint one member to our board. For more information, see “Principal Shareholders” and “Related Party Transactions.”
(2) Consists of shares registered in the name of and being sold by Homer Investment Holdings Ltd., Asset Success Investments Limited, Easy Street Investments Limited, Seaboard Investments Limited, Visible Profit Investments Limited and Whole Gain Investments Limited. Our director, Yen-Pong Jou, is the designee of Homer Investment Holdings Ltd. and a director of each of these entities, all of which are affiliated with Global Growth Fund and International Equity Income Fund. Global Growth Fund and International Equity Income Fund are managed by Deutsche International Corporate Services Limited and Deutsche International Trust Corporation (C.I.) Limited. Deutsche International Corporate Services Limited and Deutsche International Trust Corporation (C.I.) Limited are affiliates of Deutsche Bank AG, Hong Kong Branch, a joint bookrunner and international underwriter in the global offering and Deutsche Bank Securities Inc., a U.S. underwriter in the global offering. Accordingly, Deutsche International Corporate Services Limited, Deutsche International Trust Corporation (C.I.) Limited, Deutsche Bank AG and Deutsche Bank Securities Inc. may be deemed to beneficially own such securities. For more information, see “Principal Shareholders.”
(3) Consists of shares registered in the name of and being sold by Beida Jade Bird Universal Sci-Tech (Cayman) Development Company Limited. The number of shares owned by Beijing Beida Jade Bird Software System Company assumes the closing of the subscription of 27,857,142 Series C convertible preference shares by Beida Microelectronics Investment Ltd. and assumes 487,499,990 ordinary shares issuable upon conversion of the Series C convertible preference shares are registered in the name of Beida Microelectronics Investment Ltd. None of these 487,499,990 shares are being offered in the global offering. For more information on this subscription, see “Related Party Transactions — Beijing Beida Jade Bird.” Our director, Yang Yuan Wang, is the designee of Beida Jade Bird Universal Sci-Tech (Cayman) Development Company Limited and is a director of Beida Microelectronics Investment Ltd. Both Jade Bird Universal Sci-Tech (Cayman) Development Company Limited and Beida Microelectronics Investment Ltd. are entities ultimately controlled by Beijing Beida Jade Bird Software System Company. For more information, see “Principal Shareholders” and “Related Party Transactions.”
(4) Consists of shares registered in the name of and being sold by Asia Pacific Growth Fund III, L.P. Asia Pacific Associates III, Ltd. is the general partner of Asia Pacific Growth Fund III, L.P. Voting and investment power of shares in our company is held by the investment committee of Asia Pacific Associates III, Ltd. Asia Pacific Growth Fund III, L.P. is an affiliate of H&Q Asia Pacific. Our director, Ta-Lin Hsu, is the founder and chairman of H&Q Asia Pacific. For a discussion of the number of shares held by entities affiliated with H&Q Asia Pacific, see “Related Party Transactions.”
(5) Consists of shares registered in the name of and being sold by GS Capital Partners 2000, L.P., GS Capital Partners 2000 Offshore, L.P., GS Capital Partners GmbH & Co. Beteiligungs KG, GS Capital Partners 2000 Employee Fund, L.P. and Stone Street Fund 2000, L.P. An affiliate of The Goldman Sachs Group, Inc. acts as the general partner, managing general partner or investment manager of each of these investment partnerships. Each of The Goldman Sachs Group, Inc. and Goldman, Sachs & Co., a wholly owned subsidiary of The Goldman Sachs Group, Inc., disclaims beneficial ownership of the shares owned by such investment partnerships to the extent attributable to partnership interests therein held by persons other than The Goldman Sachs Group, Inc. and its affiliates. Each of such investment partnerships shares voting and investment power with certain of its respective affiliates. David Tse Young Chou, one of our directors and an executive director of Goldman Sachs (Asia) L.L.C., a wholly owned subsidiary of The Goldman Sachs Group, Inc., disclaims beneficial ownership of shares held by such investment partnerships, except to the extent of his pecuniary interest therein, if any.
(6) Our director Philip Richard Nicholls is a designee and director of Platinum Creative Group Limited.
(7) Our director Jimmy Shueh-Mien Lee is a co-founder, chairman of the board and chief executive officer of Integrated Silicon Solution, Inc. and our director Lip-Bu Tan is a director of Integrated Silicon Solution, Inc. From time to time, we provide foundry services to Integrated Silicon Solution, Inc. For a description of these services, see “Related Party Transactions — Integrated Silicon Solution, Inc.”
(8) Consists of shares registered in the name of and being sold by Pacven Walden Ventures V, L.P., Pacven Walden Ventures Parallel V-A C.V., Pacven Walden Ventures Parallel V-B C.V., Pacven Walden Venture V Associates Fund, L.P. and Pacven Walden Venture V-QP Associates Fund, L.P. Pacven Walden Management V, Co., Ltd. serves as the general partner for each of these entities. The controlling shareholder of Pacven Walden Management V, Co., Ltd. is Pacven Walden Management Co., Ltd., for which voting and investment control is held by its sole director, Lip-Bu Tan. Lip-Bu Tan is a director of our company, the chairman of Walden International, an affiliate of Pacven Walden Management Co., Ltd., and a director of Pacven Walden Management V, Co., Ltd. For a discussion of the number of shares held by entities affiliated with Walden International, see “Related Party Transactions.”

 

37


Table of Contents
(9) Consists of shares registered in the name of and being sold by Taiwan Special Opportunities Fund III. AsiaVest Partners TCW/YFY Ltd. is a joint venture between AsiaVest Investment Ltd. and TCW (TSOP), Ltd. and the fund manager of Taiwan Special Opportunities Fund III. Our director Henry Shaw is the Executive Managing Director of AsiaVest Partners TCW/YFY Ltd. For a discussion of the number of shares held by entities affiliated with AsiaVest Partners TCW/YFY Ltd., see “Related Party Transactions.”
(10) Consists of shares registered in the name of and being sold by Vertex Technology Fund (III) Ltd. Vertex Management (II) Pte Ltd is the fund manager of Vertex Technology Fund (III) Ltd. The investment committee of Vertex Management (II) Pte Ltd has the voting and investment power pertaining to Vertex Technology Fund (III) Ltd’s interest in our shares. Vertex Management (II) Pte Ltd is 100% owned by Vickers Capital Limited. Vickers Capital Limited and Vertex Technology Fund (III) Ltd are 100% owned by Vertex Venture Holdings Ltd. Vertex Venture Holdings Ltd is 100% owned by Ellensburg Holding Pte Ltd; and Ellensburg Holding Pte Ltd is 100% owned by Singapore Technologies Pte Ltd. Vickers Capital Limited, Vertex Venture Holdings Ltd, Ellensburg Holding Pte Ltd and Singapore Technologies Pte Ltd disclaim beneficial ownership of our shares held by Vertex Technology Fund (III) Ltd, except to the extent of their respective pecuniary interests therein. Prior to the completion of the global offering, Vertex Investment International (III) Inc, a wholly owned subsidiary of Vertex Venture Holdings Ltd, has the right to designate and had elected one member to our board of directors. Such director resigned from our board of directors on February 11, 2004. See “Related Party Transactions” for a more detailed discussion regarding this right to designate a board member. Our former director, Kheng Nam Lee, is a director of Vickers Capital Limited, Vertex Management (II) Pte Ltd and Vertex Technology Fund (III) Ltd. For a discussion of the number of shares held by entities affiliated with Vertex Venture Holdings Ltd, see “Related Party Transactions.”
(11) Consists of shares registered in the name of and being sold by CTI II Limited. CTI II Limited is a subsidiary of Creative Technology Ltd. Our director Lip-Bu Tan is a director of Creative Technology Ltd.
(12) Cresciendo Investments Limited is 64.63% owned by Vertex Venture Holdings Ltd and 35.37% owned by Ellensburg Holding Pte Ltd. Vertex Venture Holdings Ltd is 100% owned by Ellensburg Holding Pte Ltd; and Ellensburg Holding Pte Ltd is 100% owned by Singapore Technologies Pte Ltd. Vertex Venture Holdings Ltd, Ellensburg Holding Pte Ltd and Singapore Technologies Pte Ltd disclaim beneficial ownership of our shares held by Cresciendo Investments Limited, except to the extent of their respective pecuniary interests therein. Prior to the completion of the global offering, Vertex Investment International (III) Inc, a wholly owned subsidiary of Vertex Venture Holdings Ltd, has the right to designate and had elected one member to our board of directors. Such director resigned from our board of directors on February 11, 2004. See “Related Party Transactions” for a more detailed discussion regarding this right to designate a board member and a discussion of the number of shares held by entities affiliated with Vertex Venture Holdings Ltd.
(13) Consists of shares registered in the name of and being sold by Vertex Technology Fund (III) Ltd. These shares are held by Vertex Technology Fund (III) Ltd in trust for Singapore Technologies Semiconductors Pte Ltd. Singapore Technologies Semiconductors Pte Ltd is a wholly owned subsidiary of Singapore Technologies Pte Ltd and is affiliated with Vertex Venture Holdings Ltd. Singapore Technologies Pte Ltd disclaims beneficial ownership of our shares held by Vertex Technology Fund (III) Ltd in trust for Singapore Technologies Semiconductors Pte Ltd, except to the extent of its pecuniary interest therein. Prior to the completion of the global offering, Vertex Investment International (III) Inc, a wholly owned subsidiary of Vertex Venture Holdings Ltd, has the right to designate and had elected one member to our board of directors. Such director resigned from our board of directors on February 11, 2004. See “Related Party Transactions” for a more detailed discussion regarding this right to designate a board member. Our former director, Kheng Nam Lee, is a director of Vickers Capital Limited, Vertex Management (II) Pte Ltd and Vertex Technology Fund (III) Ltd, each a subsidiary of Singapore Technologies Pte Ltd. For a discussion of the number of ordinary shares held by shareholders affiliated with Vertex Venture Holdings Ltd, see “Related Party Transactions”.
(14) Our director Lip-Bu Tan is a director of Flextronics International, Ltd.
(15) Consists of shares registered in the name of and being sold by WIIG-Nikko IT LLC. WIIG-Nikko IT LLC is controlled by WIIG-Japan Management Co., Ltd, for which voting and investment power is held by its two directors, Lip-Bu Tan and Kok Onn Chia. Lip-Bu Tan is a director of our company and the chairman of Walden International. For a discussion of the number of shares held by entities affiliated with Walden International, see “Related Party Transactions.”
(16)

