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China Pharma Holdings, Inc. (NYSEMKT:CPHI)

Q3 2013 Earnings Conference Call

November 15, 2013 08:30 a.m. ET

Executives

Diana Huang – Manager, IR

Zhilin Li – President & CEO

Sam Hsing – VP

Analysts

Peter Siris – Hua-Mei

Operator

Ladies and gentlemen, thank you all for standing by, and welcome to Q3 2013 China Pharma Holdings, Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. There will be a presentation followed by a question-and-answer session. (Operator instructions) I must advise you that this conference is being recorded today, Friday, November 15, 2013.

I would now like to hand the conference over to your speaker for today, Ms. Diana Huang. Thank you, ma’am. Please go ahead.

Diana Huang

Thank you, operator. Good morning ladies and gentlemen, and good evening to those of you joining us from China. Welcome to China Pharma Holdings’ third quarter 2013 earnings conference call.

I am Diana Huang, the company’s Investor Relations Manager. Speaking on the call today are China Pharma’s President and CEO and Interim CFO, Ms. Zhilin Li and Corporate Vice President, Mr. Sam Hsing. In addition, I will provide translation during the Q&A session of the call. The company’s earnings press release issued earlier this morning is available at our website at www.chinapharmaholdings.com. I would like to remind our listeners that on this call management’s prepared remarks contain forward-looking statements, which are subject to risks and uncertainties and management may make additional forward-looking statements in response to your questions. Therefore, the company claims the protection of the Safe Harbor forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995.

Actual results may differ from those discussed today due to such risks as market and customer acceptance and demand for our products, our ability to market our product, the impact of competitive products and the pricing, the ability to develop and launch new products on a timely basis, the regulatory environment including government regulation in the PRC; our ability to obtain the requisite regulatory approvals to commercialize our products, fluctuations in operating results including spending for research and development and sales and marketing activities, and other risks detailed from time-to-time in our filings with the SEC.

In addition, any projections as to the company’s future performance represent management’s estimates as of today, November 15, 2013. China Pharma assumes no obligation to update those projections in the future as market conditions change.

Now, it is my pleasure to turn the call over to China Pharma’s CEO and Interim CFO, Ms. Li to make her opening remarks in Chinese, which will be translated by Sam. Afterwards, Sam will continue translating Ms. Li’s detailed discussion of the company’s third quarter 2013 financial results.

Zhilin Li

[Foreign Language]

Thank you, Diana and good morning everyone. I would like to thank each of you for joining us today and for your continued support of China Pharma.

In the third quarter of 2013, we continue to execute our prudent marketing strategy through a more stringent screening of existing and potential distributors and hospital customers in terms of speed of the payments in order to gradually improve our trade patterns, especially in terms of the collection of our accounts receivable. This strategy temporarily impacts our sales in the current period.

Meanwhile, we successfully renewed our National HighTech Status in the third quarter, which entitle us to the preferential tax rate of 15% of 2014, 2015 and 2016. This renewal requires strict scrutiny from the provincial government; and again evidenced our solid fundamentals and healthy operation. In addition, we launched Candesartan, the long awaited front-line drug therapy for the treatment of hypertension in November 2013. We expect this product to bring positive impact on our revenue and margins through organized marketing and our existing sales network.

I will now read results from Ms. Li's prepared remarks in English. The Chinese pharmaceutical industry has been the key contributor to the PRC’s economic growth. Chinese pharmaceutical markets reached CNY 926.1 billion in 2012 according to the Medicine Blue Book, China Pharmaceutical March Report published by Chinese Academy of Social Science on December 28, 2012. The Blue Book forecast that it would continue its rapid expansion at an average rate of 12% from 2013 to 2020. And pointed out that Chinese pharmaceutical market is showing features of rapid expansion, fierce competition, lower concentration and the greatly influenced by government's policies.

And the pharmaceutical market expansion is supported by increased demand from medicine associated with the population aging, and improved social welfare and enhanced residents' purchasing power along with the economic development. Although, we believe the long-term growth prospect of the Chinese pharmaceutical industry remained unchanged the golden decade of the pharmaceutical in China is still expectable; while in the earlier stage of the golden decade. The entire industry is required to upgrade our facilities to the new GMP standards, which was published by the Ministry of Health in China on February 12, 2011 effective March 1, 2011. This round of upgrading is challenging for all players and also means survival of the fittest. The new GMP standard significantly revised the standards in PRC and [Indiscernible] mandatory requirements for among others things.

Our manufacturing and the quality control process, key manufacturing and the quality control personnel, and our supply and logistics chain for those mandatory requirements, the upgrading of our injectable product line must be accomplished by the end of the 2013. We already completed the overall architectural structure of our new facility.

