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Wonder Auto Technology Inc. (OTCPK:WATG)

Roth Capital Conference

February 21, 2007 12:30 pm ET

Executives

Qingjie Zhao - Chairman and CEO

Jim Groh - VP, Strategic Planning

Presentation

Moderator

Our next presenting company is Wonder Auto Technology, and it's a leading manufacturer of alternator and starter in China. Joining us today is Chairman and CEO, Qingjie Zhao right here, and the CCG [Robert Juan] will be the translator. And, presenting for the company today is Jim Groh. He is US Strategic and Corporate Development for Wonder Auto. And, Mr. Zhao has one-minute brief speech for us, just a few words.

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Qingjie Zhao

As a Chairman and CEO of Wonder Auto, I am very honored to have this opportunity to introduce my company to all of you at Roth Conference.

Wonder Auto is the number two auto starter and alternator manufacturer in China. With almost 30 years experience as a professor of engineering in auto industry, I feel very [excited] that China has opportunity to become the largest auto market in the world. And moreover, the largest auto component-supplying country in the world. We will together lead the Chinese market. Also, our goal is to become one of the leading global starter and alternator manufacturers in the world.

Next, I am happy to let Mr. Jim Groh give you a more definitive coverage about Auto Wonder's business. Thank you.

Jim Groh

Good morning everybody. Can you hear me okay? I'll work very diligently to keep up with the time, and I won't be going through every point on the slides, but I think, I can give you a fairly in-depth view about our company. This is the Safe Harbor statement. I assume you've seen these before and there are no questions.

To talk a little bit about an overview of our company, Wonder Auto is a leading Chinese manufacture of electrical auto parts, starters, and alternators. Basically, we've got a very simple business here. It's all about growth. We serve a very large and rapidly growing market, and we have had a trend of increasing market share over the last several years. Our current market share is estimated about 15%.

The growth initiatives come from a few sources. We have a very robust and strong loyal customer base. They are participating in the growth of the overall market in China. We are doing a number of new product designs for existing customers. We have recently won and continue to win new OEMs in the China vehicle space. And we have announced our first successes in building an export business and competing on the world stage.

We think we have a very strong competitive position. First and foremost is the low-cost manufacturing structure. Ours is a fairly automated factory and within that automation is the ability to change over to other SKUs and do relatively short run of an individual model of a starter or an alternator. And that’s ideally suited not only for the market in China, but for serving some of the other markets around the world.

We have a very efficient SG&A infrastructure. You will see our cost for SG&A for us to develop, service, sell our products, we run at less than 5% of revenue on SG&A. And we have best-in-class technology that not only facilitates our sales process and you'll see how our technologists are really involved in the sales process. As well as, it gives us we believe a quality advantage and we also design for low cost.

We've got a very strong financial condition. And I say from a business model standpoint, we think we have a very sustainable structure within the company.

These are our products. And I use the description; okay it's not making semiconductors, but it's not bending metal either. They are fairly sophisticated parts that are the parts of cars, engines, electrical system.

Little bit about our history, the company was founded in 1996 through a joint-venture with a Korean company. And this gave the company a tremendous jumpstart in terms of product know-how, technology, and market recognition. As you will see not coincidentally, some of our largest customers are the China manufacturing operations of Korean auto manufacturers like Hyundai and Fiat.

We became US publicly traded in June of 2006, through reverse merger transaction and APO that was led by Halter Financial, where we raised $12 million. And this was a critical milestone in terms of the company's development.

My Chairman, Mr. Zhao controls 61% of Wonder shares. And we have announced an intention to make an application to move from the OTCBB to NASDAQ Exchange in 2007. Our headquarters is in Jinzhou, China, and we have 318 full-time employees.

Just a quick equity snapshot. The prices of our stock that we trade in as a WATG.OB are priced at $7 on 2/16. I think these data is fairly evident. I won't take your time to review them.

