China XD Plastics Company Limited
Q3 2016 Earnings Call Transcript

Published: 9 Nov 2016

[Operator:]

Thank you all for standing by, and welcome to Third Quarter 2016 China XD Plastics Company Limited Earnings Conference Call. At this time, all participants are in a listen-only mode. There will be a presentation, followed by a questions and answer session [Operator Instructions]. I must advice you that this conference is being recorded today, November 9, 2016. I would now like to hand the conference over to your first speaker today, Vicky Yu. Please go ahead Ms. Yu.

[Vicky Yu:]

Thank you operator. Thank you all for joining us for the China XD Plastics’ third quarter 2016 financial results conference call. Joining me on the call today are Mr. Jie Han, Chairman and CEO; Mr. Qingwei Ma, Chief Operating Officer; Mr. Taylor Zhang, Chief Financial Officer; Mr. Junjie Ma, Chief Technology Officer; Dr. Kenan Gong, General Manager of the Dubai Subsidiary; Mr. Jin Jintai, General Manager of Heilongjiang Subsidiary. Earlier today, China XD Plastics issued a press release announcing the third quarter of 2016 results. Before management present its presentation, I would like to refer to the Safe Harbor statements, in connection with today’s conference call. And to remind our listeners that the management’s prepared remarks during the call may contain forward-looking statements, which are subject to the risks and uncertainties and that management may make additional forward-looking statements in response to your questions. All statements, other than statements of historical fact, contain forward-looking statements, including, but not limited to, the Company’s growth potential in international markets, the effectiveness and the profitability of the Company’s product diversification, the impact of the Company’s product, mix shift to a more advanced products and related pricing policies, the volatility of the Company’s operating results and the financial condition, the Company’s projections of the performance in 2016, and other risks detailed in the Company’s filings with the SEC, and available on its Web site at www.sec.gov. These forward-looking statements involve known and unknown risks and uncertainties, and are based on the current expectations, assumption, estimates and the projections, about the companies and the industry. The Company therefore claims the projections of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ from those discussed today, and we refer you to a more detailed discussion for the risks and uncertainties in the Company’s filings with the Securities and Exchange Commission. In addition, any projection as to Company’s future performance represents management’s estimates as of today, November 9, 2016. China XD Plastics assumes no obligation to update these projections in the future as market conditions change. To supplement the financial results presented in accordance with the U.S. GAAP, management will make reference to earnings before interest expenses, income taxes, depreciation and amortization, which we will refer to as EBITDA. EBITDA is a non-GAAP financial measure, reconciled from the net income, which the Company believes to provide the meaningful additional information to better understand its operating performance. A table reconciling net income to EBITDA can be found on the earnings press release issued earlier today. I would now like to turn the call to our Chairman and Chief Executive Officer, Mr. Han. Mr. Han will speak in Chinese, and I will translate his opening remarks into English. Mr. Han, please go ahead.

[Jie Han:]

Thank you, Vicky. And thank you all for joining us today. We’re pleased by the financial results of the third quarter, which benefited from continued improvement in microeconomic conditions in the auto industry, our increased production capacity and acceleration in international sales. According to the China Association of Automobile Manufacturers, the number of automobile manufactured in China increased by 14.7% for the first nine month of 2016, as compared to the first nine months of 2015. Our improvement in microeconomic conditions through the first nine months of 2016 has improved the business conditions and its pricing pressures, which have resulted in stronger Company profit margins. Key elements of our growth plan include elevating the sales of our high-end products, optimizing our increased production capacity, and increase our overseas sales in order to reduce our concentration in the Chinese market. We are beginning to see the results of this strategy as we increased overseas sales significantly from the overseas market in the third quarter as compared to the same period last year. As anticipated, the steady recovery in operating conditions coupled with the focused execution of our strategic plan has resulted in a marked improvement in key financial metrics such as sales volume, average selling price and profitability margins The commissioning of our Sichuan campus in the current quarter is an important milestone as it will ultimately add 300,000 metric tons of annual production to our domestic capacity, for a total domestic capacity of 690,000 metric tons. The Sichuan facility substantially expands the footprint of our auto business in China and while we expect that automotive applications will continue to be our core business, the new facilities includes precision equipment which will enable us to diversify our product platform into such high-growth verticals such as ships, high-speed rail, airplanes, bio-degradable materials, medical-grade materials and food packaging, which will propel the Company's growth. Our Sichuan plant has been designed with the highest production specifications with state-of-the-art equipment and extends our geographical reach beyond our established Northeast base in Harbin as the China's southwest is rapidly becoming an important economic region. We anticipate having production capacity of 60,000 metric tons as operational by year-end 2016. In addition to our new Sichuan campus, our manufacturing facility in Dubai will also extend our specialized high-tech products into important new markets. We are planning to complete Phase 2 of our build-out by the end of this year which will constitute installing an additional 14,000 metric tons of annual production capacity, bringing total production capacity in Dubai to 16,500 metric tons. The Dubai facility will target high-end products for the overseas market and will ultimately enable more active in-roads into the markets of Europe, the Middle East and other international regions. We view our ability to innovate combined with our utilization of state-of-the art equipment as a technical and competitive edge in the marketplace. China XD is committed to creating value for all of our stakeholders through our commitment and dedication to our customers. We remain confident in our business model and anticipate that our expansion in Sichuan and the completion of our Dubai plant this year will result in improved market positioning, a diversified base of customers, high-end sales and an expansion into new verticals. We anticipate that the year's steady improvement in our sector will continue into 2017 and we reiterate our current financial guidance at this time With that, I will now turn the call over to Taylor Zhang, our CFO, to walk you through our financials, Taylor.

