Executives
Hong Zhu - VP of IR
Tony Liu - Chairman and CEO
Lily Li - COO and CFO
Wilfred Chow - SVP of Finance
Analysts
Gur Roshwalb - Piper Jaffray
Elliot Wilbur - Oppenheimer
Anindya Chatterjee - Jefferies
Julie Chen - CRT Capital Group
Alex Xu - Brean Murray
Catherine Liu - Oppenheimer
American Oriental Bioengineering Inc. (AOB) Q4 2007 Earnings Call March 6, 2008 8:00 AM ET
Operator
Welcome to the American Oriental Bioengineering Incorporated fourth quarter and full year 2007 Earnings Call. (Operator Instructions)
I would now like to turn the conference over to Mr. Hong Zhu, Vice President of Investor Relations with American Oriental Bioengineering. Please go ahead, sir.
Hong Zhu
Thank you, Operator. Thank you, everyone, and welcome to the AOBO fourth quarter and full year 2007 conference call. On our call today is Tony Liu, Chairman and Chief Executive Officer; Lily Li, Chief Operating Officer and Chief Financial Officer; Binsheng Li, Chief Accounting Officer; and Wilfred Chow, Senior Vice President of Finance.
Before we begin, I would like to mention that this conference call may contain forward-looking statements within the meaning of the federal securities laws. Forward-looking statements include statements concerning plans, objectives, goals, strategies, future events and our performance, and underlying assumptions and other statements that are historical in nature.
These forward-looking statements are based on management's current expectations, and are subject to risks and uncertainties that may result in expectations not being realized, and may cause actual outcomes to differ materially from the expectations reflected in these forward-looking statements.
Potential risks and uncertainties include products, service, demand and acceptance, changes in technology or economic conditions, the impact of competition on pricing, the impact of governmental regulation and other risks contained in the report filed by the company with the SEC. For information on this matter, we encourage you to review the company's most recent 10-K filing.
With that said, I would now like to turn the call over to Tony Liu. Go ahead, Tony.
Tony Liu
[Translated]. Good morning and welcome to our fourth quarter and full year 2007 conference call. I would like to provide you with a strategic overview of our business. Lily Li will then review some of our financial highlights for the fourth quarter, and I will conclude our prepared remarks by discussing our strategic plans and outlook for 2008.
Overall, our results for fourth quarter were strong and continue to reflect our commitment to improving our customers' health through the sales and marketing of pharmaceutical and nutraceutical products in China. Our results reflect the ongoing dedication and the commitment from our entire organization, and I thank all of our employees for their hard work over the past year.
We are extremely pleased with the financial results we realized in the fourth quarter and the full year of 2007. Our OTC and prescription products are in high demand by doctors, patients and pharmacies. This growth, our organic growth has put us on the right path for long-term growth. We believe that this ultimately creates shareholder value.
We completed a couple of acquisitions during 2007 that improved our product lines and broadened our distribution reach. We closed the CCXA and Boke acquisition, and Lily will provide you with greater details on each acquisition and their synergies with our existing business. But I point out that our acquisition approach or strategy is consistent, meticulous and so far effective.
All in all, our strategy of organic and acquisition led growth resulted in successful revenue enhancement in 2007, expanded market reach and brand spread across all major products. Our two-pronged strategy is working well.
We are taking the necessary steps to build a leading healthcare business in China. This includes aggressively exploring acquisitions and realizing consistent growth from new and existing businesses. We thank you for your support and I'll now turn the call over to Lily.
Lily Li
Thank you, Tony, and good morning, everyone. We are very pleased with our results for the fourth quarter and the full year. We exceeded our expectations by generating full year net sales of $160.5 million, up 46% year-over-year and slightly better than our guidance of $160 million. Earnings per share were $0.61, ahead of our expectations of $0.60.
Our top-line performance reflects success in our existing portfolio as well as our newly acquired businesses. Specifically, continued strength from our leading brands, including, for example, $4.4 million from our Jinji Yi Mu Cau product and existing product line growth driven by our effective marketing strategy.
Our performance also reflects continued acquisition led growth from our recent acquisitions, CCXA and Boke, both of which performed slightly above our revenue expectations, contributing $7.4 million in the fourth quarter and $8.6 million in the year.
Our revenue has risen along the lines of our three main businesses. So, let me quickly review their performance. Prescription pharmaceutical product revenue was up 49% year-over-year to $22.2 million in the fourth quarter of 2007. And OTC pharmaceutical product revenue increased 54% to $25.6 million during this period.
Nutraceutical product contributed to about 17% of our total revenue in the fourth quarter and generated $9.6 million, compared to $9.8 million in the fourth quarter of last year.
