Daqo New Energy Corp. (DQ) Q2 2015 Earnings Report, Transcript and Summary

Hello, and welcome to the Daqo New Energy Corporation Second Quarter 2015 Earnings Call. All participants will be in listen-only mode. [Operator Instructions] Please note, this event is being recorded. Now, I would like to turn the conference over to Kevin He, Investor Relations. Please go ahead, sir.

Hello, everyone, I am Kevin He, the Investor Relations for the company. Thank you for joining today for the conference call. Daqo New Energy just issued its financial results for the second quarter of 2015, which can be found on our website at www.dqsolar.com. To facilitate today's conference call we have also prepared a PPT presentation for your reference. Today, attending the conference call we have Dr. Gongda Yao, Chief Executive Officer, and Ming Yang, our Chief Financial Officer. The call today will feature an update from Dr. Yao on market and operations, and then Mr. Yang will discuss the company's financial performance for the second quarter. After that, we will open the floor to Q&A from the audience. Before we being the formal remarks, I would like to remind you that certain statements on today's call including expected future operational and financial performance and the industry growth are forward-looking statements that are made under the safe Harbor provision of the US Private Securities Litigation Reform Act of 1995. These statements involve inherent risks and uncertainties. A number of factors could cause actual results to differ materially from those contained in any forward-looking statement. Further information regarding these and other risks is included in the reports or documents we have filed with or furnished to the Securities and Exchange Commission. These statements only reflect our current and the preliminary view as of today and may be subject to change. Our ability to achieve these projections is subject to risks and uncertainties. All information provided in today's call is as of today and we undertake no duty to update such information except as required under applicable laws. Also during the call we will occasionally reference monetary amounts in US dollars terms. Please keep in mind that our functional currency is the Chinese RMB. We offer these translations into US dollars solely for the convenience of the audience. Without further ado, I will now turn the call to Dr. Yao. Please.

Thank you, everyone, for joining our conference call today. I would like to first provide some background on the recent industry development. Based on feedback from our customers, it appears that for the first half of this year, overall solar end market demand and installations activities were relatively subdued and below the levels that our customers saw during the second half of 2014. As a result of weaker end market demand, industry price declined. This also led to the decline of our polysilicon pricing during the first half of this year. That was a bit more than we had anticipated. The situation was exacerbated by escalating poly imports from outside of China where we saw an increase of 30% versus the first half of 2014. In particular customer data indicated Korea poly imports increased significantly high by 70% versus the first half of 2014. However, since June we have seen encouraging sign of a strong end market demand with poly prices stabilizing. At the same time, since July feedback from our customers indicate that they are seeing very strong end market demand particularly here in China. Many are now running at a fully utilization and some have already sold out their capacity for the second half of this year and are seeing demand and orders that exceeds their capacity. Some are even resorting to outsourcing to meet the strong market demand. Demand in regions such as India and US are also trending well. End market pricing for solar sales and solar modules are trending up. In particular, due to strong demand, solar wafer pricings are being driven versus May and June. All indicators