Consists of shares registered in the name of and being sold by Vertex Israel II (A) Fund L.P., Vertex Israel II (B) Fund L.P., Vertex Israel II Discount Fund L.P., Vertex Israel II (C.I.) Fund L.P. and Vertex Israel II (C.I.) Executive Fund L.P. Vertex Israel II Fund is the general partner of each of these funds. Voting and investment power of these shares is held by the investment committee of Vertex Israel II Management Ltd., which is the general partner of Vertex Israel II Fund. The investment committee of Vertex Israel II Management Ltd. has voting and investment power pertaining to each of the limited partnership’s interest in our shares. Vertex Israel II Management Ltd. is a majority-owned subsidiary of Vickers Capital Limited. Vickers Capital Limited is 100% owned by Vertex Venture Holdings Ltd. Vertex Venture Holdings Ltd is 100% owned by Ellensburg Holding Pte Ltd and Ellensburg Holding Pte Ltd is 100% owned by Singapore Technologies Pte Ltd. Vickers Capital Limited, Vertex Venture Holdings Ltd, Ellensburg Holding Pte Ltd and Singapore Technologies Pte Ltd disclaim beneficial ownership of the shares held by each of the limited partnerships, except to the extent of their respective pecuniary interests therein. Prior to the completion of the global offering, Vertex Investment International (III) Inc, a wholly owned subsidiary of Vertex Venture Holdings Ltd, has the right to designate and had elected one member to our board of directors. Such director resigned from our board of directors on February 11, 2004. See “Related Party Transactions” for a more detailed discussion regarding this right to designate a board member and a discussion of the number of shares held by entities affiliated with Vertex Venture Holdings Ltd. Our former director, Kheng Nam Lee, is a director of Vickers Capital Limited.

 

38


Table of Contents
(17) AP3 Co-Investment Partners, LDC is an affiliate of H&Q Asia Pacific. Our director Ta-Lin Hsu is the founder and chairman of H&Q Asia Pacific. For a discussion of the number of ordinary shares held by entities affiliated with H&Q Asia Pacific, see “Related Party Transactions.”
(18) Lip-Bu Tan is a director of our company and the chairman of Walden International, an affiliate of Seed Ventures III Pte. Ltd. For a discussion of the number of shares held by entities affiliated with Walden International, see “Related Party Transactions.”
(19) Consists of shares registered in the name of and being sold by Tetrad Ventures Pte Ltd.
(20) Consists of shares registered in the name of and being sold by Oak Investment Partners X, L.P., Oak IX Affiliates Fund, L.P., Oak IX Affiliates Fund-A, L.P., Oak Investment Partners IX, L.P. and Oak X Affiliates Fund, L.P. The respective general partner of each of these entities is a limited liability company. The managing members of each of these limited liability companies share voting and investment power with respect to shares held by each of the limited partnerships. The managing members of each of these limited liability companies are Fredric W. Harman, Bandel L. Carano, Ann H. Lamont, Edward F. Glassmeyer, Gerald R. Gallagher and David B. Walrod. These managing members disclaim beneficial ownership of shares held by the limited partnerships, except to the extent of their respective pecuniary interests therein.
(21) Citicorp International Finance Corporation transferred its shares in our company to Co-Investment Limited Partnership I on January 26, 2004, which transfer has not yet been recorded by us in our share register. As transferee under the terms of such transfer, Co-Investment Limited Partnership I may be deemed to share investment and voting power over the shares with Citicorp International Finance Corporation. Citicorp International Finance Corporation retains sole investment and voting power over such shares transferred to Co-Investment Limited Partnership I by virtue of its ownership of all the voting interest in Co-Investment Limited Partnership I.
(22) It is our understanding that voting and investment power of these shares is held by the board of directors of Prodigy Fund SPC and the investment manager, Prodigy Asset Management Co.
(23) Consists of shares registered in the name of and being sold by DCM III, L.P., DCM III-A, L.P. and DCM Affiliates Fund III, L.P. DCM Investment Management III, LLC is the general partner of each of these partnerships. Dixon R. Doll and Katsujin David Chao are managing members of DCM Investment Management III, LLC. Dixon R. Doll and Katsujin David Chao disclaim beneficial ownership of the shares held by the partnerships, except to the extent of their respective pecuniary interests therein.
(24) Consists of shares registered in the name of and being sold by GM Capital Partners I, L.P. and JPMorgan Chase Bank, as trustee for First Plaza Group Trust. GM Partners I LLC is the general partner of GM Capital Partners I, L.P. and General Motors Investment Management Corporation, or GMIMCO, is the managing member of GM Capital Partners I, L.P. It is our understanding that voting and investment power of our shares registered in the name of GM Capital Partners I, L.P. is held by the investment committee of GMIMCO. First Plaza Group Trust is a pension trust formed pursuant to the laws of the State of New York for the benefit of certain employee benefit plans of General Motors Corporation, its subsidiaries and unrelated employers. Shares in our company registered in the name of JPMorgan Chase Bank, as trustee for First Plaza Group Trust may be deemed to be owned beneficially by GMIMCO, a wholly-owned subsidiary of General Motors Corporation. GMIMCO is serving as investment manager with respect to these shares and in that capacity it has the sole power to direct the trustee as to the voting and disposition of these shares. Because of the trustee’s limited role, beneficial ownership of these shares by the trustee is disclaimed.
(25) Consists of shares registered in the name of and being sold by Hong Lim Investments Pte Ltd. Hong Lim Investments Pte Ltd is a wholly owned subsidiary of Temasek Capital (Private) Limited, which is a wholly owned subsidiary of Temasek Holdings (Private) Limited.
(26) Consists of shares registered in the name of and being sold by AsiaStar IT Fund, L.P. Sycamore Management Corporation is the general partner of AsiaStar Partners, L.P., which is the general partner of AsiaStar IT Fund, L.P.
(27) Consists of shares registered in the name of and being sold by CHIAM International Limited.
(28) Consists of shares registered in the name of and being sold by Victoria Eight Developments Limited.
(29) Consists of the aggregate holding of the 18 shareholders with the smallest ownership interests in our company prior to the global offering who are selling in the global offering.
(30) None of our directors or executive officers will be selling any of their shares in the global offering in their individual capacity. Further, each of our directors disclaims beneficial ownership of the shares beneficially owned by shareholders listed under “Greater Than 5% Shareholders” and “Entities Affiliated with Directors” in the table above, except to the extent of such director’s pecuniary interest therein, if any.
(31) Represents the number of shares beneficially owned by all directors and officers and entities affiliated with, or entities that have the right to designate certain of, our directors, including shareholders listed under “Greater Than 5% Shareholders” and “Entities Affiliated with Directors” in the table above. Excludes Lai Xing Cai, who will not become a director until the completion of the global offering, but includes 12,450,000 shares subject to options granted to directors and executive officers between December 31, 2003 and February 16, 2004, including Jenny Wang and Toshiaki Ikoma, who were appointed as executive officers after December 31, 2003.
(32) For purposes of calculating these percentages, the total number of outstanding shares both before and after the global offering includes 12,450,000 shares subject to options granted to our directors and executive officers between December 31, 2003 and February 16, 2004, which are all currently exercisable. The shares issuable upon exercise of these options increase the total number of outstanding shares before the global offering to 15,198,520,180 shares and after the global offering to 18,228,823,180 shares.
(33) Represents the number of ordinary shares being offered by shareholders listed under “Greater Than 5% Shareholders” and “Entities Affiliated with Directors” in the table above.

 

39


Table of Contents

SELECTED CONSOLIDATED FINANCIAL DATA

 

The following selected consolidated financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes, both of which are included elsewhere in this prospectus. The selected consolidated financial data presented below has been prepared in accordance with U.S. GAAP. The selected consolidated financial data presented below as of and for the years ended December 31, 2001, 2002 and 2003 is derived from our audited consolidated financial statements included elsewhere in this prospectus. The selected consolidated financial data as of December 31, 2000 and for the period from April 3, 2000 (inception) through December 31, 2000 is derived from audited consolidated financial statements not included in this prospectus. The quarterly consolidated financial data presented below has been derived from unaudited consolidated financial statements not included in this prospectus. In our opinion, all adjustments necessary for a fair presentation of the quarterly consolidated financial data are included in the accompanying financial statements. The historical results are not necessarily indicative of results to be expected in any future period.

