Good day, ladies and gentlemen. Welcome to the Yongye International second quarter 2012 earnings conference call. (Operator Instructions). I would now like to turn the conference over to your host for today's call, John Capodanno. Mr. Capodanno, please proceed.
Thank you, operator. Good morning, ladies and gentlemen, and welcome to Yongye International's second quarter 2012 earnings conference call. I am John Capodanno of FTI Consulting, Yongye's investor relations advisor. With us today are Mr. Sam Yu, Yongye's Chief Financial Officer, and Ms. Kelly Wang, Yongye's Finance Director.
Before we start, I would like to remind our listeners that management's prepared remarks in this call contain forward-looking statements which are subject to risks and uncertainties and may make additional forward-looking statements in response to your questions. Therefore, the company claims the protection of the Safe Harbor for Forward-Looking Statements as contained in the Private Securities Litigation Reform Act of 1995.
Actual results may differ from those discussed today due to such risks as, but not limited to, fluctuations in customer demand, management of rapid growth, intensity of competition from other providers of plants and animal nutrient products and services, general economic conditions, geopolitical events, and regulatory changes and other information detailed from time to time in the company's filings and future filings with the United States Securities and Exchange Commission.
Although the company believes that the expectations in such forward-looking statements are reasonable, there's no assurance that such expectations will prove to be correct. On the call today, we'll also mentioned adjusted financial measures during the discussion of our performance. Reconciliations of those measures to comparable GAAP information can be found in the second quarter 2012 earnings release that was distributed early this morning.
Any projections as to the company's future performance represent management's estimates as of today, August 9, 2012. Yongye assumes no obligation to update these projections in the future as market conditions change. Having now stated those formalities, I will now turn the call over to Mr. Sam Yu for a review of the company's developments in the second quarter of 2012.
Thank you, John. Thank you, everyone, for joining us today. Yongye has achieved another successful quarter with excellent growth in shipments of Shengmingsu and the continued strong uptake of our (inaudible) products highlighting the strength of our plan and the strength of our sales and distribution strategy.
We remained focused on expanding our distribution networks and strengthening our penetration in both new and existing markets.
During the second quarter of 2012, we continued expansion of our branded retailers to 32,015 stores covering over (inaudible) regions in China. The majority of newly recruited branded retailers are from Hebei, Shanxi, Jiangsu, and Henan provinces.
I would like to begin by providing an overview of our performance during the second quarter of 2012. Revenue increased 14.8% to $177.6 million from $154.7 million in the second quarter of 2011. Gross profit increased 17.8% year-over-year to $108.1 million. Income from operations increased 3.9% to $53.5 million.
Net income attributable to Yongye increased 4.0% to $41.1 million from $39.5 million for the same period of 2011. Diluted earnings per share stood at $0.74 compared to $0.77 for the same period of 2011.
Adjusted net income attributable to Yongye which excludes non-cash expenses related to share-based compensation for management and independent directors, the amortization of the acquired Hebei customer list, and a change in the fair value of derivative liabilities was $43 million or $0.78 per diluted share compared to $40.5 million or $0.82 per diluted share in the same period last year.
Cash flows from operating activities was $8.1 million for six months ended June 30, 2012 compared to cash flows used in operating activities of negative $27.8 million in the same period of 2011.
In this month's activities, you will notice that we called attention to accounting principle that were applied in the fourth quarter of 2011 to revenue recognition for certain distributors who have (inaudible).
The impact of this issue among revenue and profit recorded under US GAAP was negative for the first quarter of 2012 which is a non-peak quarter for us. For this second quarter, which is our peak busy season, the account impact is quite significant.
It is important to note that this issue is not related to our (business fundamentals) in this quarter. We also had no production issues at all in this quarter as we have zero overdue accounts receivable.
I'd like to provide some additional color on (recovery). Due to the issues that we normally experience with the timing of collection of accounts receivable in the fourth quarter of 2011, we adopted and more conservative about our approach since then. (Inaudible) revenue is recognized on a cash basis rather than a shipping basis.
These distributors are the ones who have delayed payment in the fourth quarter of 2011. To reiterate, none of those distributors (inaudible) have overdue accounts receivable in this quarter. However, we cannot recognize the revenues from (inaudible) distributors' shipments until the cash is actually received.
The second quarter which is historically our single biggest quarter of shipments actually saw a 37.1% increase in shipments compared to the prior year period while our (inaudible) prices remained stable.
