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China Ceramics Co Ltd (NASDAQ:CCCL)

Q2 2014 Earnings Conference Call

August 18, 2014 08:00 AM ET

Executives

David Rudnick - IR

Jia Dong Huang - Chairman and CEO

Edmund Hen - CFO

Analysts

Howard Flinker - Flinker & Company

James Kahn - Oppenheimer

Operator

Good morning my name is Felicia and I will be your conference operator today. At this time I’d like to welcome everyone to the China Ceramics Second Quarter 2014 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. (Operator Instructions) Thank you. I would now like to turn the conference over to David Rudnick. Please go ahead sir.

David Rudnick

Thank you Felicia. Good morning ladies and gentlemen and good evening those of you who are joining us from China. Welcome to China Ceramics second quarter 2014 earnings conference call. With us today are China Ceramics Chairman, Chief Executive Officer Mr. Jia Dong Huang and Chief Financial Officer, Mr. Edmund Hen.

Before I turn the call over to Mr. Huang, may I remind our listeners that during 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 protection of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995.

Actual results may differ from those discussed today. Refer to more detailed discussion of the risks and uncertainties in the company’s filings with the Securities and Exchange Commission. In addition, any projections as the company’s future performance represent management’s estimates as of today August 18, 2014. China Ceramics assumes no obligation to update these projections in the future as market conditions changed.

And now, it’s my pleasure to turn the call over to China Ceramics’, Chairman, CEO, Mr. Jia Dong Huang and China Ceramics’, CFO, Mr. Edmund Hen. Precept Investor Relations [indiscernible] will be translating Mr. Huang. Mr. Huang, you may proceed.

Jia Dong Huang

Thank you David. On behalf of the company I’d like to welcome everyone to our second quarter 2014 earnings conference call.

We’re pleased to report improved revenue and gross profit performance for the second quarter as compared to the same period a year ago consistent with the more normalized operating environment. Revenue increased 21% from the second quarter while gross profit grows 9%. The second quarter also saw 11% increase in sales volume and 9% rise in average selling price as compared to the second quarter of 2013.

Higher advertising cost to promote newly developed ceramic tiles and losses attributable to foreign currency agreements impeded our profitability in a quarter. As stated previously I, the company’s largest shareholder, agreed to assume these agreements. As a result, the company will not be required to fund any losses related to these agreements and it will neither suffer any future liabilities arising under those agreements nor realize any benefits arising under those agreements.

In the second quarter, we maintain to reduce either addition of existing operating strength capacity in order to just market environment a lower operating cost. We’re currently utilizing plant production facilities capable of producing 43 million square meters of ceramic tiles per year out of our total annual production capacity of 72 million square meters of ceramic tiles. This was 54% increase over what was utilized at this time last year. We hope to bring additional capacity online going forward as our business sector continues to improve.

In addition to the improved market environment, we believe that our good relationships with our customers account for our volume and price increases in the second quarter and then our marketing will enable us to continue to penetrate tier 2 and tier 3 market the solid results in the quarters ahead. While our business sector continues to be highly competitive, our brand name recognition and reputation for quality and services has enabled us to raise our average selling price over the past year.

The urbanization and geographic trend in China, a long-term phenomena that we believe will lead to rising future demands for our products even as the real estate and construction environment fluctuates from time-to-time. Recent government proposals promoting urbanization as vital to continued domestic economic growth should improve the macroeconomic conditions under which we operate and enable us to expand our footprint into new geographical urban areas.

We continue to be strategically positioned as a producer of high-end ceramic tiles and we will continue to innovate and offer superior product mix to our customer, so as to sustain our competitive advantage.

With that I would like to turn over the call to the company’s Chief Financial Officer, Mr. Edmund Hen, who will discuss the company’s earnings results in more detail. Thank you.

Edmund Hen

Thank you, Mr. Huang. I will move onto a more detailed discussion of our financial results for the second quarter ended June 30, 2014.

Our revenue for the second quarter ended June 30, 2014 was RMB 268.6 million or US$43.3 million, an increase of 20.6% from second quarter of 2013. The sales volume of ceramic tiles in the second quarter was 9.2 million square meters, an increase of 10.8% as compared the sales volume in the year ago quarter and our average selling price or ASP rose 9% as compared to the same period a year ago. The rise in ASP reflects a more normalized market environment. As notified by Mr. Huang, the continuous trend of pricing increases that have occurred since the fourth quarter of 2012 where we temporarily reduced pricing on certain of products to retain market position.