 

     For the period from
April 3, 2000
(inception) through
December 31, 2000


    For the year ended December 31,

 
       2001

    2002

    2003

 
     (in US$ thousands, except for per share and per ADS data)  

Income Statement Data:

                                

Sales

   $ —       $ —       $ 50,315     $ 365,823  

Cost of sales(1)

     —         —         (105,238 )     (363,241 )
    


 


 


 


Gross profit (loss)

     —         —         (54,923 )     2,582  
    


 


 


 


Operating expenses:

                                

Research and development

     —         (9,326 )     (37,459 )     (32,070 )

General and administrative

     (929 )     (16,870 )     (17,782 )     (27,912 )

Selling and marketing

     —         (751 )     (4,371 )     (9,447 )

Amortization of deferred stock compensation

     —         (712 )     (1,769 )     (5,900 )
    


 


 


 


Total operating expenses

     (929 )     (27,659 )     (61,381 )     (75,329 )
    


 


 


 


Loss from operations

     (929 )     (27,659 )     (116,304 )     (72,747 )
    


 


 


 


Other income (expenses):

                                

Interest income

     2,153       18,681       10,980       5,616  

Interest expense

     —         —         (176 )     (1,425 )

Other, net

     2       384       2,897       2,411  

Subsidy income

     —         5,942       —         —    
    


 


 


 


Total other income, net

     2,155       25,007       13,701       6,602  
    


 


 


 


Net income (loss)

     1,226       (2,652 )     (102,603 )     (66,145 )
    


 


 


 


Deemed dividend on preference shares(2)

     —         —         —         (37,117 )
    


 


 


 


Income (loss) attributable to holders of ordinary shares

   $ 1,226     $ (2,652 )   $ (102,603 )   $ (103,262 )
    


 


 


 


Income (loss) per share, basic and diluted

   $ 0.15     $ (0.33 )   $ (12.74 )   $ (11.35 )
    


 


 


 


Ordinary shares used in calculating basic and diluted net income (loss) per share(3)(4)

     8,000,000       8,000,000       8,053,580       9,098,320  
    


 


 


 


Pro forma basic and diluted net loss per share on a post-split basis (unaudited)

                           $ (0.01 )
                            


Shares used in calculating pro forma basic and diluted net loss per share on a post-split basis (unaudited)

                             10,914,204,700  
                            


Net loss per ADS, basic and diluted

                           $ (56.75 )
                            


ADSs used in calculating basic and diluted net loss per share(4)

                             1,819,664  
                            



(1) Including amortization of deferred stock compensation for employees directly involved in manufacturing activities.
(2) Deemed dividend represents the difference between the sale and conversion prices of warrants and Series C convertible preference shares we issued in the third and fourth quarters of 2003 and their respective fair market values.
(3) Anti-dilutive preference shares, options and warrants were excluded from the weighted average ordinary shares outstanding for the diluted per share calculation. For 2000, 2001, 2002 and 2003, basic loss per share did not differ from diluted loss per share.
(4) Share and per share information for the 10-for-1 share split to be effected after the conversion of our preference shares into ordinary shares and upon completion of the global offering has been excluded from the weighted average ordinary shares and ADSs outstanding for the basic and diluted per share and per ADS calculation.

 

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Table of Contents
     As of December 31,

     2000

   2001

   2002

   2003

     (in US$ thousands)

Balance Sheet Data:

                           

Cash and cash equivalents

   $ 94,290    $ 178,920    $ 91,864    $ 445,276

Short-term investments

     —        —        27,709      27,165

Accounts receivable, net of allowances

     —        —        20,110      90,539

Inventories

     —        4,749      39,826      69,924

Total current assets

     102,949      235,196      185,067      680,882

Land use rights, net

     —        48,913      49,354      41,935

Plant and equipment, net

     14,284      478,950      1,290,910      1,523,564

Total assets

     117,233      763,059      1,540,078      2,290,506

Total current liabilities

     115,965      249,071      263,655      325,430

Total long-term liabilities

     —        —        405,432      479,961

Total liabilities

     115,965      249,071      669,087      805,391

Stockholders’ equity

   $ 1,268    $ 513,988    $ 870,991    $ 1,485,115

 

    

For the period from
April 3, 2000
(inception) through
December 31, 2000


   

For the year ended

December 31,


 
       2001

    2002

    2003

 
     (in US$ thousands, except percentages and operating data)  

Cash Flow Data:

                                

Net income (loss)

   $ 1,226     $ (2,652 )   $ (102,603 )   $ (66,145 )

Adjustments to reconcile net loss to net cash provided by (used in) operating activities:

                                

Depreciation and amortization

     10       1,445       84,537       233,905  

Net cash provided by (used in) operating activities

     904       3,360       (48,802 )     114,270  

Purchases of plant and equipment

     (9,774 )     (459,779 )     (761,704 )     (453,097 )

Net cash used in investing activities

     (17,774 )     (501,779 )     (751,144 )     (454,498 )

Net cash provided by financing activities

     111,120       583,152       712,925       693,497  

Net increase (decrease) in cash and cash equivalents

   $ 94,290     $ 84,630     $ (87,056 )   $ 353,412  

Other Financial Data:

                                

Gross margin

     —         —         (109.2 )%     0.7 %

Operating margin

     —         —         (231.2 )%     (19.9 )%

Net margin

     —         —         (203.9 )%     (18.1 )%

Operating Data:

                                

Wafers shipped (in units):

                                

Logic(1)

     —         —         26,419       188,316  

Total(2)

     —         —         82,486       476,451  

Average selling price (in US$):

                                

Logic(1)

     —         —       $ 794     $ 896  

Total(2)

     —         —       $ 558     $ 733  

(1) Excluding copper interconnects and memory wafers.
(2) Including logic, memory, copper interconnects and all other wafers.

 

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The following table sets forth, for the three-month periods indicated, selected financial data from our unaudited consolidated statements of operations prepared in accordance with U.S. GAAP as well as certain operating data.

 

     For the three months ended

 
    

Mar. 31,

2002


   

June 30,

2002


   

Sept. 30,

2002


   

Dec. 31,

2002


   

Mar. 31,

2003


   

June 30,

2003


   

Sept. 30,

2003


    Dec. 31,
2003


 
     (in US$ thousands, except for percentages and operating data)  

Income Statement Data:

                                                                

Sales

   $ 560     $ 6,441     $ 18,917     $ 24,397     $ 38,442     $ 75,193     $ 107,141     $ 145,047  

Cost of sales(1)

     (4,426 )     (16,887 )     (36,989 )     (46,936 )     (63,495 )     (88,645 )     (96,768 )     (114,333 )
    


 


 


 


 


 


 


 


Gross profit (loss)

     (3,866 )     (10,446 )     (18,072 )     (22,539 )     (25,053 )     (13,452 )     10,373       30,714  
    


 


 


 


 


 


 


 


Operating expenses:

                                                                

Research and development

     (3,275 )     (6,042 )     (16,500 )     (11,642 )     (6,339 )     (8,118 )     (8,272 )     (9,341 )

General and administrative

     (2,528 )     (5,763 )     (2,408 )     (7,083 )     (3,916 )     (2,849 )     (8,896 )     (12,251 )

Selling and marketing

     (401 )     (781 )     (941 )     (2,248 )     (2,145 )     (2,285 )     (2,747 )     (2,270 )

Amortization of deferred stock compensation

     (171 )     (410 )     (553 )     (635 )     (879 )     (1,199 )     (1,587 )     (2,235 )
    


 


 


 


 


 


 


 


Total operating expenses

     (6,375 )     (12,996 )     (20,402 )     (21,608 )     (13,279 )     (14,451 )     (21,502 )     (26,097 )
    


 


 


 


 


 


 


 


Income (loss) from operations

     (10,241 )     (23,442 )     (38,474 )     (44,147 )     (38,332 )     (27,903 )     (11,129 )     4,617  
    


 


 


 


 


 


 


 


Other income (expenses):

                                                                

Interest income

     6,209       1,417       2,778       576       678       392       1,563       2,983  

Interest expense

     —         —         (44 )     (132 )     (146 )     (146 )     (207 )     (926 )

Other, net

     696       (116 )     395       1,922       (252 )     (2,857 )     1,317       4,203  

Subsidy income

     —         —         —         —         —         —         —         —    
    


 


 


 


 


 


 


 


Total other income (expenses), net

     6,905       1,301       3,129       2,366       280       (2,611 )     2,673       6,260  
    


 


 


 


 


 


 


 


Net income (loss)

   $ (3,336 )   $ (22,141 )   $ (35,345 )   $ (41,781 )   $ (38,052 )   $ (30,514 )   $ (8,456 )   $ 10,877  
    


 


 


 


 


 


 


 


Deemed dividend on preference shares(2)

     —         —         —         —         —         —         (34,586 )     (2,531 )
    


 


 


 


 


 


 


 


Income (loss) attributable to holders of ordinary shares

   $ (3,336 )   $ (22,141 )   $ (35,345 )   $ (41,781 )   $ (38,052 )   $ (30,514 )   $ (43,042 )   $ 8,346  
    


 


 


 


 


 


 


 


Other Financial Data:

                                                                

