Gushan Environmental Energy Limited, Q4 2008 Earnings Call Transcript

Gushan Environmental Energy Limited (GU)

Q4 2008 Earnings Call

March 05, 2009, 8:30 am ET

Executives

Wilson Kwong - President

Analysts

Joseph Gomes - Oppenheimer & Company

Elian Quey - Piper Jaffray

JinMing Liu - Ardour Capital Investments

Tom Bishop - BI Research

Scott Thomas - Neuberger Berman

Presentation

Operator

Good morning and thank you for joining the Fourth Quarter and Fiscal Year 2008 Earnings Conference Call of Gushan Environmental Energy. At this time all participants are in a listen-only mode. After the call we will conduct a question-and-answer session. Today's conference is being recorded.

I would now like to turn the call over to Mr. Wilson Kwong, President of Gushan Environmental Energy, please proceed.

Wilson Kwong

Good morning ladies and gentlemen. Welcome to Gushan's fourth quarter and full year 2008 earnings call. Joining me on the call is Frank Chan, Principal Financial Officer of Gushan. Please note that today's discussion may contain forward-looking statements made under the Safe Harbor provisions of US Federal Securities Laws and please see today's press release, under the section Safe Harbor Statement for a discussion of risks and uncertainties that may affect our results.

Before opening the call to questions, I would like to briefly review some of the highlights of our fourth quarter and full year results.

Clearly the fourth quarter of 2008 was a challenging operating environment for companies across, virtually all sectors. Gushan was not immune to the impact of the global economic slowdown, the continuing financial crisis and the rapid decline in the world oil prices.

Nevertheless total revenues for the quarter rose 16% year-over-year to $46.2 million mainly as a result of higher biodiesel sales volume. On a sequential quarterly basis revenues were down 29.7% in the fourth quarter from the third quarter, due to lower average selling prices and lower production during the quarter.

For the full year total revenues rose 48.4% to $219.2 million. Sales volume of biodiesel in the fourth quarter of '08 was up 21.4% year-over-year, but down 11.9% quarter-on-quarter, to just over 56,000 tons or approximately 16.8 million gallons. This reflects both the capacity expansion added during the year and temporary suspension of production at three facilities for maintenance and repair.

For full year the sales volume of biodiesel increased 26.5% to just over 231,000 tons or approximately 69 million gallons. The full year growth in sales volume came from production capacity added to the Sichuan plant in Q4 '07 and new plant and Beijing and Shanghai which came on stream in January '08 and in June '08 respectively.

That increased production capacity was partly offset by temporary shutdowns of plants in Sichuan following the earthquake in May, in Beijing during the Olympics in August and September. And in Fujian, Sichuan and Hebei for a couple of weeks each, to undertake repairs and maintenance during quarter four.

Gushan's total annual production capacity at the end of 2008 was 290,000 tons or approximately 87 million gallons and that is up from 190,000 tons, approximately 57 million gallons which was at the end of 2007.

Now during the fourth quarter of 2008 we saw a dramatic decline in world oil prices which was reflected in our selling prices. The average selling price of our biodiesel in the fourth quarter was flat year-over-year but down 19.7 from the third quarter.

For the full year our average selling price of biodiesel rose 24.4% basically selling prices rose significantly. During the first three quarters of the year as a result of official increases to the diesel guidance price in November '07 and in June '08 as well as ongoing shortages of diesel in China, and the fact that from 2008 we also began selling certain of our biodiesel products to chemical companies at higher selling prices than those prices prevailing into diesel market.

Diesel prices in China plunged during the fourth quarter of '08 as world oil prices dropped and China's economy slowed. Within this volatile environment our cost of revenues in quarter four of '08 rose 62.6% year-over-year but dropped 12.5% quarter-on-quarter to $36.5 million. The average unit cost for our raw material feedstock was RMB 2,704 per ton in Q4 '08 which was up 36.4% from RMB 1,982 per ton in Q$ '07 and down 0.9% from RMB 2,729 in Q3 '08.