[Taylor Zhang:]

Thank you, Mr. Han and thank you, everyone for joining the call today. Before I review the numbers, let me remind you that all the figures discussed are for this reporting period, third quarter of 2016 unless I state otherwise. Additionally, any year-over-year comparisons to the third quarter of 2015, and any sequential comparisons to the second quarter of 2016; so, let’s go with our third quarter results. Revenues were $331.8 million in the third quarter ended September 30, 2016, an increase of $92.7 million or 38.8% compared to $239.1 million in the same period of last year. This was due to a 33% increase in sales volume and 10.0% increase in the average RMB selling price of our products, offset somewhat by a 6% negative impact from exchange rate due to a weakening RMB against the U.S. dollar. Overseas sales were $37 million in the third quarter of 2016 compared to $7.3 million in the same period of 2015 due to sales overseas. Premium products, including PA66, PA6, Plastic Alloy, PLA, POM and PPO, in total, accounting for 82.8% of revenues, compared to 77.6% in the prior year period. The Company continued to shift its production mix from traditional polymer materials to higher-end products, thanks to; the greater growth potential of advanced modified plastics in luxury automobile models in China; the stronger demand as a result of promotion by the Chinese government for clean energy vehicles; and better quality from end consumer recognition of higher-end cars made by auto manufacturers from Chinese and Germany joint ventures, and U.S. and Japanese joint ventures, which manufacturers tend to use more and higher-end modified plastics in quantity per vehicle in China. Gross profit was $69.6 million in the third quarter compared to $29.3 million in the same period last year, an increase of $40.3 million or 137.5%. Gross margin increased to 21% during the quarter ended September 30, 2016 from 12.3% during the same quarter of last year, primarily due to a greater contribution from higher-margin products sold overseas. G&A expenses were $8.4 million in the quarter ended September 30, 2016 compared to $5.8 million in the same period last year, an increase of $2.6 million or 44.8%. This increase was primarily due to the increases in salary due to -- because of the increase in the number of management and staffs from supporting departments, and expenses associated with the commissioning ceremony in the current quarter of our new Sichuan manufacturing facility. R&D expenses were $7.9 million in the quarter ended September 30, 2016 compared to $5.8 million during the same period last year, an increase of $2.1 million or 36.2%. This increase reflected our enhanced efforts in research and development activities on new products primarily for industrialized applications from automotive to other advanced fields such as ships, airplanes, high-speed rail, 3D printing materials, biodegradable plastics, and medical devices. As of September 30, 2016, we were engaged in 196 ongoing R&D projects. Total operating income was $53.1 million in the third quarter ended compared to $17.3 million in the same period of 2015, an increase of $35.8 million or 206.9%. This increase is primarily due to a higher gross margin, partially offset by the higher G&A and R&D expenses. Loss on debt extinguishment resulted from one-time non-operating charge-off of $19 million as the Company fully redeemed all of its $150 million principal amounts, 11.75% guaranteed senior notes due 2019 plus the applicable premium and unpaid interest up to the redemption date of August 29, 2016. The effective income tax rate for the three-month periods ended this quarter was 20.8% compared to 35.5% last year. The decrease in the current quarter was primarily due to the increase of $17.4 million profits generated in tax-exempted Dubai Composites for the three-months ended this quarter as compared to the same quarter last year. This was partially offset by a $19 million loss on the Company's redemption of its $150 million principal senior notes. The effective income tax rate for the three-month periods ended this quarter differs from the PRC income tax rate of 25% primarily due to the effects of tax rate differentiation on any of this, not subject to PRC income tax, super deduction of R&D expense and partially offset by the effect of non-deductible expenses. Net income was $20.2 million in the third quarter ended September 30, 2016 compared to $6 million for the same period of 2015, an increase of $14.2 million or 236.7%. Basic and diluted earnings per share were $0.31, compared to $0.09 per basic and diluted share in the third quarter of 2015. Earnings before interest, tax, depreciation and amortization was $46.1 million for the third quarter of 2016 compared to $26.9 million in the same period of 2015, representing an increase of $19.2 million or 71.4%. For a detailed reconciliation of EBITDA, a non-GAAP measure, to its nearest GAAP equivalent, please see the financial tables at the end of our press release. Now, let’s turn now to balance sheet. Our balance sheet remained strong even as we continue our business expansion. As of September 30, 2016, the Company had $100.1 million in cash and cash equivalents, $130.4 million in time deposits with commercial banks, $151.3 million in working capital and the current ratio of 1.17. Stockholders’ equity as of end of the quarter was $625.1 million, an increase of 8.1% as compared to the end of 2015. On August 22, 2016, a wholly owned subsidiary of the Company, Xinda Holding Hong Kong Company Limited, entered into an agreement for a loan facility in an aggregate amount of $180 million with a consortium of banks and financial institutions led by Standard Chartered. Pursuant to the agreements, the proceeds of the loan facility shall be applied primarily to the previously approved redemption of the $150 million senior notes. On August 29, 2016, the Company fully redeemed the notes. The aggregate amount paid was $166.6 million consisting of $150 million of principal, the applicable premium of $15.4 million and accrued and unpaid interest of $1.2 million to the redemption date. This resulted in a one-time non-operating charge of $19 million as a loss on debt extinguishment in the third quarter of 2016. Finally, the Company reiterates its financial guidance for fiscal 2016, with revenue to range between $1 billion and $1.1 billion, and net income to range between $100 million and $110 million. This is based on the anticipation of the continued steady recovery throughout the Chinese automotive supply chain; the Company’s belief in its ability to secure new customers and a stabilization of crude oil pricing and its impact on polymer composite materials in 2016. This forecast also assumes contribution from our Sichuan plant, which started production in the second half of 2016. It also assumes a relatively stabled exchange rate of U.S. dollar to RMB, and excludes certain non-cash, non-operational items. This financial guidance reflects the Company’s view of its business outlook for the remainder of fiscal 2016, and subject to revision based on changing market conditions at any time. The Company will provide financial guidance for fiscal 2017 later. Before we open the call to your questions, I would like to note that for any question directed to management in China, I would translate both their questions and their answers. If you want to ask your question in Chinese, please also ask it in English for the benefits of our other listeners. With that, we’ll now open the call to questions. Operator?