However, a significant portion of this revenue was unrecognized in this quarter due to the above-mentioned revenue recognition approach.
In addition, a significant amount of profit associated with this unrecognized revenue was not booked, either. We estimate that without the revenue recognition issue our revenue and profit would have increased the profit 41% and 59% respectively year-over-year.
This accounting policy will remain in place until we have sufficient time to prove that these distributors' payments are on track. However in the meantime, it is important to note that (inaudible) in our quarterly results.
Given that the second and third quarters typically account for 70% to 80% of our added shipments and only extend six month credit terms to our distributors, this means that a significant portion of the second and third quarter revenue may not be booked until the fourth quarter of 2012 and the first quarter of 2013.
The important thing is that while we were more concerned with our revenue recognition for some distributors due to prolonged payment in the fourth quarter of 2011, our business fundamentals including orders, shipments, and the profitability remain very strong.
We're also in better shape in terms of our collections. We collected all outstanding accounts receivable balance by the end of 2011. None of our distributors have any overdue accounts receivable during this quarter.
I would now like to provide an outlook on our recent highlights before turning the call over to Kelly who will go over our financials in more detail. As a reminder, in the first quarter, we officially launched the two new products, (inaudible) and (inaudible). The two products (inaudible) and help the company break into the nutrient market (inaudible) product in China.
These new products are used earlier in the (inaudible) process which should help to foster sales for Yongye into the (inaudible).
So far, the two new products have produced very stable results which exceeded our expectations. During the second quarter, the two new products contributed $20.7 million sales or 11.8% of the total liquid crop nutrient sales. We believe we will further solidify our marketing position and enhance our already strong brand.
During the quarter, we also continued our past expansion efforts. We expect to increase our manufacturing capacity by 57% to 75,000 pounds at the end of the year. This is consistent with our strategy to expand our product diversity and capacity in order to take advantage of the growing market (inaudible) of our product.
China (inaudible) and demand for better agriculture activities are key factors that contribute to our long-term goal opportunities Another highlight that was strong in the quarter was that we made progress with our mineral resource exploration project (inaudible) in Mongolia, China.
As a reminder, we only entered into agreement to purchase this mineral resource project in March, 2010 to secure the key raw material used in the production of Yongye's (inaudible) product.
A professional third-party exploration company began its field work on the project site which consists of (inaudible) and taking samples among (inaudible) for the roughly 30 square kilometer site. Once we have all the required reports (inaudible), we are submit a report to China's Administry of Land and Resources for review.
Our initiatives in this area are part of our long-term strategy to realize the (inaudible) competitive advantages and meet all the demands for our products. With that, I would now like to turn over the call to Kelly Wang, our Finance Director, to give you an overview of our financial results in the second quarter.
Thank you, Sam, and good morning, everyone. (Inaudible) our second quarter of 2012 results. We are very pleased to announce another solid quarter. As (inaudible) discuss the results (inaudible) for the year, I'd like to give you the numbers Please note that I will only speak in US dollars (inaudible) specifically mentioned.
Sales increased by $22.9 million or 14.8% to $177.6 million in the second quarter of 2012 from $154.7 million for the same period of 2011. In the second quarter of 2012, $176.3 million or 99.3% of the total sales were from the liquid crop nutrient and $1.3 million crop nutrients.
The original crop nutrient contributed $155.6 million or 88.2% of total liquid crop nutrient sales while the new products for crop seeds and roots contributed $20.7 million or 11.8% of the total liquid crop nutrient sales. During the second quarter of 2012, the number of branded retailers increased from 30,886 to 32,015 and with the majority of newly recruited branded retailers from Hebei, Shanxi, Jiangsu, and Henan provinces.
Gross profit was $108.1 million in the second quarter of 2012 compared to $91.8 million in the same period of 2011, an increase of 17.8%. Gross margin was 60.9% in the second quarter of 2012 compared to 59.3% for the same period of 2011. The increase in gross margin was mainly due to the decreased purchase price of certain raw materials.
Selling expenses increased by $9.4 million or 32.2% to $38.6 million in the second quarter of 2012 from $29.2 million for the same period of 2011. The increase in selling expenses was primarily due to an increase in advertising and promotion expense and distributors' seminar expenditure of $9.3 million related to marketing and promotional activities in our markets.
