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SCOK > SEC Filings for SCOK > Form 10-K on 30-Sep-2013All Recent SEC Filings

Show all filings for SINOCOKING COAL & COKE CHEMICAL INDUSTRIES, INC. | Request a Trial to NEW EDGAR Online Pro

Form 10-K for SINOCOKING COAL & COKE CHEMICAL INDUSTRIES, INC.


30-Sep-2013

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND
RESULTS OF OPERATIONS

The following discussion and analysis of the results of our operations and financial condition for the fiscal years ended June 30, 2013 and 2012 should be read in conjunction with the Selected Financial Data, our financial statements, and the notes to those financial statements that are included elsewhere in this Report. All monetary figures are presented in U.S. dollars, unless otherwise indicated.

Forward-Looking Statements

The statements in this discussion that are not historical facts are "forward-looking statements." The words "may," "will," "expect," "believe," "anticipate," "intend," "could," "estimate," "continue," the negative forms thereof, or similar expressions, are intended to identify forward-looking statements, although not all forward-looking statements are identified by those words or expressions. Forward-looking statements by their nature involve substantial risks and uncertainties, certain of which are beyond our control. Actual results, performance or achievements may differ materially from those expressed or implied by forward-looking statements depending on a variety of important factors, including, but not limited to, weather, local, regional, national and global coke and coal price fluctuations, levels of coal and coke production in the region, the demand for raw materials such as iron and steel which require coke to produce, availability of financing and interest rates, competition, changes in, or failure to comply with, government regulations, costs, uncertainties and other effects of legal and other administrative proceedings, and other risks and uncertainties. We are not undertaking to update or revise any forward-looking statement, whether as a result of new information, future events or circumstances or otherwise.

Overview

We are a vertically-integrated coal and coke producer based in Henan Province, China. Our coal products include raw (unprocessed) coal, washed coal, mid-coal and coal slurries. Our coke products include metallurgical coke, coke provider, coal tar and crude benzol.

Our business operations are conducted through Hongli, a PRC company that we control by a series of contractual arrangements between Hongli and Hongyuan. Hongyuan is a PRC company wholly-owned by Top Favour, a British Virgin Island company and our wholly-owned subsidiary.

As of June 30, 2013:

coke related activities were carried out by Hongli and Hongli's branch operation, Baofeng Coking;

coal related activities were carried out by Hongchang Coal, Shuangrui Coal and Xingsheng Coal, all subsidiaries of Hongli; and

electricity generation was carried out by another Hongli subsidiary, Hongguang Power.

The coal-related activities for the periods discussed below are those of Hongchang Coal only, although we have been unable to extract coal since September 2011 due to the ongoing moratorium on mining activities. See "Our Products and Operations - Coal - Coal Mining Moratorium" in Part I, Item I of this Report. It is our intention to transfer all coal related activities to Hongyuan CSG, our joint-venture with the state-owned Henan Coal Seam Gas, although such transfer has not been carried out as of the date of this Report.

Results of Operations

Our revenue in fiscal 2013 decreased by approximately 15.49% from a year ago as sales of most products slowed. 59% of the revenue was derived from coke products as compared to 51% in fiscal 2012, and 41% from coal products as compared to 49% in fiscal 2012.

On a macro level, management has observed the following trends, which may have a direct impact on our operations in the near future: (1) domestic coke market can be expected to remain soft until the Chinese steel industry can work through its oversupply of crude steel, which may take some time absent any sudden, sharp uptick in the economy; and (2) the slower economy, along with an oversupply of mid-coal starting in early 2013, will continue to keep mid-coal price down.