We are progressing according to our plan to continue to construct the new GMP facility and ancillary project. We have also made the down payments for the major equipments and the facilities for the new production line in the new building. We are confident that the new GMP upgrading will be accomplished in good quality. Even under upgrading pressure, we still firmly believe in our long-term prospects in China's rapidly growing pharmaceutical industry with the established and differentiating product portfolio, extensive sales and distribution network and growing pipeline of the generic and proprietary drugs. We are committed to continue to deliver a sustainable long-term growth.

Now I would like to review our third quarter 2013 financial results and balance sheet information. Revenue for three months ends September 30, 2013, was $8.1 million, a decrease of 33% from the revenue of $12.2 million for the three months ended September 30, 2012. Given the capital expenditure pressure from 2013, new GMP upgrades project, we have to control credit expansion in the market, and the resulting marketing strategy was emphasized on credit tightening has negatively impacted our revenue. However, the decrease in revenue in the third quarter of 2013 has slowed compared to the condition in the previous quarters.

Gross profit for the three months ended September 30, 2013, was $2.2 million, while gross profit for the three months ended September 30, 2012, was $3.2 million. Our gross profit margin in the third quarter of 2013 was 28% compared to 27% in the third quarter of 2012. The decrease in the gross profit was in line with the performance of the revenue in this period, and the gross margin remained stable.

Selling, general and administrative expenses in the third quarter of 2013 were $1.6 million, or 20% of sales, compared to $1.5 million, or 12% of sales, in the third quarter of 2012. This increase was mainly due to the expansion related to the technology upgrades and production process improvements for some of our existing marketed products in the period. In the three months ended September 30, 2013, and 2012 we paid income tax at the rate of 15%. The income tax benefit was 0.5 million in the three months ended September 30, 2013 compared to an income tax expense of 0.2 million for the three months ended September 30, 2012.

As a result of lower revenues, we have accumulated net operating loss carry forwards of $2.8 million which, under Chinese tax law, can be “carried forward” for 5 years. Net loss for three months ended September 30, 2013 was $2.3 million, or a loss per basic and diluted common share of $0.05, compared to net income of $1.3 million in the three months ended September 30, 2012, or earnings per basic and diluted common share of $0.03. The decrease in net income was mainly due to the decrease in revenue and the increase in bad debt expense.

The nine months results. For the nine months ended September 30, 2013, our sales revenue decreased by $18.5 million, or 43% to $24.4 million, from sales revenue of $42.9 million for the corresponding period of 2012. Gross profit for the nine months ended September 30, 2013 was $2.8 million, which was approximately 78% lower when compared to gross profit of $12.7 million for the nine months ended September 30, 2012. Our gross margin for the first nine months of 2013 was 12% compared to 13% for the corresponding nine months of 2012. Without negative effect of the inventory obsolescence in the first nine months of 2013, Management estimates that our gross profit would have been approximately $6.6 million, and our gross margin will have been 27% for the first nine months of 2013.

The allowance for doubtful accounts was $12.5 million, and $4.4 million as of September 30, 2013, and on December 31, 2012 respectively. The increase in the allowance was mainly due to an increase in our accounts receivable that is beyond 720 days old and was recognized as bad debt expense during the nine months ended September 30, 2013. Our net loss for the nine months ended September 30, 2013 was $9.6 million, which respectively decrease of $15.4 million, or approximately 263% from net income of $5.9 million for the nine months ended September 30, 2012. This decrease was mainly due to the decrease in revenue, increase in bad debt expense, and a inventory obsolescence in the period in the nine months of 2013.

Turning to the balance sheet, our cash and cash equivalent was $4.5 million as of September 30, 2013, compared to $4 million as of December 31, 2012. And on September 30, 2013, our accounts receivable was $52.5 million, a decrease of $13.7 million from $66.2 million at December 31, 2012. Our receivables decreased due to decreased sales.

At September 30, 2013, total inventory was $32.6 million, a decrease of $3.7 million from $36.4 million at December 31, 2012, which is our inventory in comparatively high level there in new GMP upgrading period in order to support sales increase of any potential production cut.

Overall, we will continue focusing on our business development and new GMP project construction and believe that this will support the fair evaluation of our shareholders interest in the future.

With that we will now open the call up to questions. Operator?

Question-and-Answer Session

Operator

(Operator instructions) Your first question from the line comes from Peter Siris from Hua-Mei. Please ask the question.

Peter Siris – Hua-Mei

I have a number of questions. So let me sort of take them one at a time. The question is how come you have so much inventory, I mean the inventory based on sales rate, I mean, you had 17 million, 18 million in revenue for the year, but you still had 32 million of inventory. So I am curious why you have so much inventory?

Zhilin Li

[Foreign Language]

Diana Huang

Ms. Li explained that was mainly because during the new GMP upgrading period we need to keep the inventory in a comparatively high level, just that in case to support the needs from the market ourself. And another point to answer your question, the picture of the high level of inventory compared to our sales revenue was also due to the decrease of our revenue in the recent quarters.