Gross margin

     (690.4 )%     (162.2 )%     (95.5 )%     (92.4 )%     (65.2 )%     (17.9 )%     9.7 %     21.2 %

Operating margin

     (1,828.8 )%     (363.9 )%     (203.4 )%     (181.0 )%     (99.7 )%     (37.1 )%     (10.4 )%     3.2 %

Net margin

     (595.7 )%     (343.8 )%     (186.8 )%     (171.3 )%     (99.0 )%     (40.6 )%     (7.9 )%     7.5 %

Operating Data:

                                                                

Wafers shipped (in units):

                                                                

Logic(3)

     208       5,512       9,490       11,209       11,577       28,607       55,678       92,454  

Total(4)

     220       7,919       26,185       48,162       74,596       117,950       130,780       153,125  

Average selling price (in US$):

                                                                

Logic(3)

   $ 627     $ 756     $ 906     $ 721     $ 635     $ 797     $ 883     $ 967  

Total(4)

   $ 684     $ 682     $ 667     $ 477     $ 494     $ 614     $ 771     $ 910  

Average utilization rate

     72 %     89 %     92 %     99 %     88 %     97 %     93 %     97 %

(1) Including amortization of deferred stock compensation for employees directly involved in manufacturing activities.
(2) Deemed dividend represents the difference between the sale and conversion prices of warrants and Series C convertible preference shares we issued in the third and fourth quarters of 2003 and their respective fair market values.
(3) Excluding copper interconnects and memory wafers.
(4) Including logic, memory, copper interconnects and all other wafers.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion and analysis of our business, financial condition and results of operations is based on and should be read in conjunction with our financial statements, including the notes thereto, and other financial information appearing elsewhere in this prospectus. Our financial statements have been prepared in accordance with U.S. GAAP. This discussion and analysis contains forward-looking statements that reflect our current views with respect to future events and financial performance. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of any number of factors, including those set forth under “Risk Factors” and “Special Note Regarding Forward-Looking Statements.”

 

Overview

 

We were founded in April 2000. In 2000 and 2001, our company was in its development stage and did not have any sales. During this period, we established our management structure, acquired land use rights, constructed, equipped and commenced the ramp-up of production at our 8-inch wafer facilities in Shanghai consisting of Fab 1, Fab 2 and Fab 3B, and began our research and development activities. Our Fab 1 and Fab 3B-A began commercial production in January 2002, and Fab 2 and Fab 3B-C began commercial production in January 2003. By December 31, 2003, approximately three years after commencing construction of our Fab 1, we had reached total wafer fabrication capacity of 49,000 wafers per month and copper interconnects capacity of 9,000 wafers per month. We believe that this speed of capacity ramp-up represents one of the fastest in the semiconductor industry. Our wafers shipped and sales increased from 82,486 wafers and US$50.3 million for 2002 to 476,451 wafers and US$365.8 million for 2003.

 

We recently acquired an 8-inch fab in Tianjin, China, which we refer to as our Fab 7, from MCEL, a wholly owned subsidiary of Motorola. We are also constructing new 12-inch fabs in Beijing, which we believe will be the first 12-inch fabs in China. We refer to them as Fab 4, Fab 5 and Fab 6C. We commenced construction of our Beijing fabs in December 2002 and expect to commence pilot production at our Fab 4 in Beijing in the third quarter of 2004.

 

We manage our business and measure our results of operations based on a single operating segment.

 

Our monthly capacity reached 49,000 8-inch wafers and 9,000 copper interconnects as of the end of 2003 and is expected to reach 114,750 8-inch wafer equivalents and 10,000 copper interconnects by the end of 2004. This expected increase in capacity will be attributable to an increase in aggregate monthly capacity of our Shanghai fabs to approximately 89,000 8-inch wafers, our Fab 4 in Beijing to approximately 6,750 8-inch wafer equivalents and our Fab 7 in Tianjin to approximately 19,000 8-inch wafers, by the end of 2004. We plan to have aggregate monthly wafer fabrication capacity of 170,000 8-inch wafer equivalents and 15,000 copper interconnects by the end of 2005. As we increase our capacity and corresponding wafer production, we benefit from economies of scale. When our capacity utilization is high, these economies of scale enable us to reduce our per wafer production cost and improve our margins. On the other hand, when our capacity utilization rate is low, our unused capacity results in higher per wafer production cost and decreased margins.

 

Factors that Impact our Results of Operations

 

Cyclicality of the Semiconductor Industry

 

The semiconductor industry is highly cyclical due mainly to the cyclicality of demand in the markets of the products that use semiconductors. As these markets fluctuate, the semiconductor market also fluctuates. This fluctuation in the semiconductor market is exacerbated by the tendency of semiconductor

 

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companies, including foundries, to make capital investments in plant and equipment during periods of high demand since it may require several years to plan, construct and commence operations at a fab. Absent sustained growth in demand, this increase in capacity often leads to overcapacity in the semiconductor market, which in the past has led to a significant underutilization of capacity and a sharp drop in semiconductor prices. The semiconductor industry is generally slow to react to declines in demand due to its capital-intensive nature and the need to make commitments for equipment purchases well in advance of the planned expansion.

 

The semiconductor industry has experienced a period of declining demand since 2001, mainly due to a downturn in the global economy and in the communications sector in particular. At the same time, the semiconductor industry has faced significant overcapacity due to capacity increases that were initiated prior to the downturn, as well as technological advancements in process technology and wafer sizes that have allowed for more chips to be fabricated per wafer. These conditions led to inventory build-up and a reduction in overall average selling prices for foundry services during this period. We believe the semiconductor industry is currently experiencing an increase in demand due to improving global economic conditions and a resulting strengthening in consumer confidence.

 

Substantial Capital Expenditures

 

The semiconductor foundry industry is characterized by substantial capital expenditures. This is particularly true for our company as we have recently constructed and equipped fabs and are continuing to construct and equip new fabs. In connection with the construction and ramp-up of our capacity since our inception, we incurred capital expenditures of US$515 million, US$897 million and US$492 million in 2001, 2002 and 2003, respectively. We depreciate our manufacturing machinery and equipment on a straight-line basis over an estimated useful life of five years. We recorded depreciation and amortization of US$1.4 million, US$84.5 million and US$233.9 million in 2001, 2002 and 2003, respectively.

 

The semiconductor industry is also characterized by rapid changes in technology, frequently resulting in obsolescence of process technologies and products. As a result, our research and development efforts are essential to our overall success. We spent approximately US$9.3 million in 2001, US$37.5 million in 2002 and US$32.1 million in 2003 for research and development, which represented 74.4% and 8.8%, respectively, of our sales for 2002 and 2003. We had no sales in 2001.

 

Capacity Expansion

 

We have expanded, and plan to continue to expand, our capacity through internal growth and acquisitions. An increase in capacity may have a significant effect on our results of operations, both by allowing us to produce and sell more wafers and achieve higher sales, and as a cost component in the form of acquisition costs and depreciation expenses. We have increased our capacity in Shanghai to 49,000 wafers per month as of December 31, 2003 and plan to continue increasing capacity at our fabs there. In addition, we plan on increasing our capacity at our newly acquired fab in Tianjin. We are also in the process of constructing and equipping our new 12-inch wafer facilities in Beijing. We plan to have aggregate wafer fabrication capacity of 170,000 8-inch wafer equivalents per month by the end of 2005.

 

As an example of our capacity acquisition strategy, in September 2003, we entered into an agreement to purchase the assets constituting a wafer fab located in Tianjin, China from MCEL, a wholly owned subsidiary of Motorola. This acquisition was completed in January 2004. Under our asset purchase agreement with MCEL, we acquired substantially all of that fab’s assets and assumed certain contractual obligations. These assets and obligations were contributed to and assumed by our newly formed wholly owned subsidiary, SMIC Tianjin, on the closing date of the acquisition.

 

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Pricing

 

We price our foundry services on either a per wafer or a per die basis, taking into account the complexity of the technology, the prevailing market conditions, the order size, the cycle time, the strength and history of our relationship with the customer and our capacity utilization. Since a majority of our costs and expenses are fixed or semi-fixed, fluctuations in the average selling prices of semiconductor wafers have historically had a substantial impact on our margins. The average selling price of the wafers we shipped increased 90.8% between the fourth quarter of 2002 and the fourth quarter of 2003 from US$477 per wafer to US$910 per wafer, mainly due to our shift to producing more logic and less DRAM wafers, our adoption of more advanced and higher margin process technologies, the overall improvement in market prices for semiconductors, particularly DRAM, and because our company became more established in the market. Prices of our different process technologies vary significantly and, in general, the prices of the specific process technologies we provide decrease over time as the technology employed gradually becomes more mature and commoditized. Therefore, it is necessary to continually introduce new higher margin and more technologically advanced services to help counteract this trend of decreasing price levels.

 

Change in Process Mix and Technology Migration

 

Because the price of wafers processed with different technologies varies significantly, the mix of wafers that we produce is among the primary factors that affect our sales and profitability. The value of a wafer is determined principally by the complexity of the process technology used to fabricate the wafer. In addition, production of devices with higher levels of functionality and greater system-level integration requires more fabrication steps, and these devices generally sell for higher prices.

 

Prices for wafers of a given level of technology generally decline over the relevant process technology life cycle. As a result, we and our competitors are continuously in the process of developing and acquiring advanced process technologies and migrating our customers to use such technologies to maintain or improve our profit margins. This technology migration requires continuous investment in research and development and technology-related acquisitions, and we expect to continue to spend a substantial amount of capital on upgrading our technologies.