[Operator:]

We will now begin the question-and-answer session [Operator Instruction]. Your first question comes from the line of John Cooper. Your line is open. Please go ahead.

[Unidentified Analyst:]

Good morning and congratulations for an excellent quarter; very pleased with your progress. As you know we support being a fairly large shareholder, we support management’s efforts to expand its, both within and without China. And look forward to continuing growth next year. If I’m reading the balance sheet right, and I don’t have the comparison with last year in front of me, but it looks like to me the big increase in short-term debt was used to finance an increase, largely in inventories, to take advantage of low resin prices. So, if you assume that, and I assume, that business is going to grow next year, and the inventory will turn and eventually you’ll be able to pay-down that debt from internal cash flow. I was wondering it looks like the debt-to-capital, debt-to-EBITDA looks pretty conservative at this point. And would like to know Mr. Han’s -- I mean, it’s important that we get the stock up, not only because with higher stock price, which has been languishing now for years is a detriment not only to attracting other investors into the Company, but also it facilitates financing for the Company in terms of being able to take advantage of a higher stock, and make acquisitions outside of China. So, my question is, what could we do to get the stock up? And I’ve recommended, as you know, Taylor, that management consider perhaps a combination of stock or cash dividend, a small dividend. I think you start with $5 million to $10 million. I can see how that’s going to really hurt the situation. And it looks like there is earnings and revenue growth next year, and the back that you’re pretty through your CapEx for Sichuan and should end do by at the end of the year, or into the first quarter little bit. I was wondering if Mr. Han might comment, and/or even give us some assurances that we might see some sort of a stock and cash dividend in the near future. Thank you.