General and administrative expenses increased by $3 million or 54.8% to $8.6 million in the second quarter of 2012 from $5.6 million for the same period of 2011. The increase in general and administrative expenses was mainly due to an increase in management equity compensation expense and other administrative-related expenditure for the quarter.
Research and development expenses were $7.4 million in the second quarter of 2012 compared to $5.6 million for the same period of 2011. The R&D expenses mainly consisted of field testing expense for new products and tests on different crops and in newly developed markets.
Operating income was $53.5 million in the second quarter of 2012 compared to $51.5 million in the same period of 2011. Excluding non-cash expenses related to share-based compensation for management and independent directors and the amortization of the acquired Hebei customer list, the second quarter of 2012 adjusted operating income was $55.4 million or 31.2% of sales.
The increase in prices from operations was mainly due to the sales growth combined with lower purchase price of certain raw materials.
Net income attributable to Yongye was 441.1 million or $0.74 per diluted share in the second quarter of 2012 compared to a net income of $39.5 million or $0.77 per diluted share in the same period of 2011. The company recorded non-cash income related to a change in fair value of derivative liabilities of $9,889 in the second quarter of 2012.
Excluding the impact of non-cash expenses related to share-based compensation for management and independent directors, the amortization of the acquired Hebei customer list, and a change in the fair value of derivative liabilities, adjusted net income attributable to Yongye for the second quarter of 2012 was $43 million or $0.78 per diluted share compared to adjusted net income of $40.5 million or $0.82 per diluted share in the same period of 2011.
Revenue for the six months ended June 30, 2012 increased 18.1% to $242 million from $204.9 million for the comparable period in 2011. For the same period of 2012, gross profit was $143.5 million compared to $119.1 million in the first six months of 2011.
Gross margin was 59.3% for the six months ended June 30, 2012 as compared to 58.1% for the same period of 2011. Operating income in the first six months of 2012 was $75.4 million compared to $62.8 million in the first six months of 2011.
Net income attributable to Yongye for the first six months of 2012 was $57.5 million compared to $47.9 million in the prior year period. In the first six months of 2012, net income per diluted share was approximately $1.02 as compared to $0.94 diluted earnings per share for the same period of 2011.
Turning to our balance sheet, as of June 30, 2012, we have $82 million in cash and restricted cash compared to $81.2 million as of December 31, 2011. Working capital was $329.6 million compared to $270.4 million at the end of 2011. We had $24.3 million in short-term bank loans and $11 million in long-term debt as of June 30, 2012.
Stockholders' equity totaled $395.7 million as of June 30, 2012 compared to $331.9 million at the end of 2011. (Inaudible) increased to $70.6 million as of June 30, 2012 from $86 million as of December 31, 2011. (Inaudible) was the peak season of our regular crop nutrient product. This took place in the second and the third quarter. We accumulated high volume (inaudible) of our regular crop nutrient product during the first six months of 2012.
(Inaudible) increased by $34.7 million or 23% as of June 30, 2012 compared to $153.6 million as of December 31, 2011. The increase in accounts receivable was consistent of the strong growth in the six months ended June 30, 2012. Of the $197.2 million of growth attributable as of June 30, 2012, (inaudible) were past our six month (inaudible).
For the (inaudible) balance as of June 30, 2012, our top three customers accounted for $66.2 million or 33.5% and our top (inaudible) customers accounted for $102.2 million or 51.8% of the total amount of accounts receivable.
Cash flow provided by operating activities was $8.1 million and the cash flow used in operating activities was negative $27.8 million for the six months ended June 30, 2012 and 2011, respectively.
The change was primarily due to the decrease of $31.7 million in working capital consumption. That was mainly driven by collection of accounts receivable partially offset by a high inventory balance. Other factor includes an increase of $9.6 million in earnings.
Turning to our business outlook, we are pleased with our strong business fundamentals and the renewed confidence that Yongye will achieve its projected growth targets for 2012.
For the full year 2012, the company reiterates its expected revenue between $495 million and $515 million and adjusted net income between $110 million and $120 million which excluded the impact of non-cash expenses related to share-based compensation for management and independent directors, the amortization of the acquired Hebei customer list, and a change in the fair value of derivative liabilities.
The company also expects that its branded retailer network will be expanded to 35,000 by the end of 2012 which represents a 16.3% increase over the 2011 year-end number of 30,086.
(Inaudible). I would like to turn the call back over to Sam for (inaudible) remarks.
Thank you, Kelly. Before I open the call for questions, I would like to take a few minutes to reiterate a few points and address some of the questions we have been receiving.
