China New Borun's (BORN) Management on Q3 2017 Results - Earnings Call Transcript

China New Borun Corp. (BORN) Q3 2017 Earnings Conference Call November 22, 2017 8:00 AM ET

Executives

Terence Chen – Chief Financial Officer

Analysts

Albert Chan – Prime Capital

Operator

Good day, everyone, and welcome to the Third Quarter 2017 Earnings Conference Call for China New Borun Corporation. Today’s conference is being recorded.

Before we get started, I am going to review the Safe Harbor statement regarding today’s conference call. Please note that the discussion today will contain certain forward-looking statements made under the Safe Harbor Provisions of the United States Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our current expectations.

To understand the factors that could cause results to materially differ from those in the forward-looking statements, please refer to our Annual Report on Form 20-F filed with the Securities and Exchange Commission on April 25, 2017. The Company does not assume any obligation to update any forward-looking statements except as required under applicable law.

At this time, I would like to turn the call over to Mr. Terence Chen, Chief Financial Officer of China New Borun Corporation. Please go ahead, sir.

Terence Chen

Thank you, everyone, for joining us for China New Borun’s third quarter 2017 earnings conference call, and Happy Thanksgiving to those in the United States. In light of the holidays in the United States, I will keep this call brief so that everyone can have more time to accommodate their travel plans and celebrate the holidays with family and friends.

In today’s call, I will first provide you with a quick review of our business and industry dynamics as well as details on our operational developments in the third quarter of 2017. Following that, I will discuss financial details. Please note that, on this call today, all of our financial results will be referred in Chinese RMB, unless otherwise noted. Despite the longer annual maintenance period conducted during this quarter, revenue for the third quarter of 2017 of RMB457 million handily beat our previous guidance of RMB380 million to RMB420 million.

As you may recall from last quarter’s conference call, this year’s annual maintenance halted our third quarter’s production schedule by approximately two weeks in Shandong and four weeks in Daqing. The good news is that both our facilities are back up to full speed in the fourth quarter, and the demand for edible alcohol from the baijiu industry remains strong. This year’s mid-autumn international holidays stimulated strong baijiu consumptions around China, continuing the momentum of positive consumption gain for the entire industry.

According to statistics from the publicly listed baijiu producers, revenue for the baijiu industry in the first nine months of 2017 grew 29% year-over-year and the net income rose 42% year-over-year compared with 20% and 25%, respectively, for the first six months of 2017. The industry is also gaining higher selling price as consumers continue to upgrade to premium brands. The top brands grew the fastest at 43% year-over-year; followed by the mid-tier brands at 22% year-over-year; and the low-tier brands, the lowest at 12% year-over-year.

Driven by consumers’ willingness to spend more on higher-priced products, the average gross margin for the industry improved by 250 basis points year-over-year to 68.4% and net margin expanded by 330 basis points year-over-year to an impressive 33.5%. Another data point that demonstrates the overall health of the industry is that, of 18 publicly listed baijiu producers, 16 reported both top and bottom line growth. Reflecting the strong sales and profitability from a very healthy baijiu industry, the demand for edible alcohol remains robust, and we are encouraged by an increase in the average selling price of edible alcohol, which expanded 7% sequentially from that of the second quarter and continued to further increase in October.

As you may recall, at this time last year, we also saw strong demand for edible alcohol, but the supply for edible alcohol expanded even faster, fueled by very low corn prices at that time. Prompted by the cheap supply of corn, many small edible alcohol producers reentered the industry and aggressively pursued sales with irrationally low prices. The combination of a spike in supply and aggressive pricing by new entrants led to a biased market and caused the overall average selling price to sharply drop.

However, this year, the price of corn is more stable, and we are also seeing fewer smaller entrants adopting aggressive pricing practices. We believe the market for edible alcohol appears to have found its demand-and-supply equilibrium. As for corn prices, we believe the market has also stabilized, with an improved balance between demand and supply. It is estimated that the total output of corn in the current harvest season will be around 210 million tons, down from around 220 million tons last year, due to a 4.5% year-over-year decrease in planting area.

