Hollysys Automation Technologies Ltd (HOLI) 2016 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Hollysys Automation Technologies fiscal year 2016 first quarter ended September 30, 2015 earnings conference call. At this time, all participants are in a listen only mode. There will be a presentation followed by question and answer session. (Operator instructions). Please be advised that this conference is being recorded today, November 12, 2015. I'd now like to hand the conference over to Mr Arden Xia, the Investor Relations of Hollysys Automation Technologies. Thank you, please go ahead Mr Xia.

Hello everyone and thank you for joining us. Today our speakers will be Mr Baiqing Shao, CEO of Hollysys Automation Technologies, Ms Herriet Qu, CFO of Hollysys and myself from the Investor Relations of Hollysys Automation. On today's call, Mr Shao will provide a general overview of our business, including some highlights of the quarter and Ms Qu will discuss some performance from our financial perspective and financial outlook for fiscal year, for the first quarter of fiscal year 2015 and the whole senior management will answer questions afterwards.

Before we get started I would like to remind everyone that this conference call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that are not historical facts, including statements relating to the expected growth of Hollysys' future product introductions, the mix of products in future periods and future operating results. Such forward-looking statements are based around the current beliefs and expectations of Hollysys Management, are subject to risks and uncertainties, which could cause actual results to differ from the forward-looking statements.

The following factors, among others, could cause actual results to differ from those set forth in this statement. Business conditions in China and in Southeast Asia, continuous compliance with government regulation, legislation or regulatory requirements, requirements or changes that adversely affect the businesses in which Hollysys is engaged.

Cessation or changes in government incentive programs prove potential trade barriers impacting international expansion, fluctuations in customer demand, management of rapid growth and transitions to new markets, intensity of competition from or introduction of new and superior products by other providers of automation and control system technology. Timing, approval and market acceptance of new product introductions, general economic conditions, geo-political events and regulatory changes as well as other relevant risks detailed in Hollysys' filing with the Securities and Exchange Commission.

The information set forth herein should be read in light of such risks. Hollysys does not assume any obligation to update information discussed in this conference call or in its filings. Please note that all amounts noted in this conference call will be in US dollars unless otherwise noted. I would now like to turn and represent Mr Shao to discuss some key events during this quarter.

In the industrial automation business, during this quarter, we continuously insisted in executing our strategies to maintain the gross margin by penetrating the high-end industrial automation market and providing more highly customized solutions such as power, chemical, food and beverage, pharmaceutical and environmental protection related industries, while offering diversified value software packages to end users for saving cost and improving their efficiency.

Additionally, we were focusing on reducing waste emission in the environment protection area, building a strong after-sales department and set long term goals on improving after-sale services while controlling the contracts qualities internally, which all contribute to keep our profits running in relatively healthy growth cycle. Even though in the short term we are under pressure giving the current weak external environment, we will still try our best to gradually recover and perform better in future.

Going forward, we will continue to expand our sales force and allocate more resources to factory automation, penetrate further into high-end market while increasing market share in pharmaceutical industry, expand our products supply such as software and turnkey solutions, leveraging our advanced technologies, experienced professionals, profound industry expertise and customization and innovation capability.

In railway transportation, we signed a contract to provide the ground-based high-speed rail signaling system and equipment to Chongqing-Wanzhou high-speed rail line. We also won the bidding to provide the ground-based high-speed rail signaling system and equipment to Xi'an-Chengdu high speed rail line, Xi'an-Jiangyou section, Sichuan Area. We are quite confident of steady rail revenue and backlog performance. As China is continuously investing large scale on building railways for the next five years, we will still benefit from the policy of the 13th five-year plan.

Furthermore, we also worked to expand our rail products such as track circuit and interlocking system. We have finished a one year testing of track circuit and got the official permit from authority to enter track circuit market which is another sizable market, with potential revenue contribution from track circuit in the coming years.

For the subway business, we recently won the bidding to provide supervisory control and data acquisition system, SCADA, to Kunming Subway Line 3, which shows our next step of penetration into second tier cities. We are also following both domestic and overseas opportunities in both SCADA and subway signaling projects. We will continue to deliver quality works and work closely with subway authorities in the future to promote our SCADA system and future subway signaling technologies both in China and abroad.

