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  • A Look Inside Keyuan Petrochemical: An Interview with the CFO 0 comments
    Jan 31, 2011 6:51 PM | about stocks: KEYP

    Ms. Aichun "Angela" Li was kind enough to respond to my requests for further information on the company so I could write an article about them. The following is the transcript of much of the ensuing conversation.

    Before we being, I believe an introduction is necessary:

    Ms. Li has been the CFO of Keyuan since early in May 2010. Ms. Li has a decade of experience in Corporate Finance and was most recently a consultant with Bank of America (ticker: BAC) where she managed financial reporting, forecasting, and planning for several multi-million P&L accounts. Prior to that, Ms. Li was working with Nucor Corporation (ticker: NUE) as their senior accountant. Ms. Li consulted with 36 divisions of Nucor on internal finances and taxes. Before joining Nucor, Ms. Li was a tax consultant with Deloitte & Touche LLP. Lastly, Ms. Li has served as a member of the board of directors for Huifeng Bio-Pharmaceutical Technology Inc. in China. Ms. Li's educational credentials speak for themselves: an MBA from the Fuqua School of Business at Duke University and a Master of Science in Accounting from Wake Forest University. Ms. Li is also a Certified Public Accountant.

    I would like to take a moment to thank Ms. Li for taking the time out of her schedule to answer my questions.

    Zach: I am curious as to why Keyuan has chosen to use the reverse merger process to access U.S. shareholders. This is especially interesting given all of the negative sentiment and press that reverse mergers are getting because a handful have turned out to be frauds. Why did the management choose the reverse merger process as opposed to a traditional IPO?

    Ms. Li: Keyuan started production and sales in Q4 2009. We project to report $550 million in sales for the 2010 year that just ended, the first full year of operation. So this is a young company positioned for a quick ramp-up to capture the business opportunity in its exciting niche market. A reverse merger provided the company with immediate access to capital needed, while an IPO would have taken over a year to complete. The Company achieved a NASDAQ uplisting in 3.5 months from the final closing of the first financing (the quickest RTO in history to do so) and was recently upgraded to NASDAQ Global Market. Management is committed to become one of the best public companies that is serious about creating shareholder value.

    Zach: Now that the company is a U.S. publicly traded company, does the management feel that there is a stigma attached to the company because it is a reverse merger?

    Ms. Li: Yes, we do feel it.

    Zach: What actions can the management do to build confidence in potential US shareholders beyond obtaining KPMG as an auditor and paying a cash dividend? Are there any plans in place to implement these initiatives?

    Ms. Li: The most important thing management can and is doing to build shareholder confidence is to stay focused on servicing our customers and executing our growth plan to deliver what we promised to our shareholders. We are focused on being completely transparent through our communication efforts with shareholders to help them better understand our business and corporate practices.
    Properly setting and managing expectations builds confidence. In our short time as a public company, we have clearly articulated our growth strategy and successfully executed each of these initiatives on time and on budget. We are hosting many on-site investor visits that provide interested investors the opportunity to see for themselves and to have open, direct dialogues with management. Lastly, subsequent to our reverse merger we raised $20 million with PRAX Capital, a private equity firm focused on the greater China market. PRAX completed very thorough due diligence over a six month period and we believe this provides additional confirmation to US investors about the quality of Keyuan's management and business model. Please visit www. for more information.

    Zach: The reported results of many US listed, Chinese reverse-mergers have been compared to their SAIC filings with large discrepancies found. Is there a legitimate reason for large discrepancies between figures in the SAIC filings and those filed with the SEC?

    Ms. Li: In many cases I would not expect to see large discrepancies between those two sets of figures. However, there are cases where reconciliation can be made based on based on legitimate reasons to bridge bigger discrepancies.

    Zach: What are the drawback to US investors who use a company's SAIC filings as a proxy of business condition?

    Ms. Li: One of the drawbacks using simply SAIC filings as a proxy of business condition is that some US investors do not have certain necessary background information on SAIC filings to help them bridge the gap if they are any. Getting the full picture is important in making sound judgments. The most recent SAIC filing we had was the 2009 report showing about $14 million cumulative loss from 2007 to 2009. The China subsidiary was registered in 2007, started construction in early 2008 and started production and sales in Q4 2009. Our US filing for 2009 recorded one year's loss of about $9M including income tax benefit.