For the year as a whole the average unit cost of feedstock increased 31.9% to RMB 2,538 per ton and that is up from RMB 1,925 per ton in 2007. As you can see although we were able to negotiate some price reduction with our suppliers in Q4 '08 certain prices dropped faster than the cost of our raw materials.

As a result, our gross profit margin in the fourth quarter, declined to 20.9%, and which was down from 36.4% in the third quarter of '08 and 43.5% in the year ago quarter. Our full year gross profit margin was 35.6%, down from 43.6% in 2007.

Operating income for the quarter dropped 67.9% year-over-year and 76.4% quarter-on-quarter to $4.7 million. For the full year, operating income increased 10.2% to $61.9 million.

We reported a net loss of $5.5 million for the quarter of '08, largely as a result of a foreign currency exchange loss of $8.2 million, because of depreciation in the company New Zealand dollar and euro foreign currency holdings stemming from the volatility in global financial markets.

All cash deposits in New Zealand dollars and euros were converted to US dollars in October, 2008. And those foreign currency losses have now been fully recognized in the company's income statement.

The company does not currently hold, and does not plan to hold any cash balances in currencies other than RMB, Hong Kong dollars or US dollars for the foreseeable future.

For the full year, net income rose 16.8% to $39.4 million, basic and diluted earnings per ADS were 0.471 for the full year of 2008. The board has declared a cash dividend of 0.16 RMB per ordinary share, or 0.32 RMB per ADS for 2008 with payment expected to be made on or before May 30, 2009.

Now our financial position remains strong with cash on hand of $141 million and no bank borrowing as of the end of 2008. Despite the more challenging short-term environment, Gushan has continued to move forward with previously announced expansion plan.

Additional biodiesel capacity of 50,000 tons or approximately 15 million gallon at our Beijing plant is expected to commence production this month. As a result of construction delays, our new plant in Chongqing and Hunan each with biodiesel production capacity of 30,000 tons that is 9 million gallon are now expected to begin production during the second quarter of this year.

We expect these moves to raise our annual biodiesel production capacity to 400,000 tons that is approximately 90 million gallon. Capacity expansion at our Shanghai plant is expected to add another 50,000 tons that is approximately 50 million gallon of biodiesel capacity during the third quarter of this year, raising our total annual production capacity to 450,000 tons that is approximately 135 million gallons by the end of 2009.

Now let me put these results in context and talk about our outlook going forward. Obviously, beginning with the fourth quarter of last year, we began facing a much more challenging operating environment.

Clearly, our biggest concern is the deterioration in our margins. While we are having some success in negotiating lower prices with our feedstock suppliers, diesel prices have been dropping faster than our feedstock prices.

We are seeing a continuation of that trend in the current quarter. And as a result, we will see some further deterioration in margins before things improve. To diversify our raw material resources to increase our buying power and reduce cost in the medium and long-term, we are moving ahead with plans to use alternative feedstock.

During the fourth quarter of 2008, we began sourcing and using inedible oils such as jatropha oil at our Sichuan plant. The board has approved the construction of a second plant in Sichuan near the existing one. This new plant, which will be dedicated to the use of inedible oil and feedstock, we will have annual biodiesel of capacity of 50,000 tons and is expected to commence production during the first half of 2010.

Despite these challenges, I will like to highlight the following point. Firstly, even with the current low oil prices Gushan unlike most biodiesel producers around the world, to the best of our knowledge, remains profitable on an operating basis.

Secondly, although there has been a slowdown in demand for diesel in China, as the economy slows, we continue to be able to sell all of the biodiesel that we produce. And thirdly, we believe that our financial position is strong and that we are well-positioned to seek out further growth opportunities as in when the current global economic slowdown and financial prices eases.

While it has been and remains our policy not to provide earnings guidance, we have in the past provided an outlook on our expected annual production. Although we have updated you on our capacity expansion plan given the still uncertain economic situation and outlook and the lack of visibility on energy prices we will not provide an outlook on our estimated full year biodiesel production at this time.

As and when the global economic situation stabilizes we anticipate providing update as appropriate in the future.