Little bit about the macro trends affecting the company and our customers, who are the vehicle and engine manufacturers. We are participating in the world's second largest auto market, depending on the research you read last year or the year before China surpassed Japan, and became the number two auto market in the world, second only to the United States. There is a 2010 unit sales forecast that there will be 10 million units built in China in 2010. And at that point, you are starting to see that market in China start to approach the size and stature of that in the US.

Where we participate, which is the auto parts market, it's growing even faster than the overall vehicle market, and there are few reasons for that. First and foremost, we see and estimate that the business will triple in China, the overall auto parts market from 2005 to 2010.

We are seeing a number of foreign automakers, like GM and like VW, building infrastructure and facilities to manufacturing in China. There is a threatened punitive tax policy on Chinese manufacturers who fall short of local content requirement. And I guess a more simple way to say that is, it's a page taken out of what happened in the US, where there was pressure on the Japanese auto manufacturers in the 80s and 90s to pay tariff, unless they had a significant amount of the autos that they were building made from local parts content. What no government wants to see is someone just only bringing in all the value in the parts and then only utilizing labor. The policy has been stayed but the market is reacting like there will ultimately be a local content policy in China.

There is an emergence of an auto parts aftermarket, as the industry is fairly young. Right now, all the aftermarket auto parts are basically sold through the dealers, but one can envision someday an equivalent type of distribution like our AutoZone or NAPA Auto Parts. And there is also some significant initiatives by US, Japanese, and Korean, and European automakers to come to China and source parts. Over just last year the Ford Motor Company took a fairly bold step and announced they will be sourcing about $2.5 billion of parts from China and they launched the purchasing office and an initiative. And although, I think the local labor unions in the United States found that objectionable, they are going to begin sourcing parts on a direct basis. And that's another macro driver to the industry that we participate in.

So, certainly there is government support. China's goal is to become the world's largest auto market by 2015, and here is a recent quote by the Vice Minister of the Ministry of Commerce in China. Basically, China will be a player in the world auto market as well as auto parts, and we hope to benefit from that macro trend.

As far as the strategic vision that Mr. Zhao has laid out first and foremost is understanding our competitive positioning. It's a low-cost structure and advanced technology. And I will take you through some pieces of that, why we believe that exist. The goals for us, I think it's a fairly simple business model to grow faster than the industry while maintaining margins.

There are segments of the market that the company has chosen not to compete in because they don't think that long-term it is a healthy place for one who would spend their limited human and/or manufacturing resources. We want to be the number one in alternators and starters in China by 2008. And, there is a fairly hefty and robust export sales initiative, where we are seeing some very early returns from that just since last year when the initiative was launched.

So the key initiative, increased sales with current customers, I will review this a little bit with you in more detail. They are gaining the benefit not only of the market growth, but bringing on new models of autos and vehicles. A number of new OEMs are being targeted and have been added to the mix. There is an increased international OEM export business. We've had our first successes competing on the world stage. And, we will have a fairly organized and systematic capacity increase to parallel our growth in customer acquisition.

I'll talk a little about the low-cost structure. We have 450,000 square feet of manufacturing space in Jinzhou City. It's highly automated. Being an industrial engineer, I always find things. I can tell you that an alternator drops off our line every 21.8 second. And I will tell you that they do a changeover in about 39 minutes from one SKU to the other. That’s all the DNC control software, that’s all the staging of materials, that’s all the jigs and fixturings. I had the opportunity to tell an auto analyst in United States that story. He said your competition in the US will measure SKU changeover in terms of number of shifts.

We believe that the structure of the factory is ideally suited to the Chinese OEM and US aftermarkets. We have all the qualifications one would need, both domestically and internationally. And, we've received 13 customer awards for excellence.

One of the few independent metrics, one can grab in China, in terms of fastest sales per employee and you can see what we tend to do is to have very high sales per employee because we outsource lower value manufacturing. And, this is an actual snapshot of the factory. This is an actual snapshot of the factory. This is how you would see us today. It is a clean, well-lit, well-organized modern manufacturing facility, which is being scaled in pieces and has been scaled over the last year and will be over the next year.

