CBAK Energy Technology Inc (CBAT) 2009 Q1 法說會逐字稿

Good evening, everyone, and thank you for joining us on the China BAK Battery's fiscal 2009 first quarter conference call. During today's call we will provide details on the Company's FY '09 first-quarter results as well as provide a corporate update about recent activities. Today's call will be limited to one hour.

With me today on the call is China BAK's senior management team, led by Mr. Xiangqian Li, China BAK's President and Chief Executive Officer. All of them will be available to answer questions during the Q&A section. Our agenda for today is as follows. Mr. Tony Shen, China BAK's Chief Financial Officer, will make remarks on the half of the management team on the Company's financial performance and discuss current business strategies, and he then will make remarks about China BAK's business outlook. Finally, we will open the call to your questions.

Before we get started I'd like to remind our listeners that comments today will contain forward-looking statements and management may make additional forward-looking statements in response to your questions. Such written and verbal disclosures are made in pursuant to the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements involve risk and uncertainties that could cause actual results to differ materially from anticipated results. These types of statements and underlying factors as well as risk and uncertainties are listed in the Company's filings with the Securities and Exchange Commission as well as the news release that was distributed earlier this afternoon.

China BAK's statements on this call are made as of January 23, 2009, and the Company undertakes no obligation to update any of the forward-looking statements contained herein, whether as a result of new information, future events, changes in expectations or otherwise.

With that said, it's my pleasure to turn the call over to China BAK's CFO, Mr. Shen.

Thank you, Keith. I would like to extend a warm welcome to everyone joining us on the call today. Because of the Chinese New Year's holiday, Mr. Li and Dr. Mao are calling from outside, and they may not be calling in on time for the q-and-a session. But I will be able to answer your questions throughout the whole session.

First, some highlights. In the first quarter of FY '09, our net revenue remained strong in the midst of the global financial crisis and recession. Gross margin remained at a similar level to previous quarters, and cylindrical sales revenue continued to be robust, accounting for 27% of total revenue.

Prismatic sales revenue continued to grow and reflect further penetration of the China OEM cell phone market. A number of cost-cutting efforts were taken, and at least $1.5 million of operating expense reduction per quarter is expected in the coming quarters.

Now in more details, net revenue for the first quarter of FY '09 was $68.1 million, down 6.4% from last quarter and up 29% from the same quarter of last year. Revenue from cylindrical sales using notebook computers was $18.4 million, down 6.5% from last quarter and up 615.7% and from the same quarter of last year. Market demand from notebook computer manufacturers weakened slightly, due to the global financial crisis and recession. Revenue from prismatic cells, including aluminum case sales, steel case sales and battery packs, were $45.8 million, up 1.7% from last quarter and up 2.1% from same quarter of last year.

Revenue from aluminum case sales were $37.3 million, up 3.6% from last quarter and up 24% from same quarter of last year. Revenues from battery packs were $5.4 million, up 0.2% from last quarter and up 8.1% from same first quarter of last year.

Revenues from steel case cells were $3.1 million, down 15.1% from last quarter and down 68.3% from same quarter of last year. We have started to phase out the production of steel case cells in this quarter, so revenue from steel case cells is expected to be minimal in coming quarters.

Revenues from lithium polymer cells used in personal electronic devices such as PDAs, MP3 players and Bluetooth devices, was $3.9 million in the first quarter of FY '09, down 51.2% from last quarter and down 27.4% from same quarter of last year. Market demand from our largely US-based lithium polymer cells customers weakened due to the financial crisis and recession.

Gross profit for the first quarter was $10.6 million, down 7.7% from last quarter and up 49.1% from the same quarter of last year. Gross margin was 15.6% compared to 15.8% last quarter and 13.5% in the same quarter of last year. The slight decrease in gross margin from the (inaudible) previous quarter was the result of lower average selling prices, offset mostly by lower average costs.

The increase in gross margin from the previous year's first quarter was attributable to improvements in our product mix and increased average selling price, which [outweighted] the impact of average cost increase. Operating expenses totaled $9.8 million or 14.4% revenue in the first quarter as compared to 11.6% of revenue last quarter and 13.1% of revenue same quarter of last year.

R&D expense was $1.4 million or 2.1% of revenue as compared to 2.3% of revenue last quarter and 2.5% of revenue in the same quarter of last year.

Sales and marketing expense was $1.6 million or 2.3% of revenue as compared to 2.2% of revenue last quarter and 2.6% of revenue in the same quarter of last year. G&A expense was $6.8 million or 9.9% of revenue as compared with 7.1% of revenue last quarter and 8.0% of revenue in the same quarter of last year. The $6.8 million expense number includes nearly $3 million bad debt expense, most of which was related to delayed collection of accounts receivable relating to the timing of the Chinese new year holiday this year.