Meanwhile, the projected corn consumption is estimated to be around 216 million tons. This is the first time since 2009 that the projected supply of corn is below projected consumption. And as such, corn prices should gradually rise to its natural equilibrium. Part of the increase in projected corn consumption is boosted by higher industrial use. According to a committee from the Ministry of Agriculture, the industrial consumption of corn is projected to rise by 1 million tons to 61.3 million tons, driven by a recent government plan to encourage the use of bioethanol gasoline. China launched the corn-to-ethanol pilot programs in 2004 as part of its efforts to cut emissions, and the country is currently the world’s third-largest bioethanol producer, consuming nearly 2.6 million tons of corn a year. This October, the government announced a plan to promote the use of bioethanol gasoline nationwide by 2020.

Let me now provide you with more details on our operational development. Reflecting the longer annual maintenance period, our production utilization rates during the third quarter of 2017 was only 82% as our Shandong facility ceased production from mid-June to mid-July and our Daqing facility ceased production from the first week of July to the end of July. As such, even though our production and sales volume of edible alcohol exceeded expectations, we were comparatively down year-over-year from the record sales volume of a year ago.

Sales volume of edible alcohol in the third quarter of 2017 declined 17.9% year-over-year to 77,476 tons versus 94,350 tons for the same period a year ago. The average selling price for edible alcohol grew 7% sequentially to RMB4,123 per ton but decreased by 3.7% year-over-year from RMB 4,281 per ton. Comparatively, during the quarter, our corn costs increased sequentially by 8% to RMB1,507 per ton from RMB1,395 per ton in the second quarter but decreased year-over-year by 12.4% from RMB1,550 per ton in the third quarter of 2016.

The main reason for the sequential cost increase is due to the higher storage cost of approximately RMB130 per ton for the additional three months from the second to third quarter. As a result, our gross margin decreased sequentially to 6.6% but improved by 128 basis points year-over-year from 5.4% a year ago. As corn prices continue to trend upwards, we continue to deploy our prepurchased inventory during the third quarter and converted prepurchased inventory into cash, which generated RMB342 million cash flows from operations, enhancing our corn-sourcing capabilities in the new corn harvest season.

For this harvest season, beginning in early November, we plan to deploy our strong cash position to prepurchase adequate corn to meet our projected demand during the harvest season. However, we will watch the market closely and adjusted our purchase plan accordingly.

Now turning to details about the financial performance. For the third quarter of 2017, revenue decreased by 24.1% year-over-year to RMB457 million from RMB602.2 million in the same period of 2016. The decrease in revenue was mainly due to lower sales volume of edible alcohol and its byproducts.

Looking at the revenue breakdown during this quarter. Revenue from edible alcohol decreased by 20.9% to RMB319.5 million. Sales volume decreased by 17.9% to approximately 77,480 tons, and average selling price decreased by 3.7% to approximately RMB4,123 per ton compared with the same period of last year.

Revenue from DDGS Feed decreased by 15.5% to RMB114.7 million as sales volume decreased by 13% year-over-year to approximately 70,280 tons while average selling price decreased by 2.9% year-over-year to approximately RMB1,630 per ton.

Revenue from liquid carbon dioxide increased by 12.7% to RMB6.8 million as sales volume decreased by 14.7% year-over-year to approximately 30,040 tons while average selling price increased by 32.2 million – sorry, increased by 32.2% year-over-year to approximately RMB226 per ton.

Revenue from crude corn oil decreased by 17.6% to RMB16 million as sales volume decreased by 18% year-over-year to approximately 2,530 tons, while average selling price slightly increased by 0.4% year-over-year to approximately RMB6,340 per ton.

Our gross profit decreased by 7.7% to RMB30.1 million from RMB32.6 million in the prior year period. Gross margin improved to 6.6% compared to 5.4% in the third quarter of 2016.

G&A increased by 12.9% to RMB11.8 million in the third quarter of 2017, from RMB10.5 million in the same period of last year, while selling expenses decreased by 11.8% to RMB0.9 million in the third quarter of 2017, from RMB1 million in the same period last year.

Operating income for the third quarter of 2017 was RMB17.4 million, a decrease of 17.7% from RMB21.1 million for the third quarter of 2016. Income tax expenses in the third quarter of 2017 were approximately RMB0.4 million, representing an effective tax rate of 25%.

