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KEYP > SEC Filings for KEYP > Form 10-Q on 1-Oct-2013All Recent SEC Filings

Show all filings for KEYUAN PETROCHEMICALS, INC.

Form 10-Q for KEYUAN PETROCHEMICALS, INC.


1-Oct-2013

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and result of operations contains forward-looking statements and involves numerous risks and uncertainties, including, but not limited to, those described in the "Risk Factors" section of the other reports we file with the Securities and Exchange Commission. Actual results may differ materially from those contained in any forward-looking statements.

The following discussion and analysis of financial condition and results of operations relates to the operations and financial condition reported in the financial statements of Keyuan for the six months ended June 30, 2013 and 2012 and should be read in conjunction with such financial statements and related notes included in this report and the Company's Annual Report on Form 10-K for the year ended December 31, 2012, as amended.

Overview

Operating through our wholly-owned subsidiaries, Ningbo Keyuan Plastics Co., Ltd. ("Ningbo Keyuan"), Ningbo Keyuan Petrochemicals Co., Ltd ("Ningbo Keyuan Petrochemicals"), Keyuan Synthetic Rubbers Co., Ltd ("Keyuan Synthetic Rubbers") and Guangxi Keyuan Co., Ltd ("Guangxi Keyuan"), our operations include (i) a production facility with an annual petrochemical production capacity of 720,000 metric tons (MT) of a variety of petrochemical products, (ii) facilities for the storage and loading of raw materials and finished goods, and (iii) a manufacturing technology that can support our manufacturing process with relatively low raw material costs and high utilization and yields, all of which are led by a management team consisting of petrochemical experts with proven track records from some of China's largest state-owned enterprises in the petrochemical industry.

Due to China's growing demand for refined petrochemical products, we expanded our annual production capacity from 550,000 MT to 720,000 MT in April 2011. We also completed the construction of a Styrene-Butadience-Styrene (the "SBS") production facility with an annual production capacity of 70,000 MT in September 2011 and began initial trial production in October and November 2011. One SBS production line began commercial production in December 2011 and the second line began commercial production in August 2012.

In January 2012, we signed a cooperation agreement with Fangchenggang City to build a new petrochemicals production facility, Guangxi Keyuan New Materials Industrial Park, in Guangxi Province (the "Guangxi Project"). Once the facility is fully operational, it is expected to have an annual production capacity of 400,000 metric tons of Acrylonitrile Butadiene Styrene ("ABS") and related products. As of the date of this filing, we have been focused on the complex pre-construction government approval work and on research to improve the efficiency of the production of Guangxi Project since the signing of the agreement.

On August 9, 2013, we received approval for the Guangxi Project from the local government of Fangchengang City. On August 28, 2013, the project's opening ceremony was held to officially announce the commencement of engineering and building construction for the project. Currently we are focusing on land leveling and preliminary investigation for foundation piling. We expect the facilities could commence operation by the end of 2014 if it progresses according to our schedule.


Our organization chart is as follows:

[[Image Removed]] Our Facility and Equipment

Facility

As of June 30, 2013, we have invested a total of approximately $38 million in the construction and improvement of our production facility. Our current production facility encompasses approximately 1.3 million square feet, including 594,000 square feet for production and 19,500 square feet for laboratories and offices. We also acquired the land use right of an additional 1.2 million square feet of land in August 2010 for our future expansion.

We have a total of 100,000 MT of storage capacity, consisting of 50,000 MT of storage capacity for raw materials and 50,000 MT for finished products. As a part of our expansion plan, we intend to add 80,000 MT of new storage capacity in 2013, after which our total storage capacity will be 180,000 MT. The Company entered into the first phase of construction of the new storage capacity in August 2012, and approximately 34,000 MT of new capacity has been completed through June 2013. The project is currently in the anti-rust treatment and commissioning stage.

We have an on-site ocean shipping dock with 5,000 MT of shipping capacity and a 10-truck loading facility. Approximately 90% of our feedstock and finished products use this shipping dock. We also have adjacent access to another shipping dock with an additional 50,000 MT of shipping capacity.