Gross profit for the second quarter ended June 30, 2014 was RMB 24.2 million or US$3.9 million, an increase of 9% from the second quarter of 2013. The year-over-year increase in gross profit was due to a rise in both sales volume and ASP. Our gross profit margin for the second quarter was 9.0% compared to 10% for the same period of 2013. This slight decrease primarily caused by an increase in material and labor costs.

Profits before taxes for the second quarter of 2014 was RMB 3.2 million or US$0.5 million, as compared to RMB 9.9 million or US$1.6 million in the second quarter of 2013. The year-over-year decrease was due to a rise in advertising fees associated with newly developed strong accounts and on realized losses on derivative financial instruments.

Net profits for the second quarter of 2014 was RMB 0.7 million or US$0.1 million as compared to RMB 9.6 million or US$1.5 million for the same period 2013. Earnings per fully diluted share were RMB 0.03 or US$0.01 for the second quarter of 2014 as compared to RMB 0.47 or US$0.08. For the six months ended June 30, 2014, revenue was RMB 477.4 million or $77 million an increase of 28.4% as compared to the six months ended June 30, 2013.

Gross profit was RMB 33.5 million or $5.4 million up 22.7% from the same period of 2013. Gross margin for the six months ended June 30, 2014 up 7% compared to a 7.3% for the same period of 2013. Our net loss for the six months ended June 30, 2014 was RMB 70.8 million or US$11.4 million compared to a net loss of RMB 4.2 million or US$0.7 million for the same period of 2013.

The loss per fully diluted share for the six months ended June 30, 2014 was RMB 3.47 or US$0.56 as compared to the earnings per fully diluted share of RMB 0.21 or US$0.03 for the six months of 2013.

Turning to our balance sheet. As of June 30, 2014 we had cash and bank balances of RMB 128.1 million or US$20.7 million compared to RMB 28.8 million or US$4.7 million as of December 31, 2013.

The increase in cash and bank balances was the result of an increasing operating cash flows before working capital changes and the decrease in trade payables during the first half of 2014. As of the end of the second quarter, our debt was RMB 84.7 million or US$13.7 million as compared to that is RMB 99.7 million or US$16.3 million as of year-end fiscal 2013.

As of June 30, 2014, we have an inventory turnover of 131 days (sic - see press release "129 days") compared to 124 days as of December 31, 2013. Trade receivables turnover was 184 days as of June 30, 2014 compared to 185 days as of December 31, 2013. The methodology for the second quarter of 2013 uses revenue for the trailing 12 months, participants [indiscernible] previous period. The company typically extended credit period of 90 days to our customers and have extended the credit period to 150 days to address the funding pressures among some distributors attributable to the challenging market conditions in China’s real estate industry since the second quarter of 2012.

Moving on to our research outlook. As discussed by our CEO, Mr. Huang, our outlook for the remainder of the 2014 is for a stable macroeconomic environment. And more normalized operating conditions compared to a last year. We believe that the real estate and construction sector continues to experience some long-term fundamentals as continued urbanization and demographics changes are expected to promote the building of new residential properties throughout urban areas of China.

The government recently issued proposals to bring down barriers attributable to a nationwide household registration system in order to promote urbanization. This is consistent with its long-stated position that the greatest potential for expanding domestic demand and sustaining economic growth in China lies in urbanization. Since urbanization leads to new property development and housing construction, this recent proposal and other similar measures could positively impact the company’s business

The company is currently utilizing plants capacity capable of producing 43 million square meters of ceramic tiles annually, out of an annual production capacity out of 72 million square meters that is available. We will bring in our unused production capacity online as customer demand dictates and when there are further signs of improvement in China’s real estate and construction sector.

The company believes that further pricing power will be gradual and there we have the potential to transition demand to those premium ceramic tiles once current market inventory is coming, the space is rest through market channel.

The company’s new marketing showroom and proven research and development program along with this upgraded and modern plant facility enable us to differentiate ourselves and offer a different platform of products and services consistent with this strategy. The company plans to widen this market to include meaningful penetration into emerging urban geographical areas so as to develop a major competitive new market.