At this time, we will be pleased to answer any questions you may have, and I will now turn the call back to the operator to begin the Q&A session. Thank you.

Question-and-Answer Session

Operator

(Operator Instructions) And your first question will come from the line of Joe Gomes with Oppenheimer. Please proceed.

Joseph Gomes - Oppenheimer & Company

Hello, can you hear me?

Wilson Kwong

Hi, hi, Joe.

Joseph Gomes - Oppenheimer & Company

How are you this morning?

Wilson Kwong

Very well.

Joseph Gomes - Oppenheimer & Company

Hey, on the feedstock costs, I was looking at one of your competitors was saying that costs for waste cooking oil has dropped by 50% over the past, so far in 2009. It seems like you guys are having less success in getting these prices down. I was wondering if you might be able to trying to give us some little more color detail, why their prices seemed to be coming down on the feedstock cost so much faster?

Wilson Kwong

Obviously I can not comment on other people business, but obviously from our point of view our costs are coming down but what I would regard as slower pace and we are still able to reduce the costs. The only problem we have is that the costs of our raw materials are basically collection costs which as you know it will be difficult to reduce such collection costs as there is labor element and transportation element to that.

Joseph Gomes - Oppenheimer & Company

Have you guys ever thought about possibly eliminating the middle man and maybe collecting the stuff on your own and removing at least some of the cost there?

Wilson Kwong

Yes, we actually, we have approached the Fujian Government and also the Beijing Government but these are to let us handle the collection process. Such efforts are sort of the preliminary nature, we are still pursuing that. So, if we are successful in that obviously that will eliminate the middle man.

Joseph Gomes - Oppenheimer & Company

Do you have any timing on that when that advance you might have a --

Wilson Kwong

Unfortunately at the moment we do not because as you know negotiating with the government and some times takes a long time. I think particularly now when a lot of focus of government is actually on how to spend money in terms of stimulating the economy and we are hoping on the environment but we will still have to queue up and try our best to push that forward.

Joseph Gomes - Oppenheimer & Company

Right. What's the current selling price for biodiesel today?

Wilson Kwong

Our biodiesel we are selling at around RMB 4,000 per ton.

Joseph Gomes - Oppenheimer & Company

And can you give us any kind of details to what the impact of the plant shutdowns had?

Wilson Kwong

In terms of?

Joseph Gomes - Oppenheimer & Company

In terms of volumes, reduced volumes?

Wilson Kwong

You mean in the fourth quarter?

Joseph Gomes - Oppenheimer & Company

Right.

Wilson Kwong

Yeah, I think all in all, very roughly each of plants had a few weeks of shutdown which is around I think on an average two to three weeks something like that.

Joseph Gomes - Oppenheimer & Company

Okay, great. I will get back in queue. Thanks, Wilson.

Wilson Kwong

Okay. Thank you.

Operator

And our next question will come from the line of Elian Quey with Piper Jaffray. Please proceed.

Elian Quey - Piper Jaffray

Hi, Wilson. I was wondering if you could update us a little bit on the CapEx expenditures that you had in 2008 as well as what do you expect in '09, and if you have any adjustments to that based on the current outlook?

Wilson Kwong

Yeah, our CapEx was just under RMB 700 million for '08 for the CapEx, for '09 obviously we have made amendments to our previous plan of including 200,000 tons in the course of '09. So our CapEx for or rather CapEx budget for '09 will be reduced now to roughly around $400 million and that is assuming that we will go forward with the plans that we have just announced for '09.

Elian Quey - Piper Jaffray

And you have sufficient cash flow from operations in '09 as well?

Wilson Kwong

Yes definitely if you look at our cash position as of the end of '08 we have roughly RMB 960 million of cash. So we have sufficient cash to at least even for this plan to move forward.

Elian Quey - Piper Jaffray

Okay great and just looking forward on the ASPs of the feedstock costs do you expect to sort of stay around the levels that they are in Q1 or do you expect further declines or any kind of restructuring?

Wilson Kwong

We expect they will go down further but not to significantly. We are putting a lot of efforts to try and reduce that and that is cost is actually coming down.

