Future Earnings Will Be Challenged By Rising Costs, But Capacity Expansion And New Technologies May Provide Opportunities

Key Takeaways

• Higher capital expenditures and depreciation could challenge net margins, with competition and surplus capacity possibly impacting profitability despite revenue growth.
  
• Geopolitical shifts and supply chain risks introduce uncertainties, and aggressive expansion may not counter moderate demand, potentially affecting future earnings growth.
  
• SMIC's strategic capacity expansion, strong balance sheet, and focus on stable pricing could enhance long-term growth and diversification amid rising demand and geopolitical influences.

Catalysts

An investment holding company, engages in the manufacture, testing, and sale of integrated circuits in the United States, China, and Eurasia.

• Despite the increased demand for localization and the rapid growth in revenue, higher capital expenditures and the resulting depreciation pressure are expected to challenge net margins, indicating potential future profit compression.
  
• The company's guidance for 2025 indicates that while revenue growth is expected to outpace the industry average, intense competition and the expected rise in depreciation cost by around 20% could pressure gross margins, impacting earnings negatively.
  
• Homogeneous competition, due to increased structural surplus capacity, may force SMIC to engage in price competition, possibly pressuring net margins and affecting profitability despite sustained revenue growth.
  
• The geopolitical shifts leading to a reshuffling of the industry landscape might create opportunities, but they also introduce supply chain risks and operational uncertainties that could impact overall financial stability and future earnings.
  
• The company's aggressive capacity expansion and focus on enriching product mix to combat cyclicality might not suffice if external demand moderates, thereby pressuring cash flows and potentially leading to lower-than-expected earnings growth in future periods.

Semiconductor Manufacturing International Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Semiconductor Manufacturing International's revenue will grow by 17.0% annually over the next 3 years.
• Analysts assume that profit margins will increase from 7.5% today to 9.5% in 3 years time.
• Analysts expect earnings to reach $1.1 billion (and earnings per share of $0.14) by about February 2028, up from $559.8 million today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting $1.6 billion in earnings, and the most bearish expecting $559 million.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 50.2x on those 2028 earnings, down from 99.3x today. This future PE is greater than the current PE for the US Semiconductor industry at 14.1x.
• Analysts expect the number of shares outstanding to grow by 0.16% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.68%, as per the Simply Wall St company report.

Semiconductor Manufacturing International Future Earnings Per Share Growth

Risks

• SMIC achieved a record high revenue of $8.03 billion in 2024, representing a 27% year-over-year increase, driven by strong demand and capacity expansion, which could positively impact future earnings.
  
• The company has implemented a strategy of maintaining a consistent pricing strategy and not initiating price reductions, which could stabilize and potentially improve profit margins.
  
• Geopolitical factors and demand for localization have resulted in increased market demand and revenue growth, particularly from Chinese customers, which could bolster future revenue streams.
  
• SMIC is continuing to expand its capacity and introduce new technologies across various platforms, including automotive and high-voltage display driver ICs, which could drive additional revenue growth and diversification.
  
• The company's strong balance sheet, with total assets of $49.2 billion and substantial cash reserves of $15 billion, provides a solid foundation for investment in future growth and resilience, potentially enhancing net margins and long-term earnings.

Valuation

• The analysts have a consensus price target of HK$42.206 for Semiconductor Manufacturing International based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of HK$67.05, and the most bearish reporting a price target of just HK$13.97.
  
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $12.0 billion, earnings will come to $1.1 billion, and it would be trading on a PE ratio of 50.2x, assuming you use a discount rate of 9.7%.
  
• Given the current share price of HK$54.2, the analyst price target of HK$42.21 is 28.4% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.