With China's tremendous rail and subway construction nationwide as well as the One Belt, One Road initiative, there is going to be an exciting prospect for Hollysys both domestically and abroad. As a well-organized rail signaling system provider, we are confident that with our strong R&D capability, leading technologies, solid execution and reliable products, Hollysys will continue to penetrate into China and the world's vast rail and subway market and achieve significant results.

In the mechanical and electrical solution segment, revenue declined for this quarter due to the projects delayed in particular areas and with the impact of seasonal lumpiness. However, we are still chasing some large new orders and hope this business sector could be performing better. In the long run, we achieved solid local market position, promoting directly sales with more offices and service centers expanding overseas and doing more EPC projects.

We are also setting up joint venture companies to develop our business, as well as cooperate with large enterprises, plus abundant customer resources and strong execution in Southeast Asia, the Middle East and expanding into India and other regions of the world. For the overseas industrial automation and rail transportation expansion, we are sending qualified and experienced engineers from China to overseas, and recruiting local engineers to expand our overseas team.

With our proprietary technologies and products, industry expertise and strong competitive advantages, we will continue to make exciting achievements in the international market in both industrial and rail transportation fields, and to create value for our shareholders. Now I will also represent CFO Ms Herriet Qu to read the financial results analysis.

I would like to share some highlights for the first quarter of fiscal year ending September 30, 2015. Comparing to the first quarter of the prior fiscal year, the total revenues for the period ended September 30 decreased from $140.7 million to $125.1 million, representing a decrease of 11.1%. In this quarter, the M&E revenue decreased to $15.6 million due to the unbalanced nature of project progress, however, we do not expect the trend to continue based on the current M&E backlog level and the potential contracts.

Broken down by the revenue types, integrated contract revenue decreased by 13.6% to $111 million. Product sales revenue increased by 28.9% to $11.4 million and services rendered decreased by 19.9% to $2.6 million. The Company's total revenues can also be presented in the following segment -- industrial automation $49 million, railway transportation $54 million, M&E $15.6 million, miscellaneous $5.7 million, total $125 million.

Overall gross margin excluding non-cash amortization of acquired intangibles was 39.3% for the first quarter, as compared to 39.6% for the prior year. The non-GAAP gross margin for integrated contracts, product sales and services rendered were 37.3%, 52.6% and 65.5% for the first quarter, as compared to 36.3%, 79.2% and 61.6% for the same period of the prior year respectively.

The gross margin fluctuation was mainly due to the different revenue mix with different margins. The GAAP overall gross margin which includes non-cash amortization of acquired intangibles was 39.1% for the first quarter, as compared to 38.2% for the prior year. The GAAP gross margin for integrated contracts, product sales, and services rendered were 37.1%, 52.6% and 65.5% for the first quarter, as compared to 34.8%, 79.2% and 61.6% for the prior year respectively.

Selling expenses were $6.6 million for the first quarter, representing a decrease of $0.2 million or 2.2% compared to $6.8 million for the same quarter of the prior year. Presented as a percentage of total revenues, selling expenses were 5.3% and 4.8% for the three months ended September 30, 2015 and 2014, respectively.

General and administrative expenses, excluding non-cash share-based compensation expenses, were $8.9 million for the first quarter, representing a decrease of $0.4 million, or 4.3%, as compared to $9.3 million for the same period of the prior year. Presented as a percentage of total revenues, non-GAAP G&A expenses were 7.1% and 6.6% for the quarters ended September 30, 2015 and 2014, respectively.

The GAAP G&A expenses, which include the non-cash share-based compensation expenses, were $9.8 million and $9.8 million for the three months ended September 30, 2015 and 2014, respectively.

Research and development expenses were $7.7 million for the first quarter, a decrease of $1.1 million or 12.2% compared to $8.8 million for the same quarter of the prior year. Presented as a percentage of total revenues, R&D expenses were 6.2% and the same percentage for the quarter ended September 30, 2015 and 2014, respectively.

The VAT refunds and government subsidies were $5.1 million for the first quarter, as compared to $6.4 million for the same period in the prior year, representing a $1.3 million or 19.8% decrease, which is primarily due to the decrease of the VAT refunds for $1.2 million.