Elian Quey - Piper Jaffray

On both ASPs and feedstock costs or just ASPs --

Wilson Kwong

No feedstock costs I think ASP will very much depend on how the world oil prices play out and also the demand and supply situation of diesel in China itself which is related to how the economy is going and I think we have probably seen the most substantial drop in our selling prices that has actually, already happened in Q4. And which sort of continued in a way into Q1 as well but from now on unless oil prices drop again dramatically. We do not really expect to see any substantial drop in our ASP from now onwards.

Elian Quey - Piper Jaffray

Okay great I will get back in the queue thank you very much Wilson.

Wilson Kwong

Fine thank you

Operator

And our next question will come from the line of JinMing Liu with Ardour Capital. Please proceed.

JinMing Liu - Ardour Capital Investments

Hi Wilson how are you doing?

Wilson Kwong

Hey hi JinMing how are you?

JinMing Liu - Ardour Capital Investments

Good, my first question is can you tell me how good your relationship are with your suppliers, it looks like they are refusing to lower the price of their feedstock, as far as I know vegetable oil price is dropping a lot and the excess labor in China right now?

Wilson Kwong

We believe we have very good relationship with our suppliers. Some of the major suppliers we are a very large buyer, so to speak. And we are having as mentioned we are having some success in reducing the oil cost. And that would continue in the first quarter as well and I think as I mentioned the problem is also a timing problem as well certainly the cost will not go down immediately.

And so it would take some time to do that and of course it is also not easy to reduce such costs substantially because these are collection costs, okay.

JinMing Liu - Ardour Capital Investments

Should we expect the feedstock costs to gradually go down each quarter for '09?

Wilson Kwong

I would say at least as we can see it for the first quarter there should be some further reduction. We hope to be able to make further reductions in the following quarters as well and I think another factor that we are now sourcing alternative feedstock and hopefully we can put more pressure on our existing suppliers to reduce the cost further.

JinMing Liu - Ardour Capital Investments

In terms of that can you give me some color on what kind of costs for you alternative feedstock like the jatropha oil?

Wilson Kwong

Yeah currently if we compare like-to-like in terms of how much oil can you get out of certain crops, the cost of the current jatropha oil that we are using is roughly the same as the cost of other waste materials. We also see that cost potentially go down as we go through the year and into '10 as more of these become available.

JinMing Liu - Ardour Capital Investments

Have any other supply contracts with for jatropha oil?

Wilson Kwong

Because we are sourcing in small quantity, we have contracts with these oils as I said in small quantity currently we are only sourcing around 10% of the Sichuan capacity in diesel oil.

JinMing Liu - Ardour Capital Investments

Okay thanks

Wilson Kwong

Okay.

Operator

And our next question will come from the line of Tom Bishop with BI Research. Please proceed.

Tom Bishop - BI Research

Hi, that's BI Research.

Wilson Kwong

Hi, Tom.

Tom Bishop - BI Research

How are you doing?

Wilson Kwong

Good, very good.

Tom Bishop - BI Research

In inedible oil, what is it sold for now, and where does it come from? You can just give us a little bit more background on that, the inedible?

Wilson Kwong

Yeah. In the past, I would say, starting two years ago cost factor jatropha and castor bean were been grown, we mentioned in the release south and western part of China and that include Sichuan province, Yunnan, Guangxi and Guizhou these sort of provinces. And we have been monitoring this for some time, and we believe that more is going to come out, particularly as we go through the year and also into '010. and that's why we have this plan.

Tom Bishop - BI Research

Is it being grown for this exact purpose, and I mean why are they growing here right?

Wilson Kwong

They are growing. They are being grown with this purpose, because I think earlier over the last year, the Chinese government actually announced or approved certain projects by the big oil companies to make biodiesel using inedible oil, because in China as you know, one cannot use edible oil to make biodiesel, and therefore you can only use inedible oil or waste oil.

Tom Bishop - BI Research

All right, okay. Well, that's better policy than we have in our country. You said biodiesel you are getting 4,000 RBM per ton right now?

