China Automotive Systems, Inc. (CAAS) Q1 2015 Earnings Report, Transcript and Summary

Greetings and welcome to the China Automotive Systems Incorporated First Quarter 2015 Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I’ll now turn the call over to your host, Mr. Kevin Theiss. Thank you. Sir, you may now begin.

Thank you for joining us today and welcome to China Automotive Systems 2015 first quarter conference call. My name is Kevin Theiss, and I’m with Grayling, China Automotive’s U.S. Investor Relations Advisor. Joining us today are Mr. Hanlin Chen, Chairman; Mr. Qizhou Wu, Chief Executive Officer, Mr. Jie Li, Chief Financial Officer; and Mr. Daming Hu, Chief Accounting Officer of China Automotive Systems. They will be available to answer questions later in the conference call. And we will help with translation. Before we begin, I’ll remind all listeners that throughout this call, we may make statements that may contain forward looking statements. Forward looking statements represent our estimates and assumptions only as of the date of this call. As a result, the company’s actual results could differ materially from those contained in these forward looking statements due to a number of factors including those described under the heading Risk Factors in the company’s Form 10-K Annual Report for the year ended December 31, 2014 filed with the Securities and Exchange Commission on March 26, 2015, respectively; and in documents filed by the company from time to time with the Securities and Exchange Commission. The company expressly disclaims any duty to provide updates to any forward looking statements made in this call whether as a result of new information, future events or otherwise. I’ll provide a brief overview and summary of the 2015 first quarter financial results. And then I’ll turn to management to conduct the question-and-answer session. The 2015 first quarter results are unaudited numbers, results are reported under U.S. GAAP. For our call today, I’ll review the financial results in U.S. dollars. First, let’s review the industry status and our market position for the first quarter of 2015. According to China’s National Bureau of Statistics, China’s GDP was 7% year-over-year in the first quarter of 2015. This was the slowest growth rate for a single quarter since the first quarter of 2009. The slow economic growth in the first quarter of 2015 reflected a sluggish Chinese real estate development market and fixed asset investments as well as the government’s transition of the Chinese economy to a consumer driven model. The anticipated moderated economic growth for the next few quarters will affect the demand for new passenger and commercial vehicles. To stimulate higher economic growth, China Central Bank has reduced bank reserve requirements and interest rates. In the first quarter of 2015, our sales growth accelerated to 8%, compared with 4.7% in the fourth quarter of 2014. We also captured market share as our growth was doubled to 3.9% growth in total vehicle sales in the first quarter of 2015. Our growth in passenger vehicle steering sales was approximately 13%, exceeding passenger car sales growth of 9% on a year-over-year basis, and we captured market share in China in the first quarter of 2015. Chinese brand passenger cars, our main customers, increased their sales and also captured market share in the first quarter of 2015. Our growth was mainly due to the sales of certain new products such as higher sales of our growing portfolio of electric power steering, EPS, products, especially for mid-sized cars. EPS sales climbed 150% in the first quarter of 2015 to $25 million and represented 20% of total sales. We also had sales growth in some legacy products after we enhanced their quality and performance. Faster growth in the MPV and SUV markets help to expand the company’s market share in China, especially among joint venture brands, OEMs. We also continue to expand sales in North America, the second largest global automotive market in the world. Sales to North America increased by 9.5% year-over-year, as our key customer Chrysler reported its 60th consecutive month of year-over-year sales. The Jeep brand reported that March 2015 was its best sales month ever with 20% growth above March 2014 sales and Wrangler announced that 2015 was its best ever sales in the month of March. Jeep has reported 18 consecutive months of year-over-year sales gains. Our sales in the first quarter of 2015 included shipments to the RAM model 4,500 and 5,500 trucks [indiscernible] agreement signed in late 2014. We continue to supply Ford with steering gears for certain models in its North American operations as well. We further expanded our market share in South America to increase our global reach with a construction of our assembly facility in Brazil. The production equipment has been assembled and trial production is underway. Once operational in 2015 production capacity will start at approximately 1000 units per annum with the potential expansion up to 400,000 units in the future. We are now much better positioned to serve the vehicle OEMs in Brazil and the other South American markets. We are already servicing a tier 1 OEM and Chery Auto’s operations in South America. We are ready to supply additional Chinese and other OEMs in the region. Our new products and upgrades provide enhanced steering to make our customers vehicles perform better. With our growing portfolio of advanced steering products, new technology is on development and low cost manufacturing we continue to be the preferred steering supplier to many of the leading vehicle manufacturers in China. As of March 31, 2015 total cash and cash equivalents in short-term investments were $105 million. We increased our investment in inventories by $4.3 million to satisfy higher demand for our EPS products and bank debt was reduced by $2.3 million in the first quarter of 2015. Working capital was $203.3 million as of March 31, 2015, compared to $198.1 million as of December 31, 2014. Total company’s stockholders' equity was $296.6 million as of March 31, 2015, compared to $289.3 million as of December 31, 2014. Cash flow from operations was $4.9 million in the first quarter of 2015 versus $8.4 million of cash used in the first quarter of 2014. We have also filed a self registration in the first quarter of 2015 with the U.S. SEC. the self registration will provide financial flexibility, so we can quickly raise capital through the market valuation, increase to an attractive level and/or we identify new growth opportunities that may rise in the future. We have used our cash flows in strong financial position to build our portfolio of advanced steering products including the important electric power steering products. We developed the first EPS, first domestic EPS system to compete with higher priced imports and our EPS sales are growing. We are continuing to introduce new EPS models to supply growing number of vehicle types. For the future, we are innovating new steering technologies to provide more advanced steering products and more efficient manufacturing capabilities. Our growing EPS steering products and our planned new products position us to maintain or increase our domestic leading market share and they will enhance our ability to capture market share in foreign markets as well. Let me go through our results for the first quarter of 2015. In the first quarter of 2015, our net sales increased by 8% to a first quarter record of $123.4 million, compared to $114.3 million in the same quarter of 2014. The net sales increase was mainly due to higher sales to the Chinese passenger vehicle markets, including the increase in the sale of higher priced, middle level electric power steering units. Sales to the North American market continued to increase in the first quarter of 2015 as well. Gross profit increased by 1.9% to $21.7 million in the first quarter of 2015, compared to $21.3 million in the first quarter of 2014. The gross margin was 17.6% in the first quarter of 2015, versus 18.7% in the first quarter of 2014 and 17.7% in the fourth quarter of 2014. The year-over-year decline in gross margin in the first quarter of 2015 was mainly due to decreased sales to the commercial vehicle market, resulting in a lower utilization rate of the production facility. Slower economic growth this quarter combined with higher sales of less expensive National III emission trucks in last year's first quarter, lessened demand for trucks in the 2015 first quarter. The more strict National IV emission standard went into nationwide enforcement on January 1, 2015. Selling expenses increased by 20% to $3.6 million in the first quarter of 2015 compared to $3 million in the first quarter of 2014. Selling expenses represented 2.9% of net sales in the first quarter of 2015 compared to 2.7% in the first quarter of 2014. The increase is mainly due to higher personnel compensation and travel related expenses. General and administrative expenses, G&A increased by 25.7% to $4.4 million in the first quarter of 2015 compared to $3.5 million in the same quarter last year. The increase is mainly due to a higher personnel cost and a rise in improvement expenses for offices and facilities. G&A expenses represented $3.6 million (sic) [3.6%] of net sales in the first quarter of 2015 and 3.1% in the first quarter of 2014. Research and development expenses, R&D amounted to $5.9 million in the first quarter of 2015, the same as those in the first quarter of 2014. R&D expenses represented 4.8% of net sales in the first quarter of 2015 and 5.2% in the same quarter last year. Income from operations was $9.4 million in the first quarter of 2015, compared to $9.8 million in the same quarter of 2014. As a percentage of net sales, the operating margin was 7.6% in the first quarter of 2015, compared to 8.5% in the first quarter of 2014 and 6.9% in the fourth quarter of 2014. Net financial income increased by $0.1 million to $0.3 million in the first quarter of 2015, compared to $0.2 million in the first quarter of 2014. I’m sorry $0.2 million in the fourth quarter of 2014. Net income before income tax expenses and equity in earnings of affiliated companies was $9.7 million in the first quarter of 2015 compared to $10.2 million in the first quarter of 2014. The decrease in income before income tax and equity in earnings of affiliated companies of $0.5 million in the first quarter of 2015 was mainly due to a decrease in operating income of $0.4 million. Net income attributable to parent company's common shareholders was $8.5 million in the first quarter of 2015, compared to net income attributable to parent company's common shareholders of $6.8 million in the corresponding quarter of 2014. Diluted earnings per share was $0.26 in the first quarter of 2015, compared to diluted earnings per share of $0.24 in the first quarter of 2014. Weighted average number of diluted common shares outstanding was 32,134,732 in the first quarter of 2015 compared to 28,063,501 in the first quarter of 2014. Management reiterates its revenue growth target is 10% year-over-year growth for fiscal year 2015. This target is based on the company's current views on operating and market conditions, which are subject to change. The outlook is for moderate economic and automotive growth over the next few quarters, the central government is taking action to increase economic growth in China, meanwhile we have adjusted our operation for slower growth than we have experienced in the recent past. We continue to strengthen our balance sheet and to develop potential financial resources to enhance our future market position. Our larger portfolio of advanced products combined with low cost manufacturing positions us well to capture any increase in demand going forward. With that, operator, we are ready to begin the Q&A session.