 

Our initial sales after commencing commercial operations in 2002 consisted mainly of DRAM fabricated and sold on a foundry basis, as well as commodity-type DRAM fabricated using technology licensed from Fujitsu Limited and sold by us to distributors. This commodity DRAM was fabricated during our start-up phase in order to test and ramp up our facilities and train our personnel. As our business has grown and our fabs have matured, we have produced proportionately less commodity-type DRAM and more logic products and memory products utilizing more advanced technologies, which generally command a higher margin. However, we intend to continue to produce commodity DRAM as required to maintain high utilization of our capacity in the future.

 

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The following table sets forth a percentage breakdown of wafer sales by process technology for the years ended December 31, 2002 and 2003, and each of the quarters in the year ended December 31, 2003:

 

    

For the
year ended

December 31,
2002


    For the three months ended

   

For the
year ended
December 31,
2003


 
       March 31,
2003


    June 30,
2003


    September 30,
2003


    December 31,
2003


   

Process

Technologies


   (based on sales in US$)  

0.13 micron

   0.0 %   4.6 %   13.5 %   15.0 %   10.4 %   11.8 %

0.15 micron

   0.0 %   0.0 %   0.0 %   10.0 %   17.5 %   9.9 %

0.18 micron

   4.7 %   2.7 %   10.5 %   19.7 %   34.7 %   22.0 %

0.25 micron

   74.2 %   82.5 %   57.4 %   33.7 %   10.6 %   34.5 %

0.35 micron

   21.1 %   10.2 %   18.6 %   21.6 %   26.8 %   21.8 %
    

 

 

 

 

 

Total

   100.0 %   100.0 %   100.0 %   100.0 %   100.0 %   100.0 %
    

 

 

 

 

 

 

The following table sets forth a breakdown of our sales by service type for the years ended December 31, 2002 and 2003, and each of the quarters in the year ended December 31, 2003:

 

   

For the

year ended

December 31,

2002


    For the three months ended

   

For the

year ended
December 31,

2003


 
      March 31, 2003

    June 30, 2003

    September 30, 2003

    December 31, 2003

   

Service Type


  Sales

  Percentage

    Sales

  Percentage

    Sales

  Percentage

    Sales

  Percentage

    Sales

  Percentage

    Sales

  Percentage

 
    (in US$ thousands, except percentages)  

Fabrication of memory wafers

  $ 25,047   49.8 %   $ 27,774   72.2 %   $ 39,855   53.0 %   $ 36,443   34.0 %   $ 35,481   24.5 %   $ 139,553   38.2 %

Fabrication of logic wafers

    20,974   41.7 %     9,067   23.6 %     32,589   43.3 %     64,324   60.0 %     103,934   71.6 %     209,914   57.3 %

Other(1)

    4,294   8.5 %     1,601   4.2 %     2,749   3.7 %     6,374   6.0 %     5,632   3.9 %     16,357   4.5 %
   

 

 

 

 

 

 

 

 

 

 

 

Total

  $ 50,315   100.0 %   $ 38,442   100.0 %   $ 75,193   100.0 %   $ 107,141   100.0 %   $ 145,047   100.0 %   $ 365,824   100.0 %
   

 

 

 

 

 

 

 

 

 

 

 


(1) Includes mask-making and probing.

 

Capacity Utilization Rates

 

Operations at or near full capacity have a significant positive effect on our profitability because a substantial percentage of our cost of sales is of a fixed nature. In 2002 and 2003, approximately 37% and 48%, respectively, of our cost of sales consisted of depreciation expenses, which are fixed costs. If we increase our utilization rates, the number of wafers we fabricate will increase, and therefore our average fixed costs per wafer will decrease. Therefore, our capacity utilization rates have a significant effect on our margins. Our utilization rates have varied from period to period due to capacity ramp-ups and fluctuations in customer orders. Our annual capacity utilization rate was 94% in both 2002 and 2003. We did not commence commercial production at our Fab 1 until January 2002, so no capacity utilization data is available for any periods prior to 2002. Factors affecting utilization rates are the complexity and mix of the wafers produced, overall industry conditions, the level of customer orders and mechanical failures and other operational disruptions, such as those relating to capacity expansions or relocation of equipment.

 

In addition, we fabricate DRAM wafers for sale to distributors using technology licensed from our technology partners, as well as under foundry arrangements for our customers using our own and licensed technology. Through the fabrication of DRAM wafers, we have been able to quickly ramp up our production facilities, test and stabilize the process technologies and train our personnel. In addition, we plan to maintain high capacity utilization through the fabrication of DRAM wafers when the volume of

 

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our foundry orders leaves us with excess capacity and DRAM market conditions and pricing are favorable. We expect that as we continue to ramp up our fabrication of logic wafers over time, the portion of our capacity utilized for DRAM production will become smaller relative to logic wafer production. This practice also has the added benefit of raising our ability to fabricate higher margin system-on-chip devices that incorporate elements of both memory and logic functions on a single chip.

 

Our capacity is determined by us based on the capacity ratings for each piece of equipment, as specified by the manufacturers of such equipment, adjusted for, among other factors, actual output during uninterrupted trial runs, expected down time due to set up for production runs and maintenance and expected product mix. Because these factors include subjective elements, our measurement of capacity utilization rates may not be comparable to those of our competitors.

 

Yield Rates

 

Yield per wafer is the ratio of the number of functional dies on that wafer to the maximum number of dies that can be produced on that wafer. A significant portion of our services, particularly our memory semiconductor wafer fabrication services, is priced on a per die basis, and our high yields have assisted us in achieving higher margins.

 

We continuously upgrade the process technologies that we use. At the beginning of each technology migration, the yield utilizing the new technology is generally lower, sometimes substantially lower, than the yield under the then-current technology. This is because it requires time to stabilize, optimize and test a new process technology. We do not ship wafers to a customer until we have achieved that customer’s minimum yield requirements. Yield is generally improved through the expertise and cooperation of our research and development personnel, process engineers and equipment suppliers.

 

Critical Accounting Policies

 

The methods, estimates and judgments we use in applying our accounting policies have a significant impact on the results we report in our financial statements. Some of our accounting policies require us to make difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. Below we have summarized our accounting policies that we believe are both important to the portrayal of our financial results and involve the need to make estimates about the effect of matters that are inherently uncertain. We also have other policies that we consider to be key accounting policies. However, these policies do not meet the definition of critical accounting estimates because they do not generally require us to make estimates or judgments that are difficult or subjective.

 

Inventory

 

Inventories are stated at the lower of cost or market. Market represents the net realizable value for finished goods and work-in-progress, and replacement cost for raw materials. For products manufactured pursuant to customer purchase orders, we are not typically exposed to the risk that the selling price will be lower than the inventory carrying value. We also use available manufacturing capacity to produce commodity-type DRAM that we hold in inventory until sold. We are exposed to the risk that the ultimate selling price of such commodity-type DRAM may be less than the inventory carrying value. We estimate the net realizable value for such finished goods and work-in-progress based primarily upon the latest invoice prices and current market conditions. If the market value of a good drops below its carrying value, we record a write-off to cost of sales for the difference between the carrying cost and the market value. As of December 31, 2002 and December 31, 2003, we carried a lower of cost or market reserve of US$16.5 million and US$0.2 million, respectively, to reflect a decline in the estimated market value of the inventory we held on that date. All of the inventory for which such reserve was recorded as of December 31, 2002 was sold in the first nine months of 2003, generating sales, cost of sales and gross profit of US$31.9 million,

 

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US$30.1 million and US$1.8 million, respectively. We carry out an inventory review on an item-by-item basis at each quarter-end.

 

We do not anticipate slow moving inventory exposures. Our inventory consists of inventory built pursuant to firm customer orders and, accordingly, we have limited exposure to slow moving inventory adjustments. In addition, our inventory consists of commodity-type memory wafers for which an active market exists. These wafers are adjusted to lower of cost or market and sold to customers at the market price and, since we do not typically hold this inventory for more than nine months, we have limited exposure to slow moving inventory.

 

Depreciation and Amortization

 

We operate in a capital-intensive business. The net book value of our plant and equipment, including land use rights, at December 31, 2003 was US$1,565.5 million. Depreciation of manufacturing buildings and related improvements is provided on a straight-line basis over the estimated useful life of 25 years and commences from the date the facility is ready for its intended use. Depreciation of our manufacturing machinery and equipment, as well as our facility, machinery and equipment, is provided on a straight-line basis over the estimated useful life of 5 to 10 years, commencing from the date that the equipment is placed into productive use. The estimated useful life and dates that the equipment is placed into productive use reflects our estimate of the periods that we intend to derive future economic benefits from the use of our plant and equipment and land use rights.

 

Long-lived Assets

 

We assess the impairment of long-lived assets when events or changes in circumstances indicate that the carrying value of the assets or the asset grouping may not be recoverable. Factors we consider in deciding when to perform an impairment review include significant under-performance of a manufacturing facility relative to expectations, significant underutilization of specific equipment relative to expectations, significant negative industry or economic trends, and significant changes or planned changes in our use of the assets. Recoverability of assets to be held and used is measured by comparing the carrying amount of the asset grouping to its future undiscounted cash flows. If such assets are considered to be impaired, an impairment charge is recognized for the amount that the carrying value of the asset exceeds its fair value. Assets held for sale are reported at the lower of their carrying amount or fair value less related selling costs.