[Taylor Zhang:]

Thank you, John. Let me answer your question first, and I will translate to my team, including Mr. Han. So I think you have raised a very good point, similar to our prior conversation. So, the valuation is very important to -- and the Company, especially for Company in the growth stage. So in the marketplace, especially when we compete with our domestic competitor who can afford very high multiple valuation. So we do have some limitation in terms of competing with them; so, not necessarily in our operation, or R&D, or technology but that valuation is a drag. We can totally see that. So I think that’s the importance that’s given. For the dividends, I think, probably you’ll recall, Chairman Han has commented this in the past that it’s something the Company will certainly give a consideration, and we would do it at the right time. But let me talk to Chairman Han right now. And I will translate his comments. [Foreign Language] Hi, John. Let me translate the comments from Chairman Han. So, he remembered the discussion before, and also his prior comments. So he stand-by his comments, which the dividend is for the benefits of our shareholders. So the share price is probably not the primary objective, but increasing share for the value is our top responsibility. So, if you look at our common strategy, Citroen started production this year, and the CapEx is concluding, Dubai is about to launch early next year. So, our CapEx are pretty much come to a steady stage or coming to. And our international -- our global strategy is also taking its shape. So, we believe the optimal more time to consider issuance dividends is about to come. Obviously, the goal is to maximize shareholder value and at the right time.

[Unidentified Analyst:]

Thank you, Taylor and thanks Mr. Han for his reply, again. I think we all have the same goal, and that is to build the shareholder value. I am aware, however, that an general Chinese management due tend to carry a high amount of cash on their balance sheets, and I can understand the philosophy. It's conservative. You might call it a rainy fund. But at the same time, the Company looks at to have a nice increase in free cash flow next year. And it would be nice to see some return on investment for shareholder. And my recommendation of stock and for cash combination would be to broaden the base of ownership, so that maybe perhaps the larger shareholders might opt for cash, I know we take stock. So, thank you for considering these points. And I just wanted to emphasize them because U.S. investors do appreciate dividends, and I think its stock would be at a substantially higher level with the dividend. Thank you.

[Operator:]

Your next question comes from the line of Frank Thomas. Your line is open. Please go ahead.

[Frank Thomas:]

I just want to ask, has the Company been approached by the hedge funds or larger manufactures? It just seems that with the profits and the enviable balance sheet that you would agree fit for a larger Company? Thank you.

[Taylor Zhang:]

Hi Frank. So there have been approaches in the past, and also recently, so we think, as management, our job is to focus on execution of our strategy, grow our business. So, at this point, we don’t think that there is a lot we can talk about. But to answer your question then, the answer is yes.

[Operator:]

[Operator Instructions] Your next question comes from the line of Peter Siris. Your line is open, please go ahead.

[Unidentified Analyst:]

So, you said you were going to open in Sichuan, open Dubai, and build your business. Things look very good right now. But we haven’t begun to see much of Sichuan, haven’t begun to see much of Dubai. So, I wonder two questions. First, if you could look out, say three-four years, based on what you have now. First question is what the volume and the earnings power of the Company as it is now, say looking at three years from now?

[Taylor Zhang:]

Okay, Peter, thank you for your question. Let me translate your question, and we’re going to get your answer. [Foreign Language] Hi, Peter. Let me translate Mr. Han’s response. So, first, we want to thank you for your support for long-time, and your loyalty to the Company. Thank you very much. So, looking out three to four years, so first of all, Mr. Han said, from his standpoint, there is a balance that the management would like to strike, which is profitability or margins versus growth. So, obviously margin, they are interrelated. Our margin can be improved by higher-end products and growth can come from other non-auto sectors that we’re currently developing. So, if you look at 2017 which is next year, or to 2018 the after, you can reasonably assume that the Citroen plants will contribute a lot to our operational metrics, that’s pretty much the additional 300,000 tons, the value of that will be unlocked. So, that is in end of 2017, or 2018. So, it’s not too hard to figure out based on our financial performance and the information we have provided. But he want to make sure that everyone understand the financial performance or the operation results is the goal that the managements and every employee at XD Plastics, and we’re going to do our best to achieve it.

[Unidentified Analyst:]

So just a follow-up, as -- and these are my numbers, not yours. But, I see that within, I’d say the next three years, that you could, both double the volume of sales and double your earnings from the current levels. And that makes you a large Company. So, you talked earlier about shareholder value. I guess my question is, besides the issues like dividends and things like that. Are you considering or will you consider other ways of enhancing shareholder value, such as dual listings in China, or anything of that sort?

[Taylor Zhang:]

So, Peter, I think, dual list in China, we haven’t seen any company doing that. So, the results at least are still in theory. Secondly, given the smaller proportion of shares owned by non-affiliate shareholder, so I think dual list in theory probably not going to play well. So, I think -- I hope that answer your question.

[Unidentified Analyst:]

It does, thank you.

[Operator:]

There are no further questions at this time. Mr. Zhang, please continue.

[Vicky Yu:]

On behalf of China XD Plastics, we want to thank you for your interest and participation in this call. If you would like to speak with us further, please call either myself or Taylor in XD New York office, or our Investor Relations firm. The contact numbers for all of us are listed at the end of the press release. Operator...

[Operator:]

Thank you. That does conclude our conference for today. Thank you for participation. You may all disconnect.