China Yuchai International Ltd (CYD) 2020 Q2 法說會逐字稿

I would like now to turn the conference over to Kevin Theiss. Please go ahead, sir.

Thank you for joining us today, and welcome to China Yuchai International Limited's Second Quarter 2020 Conference Call and Webcast. Joining us today are Mr. Weng Ming Hoh; and Dr. Thomas Phung, President and Chief Financial Officer of CYI, respectively. In addition, we also have in attendance Mr. Kelvin Lai, VP of Operations of CYI.

Before we begin, I will remind all listeners that throughout this call, we may make statements that may contain forward-looking statements within the meaning of the Private Securities litigation Reform Act of 1995. The words believe, expect, anticipate, project, targets, optimistic, confident that, continue to, predict, intend, aim, will or similar expressions are intended to identify forward-looking statements. All statements other than statements of historical fact are statements that may make -- may be deemed forward-looking statements. These forward-looking statements include, but are not limited to, statements concerning the company's operations and financial performance and conditions and are based on current expectations, beliefs and assumptions, which are subject to change at any time.

The company cautions that these statements, by their nature, involve risks and uncertainties and actual results may materially -- may differ materially depending on a variety of important factors such as: government and stock exchange regulations; competition, political, economic and social conditions around the world and in China, including those discussed in the company Forms 20-Fs under the headings Risk Factors, Results of Operations and Business Overview; and in other reports filed with the Securities and Exchange Commission from time to time.

If the COVID-19 pandemic is not effectively controlled, our business operations and financial conditions may be materially and adversely affected due to a deteriorating market for automotive sales, and economic slowdown in China and abroad, and potential weakening of the financial condition of our customers, potential adverse impact to our suppliers and supply chain or other factors that we cannot foresee. All forward-looking statements are applicable only as of the date they are made, and the company specifically disclaims any obligation to maintain or update the forward-looking information, whether of the nature contained in the release made during today's call or otherwise in the future.

Mr. Hoh will provide a brief overview and summary, and then Dr. Phung will review the financial results for the second quarter ended June 30, 2020. Thereafter, we will conduct a question-and-answer session. For the purposes of today's call, the financial results for the second quarter ended June 30, 2020, are unaudited and it will be presented in RMB and U.S. dollars. All the financial information presented is reported using international financial reporting standards as issued by the International Accounting Standards Board.

Mr. Hoh, please begin your prepared remarks.

Thank you, Kevin. In the second quarter, China economy resumed growth as GDP increased by 3.2%, far below historical trends, but a strong rebound from the 6.8% economic contraction of the first quarter of 2020, which was severely impacted by the COVID-19 pandemic. The aftermath of the COVID-19 pandemic created major interruptions in the Chinese economy and automotive industries as it affected customers, suppliers, workers, distributors, service networks and other auto-related occupations.

The national and interprovincial travel restrictions negatively impacted many supply chains in the automotive industry. Following the reopening of the Chinese economy, the government enacted economic growth catalysts including higher fiscal spending, more approved infrastructure projects and lowering lending rates and bank reserve requirements. Manufacturing activity increased since May and china's export grew partially because China was among the first to ease lockdown action.

According to data reported by the China Association of Automobile Manufacturers, CAAM, in the second quarter of 2020, sales commercial vehicles, excluding gasoline-powered and electric-powered vehicles, increased by 50.5%. Truck sales increased by 56.1% with heavy -- heavy-duty truck sales up by 64.9%. Medium-duty truck sales rose by 32.5% and bus sales increased by 1.8%. Part of this growth was attributable to the pent-up demand from the first quarter of 2020, as much of the economy was essentially shut down with lockdowns and travel restrictions implemented to inhibit the spread of the COVID-19 infection.

Our operational and financial results during the second quarter reflected a rebound from the disruptions in the first quarter of 2020 due to the COVID-19 outbreak. Our total unit sales improved by 32% year-over-year. Our overall truck engines and bus engine unit sales grew by 23.3% in the second quarter 2020 with heavy-duty truck engine sales rising by 40.8% and medium-duty truck engines up by 53.3% year-over-year. Our gross engine sales increased an impressive 51.7% led by a 78.5% growth in the seasonal agriculture machinery market. As a result, our revenue increased by 34.7% to RMB 6.5 billion or USD 925.2 million.

The growing sales of our National VI engines in the Chinese heavy-duty truck engine market is directly related to the growing acceptance of our National VI natural gas engine products. We have already established a position as one of the leading suppliers of heavy-duty National VI engines to the truck and bus market in China.

Operating profit increased by 53.6% to RMB 448.7 million or USD 63.4 million, and basic and diluted earnings per share rose by 66.4% to RMB 5.99 or USD 0.85.