As I mentioned earlier, our second quarter results was significant in impacting a new permission policy issued in our update to the first quarter of 2011 for some distributors who have (inaudible) in the fourth quarter 2011. Our shipments actually increased 37% and the profit (inaudible).
We continue to increase our (inaudible) interaction and hope to return to our normal (inaudible) policy for (inaudible) as soon as possible. Currently, none of our distributors have any overdue accounts receivable.
(Inaudible) performance in (inaudible) which was done (inaudible) our two new products. We remain optimistic about the (inaudible) for these products and are confident we will achieve our business goals for the year.
As I mentioned on the last earnings call, (inaudible) to be more aggressive in engaging the (inaudible) community. In late March, we had a (inaudible) in the US where we had two full days of meetings (inaudible). The meetings went very well and we were (inaudible) with the market in the US.
We also (inaudible) coverage. We also understand that some shareholders (inaudible) that the company should issue dividends (inaudible) a buy back to return cash to shareholders. However at this point, as this quarter's strong performance highlights, we continue to see excellent growth opportunities and the company and the board remained focused on supporting and investing in the growth of the business.
As a result, we do not (inaudible) to issue dividends or (inaudible) buy back at this time. (Inaudible) cash into the business. We have come a very long way in these past several years and will remain focused on positioning the company for true long-term growth. We had a very strong first half of 2012 with strong performances of our two new products and this will further penetrate into (inaudible) and new markets.
Our (inaudible) expansion efforts and mine exploration entitles, we also have to further (inaudible) our company's competitive position in the market. We have something that cannot even be replicated in our brand and the way we are committed (inaudible) as well as our strong distribution and (inaudible) as we move forward.
Thank you all for your support. Now I'd like to open this call up to questions Operator?
We will now begin the question and answer session. (Operator instructions). Your first question comes from the line of (Patrick McMullan) who is a private investor.
(Patrick McMullan) – Private Investor
Hello. I'm calling as one of the representatives of a group of 52 long-term shareholders who own 2.2 million shares of Yongye stock. First of all, congratulations for once again on great quarterly results. I think that you've done well for yourselves but as you know, our group transmitted a letter to your board of directors in May of this year asking you to consider several actions that would improve investor confidence in the company and perhaps improve the share price, as well.
One of these actions included better and more frequent press releases and communications with investors and other suggestions to improve shareholder's confidence. We received a one-paragraph response with a bullet, which we appreciated, but that response essentially stated that Yongye would not make any changes at this time.
I would appreciate it if you would explain why the company has declined to improve communications with investors with more frequent press releases in between quarters. This is something that really did not cost a lot but would improve shareholder confidence in the company and allow us to make more informed judgments as investors in the company.
I understand that there are a lot of things going on from quarter to quarter and yet we hear very little from the company. So I would just like to ask if you could talk about your shareholder communication policy and whether you would be willing to improve the frequency and the quality of your shareholder communications. Thank you.
Thank you and thank you to your support to our company. We did receive the letter you just mentioned and forwarded that letter to our board and (inaudible) community. As I mentioned earlier, (inaudible) this year. During the first half of the year, we spent three, four days in (inaudible) and (inaudible) institutions and (inaudible) and we also made some progress with (inaudible) coverage at (Greenbury).
It was (inaudible) of our (inaudible) some time ago and good progress and news for our investors, we will probably release the company news (inaudible) to investors and we're working with (inaudible) strategy and best practice.
(Patrick McMullan) – Private Investor
Your next question comes from the line of (Anson Beard), who is also a private investor.
(Anson Beard) – Private Investor
Sam, just a little background, I was the guy who was bordered on being rude two meetings ago saying you guys weren't focusing on cash flow. We had a $47 million delta negative between 2010 and 2011. Frankly, I think what you guys have done here is spectacular. I also made the point to talk...
I'm an advisory director of Morgan Stanley and I talked to your representatives on the board and said you should stop running that company for growth and focus on growing cash flow. It appears to me that you've made substantial change. Looking at your cash flow statement, you've got a positive delta between the first half of this year and the last half and last year of $36 million and that compares to the negative delta of $47 million.
You add those together, that's $83 million. I think that's spectacular progress. A couple of quick questions and I want to congratulate you on a couple of quick questions. I see here a negative adjustment to your – or a positive adjustment to your accounts – delta accounts. Do I interpret that correctly that you've set up a reserve last year of $15 million and when all the smoke cleared in 2011, you had to write off $9 million? Is that correct?