Operating income for the first quarter was $0.8 million as compared with $3 million last quarter and $0.2 million same quarter of last year. Net loss was $1.7 million as compared to net income of $1.5 million last quarter and a net loss of $0.9 million in the same quarter of last year. Diluted earnings per share were negative $0.03 compared with $0.03 per diluted share last quarter and a negative $0.02 per diluted share in the same quarter of last year.

For the first quarter days sales outstanding, DSO, decreased to 103 days as compared to 104 days last quarter, and inventory turns increased to 3.64 from 3.6 turns last quarter. On December 31, 2008, we had $[37.2] in cash and cash equivalents and a negative $18.3 million in working capital, reflecting a current ratio of 0.92-to-1. Short-term bank loans and long-term bank loans totaled $172.2 million as compared to $170.1 million on September 30, 2008. Shareholders equity totaled $166.3 million. China BAK had $24.1 million available for under its credit facilities.

Our performance is remarkable in light of the typical market situation. However, the crisis has affected many markets our customers serve. Looking at weakened demand from our customers, we feel it necessary to take a more cautious look at our revenue guidance for FY '09. We now have expect FY '09 revenue to fall in the range of $270 million to $300 million, which, at the midpoint of the range, will represent 16% growth from FY '08 levels.

In Q1 FY '09 we have initiated a number of actions to cut down cost and expenses. These included reductions in total headcount, work hours for hourly workers and compensation packages for salaried employees, including senior executives. Employees were also required to take unpaid leave and will be required to take longer holiday leaves during the Chinese New Year holiday.

In addition, we are suspending prismatic cell production for the month of January 2009 to reduce inventory and to lower energy costs. All these measures are expected to bring at least $1.5 million reduction in operating expenses per quarter for the rest of FY '09.

Now, thanks for listening and we'll turn to the Q&A session.

(Operator instructions). [Rick Barron], Accretive Capital Partners.

I had a question about the capitalization of the Company. And it does seem like, at the moment, the Company is being funded by a majority of short-term financing, and yet most of the Company's assets are fixed assets, the long-term assets. And I was curious if there's any effort to restructure the balance sheet so that the financing more closely matches the assets of the Company. It just doesn't seem like it makes a lot of sense. There's plenty of equity value, but the financing is mostly short-term. Why is that?

This has to do with the specific situation in the banking industry in China. Chinese banks like to have very short-term loans for companies because, at every renewal, they can have the opportunity to adjust the terms based on the [then] government policies. This can be good or bad for the Company, but in our past that has been mostly good because, especially now, China is following most of the industrialized countries in lowering its interest rates to stimulate the economy. So in every renewal, we get a lower interest rate.

Of course, to match the long -- your idea is more idealistic. In a perfect world, we should match the assets and the liabilities. And in our specific situation now, we only have a very small portion of the borrowing in long-term. But just based on our experience with dealing with the banks, we have never had a problem in renewal and most of the credit facilities.

Okay.

So maybe we should call them the short-term -- the long-term borrowings but in short form.

And is the Company -- is it in any jeopardy of tripping any financial covenants? Or are there financial covenants with the Chinese banks?

Yes, there are. In fact, most of the banks have very similar requirements. For example, your revenue cannot be declining more than a certain percentage from quarter to quarter, etc. But we've never had any breaches of such covenants, and in our observation in China, banks rarely enforce their covenants except when the Company is already clearly in trouble.

And out of curiosity, what are those more significant covenants, if you know offhand, that the Company is tested on? Is it on a quarterly basis?

I can remember that there's revenue consistency requirements. Most of them are actually related to the assets that are [pledged] against the loans. So we have -- most recently, we have a loan from -- a credit facility from the Agricultural Bank of China, on which we pledged the land and the associated buildings. So, as long as the value -- the value determined by a third party evaluator -- doesn't decline much, we don't break anything. And for all of these significant covenants you can find in our filings, in our SEC filings.

Okay, I'll spend a little time looking at those covenants. I appreciate that, and I don't want to monopolize the call. I have a couple of other questions here. I noted that over the past few years you've gone out and done some private placement equity financings, and right now your stock is at an all-time low, and this would seem to be about the worst time to be raising equity capital. Is this anything that the Company is planning any time soon?

We usually don't comment on the timing of those, but most of us all had the same judgment as you just elaborated, that this is, in general, a very bad market situation. We, of course, don't want to -- at this price, if financing were to be done, the dilution effect will be great. So --

It sounds like that's not the objective of the Company.