Comparison of Years ended June 30, 2013 and 2012

Revenue

Revenue decreased by $12,226,469 as compared to fiscal 2012. Such decrease mainly resulted from decreased sales of coke, coal tar, raw coal, mid-coal, and washed coal, offset by increased sales of coal slurries as well as sales of coke powder and crude benzol that commenced during fiscal 2013. Revenue and quantity sold by product type for fiscal 2012 and 2013 are as follows:

                                             Revenues
                                 Coke Products       Coal Products           Total
  Revenue
  Fiscal Year 2012              $    40,602,950      $   38,309,820      $  78,912,770
  Fiscal Year 2013              $    39,056,535      $   27,629,766      $  66,686,301
  Decrease in $                 $    (1,546,415 )    $  (10,680,054 )    $ (12,226,469 )
  % decrease                              (3.81 )%           (27.88 )%          (15.49 )%

  Quantity Sold (metric tons)
  Fiscal Year 2012                      174,021             257,893            431,914
  Fiscal Year 2013                      196,575             187,943            384,518
  Increase (decrease)                    22,554             (69,950 )          (47,396 )
  % increase (decrease)                   12.96 %            (27.12 )%          (10.97 )%

Coke products include finished coke (a key raw material for producing steel), coke powder (a smaller-grained coke that can be produced along with coke and used by non-ferrous metallurgical industry), coal tar, and crude benzol. Coal tar and crude benzol are byproducts of the coke manufacturing process with various industrial applications. Coal products include unprocessed metallurgical coal, processed or washed coal, mid-coal and coal slurries, which are by-products of the coal washing process and used primarily to generate electricity and for heating. As used in this discussion and analysis, unless otherwise indicated, "coke" includes both coke and coke powder, and "raw coal" includes coal that is unwashed and relatively unprocessed, as well as mid-coal and coal slurries.

Average selling prices per metric ton of our products during fiscal 2012 and 2013 are as follows:

                            Average Selling Price of Coke Products

                                                               Crude
                                  Coke          Coal Tar       Benzol       Coke Powder
     Fiscal Year 2012           $     232       $     254          N/A               N/A
     Fiscal Year 2013           $     208       $     267     $    339     $         152
     Increase (decrease) in $   $     (24 )     $      13     $    339     $         152
     % increase (decrease)         (10.34 )%         5.12 %        N/A               N/A




                            Average Selling Price of Coal Products

                              Raw Coal     Mid-coal        Coal Slurries       Washed Coal
  Fiscal Year 2012           $       97     $     72      $            45     $         179
  Fiscal Year 2013           $      114     $     58      $            49     $         183
  Increase (decrease) in $   $       17     $    (14 )    $             4     $           4
  % increase (decrease)           17.52 %     (19.44 )%              8.89 %            2.23 %

Generally, our selling prices are driven by a number of factors, including the particular composition and quality of the coal or coke we sell, their prevailing market prices locally and throughout China, as well as in the global marketplace, timing of sales, delivery terms, and our relationships with our customers and our negotiations of their purchase orders. The lower coke and mid-coal prices reflect weak demands. The higher raw coal price is due to the coal's higher heat value, and the higher coal tar price is due to higher quality of the coal tar.

Revenue and quantity sold of each coke product for fiscal 2012 and 2013 are as follows:

                                                Coke Products

                           Coke          Coke Powder       Coal Tar          Crude Benzol        Total
Revenue
Fiscal 2012            $ 38,656,636       $         0     $ 1,946,314      $            0     $ 40,602,950
Fiscal 2013            $ 31,171,635       $ 6,104,376     $ 1,719,416      $       61,108     $ 39,056,535
Increase (decrease)    $ (7,485,001 )     $ 6,104,376     $  (226,898 )    $       61,108     $ (1,546,415 )
in $
% increase                   (19.36 )%            100 %        (11.66 )%              100 %          (3.81 )%
(decrease)

Quantity Sold
(metric tons)
Fiscal 2012                 166,373                 0           7,648                   0          174,021
Fiscal 2013                 149,882            40,080           6,433                 180          196,575
Increase (decrease)         (16,491 )          40,080          (1,215  )              180           22,554
% increase                    (9.91 )%            100 %        (15.89 )%              100 %          12.96 %
(decrease)

The lower coke revenue for fiscal 2013 resulted from weak market demand. The lower coal tar revenue for fiscal 2013 mainly resulted from lower sales volume, despite a 5.12% increase in the average selling price. As a result of facility upgrades, the Baofeng plant has yielded less coal tar than before. We started selling coke powder and crude benzol in fiscal 2013. We purchase most of the coke powder on the open market, and sell it to our customers in the steel industry. We produce crude benzol from the Hongfeng plant, which we have doing since we conducted trial production in April.