Equipment

Our major processing equipment includes the following:

? Heavy oil catalytic pyrolysis processing equipment - risers/generators/precipitators, fuel gas boilers, fractionating tower, absorbing re-absorbing and desorbing towers, heat exchangers, pumps, and a stabilizing tower;

? Gas fractionation processing equipment - de-propanizing tower, refining propylene tower, de-ethanizination tower, heat exchangers, and pumps;

? Ethylbenzene processing equipment - alkylation reactor, anti-alkylation reactor, dehydrogenation reactor, propylene absorbing tower, de-ethylene tower, ethylbenzene recovering tower, heating furnace for benzene, heating furnace for gas, steam overheating furnace, tail gas compressor, and washing tower; and

? Liquefied petroleum gas (LPG) and sulfur recovery process - LPG desulfurization extraction tower, dry gas desulfurization tower, regenerating tower, and LPG de-mecaptan extraction tower.

Our Products

We manufacture and supply a variety of petrochemical products, including BenzeneToluene-Xylene Aromatics (BTX Aromatics), propylene, styrene, liquid petroleum gas (LPG), Methyl Tertiary Butyl Ether (MTBE), Styrene butadiene styrene (SBS), and other petrochemicals, each of which is described below:

? BTX Aromatics: consists of benzene, toluene, xylene and other chemical components used for further processing into plastics, gasoline and solvent materials widely used in paint, ink, construction coating and pesticide;

? Propylene: a chemical intermediate which is one of the building blocks for an array of chemical and plastic products that are commonly used to produce polypropylene, acrylonitrile, oxo alcohols, propylene oxide, cumene, isopropyl alcohol, acrylic acid and other chemicals for paints, household detergents, automotive brake fluids, indoor/outdoor carpeting, textile, insulating materials, auto parts and electrical appliances;

? Styrene: a precursor to polystyrene and several copolymers widely used for packaging materials, construction materials, electronic parts, home appliances, household goods, home furnishings, toys, sporting goods and other products;

? LPG: a mixture of hydrocarbon gases used as fuel in heating appliances and vehicles. A replacement for chlorofluorocarbons as an aerosol propellant and a refrigerant which reduces damage to the ozone layer;

? MTBE & Other Chemicals: MTBE, oil slurry, sulphur and others which are used for a variety of applications including fuel components, refrigeration systems, fertilizers, insecticides and fungicides; and

? Styrene butadiene styrene (SBS): a thermoplastic elastomer with features similar to rubber, widely used in the manufacture of resin, shoes, tape, tubes and asphalt.

Production Capacity and Expansion

Our annual designed manufacturing capacity was 550,000 metric tons of a variety of petrochemical products at the end of 2010. We upgraded the catalytic pyrolysis processing equipment used in production facilities to expand the capacity from 550,000 MT to 720,000 MT. This capacity expansion project started in March 2011 and was completed in April 2011.

In September 2011, we completed building a new facility designed for producing Styrene-Butadience-Styrene (the "SBS"), one of the Styreneic Block Copolymers. SBS is a product with higher product margin with significant applications in the footwear, adhesive, polymer modification and modified asphalt industries. The SBS facility was built on part of the 1.2 million square feet of land for which we obtained the right of use in August 2010. The construction started in September 2010 and was completed as scheduled in September 2011. One SBS production line began commercial production in December 2011 and the second line began commercial production in August 2012. The designed capacity of the SBS facility allows for production of up to 70,000 metric tons per year. The SBS facility achieved a 41% utilization rate in 2012, as the first full year of production, and generated approximately $71.1 million in sales and $7.7 million in profit. We expect to generate net profit margins of 10% from our production of SBS once the facility reaches normal production levels, which means the actual production volume reach more than 80% of the design capacity. However, market conditions, the volatility of feedstock and SBS product prices can significantly impact the estimated profitability and we cannot guaranty that our SBS production will reach more than 80% of the design capacity in the near future.


The following chart depicts our main product's production capacity for the six months ended June 30, 2013:

[[Image Removed]]

Breakdown of the total capability of 277,845 (MT) for main products for the six months ended June 30, 2013

Other than the utilization rate for SBS facility discussed above, the utilization rates for our other facilities are as follows:

? styrene production: 75%;

? propylene: 92%;

? LPG: 76%;