Our fourth quarter gross margins are strong at 68.1% as we continue to generate most of our revenue from higher margin product. Compared to the rest of the year 2007, gross margin performance reflects the initial inclusion of CCXA and Boke products in the revenue mix.
Over time this diversity of our products allows us great flexibility. This benefits us because we can guide and shape our revenue mix to maximize our overall profitability. We closed the year with $166.4 million in cash, which includes $21.2 million from the first conversion of warrant, and we generated approximately $18 million of operating cash flow in the fourth quarter and a $45 million in full year.
We are pleased with our cash position and cash generation which allows us to continue our strategy of organic and acquisition-led growth. Overall, we are pleased with our 2007 financial results. We have a great team in place to quickly integrate our acquisition, so we realize synergies across our business including in branding efforts and distribution channels.
We also continue to strengthen our competitive position in China's healthcare market. For example, our senior management team is extremely high quality, with proven ability to execute our plan. We have over 80 people on our senior team, and our combined experience is unmatched. We know how to plan, strategize and execute tasks, and we see this in advertising, sales, acquisition strategy, finance really across our entire business.
We have a results based culture at AOBO, and we believe this is one of our competitive advantages. We have famous brand across several different therapeutic areas, such as Jinji in women health, Boke nasal products, and the Shuanghuanlian in the anti-viral area. This brand leading leadership across multiple areas, positions us for diversified future growth.
From a product perspective, we also have the ability to expand and advance our product portfolio in our existing areas as well as in our new therapeutic areas. In this way we're not dependent on any single product and that we only pursue opportunities that are extremely attractive from a pricing and a revenue standpoint. We are innovative in a dynamic environment and we will always explore new ways to strengthen our long-term growth.
Our distribution network is extensive and is geographically diverse, with hundreds of distributors, over 100,000 points-of-sale, and over 2,000 sales people managing this relationship. This remains a distinct competitive advantage and that we are always seeking out new ways to expand our reach. This includes placing our products in a most effective point-of-sale like hospitals, clinics and pharmacist. We continue to penetrate rural markets.
Lastly we are the consolidator in China's healthcare space, and we have a proven track record of success. This lays a solid foundation for larger and most strategic acquisitions in the future. All-in-all our management team continues to execute, proving that we have a better team in place, a better product line, and a better operating platform to implement our plan to be China's leading pharmaceutical company, and to grow both organically and through acquisition.
We expect to be very active in pursuing acquisitions in 2008 and that we are seriously evaluating several at the moment. We will update share holders when the time is right. And our goal is always to create value for shareholders over the long-term.
Before we go to questions, let me comment on our guidance. For the first quarter of fiscal 2008, we anticipate revenue of at least $38 million, and we anticipate diluted earnings per will be approximately $0.12. The first quarter is traditionally our seasonally lowest quarter with the Chinese New Year celebrations, as well as exceptionally bad snow storm, occurring in Southern China this year. This could have a slight impact on sales, so we included this in our calculation.
Additionally, we also assume additional marketing expense in first quarter, as we make initial investments to brand our newly acquired products. We expect that the full year, however will be very strong and we continue to target organic revenue growth of at least 30% in 2008.
Lastly, this projection does not include any of the incremental revenue opportunities that we are evaluating right now. These include new acquisitions and product roll out, out of which we expect to create new opportunities for revenue and profit growth over the long-term
That concludes our prepared remarks for today. Operator, we are ready to take some questions.
Question-and-Answer Session
Operator
Thank you. (Operator Instructions). We'll go first to Gur Roshwalb with Piper Jaffray.
Gur Roshwalb - Piper Jaffray
Good morning. Thank you very much. I have several questions focusing both on strategy and the guidance. The first question I wanted to ask is, if you can give us a little bit of clarity around your expectations for revenue contribution in 2008 for the recently acquired CCXA and Boke acquisitions?
Tony Liu
[Translated]. First of all thank you for the question. We are very confident about the year 2008, and we expect to have organic growth of 30% for this year. For the two newly acquired companies; CCXA and Boke, we are actually integrating them into our business, and we see very good results with regards to the integration. And we expect that the revenue of those two companies will double in this year.
Gur Roshwalb - Piper Jaffray
When you say double; double from the reported 2006 levels or double over what? If you could be a little bit clear on that.
Tony Liu
[Translated]. We acquired those two companies at the end of 2007, so we'll use the figure of 2006 and we will double that figure.