Revenue and quantity sold of each coal product for fiscal 2012 and 2013 are as follows:

                                                Coal Products

                        Raw Coal          Mid-coal       Coal Slurries      Washed Coal           Total
Revenue
Fiscal 2012            $ 1,434,443    $    3,614,057     $      393,481     $ 32,867,839      $  38,309,820
Fiscal 2013            $   604,331    $    1,933,332     $      819,134     $ 24,272,969      $  27,629,766
Increase (decrease)    $  (830,112 )  $   (1,680,725 )   $      425,653     $ (8,594,870 )    $ (10,680,054 )
in $
% increase                  (57.87 )%         (46.51 )%          108.18 %         (26.15 )%          (27.88 )%
(decrease)

Quantity Sold
(metric tons)
Fiscal 2012                 14,815            50,357              8,818          183,903            257,893
Fiscal 2013                  5,283            33,141             16,589          132,930            187,943
Increase (decrease)         (9,532 )         (17,216 )            7,771          (50,973 )          (69,950 )
% increase                  (64.34 )%         (34.19 )%           88.13 %         (27.72 )%          (27.12 )%
(decrease)

Our raw coal revenue continued to suffer from very limited raw coal supply created by the ongoing mining moratorium. We currently anticipate the moratorium to end sometime in the first half of calendar 2014, although there cannot be any assurance as to the exact timing. In response to the higher price of raw coal used to make washed coal, we have adapted our coal washing process to increase washed coal yield. Doing so has also resulted in less mid-coal but more coal slurries being produced, which when combined with the effect of selling price changes, resulted in the revenue fluctuations for both mid-coal and coal slurries.

Our lower washed coal revenue for fiscal 2013 resulted from the limited amount of washed coal sold to our customers due to the limited availability of raw coal with which to produce washed coal.

Cost of Revenue

Cost of revenue decreased to $58,478,301 from $63,745,461 a year ago. This was manly driven by lower sales volumes for most of our products, and the higher cost of obtaining raw coal, as compared to last year.

Gross Profit

Gross profit was $8,208,000, a decrease of $6,959,309 or 45.88% from $15,167,309 a year ago, reflecting our lower revenue as discussed above. Gross profit margin decreased by approximately 6.91% from approximately 19% for the prior fiscal year, mainly due to lower selling price of coke.

Operating Expenses

Operating expenses, which consist of selling expenses and general and administrative expenses, was $3,088,403, a decrease of $115,745 or 3.61% from a year ago. Selling expenses decreased by $46,741 or 22.20%, to $163,827, from slight reduction in expenses relating to selling activities. General and administrative expenses decreased by $69,004 or 2.31%, to $2,924,576, due to the following factors: (1) our rental expense decreased by $113,756, from closing our Beijing office; and (2) consulting expense for internal control decreased by $109,127 after discount we obtained from our consultant. Such decrease was offset as follows: (1) depreciation expense increased by $72,181; (2) repair and maintenance expense increased by $77,718; and (3) other general expenses increased by $67,838.

Other Income and Expense

Other income and expense includes finance expense (which consists of interest and other finance expenses, net of interest income), income and expense not related to our principal operations, and change in fair value of warrants.