Thank you for the question and we first of all, we like to share with our investors that we did place (inaudible) from cash flow models (inaudible) beginning this year. Last year's situation caught us by surprise a little bit and we're making very good progress this year and our cash flow (inaudible) completely are focused moving forward.
For the accounts receivable allowance, we accrued allowance for distributors for ourselves at the end of the last year which for the first time, we experienced overdue accounts with a balance. In the second quarter of this year, all distributors are on a good track. None of them will have any overdue accounts receivable in second quarter.
(Anson Beard) – Private Investor
Sam, you're not answering the question. Did you write off last year $9 million? Is that a correct end of the year? You set a preserve for $15 million. You're reversing $6 million. Did you write off $9 million? Just yes or no.
I'm sorry (inaudible).
(Anson Beard) – Private Investor
Right here in your cash flow statement for the six months ended, you show a negative $6 million because you put money back in from your reserve (inaudible) double accounts so I assume that the $15 million reserve – what?
(Anson Beard) – Private Investor
It's 15 minus six.
(Inaudible) first quarter, yes.
Your next question comes from the line of (Ken Shriner), who is also a private investor.
(Ken Shriner) – Private Investor
Yes. I'm one of the representatives of the 52 shareholders and congratulations on your quarter. As part of our letter, we talked about cash to buy back some shares. Do you believe shares of Yongye are substantially undervalued at this time and if so, why hasn't the board of directors authorized a small repurchase plan, which would improve earnings per share and improve the company's net book value per share?
I understand that you believe Yongye does not have sufficient resources to buy back shares now. How much more cash or free cash flow would Yongye require before you would consider a buy back or are you saying that Yongye will never buy back shares?
Our board did discuss what's the best use of our cash in the board meetings and as you know, we are still in a very high growth period and also there are very strong (inaudible) business and requiring a lot of open capital to support our growth. (Inaudible) nothing in the (inaudible) business.
It's still the best use of our held cash and the second thing we also note is there's some (inaudible) happenings from China and United States (inaudible) program but we haven't seen a very convincing case to buy back shares will increase the shareholder outlook, the share price (inaudible) and (inaudible) there's also a tax issue and you might be aware of that (inaudible) tax in China and Hong Kong and (inaudible) structures.
(Inaudible) for shareholders in terms of their investment. So we will continue to monitor the situations and make the best decision for shareholders. Thank you.
If I can add one more thing, our chairman, Mr. Wu, her personally purchased $3 million worth of shares from the open market (inaudible) demonstrating his (inaudible) increase the value for shareholders and our chairperson right now is (inaudible).
Your next question comes from John Harrell with Harrell Associates.
John Harrell – Harrell Associates
Good morning. I've got a question about revenue recognition and this new method for accounting. Does this come as a directive from the SEC or does it come directly from KP&G based upon what they were instructed to do by the SEC basically with regards to accounting for sales not – sales – what am I trying to say here? Only recognizing revenue based upon sales from distributors who have a good payment history.
Thank you for your question. This (inaudible) SEC. It has occurred to us that last year that some distributors from first time their payments are over six months (inaudible). We have discussions (inaudible) approach to report our revenue is to not (inaudible) revenue for those distributors which have (inaudible) until we actually receive a cash payment. This (inaudible) partly was set up in the fourth quarter of 2011 and has been continued through the first quarter and second quarter.
In the second quarter this year, (inaudible) none of them have overdue accounts receivable (inaudible) but we (inaudible) more time to give us confidence to (inaudible) cash. So we will continue to monitor (inaudible) of our distributors and enhance our (inaudible) interaction. Hopefully we can switch back to that (inaudible) soon.
John Harrell – Harrell Associates
OK, thank you very much.
At this time, there are no further questions. Mr. Yu, do you have any closing remarks?
Thank you, everybody, for joining this conference call. We had another great quarter in terms of our business for the launch of two new products in the first half of this year and our regular (inaudible) well and so the second half of the year, we continue to focus on cash flow management (inaudible) accounts receivable, and our (inaudible) on track and we've already started exploration project (inaudible).
We are very well positioned to take advantage of strong market (inaudible) for our products in the remaining part of 2012 and beyond. Thank you very much.
This does conclude today's Yongye International second quarter 2012 earnings conference call. You may now disconnect.
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