In the second quarter of 2020, the total R&D expenditure, including capitalized cost, was RMB 280.3 million or USD 39.6 million. And for the 6 months ended June 30, 2020, total R&D was RMB 402.7 million or USD 56.9 million. R&D represented 4.3% of net revenue in the second quarter of 2020 and 4% of net revenue from -- for the 6 months ended June 30, 2020. We continue to improve our National VI and Tier 4 technologies and production tactics as we are progressing on our product for the new energy market.

We see continuing national implementation of these more stringent National VI emission standards. Our portfolio of National VI-compliant engines, including products powered by natural gas, positions us well with our existing customers and attracts new ones as well. In 2019, we have established strategic partnership with Shaanxi Automobile Holding Company -- Holding Group, a leading producer of heavy-duty trucks in China and the Foton Motor Group, a market leader in the on-road vehicle segment. We also entered into a strategic -- new strategic partnership in the second quarter 2020 to become a strategic OEM supplier to Sany Truck part of the Sany Group Co., Ltd., which is China's leading machinery equipment maker and has a worldwide presence. This new partnership will further improve our market position in the future.

We have used newly developed engine technologies to build or modify engines for specific markets. During the 2020 first quarter, an advanced high-powered marine engine was introduced to penetrate the growing demand for vessels in the yacht market, yacht class. This segment has historically been dominated by imported engine models. Innovative technologies have increased the engine power and reduced dry -- engine dry weight of the YC6MJ marine engine to make it competitive with the imported engine.

During the first half of 2020, GYMCL announced that its YCA05175-S500 engine passed European Stage 5 emission state test and this Yuchai engine can now be marketed in the European Union for operation. We retained our financial strength despite the disruptions in sales and operations in the first half of 2020 with cash and bank balances of RMB 6.6 billion or USD 921.5 million at June 30, 2020, and we paid a cash dividend of USD 0.85 per share on July 31, 2020.

Similar to the rest of the world, China's economy still faces significant uncertainties. However, with China successfully reopening its economy and automobile industry already experienced a pronounced rebound beginning in April, we remain cautiously confident that Chinese economy is on the recovery path for the remainder of 2020.

With that, I will turn to Thomas to go over the financials.

Thank you, Weng Ming. Now let me review our second quarter results for 2020. Revenue for the second quarter of 2020 have increased by 34.7% to RMB 6.5 billion, USD 925.2 million, compared with RMB 4.9 billion in the second quarter of 2019. The total number of engines sold by GYMCL during the second quarter of 2020 was 145,278 units, an increase of 32.0% compared with 110,059 units in the second quarter of 2019. The increase was mainly due to higher engine sales to the truck market and off-road segment, particularly unit sales to both the heavy- and medium-duty trucks market, which more than offset an overall sales decline in the bus engine segment.

According to data reported by the China Association of Automobile, CAAM, excluding sales of gasoline-powered and electric-powered vehicle, in the second quarter of 2020, sales of bus increased slightly by 1.8%, while truck sales rose by 56.1%. According to CAAM, in the second quarter of 2020 commercial vehicle, excluding sales of gasoline-powered and electric-powered vehicles, increased by 50.5% compared to the second quarter of 2019.

While, GYMCL sales to the on-road commercial vehicle market increased by 23.3%. GYMCL unit sales to the off-road market increased by 51.7% compared with the second quarter of 2019.

Gross profit increased by 33.0% to RMB 948.1 million, USD 133.9 million compared with RMB 712.9 million. In the second quarter of 2019, gross margin was 14.5% compared with 14.7% in the second quarter of 2019. Other operating income was RMB 61.8 million, USD 8.7 million compared with RMB 98.8 million in the second quarter of 2019. The decrease was mainly due to lower government grant in the second quarter of 2020.

Research and development expenses -- sorry, research and development, R&D, expenses increased by 24.0% to RMB 137.0 million, USD 19.4 million compared with RMB 110.5 million in the second quarter of 2019. Higher R&D expenses in the second quarter of 2020 were mainly due to higher development costs for National VI and Tier 4 engine on testing and experimental costs.

In the second quarter of 2020, the R&D capitalization amount was RMB 143.3 million, USD 20.2 million. The company continued to further development its new National VI and Tier 4 engine for the on- and off-road market, respectively. In the second quarter of 2020 the total R&D expenditures, including capitalized cost, was RMB 280.3 million, USD 39.6 million, and it represents 4.3% of revenue compared with 30 -- 3.6% in the second quarter of 2019.