 

In order to remain technologically competitive in our industry, we have entered into technology transfer and technology license arrangements with third parties in an attempt to advance our process technologies. The payments made for such technology licenses are recorded as an intangible asset and amortized on a straight-line basis over the estimated useful life of the asset. We routinely review the remaining estimated useful lives of these intangible assets. We also evaluate these intangible assets for impairment whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable.

 

We have continued to construct, acquire and expand our manufacturing facilities since our inception and, to date, have not experienced any factors that would indicate potential impairment of our long-lived assets. We will continue to review impairment factors as described above and, as a result, impairment charges may be necessary in the future as circumstances change.

 

Revenue Recognition

 

We manufacture semiconductor wafers for our customers based on the customers’ designs and specifications pursuant to manufacturing agreements and purchase orders. We also sell certain semiconductor standard products, such as commodity-type DRAM, to customers, including distributors.

 

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We recognize revenue only upon shipment and title transfer and record the provisions for sales returns and warranty costs at the time revenue is recognized. To date, our actual sales adjustments and warranty costs have not differed materially from our estimates.

 

Customers and distributors do not have any rights for price protection or return except pursuant to warranty provisions. We typically perform tests of our products prior to shipment to identify yield of acceptable products per wafer. Occasionally, product tests performed after shipment identify yields below the level agreed with the customer. In those circumstances, the customer arrangement may provide for a reduction to the price paid or for us to ship replacement products. We estimate the amount of sales returns and the cost of replacement products based on our historical trend of returns and warranty replacements relative to sales as well as a consideration of any current information regarding specific customer yield issues that may exceed historical trends.

 

Stock-based Compensation Expense

 

Our stock-based employee compensation plans are described in more detail under “Management—Equity-Based Plans.” We grant stock options to our employees and we record a compensation charge for the excess of the fair value of the stock at the measurement date over the amount an employee must pay to acquire the stock. We amortize stock-based compensation using the straight-line method over the vesting periods of the related options, which are generally four years.

 

We have recorded deferred stock-based compensation representing the difference between the deemed fair value of our ordinary shares for accounting purposes and the option exercise price. We determined the deemed fair value of our ordinary shares based upon several factors, including a valuation report from an independent appraiser and the price of our then most recent preference share placement. We recorded deferred stock-based compensation of US$20.1 million and US$31.2 million for stock options granted to employees during the years ended December 31, 2002 and 2003, respectively, and we amortized US$3.9 million and US$11.4 million for the years ended December 31, 2002 and 2003, respectively. Had different assumptions or criteria been used to determine the deemed fair value of our ordinary shares, materially different amounts of stock-based compensation could have been reported.

 

Pro forma information regarding net income (loss) and net income (loss) per share is required in order to show our net income (loss) as if we had accounted for employee stock options under the fair value method. We use the Black-Scholes option pricing model to compute the fair value. The fair value of options and shares issued pursuant to our option plans at the grant date was estimated using this Black-Scholes option pricing model. This model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option-pricing models require the input of highly subjective assumptions, including the expected stock price volatility. We use projected volatility rates, which are based upon historical volatility rates experienced by comparable public companies. Because our employee stock options have characteristics significantly different from those of publicly traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of our stock options.

 

The effects of applying pro forma disclosures of net income (loss) and net income (loss) per share are not likely to be representative of the pro forma effects on net income and earnings per share in the future years for the following reasons:

 

  the number of future shares to be issued under these plans is not known; and

 

  the assumptions used to determine the fair value can vary significantly.

 

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Results of Operations

 

Sales

 

We generate our sales primarily from fabricating semiconductors. We also derive a relatively small portion of our sales from the mask-making and wafer probing services that we perform for third parties separately from our foundry services.

 

In 2003, fabless semiconductor companies accounted for 34.3%, IDMs accounted for 46.3% and systems and other companies accounted for 19.4%, respectively, of our sales. Although we are not dependent on any single customer, a significant portion of our net sales is attributable to a relatively small number of our customers. In 2002 and 2003, our five largest customers accounted for approximately 69% and 57% of our sales, respectively. In 2002, our largest customer, Integrated Silicon Solution, Inc., or ISSI, purchased a substantial amount of our DRAM and accounted for approximately 25% of our sales. Our second largest customer in 2002, Fujitsu Limited, accounted for approximately 16% of our sales. Our two largest customers in 2003, Samsung Electronics and Texas Instruments, each accounted for approximately 12% of our sales in that year.

 

The semiconductor industry generally experiences seasonality in which sales are strongest in the third quarter and weakest in the first quarter. This is driven by the seasonal demand fluctuations for the products that incorporate semiconductors. Our rapid capacity ramp-up has significantly outweighed any effects from this seasonality. Once our initial capacity expansion stabilizes, however, we may be more susceptible to these seasonal changes in demand.

 

Cost of sales

 

Our cost of sales consists principally of:

 

  depreciation and amortization;

 

  overhead, including maintenance of production equipment, indirect materials, including chemicals, gases and various types of precious and other metals, utilities and royalties;

 

  direct materials, which consist of raw wafer costs;

 

  labor, including amortization of deferred stock compensation for employees directly involved in manufacturing activities; and

 

  production support, including facilities, utilities, quality control, automated systems and management functions.

 

As an increasing portion of our equipment has come on line, our depreciation expenses attributable to cost of sales have gradually increased from nil in 2001 to US$37.6 million in 2002 and to US$172.7 million in 2003.

 

Operating expenses

 

Our operating expenses consist of:

 

  Research and development expenses. Research and development expenses consist primarily of salaries and benefits of research and development personnel, materials costs, depreciation and maintenance on the equipment used in our research and development efforts and contracted technology development costs. Research and development expenses also include costs relating to pilot production activities prior to the commencement of commercial production.

 

 

General and administrative expenses. General and administrative expenses consist primarily of salaries and benefits for our administrative, finance and human resource personnel, commercial insurance, fees for professional services, foreign exchange gains and losses from operating activities and costs incurred in connection with developing production capabilities at new fabs, including facility costs and employee costs. Foreign exchange gains and losses relate primarily to period-end

 

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translation adjustments due to exchange rate fluctuations that affect payables and receivables directly related to our operations.

 

  Selling and marketing expenses. Selling and marketing expenses consist primarily of salaries and benefits of personnel engaged in sales and marketing activities, costs of customer wafer samples, other marketing incentives and related marketing expenses.

 

  Amortization of deferred stock compensation expenses. Amortization of deferred stock compensation expenses relates to stock compensation for those employees who are not directly involved in manufacturing activities and who receive incentives in the form of options on the shares of our company. Deferred stock compensation expenses are the excess of the deemed fair value of shares over the option exercise price at the time of grant, and are amortized on a straight-line basis generally over the four-year vesting period.

 

Other income (expenses)

 

Our other income (expenses) consists of:

 

  interest income, which has been primarily derived from cash equivalents and short-term investments and interest on share purchase receivables;

 

  interest expenses, net of capitalized portions and government interest subsidies, which have been primarily attributable to our bank loans and the imputed interest rate on an outstanding interest-free promissory note;

 

  other income and expense items, such as those relating to the employee living quarters and school, as well as foreign exchange gains and losses relating to financing and investing activities, particularly forward contracts; and

 

  government subsidies on excess of interest capitalized on long-term borrowings, which was recorded in 2001 only.

 

Comparisons of Results of Operations

 

Since we were founded in 2000, began commercial operations in 2002 and are currently rapidly increasing our production, we believe comparisons of our most recent quarters of operation, which we have included below, provide important information for investors regarding our results of operations. We believe these quarterly comparisons provide more meaningful information to investors than our year-to-year comparisons and better illustrate the recent trends in our business, particularly since the majority of our operating activity and growth has occurred during our most recent quarters. However, due to the factors noted in “Risk Factors—Risks Related to Our Financial Condition and Business—Our results of operations may fluctuate from quarter to quarter, which may make it difficult to predict our future performance and may result in a decline in the prices of our ordinary shares and ADSs if we fail to meet our expectations or those of public market analysts and investors in these periods,” many of which are beyond our control, you should not rely on quarter-to-quarter comparisons to predict our future performance. Unfavorable changes in any of these factors may adversely affect our business and operating results. In the future, we may not publicly report or otherwise provide comparisons of financial information for sequential quarters if we determine that it is no longer meaningful for investors for purposes of understanding our business.