No.

Okay. I hope that, with future equity financings, it seems that these are being done on a very closed basis with private placements done with some institutions, some of which seem to be repeat investors. Is there an opportunity to do rights offerings instead and open that up to investors who have invested in the common equity and so they don't face the prospect of being diluted by some unforeseen equity financing?

We will take that into consideration if we have another round of equity financing. In our previous private placements, all the previous investors were invited and shown the deal, together with new private investors.

Okay, but it wasn't open to the common shareholder. That was the problem that --

Well, to do a -- this is just in general speaking, and this in no way implies any future actions by the Company. But in general, for a company of our size, for all the common shareholders to participate we have to do a secondary offering of a sort; it's more like a second IPO. And that requires a lot of marketing time and also extensive road show, etc. And with the amount that we are raising in the previous two financings, it doesn't seem economical.

The Company is cash flowing positively now, which is good news, and these are, I agree, impressive results, given the economic climate. So congratulations for that. And hopefully, with some of the cost reductions you continue cash flowing positively and there won't be a need for immediate equity financing. But that would be a very significant request, I think, probably shared by other shareholders as well, that, should there be any significant equity raises, that it be done, opened up to --

We don't have any plans for the near future.

Well, that is good news. And obviously, with the cash flow positive results now, it doesn't seem like you would need to. Hopefully, with some of that cash flow you can begin paying down some of the debt, too.

Yes. To your last comment, actually, I want to make a comment to all the listeners, all the callers. Although our outstanding loan balance at the end of each quarter in the last two quarters are similar, our finance cost was much lower in the December quarter. That reflects an active management of the average balance throughout the quarter, so the interest expense is lower.

Yes, and it looked like it was $2.8 million for the quarter ended December 2008, down from $3.6 million in September. And you are cash flowing more than that, so at least your EBITDA is greater than that. And if you add back $3 million of bad debt expense, you have plenty of coverage, it seems.

It appears so.

The obvious next question, and I'm sure other callers will have some questions about other customers. But I'm curious about what the status with the HP deal is, if that's -- if that's dead, at this point? And if you might comment --

We are even more confident on gaining a major OEM customer.

I'm sorry? You have even more confidence?

Yes. The achievement is near.

And when you talk about that major OEM customer being close at hand, we've obviously been talking about this for more than a year now. I know that they go through a very extensive testing process with you. Is this something that can be expected within this fiscal year?

We cannot elaborate on the timing. But it should be sooner than that, it should be sooner than the end of --

Well, that's obviously exciting. They made a recent announcement related to Boston Power. Is that a completely different product than what you've been --

In my observation, that's a different kind of technology. It lasts for about eight hours, I think, in the news it said. So I would speculate that that would first go to the higher-end models, and I think in the foreseeable future the cylindrical products which we are supplying now to ASUS and other customers, we will survive for a long time before everyone gets an eight-hour battery.

I had a hunch that this was something you are still working on, and it sounds like it's very close, which obviously is great news. Does it require any additional ramp or expense on the part of the Company to meet those needs at this point? Is your capacity sufficient to fulfill the needs of a potential new OEM?

Yes.

Mark Tobin, Roth Capital Partners.

Hi, Tony. Happy new year!

Hi, happy new year. Sorry you lost your first spot this time.

That's okay. First question, on the guidance I was hoping you could get a little more granular by product line, one, to give me a sense of how it would break down as far as the new guidance goes; and then also, as far as the reduction, what segments drove the decrease.

Unfortunately, we did not put that in the earnings release, so for the fear of selective disclosure we cannot talk about that breakdown in this call. But for you and for everybody else on the call, we will be presenting at the Roth Capital Conference in February. And by that time I'll give the world an update on specific revenue projections on the line.

I guess, without getting into specific numbers, obviously, a 30% or so decrease in your revenue guidance -- what product lines primarily were responsible for that decrease? Is it mobile handset, is it --?

All lines are affected because this is the general market downturn, especially for our end customers, either based or selling to the US market. It's almost equally effective.

So about a 30% --

With the prismatic cells, the cell phone cells selling to customers in China being affected a little bit there.

On the OpEx reduction efforts you referred to a $1.5 million decrease, quarterly decrease going forward. What level is that coming off of? Is that this quarter's $9.8 million?

I want to make sure that we all understand it in the same way. The $1.5 million reduction is from previous quarter levels. For example, the September quarter of '08 had $5.2 million of G&A, and the reduction will be from that level. And it's not that from $5.2 million to $3.7 million, and then from $3.7 million to $2.2 million. It's compared to the previous quarter before this call. So, going forward, you should expect the situation, the G&A expense, to be roughly at the $3.7 million-$3.8 million range.