Before we move to Q&A, we’d like to clarify two issues. As has been disclosed as of April 30, 2014 we changed to our independent registered public accountant. During the quarter, 2014 year end audit, [indiscernible] company and our former auditor Grant Thornton. The substance of our difficulties has been summarized in our Annual Report on Form 20-F and we will not be able to share. We were confident that the issue raised by Grant Thornton has no [indiscernible] to our result of operations or financial condition. And we believe that Grant Thornton [indiscernible] to the circumstances. Moreover, we feel that communications with Grant Thornton and our relationship with Grant Thornton has become so [indiscernible] that the circumstance will obviously affect this company even after the [indiscernible]

Throughout the end of April 2014, rather we proceed as Grant Thornton wanted an independent investigation for the changed auditor, we were not going to be able to timely file our annual report and we’re recurring (Ph) to have some highest (Ph) problem respect with that stock market. In the end, we made a difficult decision to terminate our former auditors. We are engaged [indiscernible] as our new auditors and our Audit committee and management with [indiscernible] with our new auditors to implement traditional audit procedure to adjust the issue raised by Grant Thornton. Subsequently we audit our financials for the fiscal year 2011 and 2012 confirming the financial statements that has already been installed (Ph). And they also performed an audit of the company’s financial statement for fiscal year 2013. The result speaks for themselves.

All this has been filed with the SEC as of July 31, 2014. This has been a challenging period for our company and our shareholders. However, we approach the future with new vigor and we’re optimistic about our ability to enhance shareholders revenue. As we are above our ability to improve operating results. We have showed strong period-to-period operating comparisons from the first six months with revenue and gross profit of 20.4% and 22.7% respectively.

And we’re optimistic that and improving macroeconomic environment through the rest of 2014 and sustain these gains. We have also made substantial commitments to enhance our reporting and our internal control including accepting additional in terms of the real procedures. Regarding our finance and accounting staff to obtain education [indiscernible] and engaging U.S. consulting firm who has independently performed IFRS review of our annual report.

The second issue, we would like to address related to the foreign currency agreement executed by the company during the second quarter of 2013 and the first quarter of 2014 for the investment processing.

Through 2013 and up to February 12, 2014, RMB has been [indiscernible] when compared to the U.S. dollars. In fact at the end of 2013, the company actually has made the real cash gain of US$0.5 million. However, RMB started decreasing against dollar on February 12, 2014. The company eventually in further realized and unrealized losses at total US$11.6 million in connection with this agreement through June 30, 2014. In June 2014, the company, our CEO [indiscernible] to terminate this agreement and our CEO agreed on this foreign currency agreement and the liability arising on the agreements. As a result, RMB 87.8 million or US$14.2 million will be [indiscernible] RMB 15.1 million or US$2.5 million in deposits to fund financial institutions will be transferred to an affiliates of our CEO and as an accounting adjustment.

Paid-in capital will be increased by RMB 72.7 million or about US$11.7 million. Our CEO has now taken on the rest of this agreement so as to protect the company from any future losses. In China Ceramics, we will not be required to face any further losses related to this agreement. We will also not incur any future liabilities due to this agreement or realize any benefits from them.

As mentioned by our CEO, management and the audit committee has taken serious measure to improve [indiscernible] control and have [indiscernible] strict guidance for investment, so I will have strict guidance for investments. And I would like to emphasize that the company has no intention of entering into [indiscernible] foreign exchange agreement in the future.

Now let me address those two important issues. I already mentioned that we have Mr. Liu Jianwei our audit committee Chairman on the call for further clarification. So he would be presenting to these topics.

At this point we would like to open up the call to any questions pertaining to the second quarter’s financial and operating performance. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). And your first question comes from the line of Howard Flinker with Flinker and Company.

Howard Flinker - Flinker & Company

In the release of the derivatives will that add any cash to the balance sheet of China Ceramics?

Edmund Hen

No, the derivatives of the instrument has already transferred to Mr. Huang already. So we will not incur any future losses.

Howard Flinker - Flinker & Company

And we’ll not release any cash to turn the ceramics too?

Edmund Hen

No.

Howard Flinker - Flinker & Company

Okay. Second question. I am not sure about this. You said you raised prices 5%, does that 5% included the second quarter or is that subsequent to the second quarter?

Edmund Hen

It’s subsequent to the second quarter.

Howard Flinker - Flinker & Company

Okay. And the final question is I am curious why did Huang Jia Dong take the liability, I have never seen that before for the derivatives.