point to better solar wafer pricing for the month of August and September due to strong industry demand. For Daqo, we are not seeing significant poly inventory in our solar customers. Our product delivery and sell-through remained strong and healthy and we are able to sell out production. For example, at the end of the second quarter our finished goods polysilicon inventory is extremely low. We believe poly pricing was broadened. While price recovery has been delayed versus our original expectation, we believe as industry demand remain strong, we should start to see price recovery. As a reminder, due to the better quality and the purity of the Daqo polysilicon, our pricings generally had a premium over our peers in China. I would also like to provide a quick update about our poly industry environment. Daqo was able to continue to generate healthy cash flow from the operations due to our low production cost and the cash cost. We are seeing encouraging sign of high cost poly capacity be taken out in the industry. One of our international competitors shutdown one of their plants and another has indicated its intention to reduce its position to 50%. On the topics of process and trading which is a loophole that allows foreign producers to import poly into China and avoid import custom, duty and tariff are schedule to end by August 31. Poly imports into China subsequently are subject to 4% import tariff in addition to AD and CVD tariff in the range of 2.4% to 57%. Combined, this represents a total tariff rate at an order of 6.4% to 61%. This will help to improve the supply and demand situation for poly within China. Now let me also provide you with update of our Company’s operations. During the May, we successfully completed our scheduled annual facility maintenance, which also help us to prepare for the planned pilot production for Phase 2B expansion. At the end of June, we successfully began the pilot production of our new expanded project to bring total production capacity to 12,150 metric tons. As some of you may know, for this phase, we transitioned to the new technology of hydrochlorination. As we begin to ramp up our expansion, I would believe we now have the world’s most advanced fully closed-loop technology for polysilicon production by utilizing the world’s most advanced technology in combination with the very low electricity cost and that operation metrics. We are able to become one of the world’s lowest-cost producers of polysilicon and sustain that advantage. Our hydrochlorination system is running very well and better than we anticipated; it is now operating at a metrics that’s better than its design value in terms of production volume and output efficiency. We took extra care during the installation phases to insure the stable operative system with high product purity and free from the potential contamination. This new system has a benefit of significant reducing energy consumption. As electricity represents the highest segment of cost of a poly production, the new system will help us to reduce our cost even further. Beyond reduction in electricity usage, this new system will also use less raw material the unit of production to bring further costs to savings. Our new distillation system is also running well with better quality output versus design reference. Our new expansion also require less labor than unit of -- per unit production. During the first half of this year, when we were running at 6,150 metric ton capacity, we had approximately 570 plant operators. After expansion, we estimated that we were only needed to add approximately 50% more operators. This work brings through the cost saving for us in terms of reducing label cost per unit of production. With the recent success of our expansion operation, we anticipated that when we are fully ramped up, we can achieve better than our previous cost target to the level of below $12 per kilo for total production cost and below $10 for cash cost. Now, I will turn the call to our CFO, Ming Yang for financial updates.

