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Hanwha Q CELLS Co., Ltd. (NASDAQ:HQCL)
Q2 2018 Earnings Conference Call
Aug. 13, 2018, 8:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, ladies and gentlemen, and welcome to the Hanwha Q CELLS Second Quarter 2018 Earnings Conference Call. My name is Leslie, I will be your operator for today. At this time, all participants are in a listen-only mode. (Operator Instructions)

I would now like to turn the presentation over to your host for today's call, Mr. Tom Mir, Director of Investor Relations. Please proceed.

Tom Mir -- Director of Investor Relations

Thank you, operator. Welcome everyone to our earnings call. Joining us today on the call are; Mr. Seong-woo Nam, CEO; Mr. Jay Seo, CFO; and Mr. Joo Yoon, SVP of Global Sales Planning. Before we begin, I would like to remind our listeners that today's prepared remarks will contain forward-looking statements that are subject to risks and uncertainties, and we will make additional forward-looking statements in answering the questions from today's call. For further information, please refer to the section on risk factors in the company's Annual Report on Form 20-F filled with the US Securities and Exchange Commission.

At this time, I will turn the call over to Mr. Seong-woo Nam, our CEO. Please go ahead.

Seong-woo Nam -- Chairman and Chief Executive Officer

Welcome, everyone, and thank you for joining our second quarter 2018 earning call. Q2 has been a difficult quarter for the industry with the US and China demand were adversely impacted by their respective safeguard measures and subsidy cuts. The uncertainty regarding the Indian safeguard also limits global installation. Nevertheless, we are confident that the market will rebound and continue to grow in the long term as solar becomes more and more competitive with other forms of generation.

Industry consolidation has been slow primarily due to protectionist policy that helps to sustain otherwise unsustainable company and operations. The recent unfavorable policy shift in the US, China, and India has provided for proving ground for solar manufacturers testing their earnings potential and other activities due to sudden shift in the market conditions. As one of few profitable solar module manufacturer, we welcome another round of industry consolidation as we will continue to streamline our operation by discontinuing unprofitable operations, reducing operational expense, and expanding our footprint in profitable markets.

On a separate note, let me talk a little bit about the going-private offer we received on August 2. As previously disclosed, we did receive a going-private offer from Hanwha Solar Holdings, our parent company. After receiving the proposal, we held a Board meeting in which we established a Special Committee comprised of the company's independent directors to consider the offer. As of the earning call, the Special Committee is engaging potential legal and independent financial advisors to support it in the process of reviewing the preliminary terms and conditions set forth by the buyer. Mr. Seo will provide more information regarding the procedure and the expected timeline of this transaction later in today's call.

At this point, I'll turn the call over to Mr. Joo Yoon, who will provide you with the update of our Q2 sales and operational highlights, as well as our Q3 business outlook.

Joo Yoon -- Senior Vice President of Global Sales and Marketing

Thank you, Mr. Nam. First of all, thank you everyone for joining our earnings call today. Our second quarter revenues of $518 million, modestly beat our guidance of $490 million to $510 million, provided during our first quarter earnings call as our shipment volume increased despite the demand shock provided to the global markets by the Chinese government's policy shift. We expect shipments to continue to increase in the second half of the year, in spite of the demand contraction in the world's largest solar market and unfavorable trade environment.

Having said that, let me go over our second quarter sales activities in detail and provide an outlook for third quarter and beyond. As we mentioned in our previous earnings calls, we are focusing on Europe as our No. 1 market to minimize the impacts of Section 201 tariffs. This was the case for second quarter as well, as Europe alone accounted for more than a quarter of our total shipments volume. We expect Europe to account for a larger portion of our total shipments in the second half as our Q.PEAK DUO sales picks up and uncertainties relating to MIP are resolved.

In China, our sales volume dramatically increased due to the base effect of the Chinese New Year holiday in our first quarter, which pushed back our delivery through a number of top-runner projects to second quarter. While we expect demand in China to slow down in the second half of 2018 due to the effect of subsidy cuts announced on May 31, we believe the impact will be limited compared to some of our competitors as we are not as dependent on the China market.

In the US, we experienced a definite slowdown in sales activities of major residential markets such as California and Arizona experienced demand contractions. Subsidy cuts in China and resulting oversupply led to installers and customers delaying projects and purchasing decisions for utility scale projects in the hope of negotiating better pricing. ASPs [ph] in the US market, however, remained significantly higher than our second quarter global average, as sales of pre-Section 201 shipments continued in the US. We expect the US market to pickup in the third quarter as the market is stabilizing after the initial shock to the Chinese regulatory announcement and as our residential products are gaining wider acceptance in the market.