Gur Roshwalb - Piper Jaffray
Thank you. My next question deals with the acquisition strategy. As you previously guided to two to three acquisitions a year, and I think also recently in some sense have given an expectation that the acquisitions would become larger. Is that still your expectation for 2008, and can you give us a little bit of color around that?
Tony Liu
[Translated]. So, I believe that in this year 2008, the healthcare market here in China is very good, and I believe that we have had a very good and strong acquisition strategy, and also we have built up our prestige around our acquisition strategy. Also you many have noticed that we have strong fundamentals in our balance sheet. So in this year 2008 we certainly will pursue our acquisition strategy very aggressively, and any good opportunity, we will take it.
Gur Roshwalb - Piper Jaffray
Thank you. And I guess my last question revolves around the guidance for the first quarter. You've mentioned $38 million in revenue with $0.12 of the 78 million shares. Doing the math that implies that you're going to have lower expenses than you’ve had in the fourth quarter, and then you commented that you continued to spend in order to keep the campaigns going and in order to start the New Year. So, in terms of expenses, where can you cut back, or where do you expect the expenses to be lower in order to make the $0.12?
Wilfred Chow
[Translated]. I am Wilfred. I am going to take those questions. The first quarter is usually the lowest quarter in our company and is seasonally the lowest. With that being said, our company will be very cautious in monitoring all the operating causes within the company. We are carefully monitoring the selling and marketing expenses, but we are not going to slow down our investment in other marketing expenses that continue to build up our brand and will benefit us in the future.
We will continue with our initiative last year in 2007, innovation and cost control, and that initiative is going to continue into 2008. We're going to be very cautious in our G&A expenses, traveling to sales conferences that we're going to enter as well as other expenses. And we will tightly monitor the rate of expenses.
Lily Li
[Translated]. Hi, Gur, that does answer your question.
Gur Roshwalb - Piper Jaffray
Let just rephrase it a little bit and then I'm going to let other people ask questions, I'm sure many do. On $38 million in revenue, if you're going to get $0.12 with $78 million in shares, you have to have operating expense of $50 million, which is about $5 million less in the current quarter. Is there room to cut $5 million in operating expenses?
Tony Liu
[Translated]. I think the guidance that we are going to give is because of the lower revenue at $8 million, the corresponding cost of sales is going to be also at a lower rate as well. The actual number is going to be low as well, but overall we will be again the key theme is to continue to monitor our overall cost of sales as well as our operating expenses.
Gur Roshwalb - Piper Jaffray
Thank you very much.
Operator
And we'll go next to Elliot Wilbur with Oppenheimer.
Elliot Wilbur - Oppenheimer
Yes, good evening, and good morning. And thank you for taking my questions. First, more of a strategic for Tony. I guess with respect to the deal pipeline and acquisition flow in China. Can you just maybe give us a sort of a broader or more of a big picture perspective in terms of the quality of the deal flow that you're seeing? Are you still seeing a large number of high quality deals and just maybe some commentary on transaction pricing and the price of acquisitions? I guess the question is, are you still seeing a large number high quality deals and maybe they are just, in terms of price they are kind of at the high end or do you think that the actual number of deals that you are seeing has slowed down?
Tony Liu
[Translated]. Over the last several years, AOBO has accumulated very successful and good experience in terms of acquisitions. In the year 2008, we certainly have better opportunities in terms of in the government policy as well as acquisition opportunities. And also we have very good condition for doing acquisition. I expect that in the upcoming two years, the cost of the acquisition will be increased but not very great levels. So the increase will be relatively small. So I think that's how we certainly expect to see this.
Elliot Wilbur - Oppenheimer
Okay. And then just a couple of follow-up questions more around the P&L. Wilfred, could you just perhaps give us an outlook for tax rate in 2008 and sort of what we should we be thinking about longer-term? And then also just curious what's behind the roughly $3 million increase in expected share count over the course of '08?
Wilfred Chow
[Translated]. Those new national tax rules became effective starting January 1, 2008. The way how the new rules are going to be implemented at a local level is do not too clear in some regions. There are different tax rates currently applicable to our local subsidiaries. And some of the applicable tax rates may increase and some may reduce. Our current effective for the last year was 17.5% and we currently estimate the effective tax rate for 2008 will be in a range of 20% to 21%.
With respect to your question regarding the impact of 3 million shares that we first exercised as of year-end, those share counts will be added into the weighted average share calculations starting January 1st, 2008. So in our guidance for the first quarter, we take that into account with our guidance that's based on 78 million shares outstanding.
Elliot Wilbur - Oppenheimer
Okay, then I just had one last question perhaps for Lily as well. The company made a very timely decision to increase its focus on the OTC market last year, and I’m wondering going forward, do you still think that you're going to focus the majority of your strategic and acquisitive activities on the over the counter portion of the market versus our X portion?
