China Automotive Systems, Inc. (NASDAQ:CAAS) Q3 2022 Earnings Conference Call November 14, 2022 8:00 AM ET
Kevin Theiss – Investor Relations
Jie Li – Chief Financial Officer
Conference Call Participants
William Gregozeski – Greenridge Global
Good morning ladies and gentlemen and welcome to the China Automotive Systems’ Third Quarter 2022 Conference Call. [Operator Instructions]
It is now my pleasure to turn the floor over to your host, Mr. Kevin Theiss, Investor Relations. Kevin, the floor is yours.
Thank you everyone for joining us today. Welcome to China Automotive Systems’ 2022 third quarter conference call. Joining us today are Mr. Jie Li, Chief Financial Officer of China Automotive Systems. He will be available to answer questions later in the conference call with the assistance of 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 the company’s 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, 2021, as filed with the Securities and Exchange Commission and in other documents filed by the company from time to time with the Securities and Exchange Commission.
If the outbreak of COVID-19 is not effectively and timely controlled, our business operations and financial conditions may be materially and adversely affected as a result of a deteriorating market outlook for automobile sales, the slowdown in regional and national economic growth, weakened liquidity and financial condition of our customers or other factors that we cannot foresee. Any of these factors and other factors beyond our control could have an adverse effect on the overall business environment, cause uncertainties in the regions where we conduct business, cause our business to suffer in ways that we cannot predict and materially and adversely impact our business, financial conditions and results of operations. A prolonged disruption or any further unforeseen delay in our operations of the manufacturing, delivery and assembly process within any of our production facilities could continue to result in delays in the shipment of products to our customers, increase cost and reduce revenues. 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.
On this call, I will provide a brief overview and summary of the third quarter and first 9 months results for the period ended September 30, 2022. Management will then conduct a Q&A session. The 2022 third quarter and first 9 months’ financial results are unaudited and all results are reported using U.S. GAAP accounting. For the purposes of today’s call, I’ll review the financial results in U.S. dollars. We will begin with a review of the recent dynamics of the Chinese economy, the automobile industry and China Automotive’s market position.
China’s GDP growth of 3.9% year-over-year in the third quarter of 2022 was higher than a revised consensus projections of 3.4% growth and much higher than the 0.4% increase in the second quarter of 2022. Chinese industrial production trended upward at a 6.3% rate in September 2022, following a 4.3% rate in August and a 3.8% rate in July 2022. However, the Chinese real estate market remains in turmoil and the outlook for exports is uncertain given the foreign exchange volatility and the economic outlook for key trading partners.
Total vehicle sales in the third quarter of 2022 increased by 24.9% year-over-year with passenger vehicles up 36.6% year-over-year and commercial vehicles down 10.6% year-over-year according to data from the Chinese Association of Automobile Manufacturers, CAAM. Truck sales continued to be weak with a 10.8% year-over-year decline. These results were achieved despite Chinese supply chains continuing to be affected by COVID-19 lockdowns and travel restrictions affecting almost all provinces to some degree. Delays in raw material shipments and finished good deliveries, including for automobile, microchips and other components are still concerns for the automobile industry.
For the first 9 months ended September 30, 2022, CAAM reported automobile sales increased by 4.4% year-over-year. Passenger vehicle sales rose by 14.2% year-over-year with sedans 16.7% year-over-year higher and SUVs 15% higher year-over-year. However, on a year-over-year basis, MPV sales declined by 7.8% and cross vehicles were down by 14.6%, respectively.
For commercial vehicle sales, CAAM data showed that an overall sales decline of 34.2% year-over-year for the first 9 months of 2022. The truck market declined by 35.3% year-over-year and bus sales were down by 23.9% year-over-year. Despite the mixed results in the Chinese auto vehicle markets in 2022 third quarter, our net sales grew by 26.8% year-over-year. Sales of our traditional hydraulic products remained strong. Our Wuhu subsidiary sales, primarily the Chery Auto, were up 50.2% year-over-year and net sales into Brazil increased by 51.9% year-over-year. Additionally, sale of electric power steering, EPS, by our Henglong KYB operation rose by 93.7% year-over-year. However, our sales to our Tier 1 customers in North America were down slightly. And our commercial vehicle’s steering sales were flat, actually a solid result given the decline in the commercial vehicle sales in the third quarter. Most of our business segments achieved sales growth. Our Commercial Vehicle Products Division reported lower sales which reflected the weak overall sales in the commercial vehicle sector.
Our gross profit grew by 24.4% year-over-year but the gross margin declined slightly to 15.2% from 15.5% in the third quarter of 2021, mainly due to changes in the product mix. Research and development expenses, R&D, increased by 66.7% year-over-year to $9.5 million in the 2022 third quarter as we grew our investments in new product development and to further build our technology base. Higher gross profit, stricter cost controls and higher other income helped generate income from operations of $4.9 million in the third quarter of 2022 compared to $0.6 million in the third quarter of 2021.