Wilson Kwong

Yes.

Tom Bishop - BI Research

And what does that relate to in dollars a gallon? So are you guys doing the math?

Wilson Kwong

$1.95, just under $2.

Tom Bishop - BI Research

Okay. Is that what you are getting for it, not what biodiesel is going for as a pump?

Wilson Kwong

We are selling at, in fact this is a price, which is very close to the diesel selling price in China.

Tom Bishop - BI Research

Okay. What oil price would result in? Well, breakeven operation where you have to shut our plants have you or close them down for a while?

Wilson Kwong

It is also a function of how much we can continue to reduce our cost. We are currently making margin in the teens, for example. And gross margin percentage, and net margin and in sort of single-digit type of net margin and you can roughly workout, so that's a sort of the dynamics that we are operating in.

Tom Bishop - BI Research

Okay. But with regard to the operating margin, what is it below there that takes you from positive operating margin to a loss, because we don't have any interest expense what am I thinking about?

Wilson Kwong

Tax.

Tom Bishop - BI Research

That would only be.

Wilson Kwong

We have profit obviously. We have to pay tax and also corporate overhead.

Tom Bishop - BI Research

Corporate overhead is not in your operating margin?

Wilson Kwong

No.

Tom Bishop - BI Research

So for you operating margin is before corporate overhead?

Wilson Kwong

Yes.

Tom Bishop - BI Research

Are you sure about that?

Wilson Kwong

Yes.

Tom Bishop - BI Research

Okay. Alright, alright, thank you very much.

Operator

(Operator Instructions). And our next question will come from the line of Scott Thomas with Neuberger. Please proceed.

Scott Thomas - Neuberger Berman

Hi, Wilson.

Wilson Kwong

Hi.

Scott Thomas - Neuberger Berman

I was wondering if you could provide any color on when and if you are going to file audit financial?

Wilson Kwong

Yes, on 20-F we are targeting to file that probably before the end of May.

Scott Thomas - Neuberger Berman

Before the end of May? Okay, and is that going to be sign off from an auditing firm on that?

Wilson Kwong

Yes. Our auditors KPMG.

Scott Thomas - Neuberger Berman

Okay. Thank you.

Wilson Kwong

Thanks.

Operator

And our next question is a follow-up question from the line of Joe Gomes with Oppenheimer. Please proceed, sir.

Joe Gomes - Oppenheimer

Wilson, on the plants that's going to use the alternative feedstock that's solely dedicated is that the kind of the same construction costs as your typical plant have been in the past and what is the cost your per ton these days for a plant?

Wilson Kwong

For example, the cost for that plant is, I would say more or less or maybe slightly more expensive. It's roughly 260 million RMB for that plant.

Joe Gomes - Oppenheimer

Okay thanks

Wilson Kwong

Yeah

Operator

And our next question is a follow-up question from the line of JinMing Liu with Ardour Capital Investments. Please proceed.

JinMing Liu - Ardour Capital Investments

Hi, Wilson

Wilson Kwong

Hi.

JinMing Liu - Ardour Capital Investments

Just for one, first, can you sell all your biodiesel produced right now, basically I am asking whether you are operating at 100% of your capacity?

Wilson Kwong

Yes, yes. We can sell all the oil that we produce currently, yes.

JinMing Liu - Ardour Capital Investments

Okay that’s good. My last question is, if you use jatropha to make biodiesel. The quality or property of the jatropha based biodiesel, is that comparable with your regular biodiesel you are making right now, or it is different?

Wilson Kwong

Yes. it will be comparable.

JinMing Liu - Ardour Capital Investments

Okay. All right, thanks.

Wilson Kwong

Thanks.

Operator

(Operator Instructions). And at this time, I show no questions in queue. I would now like to turn the call back over to Mr. Kwong for any closing remarks.

Wilson Kwong

Thank you again for joining on our fourth quarter and full-year results earnings call, and we do look forward to speaking with you again on our next call. Thank you very much.

Operator

Thank you for participation in today's conference. This concludes your presentation. You may now disconnect. Good day everyone.

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