The income tax expenses and the effective tax rate were $4.7 million and 12.9% for the first quarter, as compared to $7.4 million and 21.2% for the comparable prior year period. When excluding the impact of non-GAAP adjustments on the income before income tax, the effective tax rate would have been 14.1% for the current quarter and 21.2% for the comparable prior year period.

The variance was due to different income tax rates were applied for the two comparable quarters. During the first quarter of fiscal year 2015, Beijing Hollysys and Hangzhou Hollysys are in the process of applying their high tax certification which, once received, will permit the two companies to use a preferential income tax rate of 15% for calendar years ended December 31, 2014 to December 31, 2016.

The high tax certification was later received in the second quarter of fiscal year 2015. Hence, for the first quarter of fiscal year 2015, the Company applied the statutory tax rate of 25% to calculate the current and deferred tax for Beijing Hollysys and Hangzhou Hollysys, as opposite to 15% used in the first quarter of fiscal year 2016.

The non-GAAP net income attributable to Hollysys, which excludes non-cash share-based compensation expenses, amortization of acquired intangibles and acquisition-related consideration fair value adjustments was $27.3 million or $0.45 per diluted share based on 60.6 million shares outstanding for the first quarter. This represents a 0.5% increase over the $27.2 million or $0.46 per share based on 59.1 million shares outstanding reported in the comparable prior year period.

On a GAAP basis, net income attributable to Hollysys was $30.3 million or $0.50 per diluted share, representing an increase of 11.7% over the $27.1 million or $0.46 per diluted share reported in the comparable prior year period.

Integrated Contracts Backlog Highlights -- Hollysys' backlog for integrated contracts as of September 30, 2015 was $490.4 million, representing a decrease of 13.8% compared to $568.5 million as of June 30, 2015, and a decrease of 1.1% compared to $495.7 million as of September 30, 2014. The detailed breakdown of the backlog for integrated contracts by segments is shown below. Industrial automation $127 million, railway transportation $245 million, mechanical and electrical solutions $117 million, total $490 million.

For the three months ended September 30, 2015, the total net cash outflow was $17.4 million. The net cash provided by operating activities was $6.9 million. The net cash provided by investing activities was $1.6 million. The net cash used in financing activities was $15.6 million, the majority of which is used to repay short-term bank loans amounting to $16.5 million. Besides, the effect of foreign exchange rate changes was a cash outflow of $10.3 million, due to that the US Dollar appreciated rapidly against the currencies of the countries we operate in, in the first quarter of fiscal 2016.

The total amount of cash and cash equivalents and time deposits with original maturities over three months were $234.9 million, $257.5 million, and $191.1 million as of September 30, June 30, 2015 and September 30, 2014, respectively. As of September 30, 2015, the Company held $190.5 million in cash and cash equivalents and $44.4 million in time deposits with original maturities over three months.

For the three months ended September 30, 2015, days sales outstanding was 179 days, as compared with 176 days from the comparable prior year period and 176 days from last quarter and inventory turnover was 42 days, as compared to 41 days from the comparable prior year period and 43 days from last quarter.

Given the strong backlog currently ahead and sales pipeline envisaged so far, we reiterate our guidance for fiscal year 2015 with revenue in the range of $565 million to $600 million and non-GAAP net income in the range of $110 million and $120 million. At this time, we would like to open up for the QA session. Please note that for Chinese speaking participants, we can also do the QA in Mandarin and we will provide translation. (Spoken in Mandarin). Operator, please.

We will now begin the question and answer session. (Operator instructions). Your first question comes from the line of Kevin Liu from Morgan Stanley. Please go ahead.

Hi. Thanks for taking me to my question. I have two questions. The first question is about order backlog, as we can find industrial automations order backlog further decreased by 5% quarter on quarter to $127 million. Can we breakdown this backlog into DCS and PLC? If can -- if there's no detailed breakdown, can you let us know the last backlogs from pharmaceuticals and nuclear -- or maybe percentage is okay.

My second question is about the M&E segment, as we can find M&E's revenue declined by 61% year over year to only $15.6 million. Can you let us know the backlog by your three overseas subsidiaries, Bond, Concord and Hollysys International? Thank you very much.

(interpreted) The first question is about industrial automation and the microeconomic still -- growth rate still declines, is slow and also we need some difficulty in this area. But from -- the good thing is from new orders it's gradually getting better and we chart that it's just a temporary -- I mean, right now the backlog goes down and actually we have confidence to achieve the target.