? BTX Aromatic: 80%; and

? MTBE & others: 47%

Most of our facilities have been operating since 2009, so the current utilization rates for each product (except for the newly developed SBS) has been optimized to achieve stable output, less raw material cost and less equipment maintenance. We also made slight adjustments to the utilization rate for the BTX Aromatic facility to reduce the output to achieve more stable production conditions. We have been working on existing equipment upgrades to achieve increased stabilized production. However, in order to develop our business to meet increasing customer demands, optimizing the utilization rates for our current facilities is not adequate to achieve our goals. More specifically, the increasing market demand in tire and auto parts has resulted in increasing market demand for styrene, ABS and SSBR; and higher requirements related to environmental protection imposed by the PRC government has led to higher demand for transformer oil and catalytic cracking oil. Based on these market trends, rather than focusing on optimizing our current utilization rates for our different facilities, we have been focusing on the following improvements to our infrastructure to expand our manufacturing capacity:

a) an ABS production facility in Guangxi Province, which will have an annual production capacity of 400,000 MT of ABS. The Company began pre-construction activities in February 2012, and we are currently in the process of doing land leveling and investigation for foundation piling. The first phase is expected to be completed by the end of 2014, at which time our facilities could commence operation;


b) an oil catalytic cracking processing facility as an extension of our catalytic pyrolysis processing equipment, as well as the feed way of the main raw materials to produce synthetic rubber. This facility can reduce production costs and the market risk in the purchase of raw materials, and improve the stability and efficiency of project production to 200,000 MT of heavy oil per year;

c) an increased annual design capacity of our ethylene-styrene facility from 80,000 MT to 200,000 MT, among which 120,000 MT can be used for producing synthetic and 80,000 MT can be sold to downstream petrochemical companies. Ethylene-styrene is the main raw material (e.g. Bezene) from the catalytic cracking oil processing facility to produce styrene. This facility can be considered the bridge between original products and high-value added products and will complete the integration of internal resources;

d) a transformer oil facility using hydrogen from the ethylene-styrene facility to complete a double hydrogenation process on original products (BTX Aromatic) for refining transformer oil, and producing high value transformer oil with a design capability of 100,000 MT per year; and

e) an SSBR (Solution Polymerized Styrene Butadiene Rubber) production facility with a design capability of 150,000 MT per year, that will use its own production process technology in synthetic rubber, combining styrene and butadiene, to produce SSBR. This product can be used as raw materials for tires, instead of imported hexakis (methoxymethy) melamine ("HMMM").

We registered our catalytic oil processing facility and transformer oil plant with the Ningbo local government in February 2013. The foundation piling work was completed in July 2013 and as of the date of this filing we have also completed 20% of pipe installation. We expect the catalytic oil processing facility to be completed and operational in late 2013, at which time we will be able to produce medical use and edible products such as tubes and chewing gum.

The total estimated cost of processing equipment for product refinement and the SSBR production facility is approximately $149.3 million, including $49.8 million for processing equipment and $99.5 million for the SSBR production facility. We are currently going through the design phase of the ABS production facility and estimating the related costs. Upon full completion of our expansion, our total production capacity will reach 2,443,000 MT per year including, but not limited to, our current petrochemical production of 720,000 MT, styrene of 200,000 MT, catalytic cracking oil of 200,000 MT, ABS of 400,000 MT, SSBR of 150,000 MT and transformer oil of 100,000 MT. The following chart depicts the breakdown of our planned production capacity of 2,443,000 MT.


[[Image Removed]] Capacity Breakdown after expansion projects (a total of 2,443,000 MT)

We are currently evaluating the timeline for our expansion projects. Our current estimate is as follows:

Expansion Project                   Expected Completion Date
Oil Catalytic Processing Facility       End of Q4, 2013
Ethylene-Styrene Facility               End of Q4, 2014
Transformer Oil Facility                End of Q4, 2014
SSBR production facility                End of Q4, 2015
ABS Production Facility                 End of Q4, 2014

Manufacturing and Sales

Our total production of finished products was 89,728 MT for the three months ended June 30, 2013, and we generated $94 million in revenue based on the sale of 85,999 MT of petrochemical products.

Our total production of finished products was 277,845 MT for the six months end June 30, 2013, and we generated $304 million in revenue based on the sales of 270,580 MT of petrochemical products.

During the second quarter of 2013, we experienced production interruptions as a result of the thorough inspection and maintenance of our production facilities. This routine maintenance is generally conducted every two years, depending on the conditions of the facilities. As of June 5, 2013, we had lost a total of 40 days equating to approximately 98,000 tons of production, and approximately $110 million of revenues.

Results of Operations

The following table sets forth information from our statements of comprehensive income for the three and six months ended June 30, 2013 and 2012.