Selling, general, administrative, SG&A, expenses increased by 3.7% to RMB 424.1 million, USD 59.9 million from RMB 408.9 million in the second quarter of 2019. The increase primarily result from higher warranty expenses and outward freight expenses in the second quarter of 2020. SG&A expenses represent 6.5% of revenue compared with 8.4% in the second quarter of 2019.

Operating profit increased by 53.6% to RMB 448.7 million, USD 63.4 million from RMB 292.2 million in the second quarter of 2019. The operating margin was 6.9% compared with 6.0% in the second quarter of 2019. Finance costs decreased by 74% to RMB 26.7 million, USD 3.8 million, from RMB 32.4 million in the second quarter of 2019. Lower finance costs was mainly a result from reduced bill discounting amount compared with the second quarter of 2019.

Net profit attributable to China Yuchai shareholder increased 66.4% to RMB 244.7 million, USD 34.6 million compared with 147.0 million in the second quarter of 2019. Basic and diluted earnings per share rose 66.4% to RMB 5.99, USD 0.85, compared with RMB 3.60 in the second quarter of 2019. Basic and diluted earnings per share in the second quarter of 2020 and 2019 were based on a weighted average of 40,858,290 share.

Now I'll go over the first 6 months result of 2020. Revenue was RMB 10.0 billion, USD 1.4 billion, compared with RMB 9.0 billion in the same period last year. Total number of engines sold by GYMCL in the first half of 2020 was 213,182 units compared with 211,359 units in the same period last year. The increase was mainly due to higher engine sales in the heavy-duty trucks and off-road segment, particularly agriculture engine, which more than offset the sales decline in the bus segment.

Gross profit was RMB 1.5 billion, USD 208.8 million, compared with RMB 1.5 billion in the same period last year. Gross margin decreased to 14.8% compared with 16.3% a year ago. The decline in gross margin was mainly attributable to product mix. Other operating income declined 26.0% to RMB 105.7 million, USD 14.9 million, compared with RMB 142.8 million in the same period last year. The decrease was mainly due to lower government grant compared with the same period last year.

R&D expenses increased by 16.8% to RMB 1 -- 213.0 million, USD 30.1 million compared with RMB 182.4 million in the same period last year. Higher R&D in the first half of 2020 was mainly due to higher development costs for National VI and Tier 4 engine on testing and experimental costs. In the first half of 2020, the R&D capitalization amount was RMB 189.7 million, USD 26.8 million. The company continue with the initiative to develop new engine comply with China next emission standard, National VI and Tier 4, and to improve engine performance and quality.

In the first half of 2020, the total R&D expenditure, including capitalized cost, was RMB 402.7 million, USD 56.9 million, representing 4% of the revenue compared with 3.3% in the same period last year. SG&A expenses decreased by 3.5% to RMB 757.4 million, USD 107.0 million, from RMB 785.1 million in the same period last year. The decrease was mainly due to lower warranty expenses and reduced outward freight costs, particularly in the first quarter of 2020 compared with the same period last year.

SG&A expenses represent 7.6% of revenue for this first half of 2020 compared with 8.7% in the same period last year.

Operating profit decreased by 5.6% to RMB 60 -- 613.2 million, USD 86.6 million, from RMB 649.4 million in the same period last year. The operating margin was 6.2% compared with 7.2% in the same period last year. Finance cost increased to RMB 63.2 million, USD 8.9 million, from RMB 57.6 million in the same period last year, the increase of approximately RMB 5.5 million. Higher finance costs mainly result from an increase in borrowing compared with the same period last year.

Net profit attributed to China Yuchai shareholder was RMB 305.7 million. USD 43.2 million, compared with RMB 345.0 million in the same period last year. Basic and diluted earnings per share was RMB 7.48, USD 1.06, compared with RMB 8.44 in the same period last year. Basic and diluted earnings per share for the first 6 months of 2020 and 2019 was based on a weighted average of 40,858,290 shares.

Now let me walk you through our balance sheet highlight as of June 30. Cash and bank balance were RMB 6.6 billion, USD 931.5 million compared with RMB 6.4 billion at the end of 2019. Trade and bill receivable were RMB 9.2 billion, USD 1.3 billion, compared with RMB 7.8 billion at the end of 2019.

Inventory were RMB 4.0 billion, USD 565.0 million, compared with RMB 2.8 billion at end of 2019. Trade and bill payable were RMB 7.9 billion, USD 1.1 billion, compared with RMB 6.2 billion at the end of 2019. Long-term and short-term bank borrowing were RMB 2.7 billion, USD 377.4 million, compared with RMB 2.1 billion at end of 2019.

Now I'll turn the call over to Kevin for the comments before we begin our Q&A.