Lily Li
[Translated]. Actually, in the first quarter of 2007, according to the changes in the market we have shifted our focus of our business to the OTC market. And in 2008 upon the results we have achieved, and then also upon the analysis we have done on what is going through the market, the OTC business in 2008 will certainly be one of the most important highlights of the year.
Elliot Wilbur - Oppenheimer
Alright, thank you. I have no further questions.
Lily Li
Thank you.
Operator
We'll go next Anindya Chatterjee with Jefferies.
Anindya Chatterjee - Jefferies
Hello there. I have a few questions. Number one is on the cost. If you look at your underlying business and you take your forward looking view on your cost, what do you see in terms of the trend in raw material, sales and advertising and wages particular, if you view two or three quarter's down the line, and if possible a couple of years down line? What is underlying trend in cost that you see?
Tony Liu
[Translated]. Hey Anindya let me take this question. I think the overall CPI in China is slowly creeping up. Last year inflation rate was around 11%. This is a fact that it's phasing by - over the enterprise in China. As a company we carefully monitor the raw material cost that we put. We signed a medium contract of vendors to maintain a relatively stable raw material price. And we 're doing different strategy to lower the risk, that's including diversification of our product offering as well as the other strategy that we may be using that will be - as all the general price increases, we can also address on our pricing strategy as well.
Operator
Okay. Please go head.
Anindya Chatterjee - Jefferies
Thanks. In terms of your impact of the Olympics, will it make any difference to your operations here and cost during that period when there's Olympic and around that time?
Tony Liu
[Translated]. Of course, I believe Olympics are indeed a very good opportunity for all the local enterprises in China. I think it's a very good driver for the enterprise to certainly pump up its sales. In terms of the cost, I think that the advertising cost for the company may be increased due to the fact that we are going to have Olympics. At the beginning of this year we have also taken into account this risk, so we are now taking efforts in order to further mitigate the risk of the advertising cost increase.
Anindya Chatterjee - Jefferies
Thanks. My last question is on the nutraceutical products; that has been a drag on the overall growth. Is there a strategy there over the long-term, if that is not going to grow or not going to be focused? Do you want to sell-off your nutraceutical products business, or if not how do you plan to integrate that line of business when the rest of your products will be growing much, much faster?
Lily Li
[Translated]. So I think that for the nutraceutical products, they are indeed a part of our business. Of course in different periods, we'll certainly have different opportunities and some of the market opportunities may be strong and some may be pretty weak in the recent period. I believe that the pharmaceutical sector is indeed posting us very good opportunities. But I don't think these opportunities will exist forever, but essentially will focus our efforts and resources to pursue the opportunities in the pharmaceutical sector in order to bring growth to the company and from value to the shareholder.
Anindya Chatterjee - Jefferies
Thank you.
Operator
We will go next to Julie Chen with CRT Capital Group.
Julie Chen - CRT Capital Group
Hi, good morning, Tony, Lily and Wilfred. My question is the healthcare macro environment in China, particularly targeting the rural areas is really getting a lot of Chinese government support particularly with the 2008 NPC meeting. Quarters, they were discussing healthcare reform. We're seeing news out there saying they're going to improve access to the medical offices. There were also talking about targeting women's health particularly in the rural areas. With all these government support, supporting this area which is the expertise if I'm going to say of AOBO women's health, secondly the rural area is a market area. Can you give us some insight how these activities can positively affect the company and how AOBO can benefit from it?
Lily Li
[Translated]. So like you know actually the medical care reform in China is now rolling out. In 2008, we are going to have the material implementation of the reform and what is important is that the rural medical reform is indeed the component of the overall reform and this certainly will reach the largest population in China as well as the consumer population in China.
So I believe that in terms of the healthcare opportunity, we are going to have the largest and unprecedented opportunity in the medical care reform and we're very well prepared for that, especially for the growth of the company for example. For the company we have acquired CCXA, they have the products which are targeting the world market and also for the acquisition were made for the GLP, they have the portfolio aiming at the world women. So, I believe that both in terms of the 100,000 points of sales and 2,000 sales people, we are now well prepared for the growth which will be brought about by the medical care reform.
Julie Chen - CRT Capital Group
My second question is on seasonality. As we all do know that first quarter is seasonally weak for large number of majority of the Chinese companies. Does the company have any plan to minimize the seasonality effect in the future, given the three-year plan, five-year plan that will close the gap a little bit more?