Edmund Hen

This is because the derivative product is now a good five years and a lot of them have the company’s suffer, he arranged and [indiscernible] by which he will pick any further loss by himself and should be assured that the company learned from this event and that auditions decision making confidence (Ph) and transparency that would be better for it.

Howard Flinker - Flinker & Company

It wasn’t a good idea in the beginning but I’m still curious never seen anybody take responsibility for a corporate mistake, what was the reasoning of Huang Jia Dong to absorb that very large loss?

Edmund Hen

May I have your question again?

Howard Flinker - Flinker & Company

Sure, you said Huang Jia Dong took it because it was a corporate mistake but still corporate mistakes happen all the time and I haven’t seen Chief Executives take the loss themselves, what was going through Huang Jia Dong’s mind when he said I’m going to transfer the loss to me instead of to the company?

Edmund Hen

At the first place, what we noticed that RMB has [indiscernible] since 2005.

Howard Flinker - Flinker & Company

Alright.

Edmund Hen

And initial decisions to have this foreign exchange contract [indiscernible] the company would benefit from the strong RMB . And actually we had a cash gain of US$0.5 million at the end of 2013 and that was recorded in the financial results. But the RMB started to depreciate against the U.S. dollar since the February, early of this year and that was totally a surprise for us.

Howard Flinker - Flinker & Company

I’m taking it to next step I’m guess though, that Huang Jia Dong decide that he was responsible for this mistake and that’s why he took the loss themselves starting in the third quarter of this year?

Edmund Hen

That’s in total interest of the public shareholders [indiscernible] the company suffer. Mr. Huang arranged a mechanism by which he’d personally pick up on the future losses himself related to this contract.

Howard Flinker - Flinker & Company

Okay.

Operator

Your next question comes from the line of James Kahn with Oppenheimer.

James Kahn - Oppenheimer

Good morning, I applaud the decision to pick the loss himself instead of giving it to the shareholders and I think it’s a wonderful gesture of honesty. I just want to clarify one thing based on the last question; does this mean that the 11 million that was lost in the last quarter is coming back or just that no future losses growth occur?

Edmund Hen

This is a future loss that maybe occurred.

James Kahn - Oppenheimer

So the loss, so even though he is guarantying against future losses, the past lost is still there and still company to the tune of $11 million, is that correct.

Edmund Hen

No, the past loss has already transferred to the Mr. Huang.

James Kahn - Oppenheimer

Okay, so that means money is coming back or I mean what actually happened, I’m confused about the trends, you said that there was no cash coming into the balance sheet. So, you just take a little liability of thing removed does that correct?

Edmund Hen

Correct.

James Kahn - Oppenheimer

Okay, and my second quarter is, in Grant Thornton -- in the letters that they sent to you the second letter said that you did not address the question of the difference between the taxes that you declared you had paid on your return with Grant Thornton and the taxes that the local authorities collected, can you please explain the discrepancy?

Jia Dong Huang

The descriptions followings are specific in terms the differences and the outcome -- and we tend to be as transparent as possible. I’d like to point out that none of this issued process will be an issue of [indiscernible] Hong Kong we are not only comfortable with our procedures but they made no adjustment in the audit to our financial years 2011 and 2012.

And has a no difficulties with 2013 audit in some. We communicated to Grant Thornton that there was no problem with our financial statement and there were not [indiscernible] as there is still outstanding litigation. The prudent thing to do is to refer you back to our public filings in terms of the details and not copying this detail further in the call.

James Kahn - Oppenheimer

There is still outstanding litigation you’re seeing and that’s why you can’t explain the difference between the two numbers, is that right?

Edmund Hen

You may refer back to our public filings and that is where we express it in terms of difference and outcome.

James Kahn - Oppenheimer

Okay. In closing I just want to say that you went through a difficult period where sales were down and now things seem to be turning and I’m happy about that. Thank you.

Edmund Hen

Thank you very much.

Operator

(Operator Instructions) And your next question comes from the line of John [indiscernible] with Private Investor.

Unidentified Analyst

Hello everybody. Thank you for hosting the call and congratulations on getting back to a more normal situation. Could you share some comments about demand for some the tile types where your entire margins in the past like the rustic tiles, ultrathin tiles and extra-large size tiles?