All in all, our net income decreased by 84.2% year-over-year to RMB1.3 million from RMB8 million a year ago. Diluted earnings per share and per ADS were RMB0.05 in third quarter of 2017. The company has 25,700,000 weighted average basic and diluted shares outstanding during the quarter ended September 30, 2017.

On the balance sheet side, our cash and bank deposit balance increased to RMB1.4 billion as of September 30, 2017, compared with RMB1.2 billion by the end of previous quarter. The increase of cash and bank deposits was mainly attributable to usage of prepurchased corn during the quarter. Cash flows provided by operating activities for third quarter of 2017 were approximately RMB341.6 million compared with RMB382.1 million during the same period of last year. As of September 30, 2017, our inventory balance totaled RMB392.8 million and net trade accounts receivable totaled RMB370.8 million.

That wraps up the financial review, and let me mention our business outlook. We estimate that revenue for the fourth quarter of 2017 will be in the range of RMB520 million to RMB560 million, an increase of approximately 1.3% to 9.1% over the same quarter of 2016. This forecast reflects our current and preliminary estimates of market and operating conditions and customer demand, which are all subject to change.

This concludes our prepared remarks. Operator, we will now open the call up for questions.

Question-and-Answer Session

Operator

Thank you, sir. [Operator Instructions] The first question comes from the line of Albert Chan from Prime Capital. Please ask your question.

Albert Chan

Yes. Hi, thank you for taking my questions and Happy Thanksgiving. Just very quickly, you mentioned that corn prices are rising and the demand from baijiu producers for edible alcohol continue to be strong. Given this trend, do you think the ASP for edible alcohol will continue to rise?

Terence Chen

Happy Thanksgiving, Albert and thanks for the question. Yes, we have discussed in our scripts we have seen the upwards trend in our average selling price of edible alcohol in October. And now in November, it is also an upward trend in the ASP for edible alcohol. So we believe that the average selling price of the edible alcohol will increase sequentially compared with the third quarter.

Albert Chan

Hello. Excuse me, am I still on the line.

Operator

Yes, sir. You’re online.

Albert Chan

Hello, can you hear me.

Operator

Yes, sir. Please go ahead.

Albert Chan

Could you give us a little more details about your corn prepurchase plans for this harvest season?

Terence Chen

With the strong cash position on hand and we definitely will start our corn sourcing arrangements this year. And now we are still discussing the contracts with the local granaries in Heilongjiang province, and we did not finalize the contracts with the local granaries. But definitely, we will do the corn sourcing arrangement as the previous years in this harvest season, and we will watch the market closely and – to adjust our purchase plan accordingly.

Albert Chan

Okay. So you think it’s going to be at a similar level as the previous year?

Terence Chen

Yes, a similar level with 2016.

Albert Chan

Got it, okay. And then my last question, then, I guess, everybody can go on holidays. What is the – in this environment of rising corn prices as well as with your prepurchase strategy, that should give you some advantages. Do you expect your gross margin for the fourth quarter to expand?

Terence Chen

We have just mentioned that the corn price, in the third quarter, increased compared with the second quarter is due to corn storage costs. So in the fourth quarter, to compare with the third quarter, we can see a stabilized corn cost. And I have just answered your first question that we also see the increased average selling price of the – of our main product, edible alcohol. So we can – so we believe that in the fourth quarter, the gross margin will increase to compare with the third quarter.

Albert Chan

Okay. That’s great. Thank you and Happy Thanksgiving.

Terence Chen

Same to you Albert, Happy Thanksgiving.

Operator

Thank you. There are no further questions at this time. I would like to hand the conference back to the speakers. Please go ahead, sir.

Terence Chen

Once again, on behalf of the entire China New Borun management team, I would like to thank you for your interest and participation in this call. This concludes our third quarter 2017 earnings conference call. Happy Thanksgiving.

Operator

Thank you. Ladies and gentlemen, that does conclude our conference for today. Thank you all for your participation. You may all disconnect your lines now. Thank you.

Terence Chen

Thank you. Bye-bye.