Tony Liu
[Translated]. As you know that Q1 is indeed pretty weak in terms of sales, this indeed is a fact. Over the short-term, I believe that the AOBO won't be negatively impacted by the weak Q1. For example in 2007, in last year we had a soft Q1, but this has not impacted any fundamentals of the company in last year. And in 2008, I believe that the same scenario will apply. And for the long-term perspective, I believe that the company will certainly focus on a holistic and comprehensive strategy in order to balance the growth of the company. And with acquisitions we have made, we've tried to broaden the portfolio in order to further have pretty balanced and comprehensive revenue.
Julie Chen - CRT Capital Group
Thank you very much.
Tony Liu
Thank you.
Operator
Thank you. We'll go next to Alex Xu with Brean Murray.
Alex Xu - Brean Murray
Hi, all good evening. Thank you very much for taking my question. I have a question still on the tax rate side. Wilfred you mentioned that in 2008 you’re targeting to 20%-21%. My understanding is that the uniform tax rate for ’08 will be 25%, and do you need to apply for a certain kind of a tax preferential treatment, for example if they qualify as a high-tech company or whatever to get that 20% to 21%, or it's just a standard by definition you automatically get that 20% -21%. If you do need to apply for whatever the designation, what’s the timeline you’re looking at because there are some other companies that you need to take probably a quarter to get the pool for a lower tax rate.
Wilfred Chow
[Translated]. Overall, the uniform tax rate in China at 25% actually applies to a majority of the companies China, but in particular regions a certain lot of companies will be still able to enjoy a preferential rate, such as company located in Guangxi where we have two subsidiaries located there. Their applicable tax-rate for those companies is still around is still at 15. So that is a prudential policy that the government has given to company located in this western provinces.
So, the estimate that we have given just now is a branded rate of the older subsidiaries that we currently operate, obviously -- and of course this rate can be changed if we have other acquisitions or any other changes overtime, because of a lot of the policies that's implemented right now is still not effectual. A lot of the local agencies are still trying to looking into what rate to implement. But that's the best estimate that we have and then we don't have to apply for a special permission to get to that rate.
Alex Xu - Brean Murray
Okay, thank you. And then the final, just a kind of a housekeeping item. You gave your revenue break down for the first quarter based on your prescription and non-prescription, and also you gave the detail on the Boke and CCXA as well as the Yi Mu Cao. Can you also give us others, for example Shuanghuanlian and other just on the product line what kind of revenue you had in the fourth quarter?
Tony Liu
[Translated]. Yes I think as a company we have mentioned in our previous conference call, we currently manage our company by segregating the product into three different categories, and we manage the category - more a portfolio company we will continue to manage that way.
The additional information that we've provide to the investing communities is to highlight the changes of the result over the year, and we'll continue to be very apparent in giving those information, but if this is the decision that we made I think that is more beneficial for the investing community to look at the financial result, the way the management is looking at it. So that's the reason why I gave it that way.
Alex Xu - Brean Murray
Okay. That's fair enough. Thank you.
Operator
Thank you. And we have time for one final question and that comes from Catherine Liu with Oppenheimer.
Catherine Liu - Oppenheimer
Hi, good morning, Tony, Lily and Wilfred. I have just one question regarding to your revenue growth. In 2007, Jinji Yi Mu Cao seems to be a very successful revenue contributor to you. In fact, if I take out the revenue contribution from both and CCXA, it seems to be me that your 2007 revenue increase was almost exclusively contributed by Yi Mu Cao launch. So, I'm wondering when we head into 2008, if we would be continued to expect the greater than 30% organic growth to be mainly driven by Yi Mu Cao or if we should be thinking about additional Yi Mu Cao type launch?
Tony Liu
[Translated] Hi. I'll take those questions. So the contribution of Boke and CCXA for our full year 2007 was around $8.6 million and the Yi Mu Cao also had played a substantial contribution to the overall total revenue in 2007. But I do disagree with your comment on the overall growth as the only contributor to one product, because we are continuing to diversify and continue to build and grow our existing product offering as well. I don’t want to get, I hesitate to get into a very detailed product growth number, but from the announcers, everything that we have of the already existing product also have a pretty satisfactory growth.
Catherine Liu - Oppenheimer
Okay. Thank you.
Tony Liu
[Translated]. I want to add one more comment on that as well. If we look at the overall growth and if you look at the Jinji product in particular, the overall growth for the series line is over 40%. If you have follow up questions?
Catherine Liu - Oppenheimer
That’s all, thank you.
Lucy Li
Thank you everyone we are looking forward to talking to you in our first quarter conference call. Thank you.
Operator
That does conclude today's conference. Please disconnect at this time. Thank you for your participation.
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