Jia Dong Huang

Yes, for the new titles we see that some of this high price tiles has a more demand that is coming back and also we found these ultrathin tiles is still our major contribution from the revenue. And also you can see that because our high price tiles is selling back in the second quarter we have small profit for the second quarter and we have the trend to increase our selling price 5% to 10% in third quarter.

Unidentified Analyst

Okay. Thank you for that information. Have you developed any sales through your relationship with China State Decoration?

Jia Dong Huang

Yes, we’re still working with them, but this is state-owned company bring through their success channel we need to go through a lot of relationship background in China and we are happy to do business with them and we’re still following some products from them.

Unidentified Analyst

Okay. Have you developed any new exclusive or primary supply relationships with real estate developers?

Jia Dong Huang

Yes, we always have some new reference, for example, we have already become exclusive [indiscernible] and also [indiscernible] we also supply some goods to, some products to the [indiscernible] referring China.

Unidentified Analyst

So will you be the exclusive supplier to [indiscernible] one of the largest developers in China.

Jia Dong Huang

Yes, we are one of the exclusive supplier for the ceramics to them.

Unidentified Analyst

Okay. Thank you very much for that information.

Jia Dong Huang

Thank you.

Operator

(Operator Instructions) Thank you. Your next question comes from the line of Dwayne Robert (Ph) with SHS Fund.

Unidentified Analyst

Good morning. Can you give us a snapshot of what the housing market looks like right now China?

Edmund Hen

The housing market right now is still relatively slow compared to two or three years ago and we see building and construction become more stable rate since one and half years ago and we believe that after this period the building market we will have a steady growth but that maybe happen next year or middle of next year. And now it’s still at a very stable and quite stage.

Unidentified Analyst

So from your analysis you are saying that the housing market is basically fast dropping at this point?

Edmund Hen

In terms of housing market, we found that for the major cities, the prices still stand a very high price already but for some tier 2 and tier 3 cities, the supply of the housing is in excess of demand, so the housing price just stay at a very stable very stable rates right now [indiscernible] has some growth or decrease in price.

Unidentified Analyst

And so at one point, there were cities growing out nowhere basically in China. The people or where the government will go in and just a develop basically a whole new city is that still happening or has that slowed down or what’s going over there right now?

Edmund Hen

May I have your question again?

Unidentified Analyst

Yes. At one point, cities were growing really fast; multiple cities were growing really fast in Mainland China. A lot of people were moving from what -- a lot of people were moving from the countryside into these major cities. Do you still have growth there or have people stopped moving from the countryside into the major cities?

Edmund Hen

Actually it happens always. And even now a lot of people from the rural area would like to move to the urban area. But the government has some spending on the rural area to give up some kind of a local city from this area. So I think the movement from the rural area to urban area in terms of the growth rate is not such as 10 or 20 years ago.

Unidentified Analyst

One of the reasons why people will move from countryside to the major cities is because of jobs; in which their housing market will? What do you think is analysis what is the job market like right now in China?

Edmund Hen

It’s still pretty good especially in the major cities but for some traditional business for the [indiscernible] intensive business I think the growth rates will be much lower than before.

Unidentified Analyst

All right, that’s good analysis. So what percentage of the tile market in China do you have?

Edmund Hen

The building market always has ups and downs and tile business is still very popular nowadays in China and a lot of this housing building and some commercial building still would like to use tiles in China.

Unidentified Analyst

So what percentage of the tile market do you guy own your company owns?

Edmund Hen

The tile market?

Unidentified Analyst

What percentage does your firm own, how much like you guys have 10%?

Edmund Hen

We believe we have about 65% of the markets in China.

Unidentified Analyst

Are there acquisition opportunities for you guys to look forward then?

Edmund Hen

We always look into some good business and we are still looking for some potential business to our firm. We will have -- we will take it seriously on this topic.

Unidentified Analyst

Any acquisition opportunities outside of the Mainland?

Edmund Hen

Of course, there’s always the opportunity. But before we acquire this material (Ph) new business we have to do our own due diligence and we [indiscernible] for some work before we make a decision.

Operator

(Operator Instructions). And there are no further questions as this time. I would like to hand the conference over to Mr. Rudnick for any closing remarks.

David Rudnick

On behalf of the entire Management team, we’d like to thank all of you for your interest and participation in this call. This concludes China Ceramics second quarter 2014 earnings call. Thank you all very much.

Operator

Thank you, this concludes today’s conference call. You may now disconnect.

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