Thank you Dr. Yao and good day everyone. First, let me provide you with an update on our recently announced Phase 3A expansion plan, which will increase our total polysilicon production capacity to 18,000 metric tons. Then I will provide the financial update for the second quarter of 2015. As one of the world’s lowest-cost polysilicon producers and with the success of our existing expansion, our Board has improved our Phase 3A expansion plan. Capital expenditures for the new expansion is expected to be approximately RMB620 million, which benefits from the reutilization of our idle equipment in Chongqing, and shared facilities in Xinjiang. Even based on the current market poly pricing, our internal calculation estimates are 30% plus return on investment. This compares to our current cost of debt of approximately 6%. Our recently announced loan agreements with Chinese banks are anticipated to provide the capital and funding for our expansion. In particular, our RMB825 million loan agreement with Chongqing Rural Commercial Bank will help to fund the expansion. And let me put the planned capital expenditures in perspective. The Capex for our Phase 3A expansion is less than the third of our original 6,150 ton capacity in Xinjiang and is more than 35% lower than our Phase 2B expansion. The resulting Capex opportunity in terms of production per unit of investment is much higher than our previous expansion and it should led to very attractive shareholder returns. Now, I will provide the financial update for the second quarter of 2015. Revenues for the second quarter were $34.3 million compared to $41.9 million in the first quarter of 2015. Polysilicon sales volume in the second quarter were 1,363 metric tons, above our guidance of 1,320 metric tons. Compared to Q1, our Q2 sales volume was negatively impacted by lower polysilicon production volume as a result of our scheduled annual facility maintenance in May. The Company generated revenue of $21.7 million from polysilicon sales compared to $27.2 million from $1,502 metric tons of polysilicon sales in the first quarter of 2015. The decrease in revenue was primarily due to the impact of lower average selling prices and lower sales volume. The Company generated $12.6 million of revenue from 18.3 million pieces of solar wafer sold compared to $14.7 million from 18.1 million pieces of wafer sold in the first quarter of 2015. Decline in revenue was primarily the result of lower solar wafer ASP. Gross profit was approximately $3.6 million compared to $8.5 million in the first quarter of 2015. Non-GAAP gross profit, which excludes cost related to the non-operational polysilicon facilities in Xinjiang was approximately $6.7 million compared to $11.7 million in the first quarter of 2015. Gross margin was 10.5% compared to 20.2% in the first quarter of 2015. The decrease in gross profit and gross margin as compared to the first quarter was primarily the result of lower average selling prices as well as the high unit production costs due to lower production volume related to the planned annual maintenance. In the second quarter of 2015, total costs related to the non-operational Xinjiang polysilicon plant, including depreciation, was $3.1 million compared to $3.3 million in the first quarter of 2015. Excluding such costs, the non-GAAP gross margin was approximately 19.6% compared to 28% in the first quarter of 2015. Selling, general, and administrative expenses were $2.8 million compared to $4.6 million in the first quarter of 2015. Approximately $0.5 million were non-cash share-based compensation expenses in the second quarter of 2015 compared to $1.8 million in the first quarter of 2015. Research and development expenses were approximately $0.2 million compared to $0.1 million in the first quarter of 2015. Operating income was $1.2 million compared to $4.1 million in the first quarter of 2015. Operating margin was 3.6% compared to 9.7% in the first quarter of 2015. Net interest expenses were $2.5 million compared to $3.2 million in the first quarter of 2015. EBITDA was $8.4 million compared to $11.4 million in the first quarter of 2015. EBITDA margin was 24.6% compared to 27.3% in the first quarter. Net loss attributable to Daqo New Energy shareholders was $0.9 million compared to net income of $1.2 million in the first quarter of 2015. Loss per basic ADS was $0.09 compared to earnings per basic ADS of $0.12 in the first quarter of 2015. As of June 30, 2015, the Company had $95.1 million in cash and cash equivalents and restricted cash compared to $32.2 million as of March 31, 2015. The increase was primarily due to the drawdown of a RMB300 million long-term project loan from Chongqing Rural Commercial Bank. As of June 30, 2015, accounts receivable balance was $7 million compared to $8.8 million as of March 31, 2015. As of June 30, the notes receivable balance was $38.3 million compared to $48.4 million as of March 31. As of June 30, total borrowings were $266 million, of which $100 million were long-term borrowings compared to total borrowings of $222 million, including $74 million of long-term borrowings as of March 31, 2015. For the six months ended June 30, 2015, net cash provided by operating activities were $32.1 million compared to $29.1 million in the same period of 2014. For the six months ended June 30, 2015, net cash used in investing activities was $56.2 million compared to $30.9 million in the same period of 2014. The increase was primarily related to the capital expenditures of Xinjiang Phase 2B polysilicon project partially offset by the subsequent receipt of $5.1 million of proceeds from the disposition of Nanjing Daqo in 2012. For the six months ended June 30, 2015, net cash provided by financing activities was $75.7 million compared to $52.8 million in the same period of 2014. The Company conducted follow-on offerings in February 2015 and May 2014 with net proceeds of approximately $28 million and $54.6 million respectively. For the six ended June 30, 2015, net proceeds from bank borrowing increased approximately $28.9 million as compared to the same period of 2014. Now for the third quarter guidance. For the third quarter of 2015, the company expects to sell 2,100 to 2,200 of polysilicon to external customers. This excludes internal sale of polysilicon to our wafer facility in Chongqing. We expect to sell approximately 17.5 million to 18 million pieces of solar wafers in Q3. This outlook reflects our current view and may be subject to change. And with that, we conclude the official part of our presentation. Now let’s have the Q&A session.