Thank you, Thomas. Please note that due to the COVID-19, the officers of China Yuchai are remotely calling into the conference call. This may result in a slight delay in providing answers to some questions. We apologize for any inconvenience, and thank you for your patience. With that, operator, we're ready for the Q&A session.

(Operator Instructions) And your first question comes from the line of William Gregozeski from Greenridge.

It seems that William disconnected his line or canceled his question. So your next question comes from the line of Don Espey from Shah Capital.

Nice quarter. A few questions here. Please provide more color on GYMCL's EV powertrain, both current sales and future prospects, and fuel cell development program.

Okay. We launched the NEV, what we call products last year. The products are still in development stage, except for the range extender. So the range extender, we got so very few, about 17 sets. The amount in term dollar value is quite -- and it's not material. So -- and then as far as the fuel cell is concerned, we are still in development stage. We have got that out 1 prototype, which 35-kilowatt fuel cell. And then we are working with one of our OEM partners to have that install in their vehicle, okay.

Okay. GYMCL was #3 in market share in National VI HD truck engine market in the first half of 2020. How long before you see this metric improving to #2?

That's a good question. We'll do our best. As you know, the -- this industry in China is a highly competitive industry, right, and there are many players in there. So I think you have to wait and see. I can't -- I'm sorry, I can't give you a definite answer or even any indications of that.

Okay. Switching gears. Does the current U.S. administration's accounting and audit proposal affects CYD, assuming the company does not move its main listing to China or Hong Kong?

Well we are still -- we are monitoring this development in China -- in U.S. very closely. So we will update our investors as and when there's further development. And as and when we have, we call further thoughts on it, which will -- which release where we believe that it's appropriate to share with our shareholders, we will do so then.

As it is, all we can do is wait out the U.S. situation right now and monitor the events closely.

Okay. As a long-term shareholder, we're curious why Weichai and Cummins have so massively outperformed CYD over the last 1, 3, 5 and 10 years. We'd like to hear your view on this dynamic and maybe how you plan on changing this?

Well, I mean, each has its own, right? I mean the -- if you know, Don, Cummins is a huge -- it's a multinational with has global presence. Weichai, they are very strong in certain segments, and they have -- they also have their OEM plants as well. We are -- we operate a bit differently from both of them.

In our case, we have a very broad range of products that we sell. And we -- our sales are mostly from the domestic market in China. Although we will, of course, explore export market, which we have done a bit in the last couple of years. This year, we are affected by the COVID-19 pandemic. So going forward, I think we -- our strategy will still be the same. We will, of course, move on to explore more export market, which is a big market out there.

And have a better product than we currently develop in -- with our National VI and our -- and in fact, right now, our net service associate service network is still very -- it is a huge advantage to us right now still in servicing our end users right now in China. So we will do what we can to maintain or to compete with our customers in both domestic market as well as in the international markets.

(Operator Instructions) And your next question comes from the line of William Gregozeski from Greenridge.

Great quarter. Just kind of going off Don's last thing about the export. Are you guys seeing, I mean, much demand COVID-19 or not-COVID-19 environment on the export side? And is there any -- are you guys having any issues with your supply chain?

Okay. Now we have no issue with the supply chain, but I think the export market has been affected by COVID-19 as I mentioned earlier. So we actually saw a decline -- a drop in our export sales. For this year so far.

Okay. Can you quantify about what percent of your sales are export?

Now it's dropped to perhaps about less than 10% -- about 10% or less than 10%.

Okay. And where do you think that was about a year -- same period last year?

Last year, it's about 12% to 14%.

Okay. On the margin side, it looks like gross margins were down quite a bit. How do you see that trending for the remainder of the year?

Okay. I think this one, if you look at the second quarter, it's basically similar to last year's second quarter. So it's largely due to product mix. And also, I think with the National VI that we're starting to sell initially, the National VI engines that we're starting to sell, as the -- if and when the unit of National VI sales goes -- go up, we will see an improvement in the gross margin when you get the -- what we call economy of scale.

And also we are now working hard to bring down the cost of the new products to a level where we have now for those produce -- products that have already matured. So we hope to see that in the next half of this year and hopefully next year, some improvements.

Okay, so do you think getting to around 18% next year is still feasible?

Yes, we're working towards that. I don't think we'll be too far away okay.

Okay. And then last question was, obviously, sales have been very strong since the kind of the restart in China. How are you seeing that trending the rest of the year?

We -- I believe the -- that for the rest of the year, you -- it will be better for us compared to the similar period last year. We are actually seeing quite a good numbers coming in for the month of July for ourselves, okay?