Comparison of the three and six months ended in June 30, 2013 and 2012 (in

thousands)

                                      For the three months                  Year to Year Comparison                  For the six months                 Year to Year Comparison
                                         Ended June 30,                   Increase          Percentage                 Ended June 30,                  Increase        Percentage
                                      2013              2012            /(Decrease)           change              2013               2012            /(Decrease)          change

sales                           $       94,257            184,426             (90,169 )            (48.89           303,811            367,750             (63,940 )          (17.39 )%
Cost of sales                           91,628            178,006             (86,378 )            (48,53 )%        292,360            351,857             (59,497 )          (16.91 )%

Gross profit                             2,629              6,420              (3,791 )            (59.05 )%         11,451             15,893              (4,442 )          (27.95 )%

Operating expenses
Selling expenses                           236                388                (152 )            (39.18 )%            403                641                (238 )          (37.13 )%
General and administrative
expenses                                 2,621              2,657                 (36 )             (1.35 )%          5,591              5,267                 324              6.15 %
Total operating expenses                 2,857              3,045                (188 )             (6.17 )%          5,994              5,908                  86              1.45 %

Income (Loss) from operations             (228 )            3,375              (3,603 )           (106.76 )%          5,457              9,985              (4,528 )          (45.35 )%

Other income (expenses):
Interest income:                         3,151              1,883               1,268               67.34 %           3,902              2,822               1,080             38.27 %
Interest expense, net                   (7,045 )           (2,930 )             4,115             (140.44 )%        (10,441 )           (7,309 )             3,132             42.85 %
Foreign exchange gain (loss),
net                                      4,652               (543 )             5,195             (956.72 )%          6,205               (364 )             6,569          (1804.67 )%
Non-operating income
(expenses)                                (715 )              147                (862 )           (586.39 )%         (1,095 )             (217 )              (878 )          404.61 %
Total other (expenses) Income               43             (1,443 )             1,486             (102.98 )%         (1,429 )           (5,068 )             3,639            (71.80 )%

Income(loss) before income
taxes                                     (185 )            1,932              (2,117 )           (109.58 )%          4,028              4,917                (889 )          (18.08 )%
Income tax expense                         312                870                (558 )            (64.14 )%          1,607              2,010                (403 )          (20.05 )%
(Loss) Net Income                         (497 )            1,062              (1,559 )           (146.80 )%          2,421              2,907                (486 )          (16.72 )%
Other comprehensive income
Foreign currency translation
adjustment                               1,101                131                 970              740.46 %           1,632                708                 924            130.51 %
Comprehensive income (loss)     $          604      $       1,193      $         (589 )            (49.37 )%  $       4,053      $       3,615       $         438             12.11 %


Sales: Our sales for the three months ended June 30, 2013 were approximately $94 million, compared to $184 million for the three months ended June 30, 2012, a decrease of $90 million, or 48.89%. The substantial decrease was mainly due to the decrease in sales volume as a result of production interruptions in the quarter, which resulted in 98,000 metric tons of lost production. Production interruptions were caused by a 40-day facilities shutdown for thorough routine inspection and maintenance that generally occurs every two years. During the three months ended June 30, 2013, we sold 85,999 metric tons of petrochemical products at an average price of $1,096 per metric ton, compared to 169,107 metric tons of petrochemical products at an average price of $1,091 per metric ton in the three months ended June 30, 2012. This represents a decrease of approximately 49% in overall products sold.

Sales for the six months ended June 30, 2013 were approximately $304 million, compared to $368 million for the six months ended June 30, 2012, a decrease of $64 million, or 17%. The substantial decrease in our sales was due to the 40-day facilities shutdown for thorough routine inspection and maintenance that generally occurs every two years. There was no significant change in the average selling prices for the six months ended June 30, 2013 ($1,123 per ton) and the average selling prices for the six months ended June 30, 2012 ($1,125 per ton).

Cost of Sales: Our overall cost of sales was approximately $92 million for the three months ended June 30, 2013, or 97% of sales, as compared to approximately $178 million, or 96 % of sales for the three months ended June 30, 2012. Our cost of sales are primarily composed of the costs of direct raw materials (mainly heavy oil, benzene, butadiene and carbinol), labor, depreciation and amortization of manufacturing equipment and facilities, and other overhead. The increase in the percentage of cost of sales was mainly due to the routine maintenance cost that occurred during the period and also the higher unit cost of $1,065 per ton for the three months ended June 30, 2013 as compared to unit cost of $1,053 per ton for the three months ended June 30, 2012.