Sales activities in the first half of this year have been slow, partially due to the non-risk factors such as the implementation of safeguards in the US and partially due to the unexpected risk factors such as the Chinese policy shift. Expectation for this year's market demand vary widely from one market research firm to the next, reflecting the unpredictable nature of this year's market. During the second half of this year, we expect to gain more visibility regarding market demand as much of the uncertainties that were faced in the first half should be resolved in the third quarter and first quarter. We further [ph] increased the shipments to Europe and the US to account for much of our increasing shipments volumes.

I will briefly provide an overview of our production capacity as of the end of the quarter. As of June 30, 2018, we had a total of 4.3 gigawatt cell and module manufacturing capacity. Of those, 2.5 gigawatts were located in China and 1.8 gigawatts in Malaysia. In addition, our Korea-based affiliate has 3.7 gigawatts of cell and module capacity in Korea and expect to begin the operation of 1.6 gigawatts module plant in the US in February 2019.

Now, our CFO, Mr. Jay Seo, will go over our second quarter financials and provide more information regarding the going-private offer mentioned by Mr. Nam in his opening remarks.

Jay Seo -- Chief Financial Officer

Thank you, Mr. Yoon. In today's call, I'll be brief with our financials today as I want to spend some time talking about the going-private offer. Let me start off with our Q2 2018 income statement. Our Q2 revenues of $518 million represent a Q-o-Q increase of 17%, and were slightly above our previous guidance of $490 million to $510 million. Our cost of sales was $446 million, and was 86% of our total revenues. Our gross margin declined roughly 3.8% Q-o-Q as ASP declines outpaced that of input prices. As a result, our Q2 gross profit was $73 million, down $6 million Q-o-Q.

Our operating expenses for Q2 were $68 million, up $22 million or 48% Q-o-Q. Increased operating expenses was a result of higher freight and storage costs, attributable to higher shipment volume and inventory levels as well as supply and demand dynamics resulting from trade disputes. We also incurred one-time expenses, including but not limited to bad debt expenses and severance fees as part of our strategy to discontinue unprofitable operations. We also incurred non-recurring license fees and advertising expenses in Q2.

Our operating profit for Q2 was $5 million compared to an operating profit of $33 million in Q1. As a result of the aforementioned decrease in gross profit and increase in operating expenses, our Q2 non-operating losses were $44 million, resulting from net foreign exchange losses of $38 million and net interest expenses of $15 million. We were subject to foreign exchange losses due to the appreciation of the US dollar against virtually all other currencies in Q2. Most of our foreign exchange losses were recognized on USD denominated borrowings and did not involve cash expenditures.

Interest expenses increased Q-o-Q due to consistent increase in borrowing costs, resulting from higher LIBOR. As a result of the above factors, our pre-tax loss for Q2 was $39 million compared to a pre-tax income of $34 million in Q1. Q2 income tax expense was $2 million, down $1 million or 42% Q-o-Q. Our Q2 net loss was $41 million compared to a net income of $31 million in the previous quarter. Net loss per ordinary share and ADS in Q2 were $0.01 and $0.50 respectively, compared to an income of $0.01 and $0.37 per ordinary share and ADS respectively in the previous quarter.

Moving on to our financial position as of June 30, 2018. Total assets at the end of Q2 were $2.52 billion, down $84 million Q-o-Q. Decrease in total assets is primarily a result of decreased receivables from related parties and decrease in fixed assets. Total liabilities at the end of the quarter were $2.1 billion or $4 million Q-o-Q. The only major change during the quarter was a reclassification of approximately $180 million of current portion of long-term debt to long-term debt as a result of rollover of the loan. Our current ratio at the end of Q2 was 1.04 compared to 0.93 at the end of the previous quarter, mainly due to $180 million decrease in the current portion of long-term debt.

Let me talk a little bit about the going-private offer we have received on August 2. Upon receipt of the going-private offer, the company issued a press release and filed a 6-K with SEC disclosing the receipt of the offer. The company then held a Board meeting to establish a Special Committee comprised entirely of the company's independent directors to consider the offer. In accordance with Section 233 of the Companies Law of the Cayman Islands, the proposed transaction is a short-form merger in which the parent seeks to acquire all outstanding shares it does not already beneficially own.

As mentioned earlier, the Special Committee is in the process of appointing its legal and independent financial advisors to assist the committee in revealing the preliminary terms and conditions set forth by the buyer. If you have additional questions regarding the background of the merger, we advise you to attend Hanwha Chemical Corporation's earnings call scheduled to take place at 2.00 PM PST or roughly 17 hours from now.

As you are aware of, we will be exempt from all SEC and NASDAQ reporting requirements if the going-private transaction is approved and the merger between Hanwha Solar Holdings and Hanwha Q CELLS is consummated. However, we would like to remind our investors that discussions regarding the going-private offer are still at a preliminary stage and we cannot comment as to whether the transition will go through.