This past quarter, the December quarter was a little bit unusual because we had an unusually large bad debt expense, as I mentioned earlier. Taking that out, it's more like a 4-point something -- $4.8 million or $4.7 million G&A expense. And that is, of course, not as much as the $1.5 million reduction. But remember, we kicked those off in the middle of the quarter. So this December quarter had a partial reduction in (multiple speakers).

Okay, that makes sense. And moving on, you had talked about shutting down the steel case production line. Are we looking at any write-off of productive assets here in the near future, or are those fully depreciated?

This line is the oldest in the Company, and it's almost fully depreciated. And also, we are actively looking at opportunities to sell the equipment to other manufacturers. As long as it's not lower than book value, there won't be any additional expense coming from this production choice.

So as far as the equipment that you have on the balance sheet, it's all being utilized? There is not risk, at least at this point, of write-offs?

The amount is already very small.

And I guess moving on, same question for inventory. Obviously, a buildup on the mobile handset or the prismatic side. Is there concern about inventory write-offs within that basket?

We have inventory write-downs, but in small numbers, every quarter. And it's strictly on aging. Right now, we don't see any significant risk for that number to be much larger in later quarters.

And then circling back to guidance, again, I know you only addressed top line, can you give us some sense of the visibility that you have throughout the P&L, specifically gross margins? Do you expect those to be stable with this quarter's level or go significantly up or down from here?

It's hard to predict right now because it depends on total production, and also the amount of sales we can sell in a particular quarter. And we were in relatively full reutilization in the last two quarters. So gross margin was stable at about -- between 15% to 16%. But in coming quarters we are not sure how this crisis is playing out on the notebook computer manufacturers.

I guess, almost looking at it more as a product margin, can you comment on the pricing environment and the raw material environment? Both seem to be in much better shape than they were a year ago. I'm just curious your costs there.

Average selling price has started to come down at the end of the December quarter because of weakening demand. But also a positive trend is that the raw material cost is also coming down pretty fast. So I think both of these trends will continue into the later part of 2009, fiscal 2009.

The Tianjin facility -- can you comment on the activity there and if there was any contribution during the quarter from that plant?

There was no revenue from Tianjin in the quarter. We had some trial production, and we had sent samples to customers. So it's operating, and if you look at the recent press release on us, being accepted into the A-63 program, we will continue to have operations in Tianjin.

And the focus there is still vehicles, both LEDs and auto, or is there something more in the near term?

It's more like power cells for any application that it can fit in. So the first products are likely to be -- or, it has already been -- cells for electric bikes, bicycles.

Doug Ruth, Lenox Financial Partners.

We are still somewhat confused with what's going on with Hewlett-Packard. At the last conference call Henry told us that the Company was making good progress and that you were very close to being qualified. I mean, how much closer can you be without getting the contract?

Right now there are several things happening in the industry, and the most significant for us is the weakening demand. So, as a lot of the packers in Taiwan, inventory has built up. So I suspect that that affects certain OEMs' decisions on introducing new suppliers, parts suppliers, to their lineup. But there's no negative development on our certification front.

Is it possible that you're making a premature decision to adjust the guidance, if this fairly large contract is still pending?

As I mentioned in previous calls, the winning of a major OEM will be a good certification on our ability to supply quality product. But it will not bring -- it's not a large contract, as you said. At the beginning there will be relatively smaller orders. And also, these supplies, these cells will be going through the same packers to whichever OEM qualifies us. And, for example, if it's packer A, packer A used to order $5 million from us, $5 million of sales from us. It may be that at the beginning, only $500,000 worth of sales are going to the OEM you mentioned, and then the rest going to other Taiwanese (inaudible) makers. So the certification or the beginning of the supply to a major OEM does not significantly increase our revenue.

And the opposite side is also true, that if we still don't get an OEM customer, the revenue picture doesn't change much.

Okay, I understand that. Can you tell us, what is the average price of the cobalt at this point?

Okay, the most recent quarter was RMB337 yuan per kilo. So that's about --

What is that?

Less than $50 per kilo.

Isn't that trending higher from where it was before?

No; the September quarter was 402. So it's more than -- it's nearly 20% decline.

Okay, so that would be December 31, and then you need -- okay, so it's not that much time has passed, I guess. What was the CapEx for the December quarter?

What was the what?

The capital expenditures for the December quarter?

It was $19 million, most of which is related to setting up the line, the cylindrical line.

And where are the increased sales of cells coming from for the telephones? Which customer are those going to?