Thank you. [Operator Instructions] Our first question is coming from William Gregozeski of Greenridge Global. Please proceed with your question.

Hi, in terms of EPS sales, are those mixed into the other subsidiaries that you breakout in your filings?

Let me answer this question. Actually right now, we incorporate our EPS sales into [indiscernible] and not any outside sector.

I’m sorry could you repeat that?

Yeah, it was [indiscernible] out of one of the biggest subsidiary’s sales now, not in other sectors.

Okay. All right. And then when will we start seeing better margins from those growing EPS sales?

[Foreign Language] So, overall, our EPS business is growing and EPS margins also including. The reason are blended gross margin decline in the first quarter 2015 was mainly due to the weak commercial vehicle market and in turn hits our commercial vehicle business, steering business. And that factor has somewhat dragged [ph] the gross margin.

Okay. What about then – if the EPS sales are in Hanlong [ph], I saw the margins year-over-year down in that segment specifically?

EPS?

Yeah, I think, Jie, sales were in Hanlong [ph], the margins for Hanlong [ph] were down, gross margins were down year-over-year?

[Foreign Language] EPS margin year-over-year basis has increased. However, EPS margin compared with hydraulic steering product is still lower than the average of hydraulic steering margin. We are working on that – the profit.

Okay. All right. And then my last question is – I saw a little note in the filing that there was $2.4 million payment to a customer for new product testing. Can you just say what that was about?

$2.5 million, what?

It said there was a $2.4 million payment to a new customer for new product testing services.

[Foreign Language] It’s the R&D expenses, you are right, Bill. It’s for R&D project for Beijing Auto. And according to U.S. GAAP at this moment, we can only classify this category, but it’s actually R&D expenses.

Okay. All right. Thank you. That’s all I had.

Thank you.

Thank you. Our next question is coming from Gary Nash of Crede Capital Group. Please proceed with your questions.

Yeah, good morning, gentlemen. I have two questions. My first one is, how much more R&D will be required to expand the electric power steering models?

[Foreign Language] We are – by and large, will deploy 5% of our revenue to R&D and most of this R&D dollars will go into EPS products, development and research. And yeah, so, you can see, we continue to invest in the EPS product line.

Okay. And my second question is do you plan to sell electric power steering to the commercial vehicle market in terms if you are guys are looking at?

[Foreign Language] Yeah. In the commercial vehicle for a smaller size EPS there is a market for the EPS product, however when you talk about the large trucks and buses in the commercial vehicle category, we have a product, it’s not quite, it is what we call EHPS, it’s electric hydraulic power steering, it has some electronic components in it. It’s a hybrid product. It has a hydraulic line. So hopefully that answer your question.

Yeah, it does, okay. Thank you very much.

Thank you.

[Operator Instructions] Our next question is coming from Robert Polivich, a Private Investor. Please proceed with your question.

Thank you. Good morning and congratulations on the performance for China Automotive for Q1 and for that matter for many quarters in the past, I had a question on the shelf registration that we saw back in April and I know it’s typical for companies to do these shelf registrations just to keep their options open, but I did notice that Chairman Chen also filed along with that registration to potentially sell up to 5 million shares and I was just wondering is there the possibility of a different perspective with regard to the future of China Automotive in potential merger, acquisitions or sale of the company. Might we expect to see something in the form of an announcement in the not too distant future?

[Foreign Language] The shop registration is actually [indiscernible] long term. We are planning to continue to grow globally and so we are eyeing all kinds of opportunities including some of the M&A opportunities. When a good opportunity presents itself, we want to be able to come to the market to take the money and complete the transaction. This shop registration is three year in duration. So we’re not looking for anything immediate term. Okay, in terms of your second question regarding the Chairman, Chairman has been holding his share ever since the inception. So it’s about 20 years. He has always been buying stock and never sold a share and also some of the other mid-level management are, they are having shares through Chairman. Again, it’s just one of the filing. It’s only a small portion of his overall holding and he is still and he is very confident in the long-term prospects of the company. He just want to have that option if there is an opportunity presents itself, you will be able, like any other company [indiscernible] to take come cash whole. And there is no plan for selling the company or any kind of re-org. They continue – the Chairman continue to show his confidence in the company and the company is well positioned to capture the global market opportunities as well as continue to grow internally in China.

I had another question and you know I was just wondering how could we get the share price to go up with China Automotive? I mean the success behind the company is the performance has been exceptional and I know the market is getting a little bit difficult there, but you’re growing around it. At this point, is there any plan for some share buyback or something to kind of motivate that price to go up and the only other last question I have is, any other new contracts, I know you don’t [indiscernible] these companies until you get the awards, is there something to look forward to in the not too distant future with regard to any possible new relationships with automotive manufactures? Thank you. Thank you very much.

[Foreign Language] So, there is no – again there is no plan for – immediate plan for share buyback as far as the Board of Director’s view however, Mr. Jie Li, the CFO is going to pick your suggestion to the Board again. In terms of a new contracts and any potential new OEM relationship, there are actually some good development in that department. However, due to the restriction we have with this OEM customer, we’re not allowed to make announcement until we start to do a large volume shipment and so they make it difficult for us, but again the business is definitely speaks for itself. Our shipment to North America has been quite strong.

Thank you. At this time, I’d like to turn the floor back over to management for any additional or closing comments.

We want to thank you all for participating in the first quarter 2015 earnings conference call. We look forward to speaking with you again. Thank you.

Ladies and gentlemen, thank you for your participation in today’s teleconference. You may disconnect your lines at this time and have a wonderful day.