Our 2022 third quarter income per share was $0.24 versus a loss per share of $0.01 in the third quarter last year. For the 9-month period, our income per share was $0.55 compared with $0.20 a year ago. Net cash provided by operating activities was $31.7 million in the first 9 months of 2022 compared with net cash used in operating activities of $5.9 million in the first 9 months of 2021. We continue to develop our ERCB systems with our advanced driver assistance systems L4 platform, known as the AP04, can execute Level 4 autonomous driving systems. ERCB is a fully electric intelligence steering system for light- and medium-duty trucks and heavy-duty commercial vehicles. We will add the technologies of our subsidiary in Sweden, Sentient AB, to improve our NEV steering technology for autonomous driving products, targeting passenger and commercial vehicles.
As of September 30, 2022, we had cash and cash equivalents and pledged cash of $131.7 million and working capital of $153.4 million. For the third quarter of 2022, we repurchased 382,418 common shares under our repurchase buyback program at an average cost of $3.59. Our share repurchase program can use up to $5 million to buy outstanding common shares through March 30, 2023, at a price not to exceed $4 per share. Free cash flow increased to $19.8 million compared with negative $11.7 million in the first 9 months of 2021. We are particularly encouraged by the September sales of vehicles in China. All categories of passenger commercial vehicles as well as new vehicles tracked by CAAM experienced a month-over-month increase in unit sales in September. These sales increases resulted from an improved supply chain of favorable government policies, including a 50% reduction in national purchase tax for some vehicles. Some of the favorable government programs may end at the end of 2022. So the remainder of 2022 maybe continued growth of automobile growth since purchasers take advantage of these incentives.
Now let me review the financial results in the third quarter of 2022. Net sales increased by 26.8% to $137.2 million compared to $108 million in the same quarter of 2021. The increase in net product sales was due to a 17.3% gain in the company sales of hydraulic products and an increase of 52.4% in EPS net product sales. EPS net sales were $44.8 million or 32.7% of net sales compared with $29.4 million or 27.2% of net sales in the third quarter of 2021.
Net product sales in North America decreased by 4.8% to $29.5 million due primarily to changes in the product mix compared with $31 million for the same quarter in 2021. Net product sales in Brazil rose by 51.9% to $11.5 million due to higher demand. Gross profit was $20.9 million in the third quarter of 2022 compared to $16.8 million in the third quarter of 2021. Gross margin was 15.2% compared to 15.5% for the same period in 2021, mainly due to the change in product mix.
Selling expenses were $4 million in the third quarter of 2022 compared to $4.8 million in the third quarter of 2021. The lower selling expenses were mainly due to a decrease in transportation expenses. Selling expenses represented 2.9% of net sales in the third quarter of 2020 compared to 4.4% in the third quarter of 2021. General and ministrative expenses were $4.9 million in the third quarter of 2022 compared to $6.3 million in the same quarter of 2021. The decrease was primarily due to a decline in provision of credit losses provided for accounts receivable. G&A expenses represented 3.6% of net sales in the third quarter of 2022 compared with 5.7% of net sales in the third quarter of 2021. Research and development, R&D, increased by 66.7% to $9.5 million in the third quarter of 2022 compared to $5.7 million in the third quarter of 2021. R&D expenses represented 6.9% of net sales in the third quarter of 2022 compared with 5.3% of net sales in the third quarter of 2021. Higher R&D expenses were primarily due to increased investment for new projects.
Income from operations was $4.9 million in the third quarter of 2022 compared to income from operations of $0.6 million in the same quarter of 2021. Higher income from operations was mainly due to increased gross profit, a higher gain on other sales and greater cost controls in the third quarter of 2022. Other income was $0.7 million in the third quarter of 2022 compared with $2.4 million in the third quarter of 2021, primarily due to lower government subsidies received in the third quarter of 2022. Net financial income was $4.8 million compared with net financial expense of $0.8 million in the third quarter of 2021, mainly due to the foreign exchange volatility of the U.S. dollar against the RMB and the Brazilian real.
Income before income tax expenses and equity in earnings of accelerated companies was $10 million in the third quarter of 2022 compared to income before income tax expenses and equity in earnings of affiliated companies of $1.9 million in the third quarter of 2021. The higher income before income tax expenses and equity in earnings of associated companies was mainly due to increased income from operations compared with the third quarter of 2021. Income tax expense was $0.9 million in the third quarter of 2022 compared to an income tax expense of $2.4 million for the third quarter of 2021 which was mainly due to the valuation allowance recognized in the third quarter of 2021.
Net income attributable to parent company’s common shareholders was $7.5 million in the third quarter of 2022 compared to a net loss attributable to parent company’s common shareholders of $0.3 million in the third quarter of 2021. Diluted income per share was $0.24 in the third quarter of 2022 compared with a diluted loss of $0.01 in the third quarter of 2021. The weighted average number of diluted common shares outstanding was 30,640,260 in the third quarter of 2022 compared to 30,851,776 in the third quarter of 2021.