 

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Quarterly Financial Information

 

The following table sets forth, for the three-month periods indicated, selected financial data from our unaudited consolidated statements of operations, expressed in each case as amounts and as a percentage of sales, as well as information regarding the number of wafers shipped and average selling prices:

 

    For the three months ended

   

December 31,

2002


 

March 31,

2003


 

June 30,

2003


 

September 30,

2003


 

December 31,

2003


    (in US$ thousands, except for percentages and operating data)

Income Statement Data:

                                                           

Sales

  $ 24,397     100.0%   $ 38,442     100.0%   $ 75,193     100.0%   $ 107,141     100.0%   $ 145,047     100.0%

Cost of sales(1)

    (46,936 )   (192.4)%     (63,495 )   (165.2)%     (88,645 )   (117.9)%     (96,768 )   (90.3)%     (114,333 )   (78.8)%

Gross profit (loss)

    (22,539 )   (92.4)%     (25,053 )   (65.2)%     (13,452 )   (17.9)%     10,373     9.7%     30,714     21.2%

Operating expenses:

                                                           

Research and development

    (11,642 )   (47.7)%     (6,339 )   (16.5)%     (8,118 )   (10.8)%     (8,272 )   (7.7)%     (9,341 )   (6.4)%

General and administrative

    (7,083 )   (29.0)%     (3,916 )   (10.2)%     (2,849 )   (3.8)%     (8,896 )   (8.3)%     (12,251 )   (8.4)%

Selling and marketing

    (2,248 )   (9.2)%     (2,145 )   (5.6)%     (2,285 )   (3.0)%     (2,747 )   (2.6)%     (2,270 )   (1.6)%

Amortization of deferred stock compensation

    (635 )   (2.6)%     (879 )   (2.3)%     (1,199 )   (1.6)%     (1,587 )   (1.5)%     (2,235 )   (1.5)%

Total operating expenses

    (21,608 )   (88.6)%     (13,279 )   (34.5)%     (14,451 )   (19.2)%     (21,502 )   (20.1)%     (26,097 )   (18.0)%

Income (loss) from operations

  $ (44,147 )   (181.0)%   $ (38,332 )   (99.7)%   $ (27,903 )   (37.1)%   $ (11,129 )   (10.4)%   $ 4,617     3.2%

Operating Data:

                                                           

Wafers shipped (in units):

                                                           

Logic(2)

    11,209           11,577           28,607           55,678           92,454      

Total(3)

    48,162           74,596           117,950           130,780           153,125      

Average selling price (in US$):

                                                           

Logic(2)

  $ 721         $ 635         $ 797         $ 883         $ 967      

Total(3)

  $ 477         $ 494         $ 614         $ 771         $ 910      

Average utilization rate

    99 %         88 %         97 %         93 %         97 %    

(1) Including amortization of deferred stock compensation for employees directly involved in manufacturing activities.
(2) Excluding copper interconnects and memory wafers.
(3) Including logic, memory, copper interconnects and all other wafers.

 

Three Months Ended December 31, 2003 Compared to Three Months Ended September 30, 2003

 

Sales. Sales increased by 35.4% from US$107.1 million for the three months ended September 30, 2003 to US$145.0 million for the three months ended December 31, 2003, primarily as a result of the increase in the average selling prices of both the logic and memory wafers we shipped due to an increase in demand for wafers, our shift to more advanced wafers that we sell for higher prices, an increase in the relative proportion of logic wafers we sold, as well as an increase in the volume of our wafers shipped. The average selling price of the wafers we shipped increased by 18.0% from US$771 per wafer to US$910 per wafer between these two periods, primarily due to the shift in our product mix from DRAM wafers to higher priced logic wafers. The percentage of wafers that we produced that were 0.18 micron and below also increased from 44.7% to 62.6% between these two periods. The average selling price of the logic wafers we shipped increased by 9.5%, from US$883 per wafer to US$967 per wafer between these two periods. The total number of wafers we shipped increased by 17.1%, from 130,780 to 153,125, between these two periods.

 

Cost of sales and gross profit. Our cost of sales increased by 18.2% from US$96.8 million for the three months ended September 30, 2003 to US$114.3 million for the three months ended December 31, 2003.

 

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This increase resulted primarily from the increase in our sales volume and an increase in deferred stock compensation expenses from US$1.4 million to US$1.8 million. The increase in the stock compensation expenses resulted from an increase in the fair market value of our ordinary shares and preference shares, as well as an increase in stock option grants due to the addition of new personnel during the three months ended December 31, 2003. Gross profit increased by 196.1% from US$10.4 million in the three months ended September 30, 2003 to US$30.7 million in the three months ended December 31, 2003. This improvement in gross profit was primarily due to an improvement in average selling prices over the previous quarter and a lower average cost per wafer that resulted from our ability to leverage fixed costs over a larger number of wafers manufactured. Gross margin improved from 9.7% for the three months ended September 30, 2003 to 21.2% for the three months ended December 31, 2003.

 

Operating expenses and income (loss) from operations. Operating expenses increased by 21.4% from US$21.5 million for the three months ended September 30, 2003 to US$26.1 million for the three months ended December 31, 2003. Our research and development expenses increased by 12.9% from US$8.3 million for the three months ended September 30, 2003 to US$9.3 million for the three months ended December 31, 2003, primarily due to an overall increase in research and development activities. The increase in operating expenses primarily resulted from a 37.7% increase in general and administrative expenses from US$8.9 million for the three months ended September 30, 2003 to US$12.3 million for the three months ended December 31, 2003. This increase in general and administrative expenses was primarily due to a US$2.6 million increase in personnel expenses relating to grants of preference shares to administrative employees at below market value, increased hiring of employees for our Tianjin and Beijing fabs and an increase in administrative personnel at our Shanghai fab. The overall increase in our operating expenses was mitigated by the 17.4% decrease in selling and marketing expenses from US$2.7 million for the three months ended September 30, 2003 to US$2.3 million for the three months ended December 31, 2003. This decrease in selling and marketing expenses was mainly due to a US$0.7 million decrease in sample expenditures as we began to charge customers for the samples we provided, offset by a net US$0.3 million increase in personnel expenses. In addition, our deferred stock compensation expenses increased from US$1.6 million to US$2.2 million between these periods. The increase in stock compensation expenses resulted from an increase in the fair market value of our ordinary and preference shares and an increase in our employee headcount.

 

As a result, we had operating income of US$4.6 million in the three months ended December 31, 2003, compared to a US$11.1 million loss from operations in the three months ended September 30, 2003. Our operating margin was 3.2% in the three months ended December 31, 2003, compared to negative 10.4% in the three months ended September 30, 2003.

 

Three Months Ended September 30, 2003 Compared to Three Months Ended June 30, 2003

 

Sales. Sales increased by 42.5% from US$75.2 million for the three months ended June 30, 2003 to US$107.1 million for the three months ended September 30, 2003, primarily as a result of the increase in the average selling prices of the wafers that we shipped and the increase in the volume of our wafers shipped. The average selling price of the wafers we shipped increased by 25.6% from US$614 per wafer to US$771 per wafer between these two periods primarily due to the shift in our product mix from DRAM wafers to higher priced logic wafers. The average selling price of the logic wafers we shipped increased by 10.8%, from US$797 per wafer to US$883 per wafer between these two periods due to increased demand in the market for these wafers as well as our increased shipment of more technologically advanced wafers that we sell for higher prices. In addition, the percentage of wafers shipped that were 0.18 micron and below increased from 24.0% to 44.7% between these two periods. The total number of wafers we shipped increased by 10.9%, from 117,950 to 130,780, between these two periods.

 

Cost of sales and gross profit. Our cost of sales increased by 9.2% from US$88.6 million for the three months ended June 30, 2003 to US$96.8 million for the three months ended September 30, 2003. This

 

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increase resulted primarily from the increase in our sales volume and an increase in deferred stock compensation expenses from US$1.3 million to US$1.4 million. The increase in the stock compensation expenses resulted from an increase in the fair market value of our ordinary shares and preference shares, as well as an increase in stock option grants due to the addition of new personnel during the three months ended September 30, 2003. We had a gross loss of US$13.5 million in the three months ended June 30, 2003 compared to a gross profit of US$10.4 million in the three months ended September 30, 2003. This improvement in gross loss was primarily due to an improvement in average selling prices over the previous quarter and a lower average cost per wafer that resulted from our ability to leverage fixed costs over a larger number of wafers manufactured. Gross margin improved from negative 17.9% for the three months ended June 30, 2003 to 9.7% for the three months ended September 30, 2003.

 

Operating expenses and loss from operations. Operating expenses increased by 48.8% from US$14.5 million for the three months ended June 30, 2003 to US$21.5 million for the three months ended September 30, 2003. Our research and development expenses remained relatively unchanged from US$8.1 million for the three months ended June 30, 2003 to US$8.3 million for the three months ended September 30, 2003. The increase in operating expenses primarily resulted from a 212.3% increase in general and administrative expenses from US$2.8 million for the three months ended June 30, 2003 to US$8.9 million for the three months ended September 30, 2003. This increase in general and administrative expenses was primarily due to a US$2.8 million exchange gain for the three months ended June 30, 2003, compared to a US$3.6 million exchange loss for the three months ended September 30, 2003. Exchange gains and losses result from period-end translation adjustments to our foreign currency denominated payables and receivables due to exchange rate fluctuations. Another factor in the change in our operating expenses was the 20.2% increase in our selling and marketing expenses from US$2.3 million for the three months ended June 30, 2003 to US$2.7 million for the three months ended September 30, 2003. This increase in selling and marketing expenses was mainly due to an increase in sample expenditures from US$1.0 million to US$1.4 million and increases in other marketing activities. In addition, our deferred stock compensation expenses increased from US$1.2 million to US$1.6 million between these periods. The increase in stock compensation expenses resulted from an increase in the fair market value of our ordinary and preference shares and an increase in our employee headcount.

 

As a result, our loss from operations decreased by 60.1% from US$27.9 million for the three months ended June 30, 2003 to US$11.1 million for the three months ended September 30, 2003. Our operating margin was negative 37.1% in the three months ended June 30, 2003, compared to negative 10.4% in the three months ended September 30, 2003.