    Zach: Does the management foresee any potential events in the near future that may reduce its ability to refinance its revolving debt?

    Ms. Li: The company has maintained good relationships with several local and national banks, including China Construction Bank, Agricultural Bank of China, and Bank of China. We have successfully extended almost all revolving debts as we needed in the past year. With an adequate coverage ratio of EBITDA to interest and debt service, we do not see any adverse events at this point that will reduce our ability to refinance revolving debt as we continue to strengthen our relationship with the lending community.

    Zach: In the SEC filings, there was mention of a Circular 698 and its potential effect on Keyuan. I did not entirely understand the implications of this. Would you mind going into a little detail about what it is and how it may affect the business?

    Ms. Li: Since Circular 698 has a short history, there is uncertainty as to its application and its enforcement scope is still subject to interpretation by PRC tax authorities. However, our understanding is that the purpose of Circular 698 is to prevent PRC shareholders from using off-shore companies to avoid PRC tax. In the event that the tax authorities determine that a reasonable commercial purpose for the offshore holding companies, other than the avoidance of PRC income tax liability is lacking, the PRC tax authorities will have the power to re-assess the nature of any equity transfers under the doctrine of substance over form. According to Circular 698, in case the operating company is a PRC company while the offshore holding companies are only shell/holding companies which are located in a country or jurisdiction where the effective tax burden is less than 12.5% or where the offshore income of its residents is not taxable, any transfer of the equity shares in the offshore holding company (excluding shares in PRC-resident enterprises both bought and sold in the public securities markets) would also be subject to PRC taxation. For example, the exercise of "slow-walk" options agreements may be subject to Circular 698 and likely to come under greater scrutiny by PRC tax officials and regulators. However, since buying or selling shares in the public market is a normal commercial transaction and itself can serve as evidence that such a transfer has reasonable business purpose (not for the purpose of avoidance of PRC tax), buying and selling shares in public market is not subject to Circular 698. Therefore, we don't see Circular 698 as a practical concern to our public shareholders.

    Zach: Has it been determined if dividends to Keyuan from its operating subsidiaries in China will be subject to the 10% tax under new EIT laws?

    Ms. Li: We are in the process of finalizing all accounting and tax considerations related to the dividend payment.

    Zach: In the most recent 10Q, estimations of completed construction of certain facilities were given. Estimated revenues and profits were given for the SBS building. Are there any forecasts as to the impact on revenues and net income from the completion of the asphalt facility or the pre-treatment facility?

    Ms. Li: Projected annual revenue and net income from the asphalt facility will be approximately $300 million and $30 million respectively, with full year benefit starting 2013.

    Zach: When are the company's 2010 year end results expected to be out?

    Ms. Li: The filing deadline for Keyuan's 2010 10k is March 30. We expect results to be out around mid-March and will announce the specific data about 1 week in advance.

    Zach: Is there anything that you would like to include in the article or anything that you would like potential US shareholders to know?

    Ms. Li: It is important that investors understand that Keyuan differentiates itself from the competition through its technology advantage and innovation. We are different because of our ability to utilize heavy oil in the production process. Given that our input costs are less than our competitors, we operate with a better margin profile which translates into higher cash flows. We continue to improve our production processes and develop new products to ensure we stand strong in the competition.
    Keyuan has strong regional demand for its products with close proximity to local buyers. This, too, adds to sales potential, as well as minimizing transportation pricing impact.

    In addition, Mr. Tao, our Chairman and CEO served as President of two companies in Ningbo, Hebang Chemical and Daxie Liwan Petrochemicals, which were both purchased for more than $1 billion from CNOOC. He has deep industry experience and has been able to build companies from the ground up to monetization. He is also one of the principle shareholders of Keyuan and so his goals of maximizing value are completely aligned with the US investors.

    Currently, Reuters, Bloomberg, Yahoo, and others still reflect a market cap of only $19 million. That's because these companies only recognize the common share count from the latest 10Q or 10K filing and as a policy don't recognize preferred shares. That last 10Q filing recognizes the share structure as of 09/30/2010. When you account for all preferred shares that were converted to common shares in November 2010, the correct market cap is over $325 million. These publications will reflect the higher figure when the 10K is filed in March 2011.

    Stocks: KEYP
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