Our overall cost of sales was approximately $292 million for the six months ended June 30, 2013, or 96% of sales, as compared to approximately $352 million, or 96% of sales for the six months ended June 30, 2012. In the six months ended June 30, 2013, our average cost of finished product was $1,080 per metric ton, as compared to $ 1,076 per metric ton in the six months ended June 30, 2012, a slight increase of 0.4%.

Energy required for production of our products consists of water, electricity and steam, the costs of which are attributed to cost of sales rather than operating expense. The supply prices of these energy sources in China have historically been very stable as a result of PRC government policy. Accordingly, the potential impact of changing energy costs to our production is minimal. Following are the costs for water, electricity and stream for the three months ended June 30, 2013 and 2012 (amounts in thousands):

For the Six Months Ended

                         June 30,
                  2013               2012
              (Unaudited)        (Unaudited)
Water                  685                631
Electricity          5,763              4,874
Steam                    -              1,498

Total energy cost was approximately $6,448 for the six months ended June 30, 2013, which constitutes approximately 2.1% of sales. Total energy cost was approximately $7,003 for the three months ended June 30, 2012, which constitutes approximately 1. 9% of sales.

Gross Profit: Gross profit for the three months ended June 30, 2013 was approximately $2.6 million as compared to $6.420 million for the comparable period in 2012, a decrease of approximately $3.8 million, or 59.06 %. The decrease was mainly due to the increased maintenance fees and fixed costs during the period as a result of production suspension.


Gross profit for the six months ended June 30, 2013 was approximately $11 million as compared to $16 million for the comparable period in 2012. Our gross margin decreased from 4.4% for the six months ended June 30, 2012 to 3.6 % for the six months ended June 30, 2013. The main reason for the decrease in the gross margin is mainly due to the lost production, increased unit cost and lower selling prices.

Operating Expenses: Operating expenses, including selling expenses, and general and administrative expenses, were approximately $2.9 million, or 3% of sales for the three months ended June 30, 2013, as compared to $3.0 million, or 1.65% of sales for the comparable period in 2012, a slight decrease of approximately $0.19 million or 6.19%. The decrease was mainly due to overall decreases in all expenses as a result of lower sales during the shutdown period.

Operating expenses, including selling expenses and general and administrative expenses, were approximately $6 million, or 2 % of sales for the six months ended June 30, 2013, as compared to $5.9 million, or 1.6% of sales for the comparable period in 2012, an increase of approximately $0.1 million. The increase in the expenses was due to general increases in welfare expenses and taxes.

Interest Income/Expense (net): For the three months ended June 30, 2013, interest income and interest expense were approximately $3.1 million and $7million, respectively; as compared to interest income and interest expense of approximately $1.8 million and $2.9 million, respectively, for the comparable period in 2012. The increase in interest income / expense was mainly due to the more borrowings and deposits in the period.

For the six months ended June 30, 2013, interest income and interest expense were approximately $3.9 million and $10.4 million, respectively, as compared to interest income and interest expense of approximately $2.8 million and $9.4 million, respectively, for the comparable period in 2012. The increase in interest income / expense was mainly due to the increased borrowings and deposits.

Net loss: Net Loss was approximately $0.5 million for the three months ended June 30, 2013, as compared to net income of approximately $1.1 million in the same period in 2012, a decrease of $1.6 million, or 147%. This decrease was mainly due to the lower of sales for the three months ended June 30, 2013, compared to the same period of 2012 and increased borrowings.

Net income was approximately $2.4 million for the six months ended June 30, 2013, as compared to approximately $2.9 million in the same period in 2012, a decrease of $ 0.5 million, or 16.7 %. This decrease was mainly due to the decrease of production and sales in 2013, compared to the same period of 2012.

Foreign Currency Translation Adjustment: Our reporting currency is the U.S. dollar. Our local currency, Renminbi (RMB), is our functional currency. Results of operations and cash flow are translated at average exchange rates during the period, and assets and liabilities are translated at the unified exchange rate as quoted by the People's Bank of China at the end of the period. Translation adjustments resulting from this process are included in accumulated other comprehensive income in the statement of shareholders' equity. Transaction gains and losses that arise from exchange rate fluctuations on transactions denominated in a currency other than the functional currency are included in the results of operations as incurred.

Currency translation adjustments resulting from this process are included in accumulated other comprehensive income and amounted to $1.1 million for the . . .

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