Finance expense was $3,356,179, an increase of $2,188,778 or 187.49% from a year ago. This is largely due to the following: (1) no interest was capitalized, as compared to $914,688 a year ago; (2) we incurred an additional $620,995 in interest in connection with extending Hongli's loan with Bairui Trust Co., Ltd. ("Bairui Trust"); (3) we collected a RMB 30,000,000 ($4,779,000) loan receivable, thereby reducing the corresponding interest income by $316,623; and
(4) the interest income from $8,032,037 in loan receivable decreased by $313,376, due to lowered interest rate of 7% from 10% last fiscal year.

We had income not related to our principal operations of $229,036, including $191,160 from our investment in Pingdingshan Rural Cooperative Bank ("PRCB") - Xinhua District Branch. We also recorded other income from the gain in fair value of warrants in the amount of $716,627.

As a result of the foregoing, we had other expense of $2,410,516, as compared to other income of $3,926,633 a year ago.

Provision for Income Taxes

Provision for income taxes decreased by $1,733,849 from a year ago, reflecting our lower taxable income.

Net income

Net income, including the change in fair value of warrants, was $1,047,693, as compared to $12,494,557 a year ago.

Liquidity and Capital Resources

As of June 30, 2013, our current liabilities exceeded current assets by $24,312,407. Our accounts have accordingly been prepared in accordance with U.S. GAAP on a going concern basis. The going concern basis assumes that assets are realized and liabilities are extinguished in the ordinary course of business at amounts disclosed in the financial statements. Our ability to continue as a going concern depends upon expenditure requirement and repayments of our long-term loan facilities with Bairui Trust as and when they become due.

In an effort to improve our financial position, we intend to negotiate with Bairui Trust to extend our loan maturity date, and to increase sales of higher margin products such as coal tar and crude benzol. In the meantime, we are still waiting for the mining moratorium to conclude. If and when that occurs, we should be able to obtain a line of credit to facilitate additional liquidity by pledging our mining rights. Management believes that these and other actions taken can provide us the opportunity to continue as a going-concern.

In summary, our cash flows are as follows:

                                                            Year Ended June 30,
                                                           2013             2012
 Net cash provided by (used in) operating activities   $  6,627,554     $ (12,232,756 )
 Net cash provided by (used in) investing activities   $    866,920     $ (15,856,609 )
 Net cash provided by (used in) financing activities   $ (8,815,001 )   $   3,755,806

Net Cash Provided by (Used in) Operating Activities

Net cash provided by operating activities for fiscal 2013 was approximately $6.6 million, as compared to net cash used in operating activities of approximately $12.2 million for fiscal 2012. Except for $1,107,666 in non-cash adjustment such as depreciation, amortization and depletion, bad debt and change in fair value of warrants which increased our cash-based net income, net operating inflow for fiscal 2013 resulted from the following factors: (1) our account receivable decreased by $2,757,701, due to improved collection of receivables from our customers; (2) advances to suppliers decreased by $3,681,517, due to tightening control of our prepayments; (3) we did not have prepaid expense, which increased our cash inflow by $636,908; and (4) our other payables and liabilities increased by $1,405,131, including interest payables to Bairui Trust, salary payables, and others related to general and administrative expenses. Cash inflow was mainly offset as follows: (1) notes receivable decreased by $398,250 due to the maturity and cashing of such notes; (2) inventory increased by $576,227 mainly due to soft market demands for our products; and (3) tax payable decreased by $414,772 due to lower taxable income in the fourth quarter of fiscal 2013, as compare to the same period last year.

The cash position in operation for fiscal 2012 was due to the combination of the following factors: (a) we received bank guaranteed notes from our customers rather than cash, which increased our note receivables by approximately $14.1 million while reducing our cash inflow; (b) accounts receivable increased by approximately $3.30 million from a decrease in the average accounts receivable turnover ratio, from 10.8 in fiscal 2011 to 7.7; (c) advances to suppliers increased by approximately $3.17 million from coal purchases; (d) other receivable increased by approximately $0.99 million from money borrowed by unrelated parties, although such loans were repaid in August 2012; and (e) tax payables decreased by $1.39 million from lower taxable income.