Now, I will briefly go over the 9 months’ financial highlights. Net sales for the first 9 months of 2022 increased by 11.6% to $400.8 million compared with $359.2 million in the first 9 months of 2021. Gross profit for the first 9 months of 2022 increased by 11.4% to $58.4 million compared to $52.4 million in the corresponding period last year. Gross margin for the first 9 months of 2022 was 14.6%, also compared to 14.6% for the corresponding period in 2021. For the 9 months ended September 30, 2022, gain on other sales amounted to $5.3 million compared to $2.5 million for the corresponding period in 2021. Income from operations was $10.5 million compared to net income — I’m sorry, compared to income from operations of $4.9 million in the first 9 months of 2021.
Net income attributable to parent company’s common shareholders was $16.8 million compared with net income attributable to parent company’s common shareholders of $6.1 million in the corresponding period last year. Diluted income per share was $0.55 in the first 9 months of ’22 compared to diluted income per share of $0.20 for the corresponding period in 2021.
Now a review of few balance sheet items. As of September 30, 2022, total cash and cash equivalents and pledged cash deposits were $131.7 million. Total accounts receivable, including notes receivable, were $208.6 million. Accounts payable, including notes payable, were $210.2 million. Total parent stockholders’ equity was $303.2 million [ph] as of September 30, 2022, compared to $321 million as of December 31, 2021.
Net cash provided by operating activities was $31.7 million in the first 9 months of 2022 compared with net cash used in operating activities of $5.9 million in the first 9 months of 2021. Payments to acquire property, plant and equipment were $11.8 million compared with $5.3 million in the first 9 months of 2021.
For the business outlook, management has increased its revenue guidance for the full year 2022 to $540 million. This target is based on the company’s current views on operating and market conditions which are subject to change.
With that, operator, we’re ready to begin the Q&A.
[Operator Instructions] Your first question is coming from William Gregozeski from Greenridge Global.
Great quarter. I have a couple of questions. Sales to the U.S. were lowest in about 2 years. Is there any reason for that? And are we going to see that reverse coming up here?
To change this quarter, the change of sales to the North America market is primarily due to the product mix change as we sell a wide range of steering product based on functions and different pricing, too. So in this particular quarter, we happen to sell more lower-priced product and we believe this can change as well going forward. Now the other thing it’s also been developing is we have been working on a few other new opportunities. So we’re developing new customers in North America as well. So we’ll give you a report where we have a major breakthrough.
Okay. Great. And then on the EPS side, obviously, huge growth in the quarter. What are you looking at from that in the fourth quarter and in ’23?
Our EPS sales has experienced a pretty healthy and strong growth in the last 2 years. If you look at the first 9 months of 2022, we already booked USD 120 million in sales from the EPS, electric power steering products. And that representing 62.8% year-over-year growth. And we believe this — we’re going to continue to grow into the — throughout the fourth quarter with a similar pace. And looking into 2023, we believe we can achieve another around 50% growth from — on a year-over-year basis.
You said 5-0 percent?
Okay, great. And then, are we going to see the margins expand as well because it really didn’t in the third quarter? Are we going to see that get up in that upper teens next year?
Short answer is yes.
So it’s the — as we grow — as we continue to experience significant growth for our EPS, electric powering steering, product volume, as the volume continues to pick up, we will see the gross margin will start to go up as well. As you know, we’ll continue to achieve better economy of scale. And when the EPS gross margin goes up, it’s also going to benefit our blended gross margin, overall gross margin. So we are pretty optimistic for next year in terms of gross margin. Now this particular quarter, third quarter, our gross margin is slightly soft, is mainly due to the product mix and because we’re selling a little higher proportion of low gross margin product.
But looking forward, we believe with the continued growth of EPS product volume and the recovering — ongoing recovery of the commercial vehicle market, we believe the margin will recover next year.
Okay, great. And then last question is, can you guys provide an update on how things are going with Sentient and your investment there?
Okay. So Sentient, overall, we’re very pleased with the progression. First, they signed a very sizable contract with Mobil [ph] recently and we’re very proud of them. And we are looking into — in the mid-2023, we’ll start mass production. And then it’d gradually ramp up to full production — reaching the full production capacity somewhere in 2024. And we’re also working together to provide a solution, a product to BYD. As you know, the largest electric vehicle producer in China is probably in a war right now. The volume, our technical solution in both hardware and software solution, is going to be very meaningful. It’s going to bring very meaningful revenue to us. And we’re looking at about 200,000 units a year will be coming from this new business opportunity; so it’s pretty exciting for us.
Great. And so is that BYD, is that a signed contract or just something you’re working on and that’s the potential value?
We’re in the development contract stage. Yes. After that, then we’ll start to go into the full commercial contract.
[Operator Instructions] Okay, we don’t appear to have any further questions in the queue. I’m now going to hand back over to Kevin for any closing remarks.
We thank you for your participation in today’s conference call. Please be safe and we look forward to speaking with you in the future.
Thank you, ladies and gentlemen. This does conclude today’s conference call. You may disconnect your phone lines at this time and have a wonderful day. Thank you for your participation.