Equally, as far as -- going to the lead customers, such as Scott, the Chinese names that may not sound so familiar to you. Our top 10 customers in cell phone include all the -- something, and then T-O-N-G names in our filing, so you can look it up.

Okay. And the goal ultimately is to stop the steel cell production completely because we can make higher margins with the aluminum cells for the cell phones?

Yes, steel case cells was only a few million in the last several quarters. I think it was 3 million -- 3.6 million September quarter. The June quarter was the only one that had reached 10 million. And this most recent quarter, December quarter, is 3.1 million. So it's also an older technology. So it's a natural migration.

Okay. And then, you are giving a lower revenue guidance, but you also in the past had given us a gross margin guidance in the presentation. Can you give us any detail as far as what the gross margin might be for fiscal 2009?

Yes. We, as I said before to Mark Tobin, we are not ready to give our guidance for the rest of the year in gross margin because it's quite difficult to predict how long this financial crisis and then the recession will be playing out. Right now we are visiting our packers, our packer customers in Taiwan, every month. And they, in turn, get updates from their customers every month. So it will not be very clear until in a few months' time.

How is the Company's relationship with Foxconn coming along? Is that continuing to grow?

Yes. Foxconn did not represent a large percentage of our revenue before, and right now they are still not in the top 10 customers. But it's growing.

And what about ASUS? How is that looking?

ASUS -- ASUS is a NAND customer and they purchase cells -- well, the cells we sold to them are packed by a Taiwanese packer, CELXPERT. And CELXPERT was listed as our second-largest customer in the most recent quarter. But not all those cells go to one customer, as those cells.

What about what's happening with Simplo?

Simplo is our third-largest customer in the quarter, too. So they are also growing [status] (inaudible).

Could you just tell us what's the comment on SanDisk and how that relationship is going?

SanDisk is our only major customer in the polymer cells product. And this quarter the business that we got from them was lower. So that's the reason that our polymer cells revenue was also lower than last quarter, than the quarter before.

Tony, we'd like you to put out a press release when that Hewlett-Packard contract gets finalized.

Of course. We always see those as very significant developments.

Yes. And any large orders, if you could put out a press release, that would also be helpful.

Of course, of course.

Okay, well thank you and good luck and we're hoping for good news.

Rick Barron Accretive Capital partners.

What do you anticipate CapEx for this fiscal year being? It seems like the $19 million number for, I think you had mentioned the cylindrical lines, was unusually high. I know September you had started ramping up. What do you anticipate for the next three quarters?

It will be at lower levels. We basically have planned this well before the crisis hit. And now, looking at this market situation, we'll be very careful in coming quarters, in terms of expanding capacity or putting into more CapEx.

And over the longer-term, where would you expect a normalized gross margin to be? And I guess, that's really going to be a function of running at full capacity and --

I think it will be in the high teens and lower 20s when raw material prices stabilized and also production can be run on a relatively full scale.

And your operating expenses -- where would those, as a percentage of revenue on a normalized basis, be? I know that you'll be cutting out some expenses that will be reflected in this coming quarter, which is good news. And I was curious; I'm just trying to drill down to an operating margin level.

Well, right now, our operating expenses all added up is about 12% to 13% in the last several quarters. Actually, the September quarter was below 12%. And I think, when revenue is stabilized at higher than $70 million per quarter level, the percentages should eventually drop down to below 10%.

Okay, meaning that your operating income or your operating margin could be as much as 10% of revenues, if your operating expenses are less than 10%?

Yes, that's right.

And your gross margin is around [high teens]?

Around 20, yes.

Okay. Well, that would be -- those days, the sooner they can come, the better. And in the meantime, hopefully you can manage your financings that you don't find yourself caught in a pickle and having to raise equity capital in these markets, because that would not be a good thing, obviously. And I hope you can reduce your debt. And it sounds like the growth is there. And congrats on maintaining the level you did in this tough market. I know that doesn't come easily. Thanks. Look forward to the news on HP and others as they come out.

Okay.

Mark Tobin, Roth Capital Partners.

Just a quick follow-up on the guidance. What FX assumption are you using? Are you assuming flat exchange rates, currency exchange rates?

Yes, we are assuming roughly 6.8.

Okay, so if there's further appreciation, it would be upside from there?

Yes.

Okay, thank you.

Well, only upside on the RMB revenue from cell phone sales, because the cylindrical cells are priced in dollars.

There are no more questions at this time.

Okay, if there is no more questions I think we will conclude the call today. Thank everybody for calling in, and we look forward to meeting you in the next quarterly conference call.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect, and have a great day.