[Operator Instructions] And the first question comes from Philip Shen with ROTH Capital Partners.

Hi, guys, thanks for taking my questions.

Hello, Phil, good to hear from you.

In you prepared remarks, you talked about how low inventory levels existed with your customers now, do you think this is true across the industry or do you think there maybe excess inventory overall throughout the industry given the recent high level of imports into China?

Well, as we said on our customer side, the inventory is low, and although we do not have verification from for example, the some party brokers for sale of the foreign poly import to China, we don’t have a resource to check that. And of course, we don’t know our competitors, of they have real inventories. We do expecting very high cost producers may have limited inventories in their hands at this moment, but we do not expecting loss of inventories at the current level, because the prices continued declining in the last six months until we noticed that price [ph] starting stabilize. So nobody with inventory – the poly price continued trending down.

Okay, thanks Gongda. As a follow-up on the trend, and I know it’s always difficult, but to – if you can how do you expect ASPs to trend by quarter for the next year?

I still have personal -- I was talking about price, it’s very difficult to predict, but we believe we just trending the average Chinese poly markers cash cost level that rationale of price, what I will call minimum, because otherwise people will take a loss to sell polysilicon in the market. So we’re still thinking this price, current price is the bottom and we will see some recovery definitely sometime in Q4, if latest and maybe earlier next year. But we believe this is not the rationale price in the holding for a long period of time, because it’s after -- as we mentioned, one of the factor is process trades [indiscernible] by Chinese government will stop by August 31. We expect to come down and the following import polysilicon will pay much higher tariff, which is a custom tax included, also tariff Chinese government will pose on the foreign imports. So that would be more balanced supply demand. And once the supply demand is more balanced, we do expecting poly prices should be slightly or equal above the average cash cost of producer in China. So that’s why we’re thinking, it would be at 17 – around $17 should be the normal range. Of course, the price prediction always difficult for us to exactly when will happen.

Great, that’s helpful Gongda. I was wondering if you could share, how you’re thinking about the potential of the Phase 3B expansion. Obviously you just announced details on Phase 3A, but under what conditions might you accelerate the 3B expansion forward or may have to not think about it as much?

So for a company, inter-median goal is always want to bring the capacity, like 25,000 metric ton as about 10% market share for worldwide as a meaningful player in polysilicon. We are positioned right now, and this moment it’s the low cost producer. I think it’s weaker the sales the most advanced in the low cost structure of the polysilicon manufacturing, however, our capacity is still much lower than other major players in the industry. After we expand in to 12,000 metric ton, we have become a meaningful player and if we achieve the 10%, that would be major milestone for the company to achieve. However due to the market and also due to the capital we have, so we decided to do two phases for Phase 3, so two stages. So first stage, we'll reach 18000 metric tons as Ming just mentioned in the update. But after that, we will and depending on the market situation, our capability in the financing, our budget, so most likely, so once if the market recovers, our cash targets for the costs achieved, we will consider that, but at this moment, we are focused on the 18,000 metric ton target by sometime -- it will finish by end of next year, but they're starting production sometime in the first half of 2017 and we will -- we may consider that earlier, but at this moment, we won't finish the 3A first.

Okay. Great. Thanks, Gongda. Thank you, Ming. I'll jump back in the queue.

Great. Thank you, Phil.

[Operator Instructions] We have a question from [indiscernible] from Morgan Stanley.

Hi. Thanks for taking my question. A very quick one, you mentioned that you are adding price premium versus the peers, after you improve your quality and can you give more color on this, how much premium? Yeah.

Yeah. So we said -- we typically noticed that our prices compared with PV inside the published price and we also noticed that the first solar grade 1 compared with solar grade 2 have about 4% or 5% premium and according to last few years’ experience always. So if you produced upgrades of poly, we call that is below the second grade for solar. You would pay back a 10% premium less -- less price, but 10% is accounted for third grade. So in the history of Daqo Xinjiang plant, we continue to produce about 97% to 99% of first grade solar used for polysilicon. So that's why -- which would mean we have premium sales compared with second grade of solar polysilicon, about 4% to 5%.

Understood. Thanks. Yeah. That's it for me.

Thank you. [Operator Instructions] Alright. There are no more questions at the present time. So I would like to turn the call back over to management for any closing comments.

Okay. Thank you everyone for joining the conference call and should you have any further questions, please feel free to contact me at IR or other members of the management. Thank you very much.

Thank you.

Bye-bye.