Low-cost structure, I mentioned before the strategy to outsource lower value manufacturing, there is great support in the province and in our city with regards to auto parts manufacturing being designated as a strategic industry. We have been extensive in local supplier network. We source over half our raw material in our local city, and not only it has given us great knowledge of our vendors' business, we have great control over our vendors. In terms of quality, in terms of Kanban or just-in-time delivery, and in terms of supplier leverage, that is getting low cost from suppliers.

Technology though is I think the other part of this story, our sales process basically is co-development programs with new and existing OEMs. I would liken the fact that, our sales people get a hunting license for our technologist to work through the sales process in terms of design and then product development with our customers. We have two R&D centers.

And what we try to pride ourselves on is to reduce development cycle time. The design focus is not just on matching something we're given as a drawing. It's bringing added value in terms of costs, quality, and reliability. We don't just grow technology internally, we look internationally. We have some licensing agreements, as well as some co-development agreements with third parties around the world.

So, getting back to what's the confidence in the growth? First, a very loyal customer base. The company has not lost a customer that they have obtained since 1996. We now supply 8 of the top 20 car manufacturers in China, and we basically sell to the OEM. Our existing customers are riding this wave of growth and we've got some numbers up there of what our existing customers did last year, and if you look Beijing, Hyundai is an auto manufacture; Shenyang Aerospace Mitsubishi is an engine manufacture. So, those are the two types of customer segments that we sell if you will and the listing of some of our active customers now.

So as far as growing, we've got this organic growth from the existing customers. We currently have 20 new development programs for existing customers. These are new models of starters and alternators, which will go in new models of vehicles which will be built anywhere from 6 months from now to 24 months from now.

We have a very strong initiative in terms of targeting new OEMs. And as far our business and development activity, you've got a list of names up there where we have disclosed, we are either in product qualifications or facility certification with all of these parties.

Growth in exports; the company successfully achieved two orders in the last quarter, where we are making production shipments of products. LDV is a minivan or business van manufacturer in the UK, but it demonstrated Wonder's ability to go into other geographies and on the quality, costs, and service standpoint, compete successfully for business against the manufacturers there. As well as, we have customer, Doosan Heavy Industrial, which is located in South Korea, basically makes products like pull motors in trains and buses. So, that’s not only migrating our geography, but it's migrating our product expertise.

There is an opportunity for a potential aftermarket, as I say; it's really not there yet. It's been served by the dealers, the OEM dealers of the products. But one could foresee the maturation of an opportunity where we would sell to retailers who sold third-party auto parts and certainly our manufacturing structure to be able to do that.

I won't take you through the details of this, but there is a very mix development of capacity to match our expectations in revenue. And, we have made and we will continue to be opportunistic in terms of strategic acquisitions to improve quality, cost, and margins, and leverage our financial strength.

I'll just mention a little bit about the management of the company. Mr. Zhao started his automotive career as an academic, training a generation of automotive engineers, who have now landed all over the world and China and in United States. During the road show, he borrowed my cell phone to talk to ex-students who were working in Detroit or working in Atlanta.

We have a very traditional western structure, Chief Operating Officer that runs the business and operates it. Our CFO is very active in the business. He has some very good experience and some good continuing education, and a very experienced Vice President of sales. I have been with the company for four months prior to their transaction last year and have been acting in fairly active in advisory capacity with them. And, we also have helped them with some of the financial modeling and some of the financial planning aspects of their business.

Little bit about revenue growth. This last year we just finished up. We announced $72 million in revenue or $48.06. You can see the effect when the company ran out of capacity. That's why I said before that the transaction was a linchpin event, raising the capital enable the company to expand. The company has given guidance this year for a $100 million in revenue in the fiscal year 2007, which will end at December 31st.