Mr. Yoon will now provide you with our Q3 revenue and annual estimate guidance.

Joo Yoon -- Senior Vice President of Global Sales and Marketing

Thank you, Mr. Seo. We expect our third quarter revenues to be in the range of $590 million to $610 million. For the full year 2018, we reiterate our module shipment guidance of between 5.6 gigawatts and 5.8 gigawatts due to reasons mentioned previously during the call. We also reiterate capital expenditures of $145 million for 2018.

With that, I will turn the call back over to Tom.

Tom Mir -- Director of Investor Relations

Thank you, Mr. Yoon. This will conclude our prepared remarks and we will now turn the call over for questions. Operator, please go ahead.

Questions and Answers:

Operator

(Operator Instructions) We have the first question from the line of Philip Shen, Roth Capital.

Elihu Whitney -- Roth Capital Partners -- Analyst

Hi, everyone. This is Elihu for Phil. First question, could you tell your ASP for Q2 and then maybe you could discuss to your margin outlook for Q3, Q4 and the first half of 2019?

Tom Mir -- Director of Investor Relations

Our ASPs were as usual very varied for different regions. We've been seeing high-$0.40s in the US, thanks to pre-tariff shipments and we have been seeing low-$0.30s in other markets. But all in all, we were able to finish the quarter in the high-$0.30, low-$0.40. And for Q3 and Q4 following the subsidy cuts in China, we expect ASPs to go down, but we believe that that's going to be accompanied by corresponding decline in input prices such as wafer and other raw materials for cells and modules. So the margin outlook actually is expected to improve for the second half of 2018 especially given that we have a lot of shipments to take place in the other markets such as Europe and the States. And for 2019 we're not that far into our planning, so I'm probably not at liberty to say much.

Elihu Whitney -- Roth Capital Partners -- Analyst

Okay. So my understanding is that you may have bookings with fixed ASPs through the end of this year. Do you expect your pricing to be stronger than the market average through the rest of the year and do you expect these contracts to standby?

Tom Mir -- Director of Investor Relations

I mean, we're getting a lot of -- as you are aware, we're getting a lot of comments from our buyers in different regions about the ASP drops on like good stuff. But I think in our second half planning, we're basically expecting our ASPs to fall pretty significantly. I mean, probably more than 10%-ish. And given that we don't have that many fixed contracts at this point, I think the -- our large contracts, couple of years back, definitely made all of our customers kind of stay away from that tactic. So, I mean, at this point, we're getting visibility for up to about three months. So the ASP decline is probably factored in there and we expect most of those contracts to stand. And as for whether our ASPs will be stronger than the market average, I mean, I can only tell you from what we've witnessed historically, it's always been stronger than the market average. So hopefully that's going to be the case moving forward.

Elihu Whitney -- Roth Capital Partners -- Analyst

Okay. Thank you. Can you discuss your geographic mix of shipments in Q2 and maybe your expectations for the next quarter?

Tom Mir -- Director of Investor Relations

Europe and the US, I mean, combined accounted for about 40% of our shipments in Q2. China accounted for, I'm going to say, high teens and, Australia, we had a big order there, as well as Canada. But we think the US and Europe is going to account for a larger part of our sales in the second half, probably more than half of our total shipments.

Elihu Whitney -- Roth Capital Partners -- Analyst

Okay. So for the module factory in the US, can you discuss the like separate products like mono, multi, PERC?

Tom Mir -- Director of Investor Relations

As we don't own that factory or we don't intend to own that factory, I think that's probably going to be a decision for some other company, not us.

Elihu Whitney -- Roth Capital Partners -- Analyst

Okay. Can you discuss how much of your manufacturing capacity is like currently being utilized? How you see that utilization trending ahead?

Tom Mir -- Director of Investor Relations

We are currently operating at virtually full capacity and I don't foresee that changing in the near future.

Elihu Whitney -- Roth Capital Partners -- Analyst

Okay, thank you. That's it for me.

Tom Mir -- Director of Investor Relations

Thank you.

Operator

(Operator Instructions) As there are no questions at this time, I'd like to hand the call back to your speakers for any closing remarks.

Tom Mir -- Director of Investor Relations

Hey, everyone, thank you again for joining our call and it's been a busy quarter for us, I guess, especially ending with the going-private offer. But we hope to see you again next time. Yeah, thank you.

Operator

Thank you, sir. Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect.

Duration: 24 minutes

Call participants:

Tom Mir -- Director of Investor Relations

Seong-woo Nam -- Chairman and Chief Executive Officer

Joo Yoon -- Senior Vice President of Global Sales and Marketing

Jay Seo -- Chief Financial Officer

Elihu Whitney -- Roth Capital Partners -- Analyst

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