So we think the second half, although it will be slower than last -- the first half, which is normal in our business, is seasonally lower, but we believe we will be better than the previous year's second half.

(Operator Instructions)

Okay. There's a question here from the webcast. Can you please give us more color on the Sany strategic partnership? Any guidance on the number of incremental units this will bring? The strong second Q 2020 results benefited from the Sany partnership.

Now the Sany partnership is a very new partnership. No sales that -- we have not had any sales from them and not much sales from them yet. So I'm sorry, I can't give any guidance. But going forward, we expect it to improve maybe in the next year or so, okay?

And your question comes from the line of David Raso from Evercore.

Yes. I'm sorry. It's hard to hear you? Can you hear me?

Yes. Yes, perfectly, David.

And I apologize, I was on another call, so I might be asking a question that was already asked. Can you give us a little bit of a time line of the NS VI rollout and some sense of the price points of the NS VI product versus the existing product?

The rollout, I think the gas engine for National VI was implemented in the middle of last year. In the middle of this year, the government vehicles have to be all National VI and will be fully implemented by middle of next year, okay?

So in terms of price point, we are having a higher unit selling price for National VI, somewhere in the region of maybe over 10% so far we are seeing. So it's still -- a lot of it is still under negotiations with our customers right now. Sorry, I can't give you more specifics than that.

And given in the past -- In the past, some of the deadlines sort of get moved around, especially in some of this -- the non-major cities. But at this stage, you're not seeing any change in the application of the deadlines is what I'm hearing.

No, no. Yes, not financial. Not that we are very...

Okay. So -- and when do you think the majority of the trucks will have NS VI for your sales? Do we need to get to end of '21, middle of '21?

I think by the middle of '21, you should -- we should be. The new sales structure should be mostly National VI, especially for heavy- and medium-duty trucks.

And given the 10% higher price point, would you argue, even at the initial ramp up, the transition that the margins are higher for those engines for you than the existing?

Or does it take a little while, the typical higher-warranty expense on a new engine, does the margin help not show up until, say, 2022? Just for a sense of mix modeling.

Okay. You're right. Right now, we are not seeing -- we are not having -- the margin is not as we had hoped for and it's not as good as the national price margin. A lot of -- there's still a lot of work that needs to be done to improve on our cost base.

So going -- for the rest of this year, we had -- second half of this year, we'll start to see improvement. And then I would say, it would take until 2021, maybe even 2022, to reach the level of the margin that we hope to achieve.

(Operator Instructions) We have a follow-up question. It comes from the line of David Raso from Evercore.

And again, I apologize if this was asked earlier. Given the strength you're seeing on-highway and obviously even off-highway, what are your thoughts about next year? I know it's early, but obviously, the strength this year has been fairly dramatic.

So folks do get a bit nervous about the tough comparison '21 versus '20. Anything you're seeing in your order books off- or on-highway to at least set some baseline for how we should think about '21 on- and off-highway?

Yes. We do not have much visibility on our order book for 2021, but for this year, I think there are a few factors that we should -- we can talk about. One is that because of the COVID-19, in the -- especially in the first quarter where China had a kind of bad quarter, there was a pent-up demand to speak for these -- for the business, right? So that's why the second quarter turned out to be very strong for us.

And in addition to that, to stimulate the economy, the government came out with a few measures, which also helped in our case. So some of these measures will continue into the next quarter and hopefully, for the rest of the year as well. So this year, we believe it will be better than last year overall.

But going to next year, we -- if we had a good year this year, then it's going to be very difficult to expect the same kind of growth or even same kind of performance sequentially to next year. So in this -- I'm sorry, David, I can't give you any more specific answer, but it's really very hard to actually have visibility right now. I don't have too much visibility right now.

Yes. And no, I appreciate that. I mean, I'm just trying to figure if I'm modeling it down 10% to 15% off of a tough comp. Is that just some sense of -- no one's expecting the same kind of growth, obviously. I think most people are figuring it's got to be flat to down unless there's new levels of stimulus specific, but people just get nervous when they see how high it is.

Could it drop 30%? And would just wanted to give you a chance to level set people a little bit on how to think about it. But it just feels like your order book doesn't have enough visibility or there's enough conversations with the customers to really know at this stage. Is that fair?

Yes, it's really early for it right now, yes, this year. And then next year, we still have the other -- the issue of the NS VI implementation nationwide as well. So that's the other factor that's going to come to play.

(Operator Instructions) We have now reached the end of our Q&A session, and I will turn the call back over to Mr. Hoh.

Thank you very much for joining us in the conference call. We wish you, each of you, good health, and please be safe during this crisis. We look forward to speaking with you again. Goodbye.

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