Net income growth, again we are seeing fairly robust growth from $8 million to close to $13 million in 2007, specifically $12.8 million is the guidance that's been given.

Some detail on the income statements that you'll see in the presentations, I won't deliver this. I know all of you have the ability to certainly read through this at your leisure.

As far as the balance sheet, I'll like you to note that there is no long-term debt on the balance sheet as of now. And the company believes between readily available debt as well as cash generated from operations that during the year 2007 our fairly robust expansion in capacities will all be funded by those sources.

Some comparative evaluations, I know that folks in the business like to look at other companies who play in the space and sometimes if you like something like the auto part space, one likes to be invested in several companies. We have some comparisons here for your review of other companies that have been publicly traded longer than us, but essentially from a industry segment standpoint are very similar. So, you can start your analysis. Okay.

So, in summary, we serve fairly large and growing markets. It’s a very robust market. It's not just the auto market. It’s the auto parts market with lots of drivers supporting the growth. We've got a great base of existing customers, and we've got a great base of products and we are developing a number of new products for them.

We've been able to demonstrate the ability to attract some new domestic OEM customers, not only those in the PRC, but those that are foreign operated like the Beijing Chryslers of the world. There are number of new international OEMs targeted and we've shown our first early successes in competing on the world stage. How do we compete?

The technology base and a low-cost structure, which we believe forms the basis of an ongoing sustainable competitive advantage. Our goal is to increase share while optimizing margins. We know where we bring our strengths, where we bring our value, and where we think we should compete. And, we think we've got fairly effective valuation for what the future prospects of the company is. So with that, I am finishing 39 seconds early. We would be happy to take questions.

Yeah, you are right. I got 28 seconds to (inaudible) stop, 26. I've put my cell phone up here. If someone did not get a chance for one-on-one and you want to grab us for five minutes or to set something up later, I've listed my cell phone and please feel free to call me.

Question-and-Answer Session

Unidentified Audience Member

(Question Inaudible)

Jim Groh

Right. If folks view this business and I'll articulate what they've said, they said this seems to be a fairly fragmented business. You have Shanghai Valley, owes the number one market share. We're close to number two, if not number one.

The third market share participant is about 9%. So you have got the top three manufacturers with 35% of the share, and then you have it fragmented amongst the lot of other manufactures.

Our view is, first of all, we can't control what other folks do, but is that there will be some consolidation over time, but the larger more powerful, well-financed and well-positioned folks, who are participating, will be the winners in that. So, it is interesting as far as the vehicle space people say well are you worried about to (inaudible) or who is going to win? We don’t care, we sell them off.

Unidentified Audience Member

(Question Inaudible)

Jim Groh

And so, you know as you have the question, the company has announced initiative that we will be expanding overseas and we've disclosed our first two customer successes, so was asked to provide more color on that.

I am going to dodge the question a little bit, Alberto, and keep it to what we've disclosed. What we would hope and what’s the structure of the company that Mr. Zhao has articulated is that, within three years, we will see a third of our sales approximately 30% coming from overseas initiatives. There is very little done in the United States right now. The company we've previously talked with folks about, we've looked at participating in the aftermarket in United States, we have had some discussions with some OEMs in the United States. We went to a fairly thorough study of what the US aftermarket looks like, and there are practices with regard to consigned inventory and having inventory stage and distribution centers.

And we say okay. If that’s the given parameters of operating in the market, how would we be best served? And we are talking with a number of potential partners rather than maybe potential customers. So, lot of moving parts to it. But it's OEMs around the world with very opportunistic view of what the US aftermarket might bring with a goal to having 30% of our sales from overseas within three to five years. Thank you for the question.

Moderator

Great, thanks Jim. I appreciate it.

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China Direct (ticker: CHND.OB) is a diversified management and consulting company. Our mission is to create a platform to empower medium sized Chinese entities to effectively compete in the global economy. As your direct link to China, our organization serves as a vehicle to allow investors to participate directly in the rapid growth of the Chinese economy.

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