The second about M&E, Malaysia -- that comes from Malaysia and that area right now, no matter on the political side or economic side, is relatively not stable. So it will affect the other potential opportunities. But we will gradually change the backlog to improve that and also to get some potential profits from that area. We will finally achieve the whole target of the guidance.

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In the CFO's supplement, the pharmaceutical, we want to emphasise that backlog right now, just to represent the integrated contracts, not including the product sales and service. For example, like pharmaceutical area, the product sale not in the backlog and also nuclear power.

Nuclear power right now, the revenue, comes from two main parts. One is from joint venture companies and the second is from the product sales that we sell to, for example, CGNPC or China Nuclear National Corporation. So this is the difference. Also, they mentioned about in the past the joint venture companies, from that side, the number is negative, but right now it turns to positive. Okay operator, next one.

Your next question comes from the line of Baiding Rong from Credit Suisse. Please go ahead.

(interpreted) The first question is about the ADP. Right now, their official website announced that we win the contract and what about that contract side and compared -- we've found it compared to, in the past, the market share of C3 is increasing. So what about the total amount may be increasing?

The second question is about Malaysia -- the fact that the target did not change. So -- but represent the first quarter revenue and we think we see it already goes down. So what about the next quarters? It will concentrate in the next quarters about the revenue side.

The third question is about revenue and the backlog. Right now in industrial automation, the revenue and backlog is going down and maybe the execution -- like the execution cycle and the revenue expansion will accelerate and also the product sale, not including in the backlog. So almost everything is going down. So what about trend in future? The last one is about dividend. What about dividend policy in future?

(interpreted) The first question answer that C3 is announced and that the good news right now this time we -- in the past few years we just provide A type trains for C3. But right now, this contract includes B and D types and it is a significant contract. But we are under discussions right now so we cannot disclose the size of the contract.

The second answer is about Malaysia M&E. The project is delayed and we will continue to try our best to accelerate the speed and also get new contract to support the M&E part in future.

(interpreted) About the backlog and also revenue, it's gradually turned down and we think in future it has got a shrinking status and for more turnover orders that some projects maybe will recognize revenue quickly, that part, the percentage of the -- in the whole structure of the backlog, right now it seems not -- it seems not too detailed to this cost and also it's not a big hard problem to make to turn the whole backlog and also we need a long time to make our relatively stable model in future.

So generally speaking, it all goes down in this status but now the wheel turns very fast, like times four contracts like that, it's really hard to give you data right now. Then that's why it's about the dividend. The dividend policy, we will consider to pay a dividend but right now we have no solid dividend policy.

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And the last question is about how to turn the right-now status that has a relationship about the new order and the revenue and backlog since a little gap inside and we in future will increase the -- like the upper sales strategy, also product sales and also the other things to gradually change the situation.

Okay operator, next question?

Your next question comes from the line of Patrick Xu from Nomura. Please go ahead.

(spoken in Mandarin).

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The first question is about PLC, how much percentage of the PLC in IA. The answer is right now we have no very accurate statistic, but it's relatively 10%. The second question is about (spoken in Mandarin).

(spoken in Mandarin).

Oh, how many of it have come from the other income. The other income since have very large fluctuations, without a trend in future. The answer is now that other income, because the sale value adjustment also have exchange rate change sharply, so that kind of affected the whole other income.

The third question is about the tax rate. If things like (spoken in Mandarin) and the answer is that the tax rate -- because last year, we applied for the high-tech certificate and also at the end of 2014, we got the certificate and before that, we just applied by 25% of income tax. This year, it all takes around 15% income tax and also beyond that is in addition, the withholding also of that -- the tax. So generally speaking, each year, each fiscal year, our effective tax rate should be 17% to 19%.

The last question is about the net income guidance and what about the non-GAAP and the GAAP differences, and the answer is about because the fair value adjustment can also --exchange rate. So it's very hard to give you the specific difference between them but I can tell you, it's similar. Okay. At this time, we'd like to open up -- sorry. Thank you everyone for joining us on the call today. If you haven't got the chance to read your questions, we will be pleased to answer them through follow up contacts.

We're looking forward to speaking with you again in the near future. Thank you.

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