Peter Siris – Hua-Mei

So, do you intend to bring that inventory level down from its current levels, or you expect sales to pick up?

Zhilin Li

[Foreign Language]

Diana Huang

Ms. Li explained that the percentage of inventory balance towards revenue is kind of temporary condition for the recent period. But she expects as our revenue goes up in the future, and the inventory gradually decreases in the future, this percentage will gradually return to the healthy level.

Peter Siris – Hua-Mei

Okay. The next question I have is about the receivables, I see a lot of receivables that are over two years old, and you are taking, you are writing those off. I also remember, you know, that in the past you have always gotten paid by these hospitals, so I am curious what happens with all these old receivables, do you ever expect to get paid or why are the hospitals after two years not paying?

Zhilin Li

[Foreign Language]

Diana Huang

Ms. Li explained that we, as you know, we draw allowance for bad debt according to their ageing, and so far we have succeeded in collecting all accounts receivables from hospitals. Therefore, in general, we assume accounts receivable are safe. But we -- I also mentioned, this quarter, as well as in the previous quarters that we adjusted our marketing strategy to favor distributors with good accounts receivable collection pattern and gradually decrease the credit level granted to distributors in general. So therefore we are thinking to implement certain accounts receivable collection policies to push the collection of the older [aging] accounts receivable at this year-end.

Peter Siris – Hua-Mei

So, you think you’ll be able to collect some of these that you have written off?

Zhilin Li

[Foreign Language]

Diana Huang

Siris, yes, that is for sure.

Peter Siris – Hua-Mei

Third question is Candesartan, what -- how big a business can that be for 2014?

Zhilin Li

[Foreign Language]

Diana Huang

Ms. Li said that we currently in the initiation marketing stage of Candesartan, and as for 2014, she thinks it is still in the early stage of the marketing effort for this new product. And with the consideration of our heavy pressure of CapEx needs for the new GMP operating project, we will make reasonable effort for the marketing of this new product, and as you could imagine, the marketing of any new product will to some extent increase the accounts receivable.

She assumes that from -- for next year this product may contribute a few hundred

or even close to some million RMB in sales.

Peter Siris – Hua-Mei

Okay, and my last question is can you give us an update on some of the drugs in the pipeline?

Zhilin Li

[Foreign Language]

Diana Huang

Ms. Li said that in general there is no significant development for the other products in the pipeline, mainly due to the extremely long waiting process in SFDA.

Peter Siris – Hua-Mei

Okay. [Foreign Language]

Zhilin Li

[Foreign Language] Thank you.

Operator

(Operator instructions) Your next question from the line comes from [Indiscernible]. Please ask the question.

Unidentified Analyst

Yes, I just want to follow up on the accounts receivable question, first I want to thank [Indiscernible] in terms of what they are doing, and I also want to commend you for your efforts. Having said that, I like to think that the product you have is an excellent product, now when [Indiscernible], a little over $3 million in account, in doubtful accounts, that is pretty scary, that is 18.2%, which means operating as team effort. Certainly a good job, but I think that that is a good number. Now, some of my issues were addressed earlier on, so I am not going to focus on that, now what kind of criteria do you have in place to reduce that from happening, are you going to continue giving these dealers or customers drugs in the future, or you are going to discontinue giving them drugs, and look for new customers?

Zhilin Li

[Foreign Language]

Diana Huang

Ms. Li explained that we have adjusted our marketing strategies in the recent quarters to favor the distributors and customers with good AR collection pattern, and gradually decrease the credit level granted to distributors in general. And in addition, she said we are considering implement some encouraging policies to push the accounts receivable performance from the customer.

Unidentified Analyst

And what are you going to do that might -- my only concern is more a question of continuing giving the same customers who are going to take a lot of time to pay, because the money that is tied in, they have received the product and the company suffers because it is not getting the money for the drug in a timely fashion, so the idea to you is is there a readily available customers, why don’t you go for those. If they are not [Indiscernible] marketing strategy that we are considering [Indiscernible]. I just don’t fell like over 720 days of money at 18.2% should be given to these people because they have received the product, and you guys have done a tremendous job in the quarter of weathering any kind of storm, and I commend you for that, but that is my biggest fear right now. Thank you very much.

Zhilin Li

[Foreign Language]

Diana Huang

Ms. Li said thank you very much for this suggestion, which is very valuable and actually this is what we are thinking of, especially in the condition that we have heavy capital pressure to support our new GMP facility, as well as progress of our patented product.

Unidentified Analyst

Thank you for taking my questions.

Zhilin Li

Thank you.

Operator

There are no further questions at this time. I would now like to hand the conference back to Ms. Huang.

Sam Hsing

On behalf of the entire China Pharma team, we would like to thank for your interest in the company and the participation on this call. For any of you traveling to China, we always welcome and encourage any visitors from our shareholders, potential investors and analysts. This concludes China Pharma’s third quarter 2013 earnings call.

Operator

Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect.

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