CBAK Energy Technology, Inc. (then China BAK Battery, Inc.) — Form 10-Q
Reporting period: Fiscal third quarter and nine months ended June 30, 2014; filed August 19, 2014. Financial statements are unaudited and presented in U.S. dollars. The filing reports China BAK Battery, Inc., the company’s name at the time.
Business context and material changes
On June 30, 2014, lender Jinghui Wang foreclosed on the company’s pledged 100% interest in BAK International and transferred it to a third party for $83.8 million, extinguishing the related loan principal. The company and BAK International were released from their guarantees under a July 4 agreement, and Mr. Wang waived $8.3 million of accrued interest. The disposal removed the group that had generated most of the company’s battery revenue and left China BAK with its Hong Kong subsidiary and two Dalian subsidiaries.
The company said it would focus on high-power lithium-ion batteries for electric vehicles, light electric vehicles, tools, energy storage, and other industrial uses. Before its Dalian facility begins operations, it planned to outsource production to former subsidiary BAK Tianjin. Property leasing and management income, including a $45.8 million disposal gain, is reported as discontinued operations.
Financial results and liquidity
| Metric | Three months ended June 30, 2014 | Nine months ended June 30, 2014 |
|---|---|---|
| Continuing-operations revenue | $48.0 million, up 5.3% year over year | $122.0 million, down 20.4% |
| Gross profit and margin | $4.3 million; 9.0%, versus a $1.4 million loss and -3.0% | $9.5 million; 7.8%, versus a $9.2 million loss and -6.0% |
| Operating loss | $3.6 million, versus $7.7 million | $10.3 million, versus $42.2 million |
| Continuing-operations net loss | $9.8 million, versus $10.3 million | $26.4 million, versus $58.1 million |
| Discontinued-operations income | $46.9 million | $48.9 million |
| Net income and diluted EPS | $37.1 million; $2.94 | $22.6 million; $1.79 |
Reported net income was driven by discontinued operations, principally the $45.8 million disposal gain; continuing operations remained loss-making. The disposal gain was primarily attributed to appreciation in the reported market value of the Shenzhen R&D Centre.
Battery revenue trends were mixed. In the quarter, battery-pack revenue rose 88.5% to $29.1 million, while cylindrical-cell revenue fell 60.6% to $3.3 million. For the nine months, cylindrical-cell revenue declined 76.1% to $9.3 million; battery-pack revenue increased 11.9% to $61.8 million. Management cited competition, product mix, and fewer discounted or reconditioned sales. Inventory write-downs fell to $3.1 million in the quarter and $8.8 million for nine months, from $12.3 million and $38.1 million, respectively, in 2013.
Cash flow: Operating activities used $19.4 million in the nine months, compared with $43.2 million provided in 2013. Investing activities used $7.9 million; financing activities provided $13.6 million. Cash fell from $14.0 million at September 30, 2013 to $272,115 at June 30, 2014.
Balance sheet and liquidity: At June 30, current assets were $1.9 million and current liabilities $33.5 million, a $31.6 million working-capital deficit. Total liabilities were $33.5 million, total assets $14.0 million, and shareholders’ equity was negative $19.5 million. Short-term bank loans were reported as nil after the disposal, but accrued expenses and other payables were $9.2 million and current deferred government grants were $24.2 million. The company reported substantial doubt about its ability to continue as a going concern. It later obtained a $4.8 million, one-year bank loan at 7.8% interest, guaranteed by Shenzhen BAK and CEO Xiangqian Li.
Capital expenditures were $11.8 million for the nine months; management estimated fiscal 2014 spending of approximately $22.9 million, primarily for the Dalian facility. The filing lists $60.3 million of contractual obligations and commercial commitments, including a $25.0 million capital contribution to Dalian BAK Power, $24.2 million in Dalian government advances, and $11.1 million of construction commitments.
Outlook, risks, and unusual items
- Management expected Dalian facility construction to finish in September 2014, with trial production thereafter and commercial operations by year-end. It planned to transfer customers, employees, equipment, patents, and technology from BAK Tianjin, and to outsource orders to BAK Tianjin in the interim.
- Management planned to seek additional local-bank financing and said it could not assure that funding would be available. It expected relocation to be completed by year-end and the $24.2 million in government advances to be recognized as income or offset against qualifying costs only when project obligations ended.
- Risks include Dalian construction delays, cost overruns, start-up losses, and difficulty hiring skilled workers. Reliance on BAK Tianjin is also a material risk: the company said written outsourcing arrangements were not assured, and supply could be interrupted or repriced.
- Disclosure controls and procedures were deemed ineffective. Management identified material weaknesses in accounting for key agreements and in the availability of sufficiently skilled U.S. GAAP accounting personnel; remediation was underway, with no assurance it would be completed on schedule.
- Two disclosed legal matters: a product-liability claim seeking $126,978 plus interest and fees, and a Texas breach-of-contract default judgment of $442,629.21 that the company was seeking to vacate. The company said it intended to defend both matters.
- The filing added risks concerning Nasdaq continued-listing compliance and dependence on BAK Tianjin. No quantitative market-risk disclosure was provided.
Important facts for investors to verify
- Whether the Dalian facility became operational on schedule, and whether customers and production transferred successfully.
- Availability and terms of additional financing, near-term cash needs, and the company’s ability to meet its going-concern obligations.
- Whether reported future revenue reflects the company’s own manufacturing operations or outsourced supply from BAK Tianjin.
- The composition, realizability, and accounting treatment of the $45.8 million disposal gain and the $24.2 million government advances.
- Progress in remediating material weaknesses in disclosure controls, and the status of the two legal proceedings and Nasdaq listing compliance.