 

Three Months Ended June 30, 2003 Compared to Three Months Ended March 31, 2003

 

Sales. Sales increased by 95.6% from US$38.4 million for the three months ended March 31, 2003 to US$75.2 million for the three months ended June 30, 2003, primarily as a result of the increase in our manufacturing capacity and our ability to utilize such capacity to increase the volume of our wafers shipped. The total number of wafers we shipped increased by 58.1%, from 74,596 to 117,950, between these two periods. Our shipment of logic wafers increased by 147.1% between the same two periods. The increase in sales also was due to the increase in the average selling prices of the wafers that we shipped, particularly logic wafers. The average selling price of the wafers we shipped increased by 24.3% from US$494 per wafer to US$614 per wafer between these two periods. The average selling price of the logic wafers we shipped increased by 25.5% from US$635 per wafer to US$797 per wafer, partially due to our increased shipment of more technologically advanced wafers. The percentage of wafers shipped that were 0.18 micron and below increased from 7.3% to 24.0% between these two periods.

 

Cost of sales and gross loss. Our cost of sales increased by 39.6% from US$63.5 million for the three months ended March 31, 2003 to US$88.6 million for the three months ended June 30, 2003. This increase

 

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resulted from a 58.0% increase in depreciation as more of our equipment was put into production, as well as the increase in labor and direct materials costs corresponding to our increase in sales volume. In addition, we had an increase in deferred stock compensation expenses from US$1.0 million to US$1.3 million. The increase in the stock compensation expenses resulted from an increase in the fair market value of our ordinary shares and preference shares, as well as an increase in stock option grants due to the addition of new personnel during the three months ended June 30, 2003. Because we were able to utilize the increased capacity and our average selling price increased by 24.3%, our sales increased faster than our cost of sales due to which our gross loss improved from US$25.1 million in the three months ended March 31, 2003 to US$13.5 million in the three months ended June 30, 2003. Gross margin improved from negative 65.2% for the three months ended March 31, 2003 to negative 17.9% for the three months ended June 30, 2003.

 

Operating expenses and loss from operations. Operating expenses increased by 8.8% from US$13.3 million for the three months ended March 31, 2003 to US$14.5 million for the three months ended June 30, 2003. This increase primarily resulted from a 28.1% increase in research and development expenses from US$6.3 million for the three months ended March 31, 2003 to US$8.1 million for the three months ended June 30, 2003. This increase in research and development expenses resulted primarily from an increase in our research and development activities at our Shanghai facilities of US$1.1 million and an increase in personnel expenses relating to these activities of US$0.8 million. Our general and administrative expenses decreased by 27.3% from US$3.9 million for the three months ended March 31, 2003 to US$2.8 million for the three months ended June 30, 2003, largely due to a US$0.7 million exchange gain for the three months ended March 31, 2003, compared to a US$2.8 million exchange gain for the three months ended June 30, 2003. This exchange gain was offset by a US$0.4 million increase in personnel expenses, a US$0.3 million increase in customs duty and a US$0.3 million increase in property insurance. Our selling and marketing expenses increased by 6.5% from US$2.1 million for the three months ended March 31, 2003 to US$2.3 million for the three months ended June 30, 2003. In addition, our deferred stock compensation expenses increased from US$0.9 million to US$1.2 million between these periods. The increase in stock compensation expenses resulted from an increase in the fair market value of our ordinary and preference shares and an increase in our employee headcount.

 

As a result, our loss from operations decreased by 27.2% from US$38.3 million for the three months ended March 31, 2003 to US$27.9 million for the three months ended June 30, 2003. Our operating margin was negative 99.7% in the three months ended March 31, 2003 and negative 37.1% for the three months ended June 30, 2003.

 

Three Months Ended March 31, 2003 Compared to Three Months Ended December 31, 2002

 

Sales. Sales increased by 57.6% from US$24.4 million for the three months ended December 31, 2002 to US$38.4 million for the three months ended March 31, 2003, primarily as a result of the increase in our capacity as Fab 2 and Fab 3B-C entered into commercial production. The total number of wafers we shipped increased by 54.9%, from 48,162 to 74,596, between these two periods. Most of this increase was due to an increase in sales of DRAM wafers in connection with the initial loading of Fab 2 and Fab 3B-C with DRAM to assist in testing and stabilizing these fabs during the commencement period of commercial production. The average selling price of the wafers we shipped increased by 3.6% from US$477 per wafer to US$494 per wafer between these two periods.

 

Cost of sales and gross loss. Our cost of sales increased by 35.3% from US$46.9 million for the three months ended December 31, 2002 to US$63.5 million for the three months ended March 31, 2003. This increase resulted primarily from the increase in labor and overhead expenses, including depreciation expenses, as our Fab 2 and Fab 3B-C commenced commercial production. Other factors included an increase in the amount of direct and indirect materials purchased corresponding to the increase in our wafers shipped. In addition, we had an increase in deferred stock compensation expenses from

 

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US$0.8 million to US$1.0 million. The increase in the stock compensation expenses resulted from an increase in the fair market value of our ordinary shares and preference shares, as well as an increase in stock option grants due to the addition of new personnel during the three months ended March 31, 2003. This increase was partially offset by economies of scale that resulted from our increase in operating activity. We had a gross loss of US$22.5 million in the three months ended December 31, 2002 compared to US$25.1 million in the three months ended March 31, 2003. Gross loss improved from negative 92.4% for the three months ended December 31, 2002 to negative 65.2% for the three months ended March 31, 2003.

 

Operating expenses and loss from operations. Our operating expenses decreased by 38.5% from US$21.6 million for the three months ended December 31, 2002 to US$13.3 million for three months ended March 31, 2003. This decrease resulted partially from a 45.6% decrease in research and development expenses from US$11.6 million for the three months ended December 31, 2002 to US$6.3 million for the three months ended March 31, 2003. This significant decrease in research and development expenses resulted primarily from the completion of pilot production in Fab 2 and Fab 3B-C at the end of 2002. Prior to the commencement of commercial production, all pilot production costs related to Fab 2 and Fab 3B-C were charged as research and development expenses. Beginning in the three-month period ended March 31, 2003, when these fabs commenced commercial production, these costs were classified as cost of sales instead of research and development expenses. In addition, general and administrative expenses decreased by 44.7% from US$7.1 million for the three months ended December 31, 2002 to US$3.9 million for the three months ended March 31, 2003. This decrease in general and administrative expenses was due primarily to a US$1.2 million exchange loss for the three months ended December 31, 2002, compared to a US$0.7 million exchange gain for the three months ended March 31, 2003, as well as a US$1.3 million decrease in personnel expenses as a result of our payment of supplemental salaries each December. These decreases were partially offset by a US$0.4 million increase in property insurance. Our selling and marketing expenses decreased by 4.6% from US$2.2 million for the three months ended December 31, 2002 to US$2.1 million for the three months ended March 31, 2003. In addition, our deferred stock compensation expenses increased from US$0.6 million to US$0.9 million between these periods. The increase in stock compensation expenses resulted from an increase in the fair market value of our ordinary and preference shares and an increase in our headcount.

 

As a result, our loss from operations decreased by 13.2% from US$44.1 million for the three months ended December 31, 2002 to US$38.3 million for the three months ended March 31, 2003. Our operating margin was negative 181.0% in the three months ended December 31, 2002 and negative 99.7% in the three months ended March 31, 2003.

 

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Comparisons of the Years Ended December 31, 2003, 2002 and 2001

 

The following table sets forth, for the periods indicated, selected financial data from our consolidated statements of operations, expressed in each case as amounts and as a percentage of sales, as well as information regarding wafers shipped and average selling prices. The selected consolidated financial data presented below for the years ended December 31, 2001, 2002 and 2003 is derived from our audited consolidated financial statements included elsewhere in this prospectus.

 

    For the year ended December 31,

    2001

  2002

  2003

    (in US$ thousands, except for percentages and operating
data)

Income Statement Data:

                                   

Sales

  $ —       —     $ 50,315     100.0%   $ 365,823     100.0%

Cost of sales(1)

    —       —       (105,238 )   (209.2)%     (363,241 )   (99.3)%
   


 
 


 
 


 

Gross profit (loss)

    —       —       (54,923 )   (109.2)%     2,582     0.7%
   


 
 


 
 


 

Operating expenses:

                                   

Research and development

    (9,326 )   —       (37,459 )   (74.5)%     (32,070 )   (8.8)%

General and administrative

    (16,870 )   —       (17,782 )   (35.3)%     (27,912 )   (7.6)%

Selling and marketing

    (751 )   —       (4,371 )   (8.7)%     (9,447 )   (2.6)%

Amortization of deferred stock compensation

    (712 )   —       (1,769 )   (3.5)%     (5,900 )   (1.6)%
   


 
 


 
 


 

Total operating expenses

    (27,659 )   —       (61,381 )   (122.0)%     (75,329 )   (20.6)%
   


 
 


 
 


 

Loss from operations

    (27,659 )   —       (116,304 )   (231.2)%     (72,747 )   (19.9)%
   


 
 


 
 


 

Other income (expenses):

                                   

Interest income

    18,681     —       10,980     21.8%     5,616     1.5%

Interest expense

    —       —       (176 )   (0.3)%     (1,425 )   (0.4)%

Other, net

    384     —       2,897     5.8%     2,411     0.7%

Subsidy income

    5,942     —       —       —       —       —