Net Cash Provided by (Used in) Investing Activities

Net cash provided by investing activities for fiscal 2013 reflects: (1) $9,558,000 in loan receivable to an unrelated party, which was repaid in April 2013; and (2) $1,234,300 in loan receivable we collected from a borrower.

Net cash used in investing activities for fiscal 2012 included: (1) approximately $32.05 million for the construction of our new coking plant, (2) approximately $2.85 million borrowed by two unrelated parties at interest rates of 6% and 3.5%, respectively, and (3) approximately $1.90 million for the land use rights to the land underlying our new coking plant. On the other hand, we received approximately $9.89 million from loan receivable repayments and approximately $11.06 million in refund from prepayments for mine acquisitions that were cancelled.

Net Cash Provided by (Used in) Financing Activities

Net cash used in financing activities for fiscal 2013 included: (1) $9,558,000 in notes payable we obtained from Shanghai Pudong Development Bank ("SPDB") in February 2013, which matured and was fully repaid in August 2013; (2) a loan of $9,558,000 we received from SPDB, which was fully repaid in April 2013; (3) $4,779,000 in notes payable from SPDB that we repaid in September and October 2012 when they matured; and (4) $5,734,800 of Hongyuan's loan from SPDB that was repaid in June 2013. We also repaid a total of $7,965,000 to Bairui Trust in December 2012 and April 2013.

Net cash provided by financing activities for fiscal 2012 largely resulted from activities related to short-term borrowings, including our proceeds from, and our repayments of, such borrowings. On September 14, 2011, we repaid approximately $5.04 million (RMB 32 million) in short-term loan from SPDB and we renewed the loan for another year with SPDB to borrow approximately $5.04 million (RMB 32 million) with annual interest rate of 6.71%. On March 15, 2012, the loan was repaid and we entered into a new loan and borrowed approximately $5.67 million (RMB 36,000,000) for one year with annual interest rate of 7.22%. Top Favour deposited $6.5 million with SPDB with an annual interest rate of 1.3% as collateral, and the new loan is also guaranteed by our CEO. On December 22, 2011, we deposited approximately $1.57 million (RMB 10 million) with SPDB as restricted cash, and issued approximately $3.14 million of guaranteed bank notes. Such notes matured and were repaid on June 21, 2012, and the related restricted cash was returned to us accordingly. On March 19, 2012, we entered into an agreement with SPDB and issued approximately $1.57 million (RMB 10 million) of bank guaranteed notes by depositing the same amount as restricted cash with the bank. On April 25, 2012, we entered into another agreement with SPDB, and issued approximately $3.14 million (RMB 20 million) of bank guaranteed notes, and deposited approximately $1.57 million (RMB 10 million) as restricted cash for such notes. We also repaid our CEO approximately $0.31 million that he loaned us for working capital.

Capital Resources

Funding for our business activities has historically been provided by cash flow from operations, short-term bank loan financing, and loans from our Chairman.

We also have arrangements with certain banks pursuant to which we are able to issue short-term notes to pay our vendors, secured against our deposits with the banks of 50% or 100% of the face value of the notes as well as guarantees from our Chairman, Hongli and/or unrelated third party. We currently have such arrangements with SPDB. Under our arrangements with SPDB, we are subject to a diligence review for each note issued, and SPDB charges us a processing fee based on 0.05% of the face value of each note.

On April 2, 2011, Hongli entered into a loan agreement with Bairui Trust, pursuant to which Bairui Trust agreed to loan Hongli RMB 360 million (approximately $57.06 million), of which RMB 180 million was due on April 2, 2013, and RMB 180 million on April 2, 2014, with annual interest rate of 6.3%. Bairui Trust made the loan to Hongli on April 3, 2011. On November 30, 2011, Hongli entered into a supplemental agreement with Bairui Trust to amend the terms such that RMB 30 million (approximately $4.8 million) would be due on October 2, 2012, RMB 100 million (approximately $15.8 million) on April 2, 2013, RMB 50 million (approximately $7.9 million) on October 2, 2013, and RMB 180 million (approximately $28.5 million) on April 2, 2014. We made the October 2, 2012 payment on December 25, 2012, including outstanding interest charge for late payment. We repaid $3.2 million (RMB 20 million) on April 3, 2013, and entered into another supplemental agreement with Bairui Trust on April 23, 2013 to extend the due date for the remaining $12.7 million (RMB 80 million). Of such remaining principal, the due date for $3.2 million (RMB 20 million) has been extended to December 2, 2013 with an annual interest rate of 6.3% starting from April 23, 2013. The due date for $4.8 million (RMB 30 million) has been extended to January 2, 2014 with an annual interest rate of 6.3% starting from April 23, 2013. The due date for $4.8 million (RMB 30 million) has been extended to February 2, 2014 with an annual interest rate of 6.3% starting from April 23, 2013. Between April 3, 2013 and April 23, 2013, Bairui Trust charged a 9.45% annual interest rate on the entire $12.7 million outstanding. We intend to negotiate with Bairui Trust to further extend the maturity dates by an additional two to three years, and to repay the loan through our operational cash flow.

Our business plan involves growing our business through: (1) expanding our current production capacity and product mix by leasing the Hongfeng plant, and completing construction of our new coking plant when market conditions improve;
(2) expanding the market for our clean coke product produced at the Baofeng plant to offset the weak demand for conventional coke; (3) capturing more coke by-products for refinement into useful industrial chemicals, and producing more high value-added chemical products when construction completes at our new coking plant; and (4) acquiring other coal mines and building long term strategic relations with other mining operators to source raw coal. Of the foregoing, the following is expected to require capital resources:

New Coking Facility. We intend to use existing cash, cash flow from operations, bank loans, collection of our loan receivables, along with other finance arrangements such as extending our long term loan from Bairui Trust, to complete the construction of our new coking facility. Due to ongoing market conditions, however, we have once again slowed down constriction, but plan to resume at full pace if and when market improves.

Coal Mine Safety Improvement Projects. The total estimated cost for government-mandated safety upgrades is approximately $31.5 million. We will be responsible for approximately 70% of the total estimated cost, approximately $22.0 million, under the structure of our joint-venture with Henan Coal Seam Gas. We also intend to use our line of credit from PRCB to complete these projects. These projects have not commenced as of the date of this Report, although we currently expect to complete them sometime in first half 2014.

During fiscal 2013, we had minimal capital expenditures.

We have not experienced any material losses since inception relating to accidents or other similar events. See "Risk Factors - We may suffer losses resulting from industry-related accidents and lack of insurance."

Off-balance Sheet Arrangements

We have not entered into any financial guarantees or other commitments to guarantee the payment obligations of any third parties. Other than warrants liability, we have not entered into any derivative contracts that are indexed to its shares and classified as shareholder's equity or that are not reflected in its consolidated financial statements. Furthermore, we do not have any retained or contingent interest in assets transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity. We do not have any variable interest in any unconsolidated entity that provides financing, liquidity, market risk or credit support to us or that engages in leasing, hedging or research and development services with us.

Critical Accounting Policies

Our management's discussion and analysis of our financial condition and results of operations are based on our financial statements that have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported net sales and expenses during the reporting periods. On an ongoing basis, we evaluate our estimates and assumptions. We base our estimates on historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

While our significant accounting policies are described in Note 2 to our financial statements elsewhere in this Report, we believe that the following accounting policies are the most critical to aid you in fully understanding and evaluating this management discussion and analysis:

Revenue recognition

We recognize revenue from the sale of coal and coke, our principal products, at the date of shipment to customers when a formal arrangement exists, the price is . . .

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