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TPI > SEC Filings for TPI > Form 10-Q on 15-May-2014All Recent SEC Filings




Quarterly Report

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

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 Tianyin Pharmaceutical Co., Inc. for the periods ended March 31, 2014 and 2013 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 June 30, 2013.

The information set forth below includes forward-looking statements. Certain factors that could cause results to differ materially from those projected in the forward-looking statements are set forth below. Readers are cautioned not to put undue reliance on forward-looking statements. The Company disclaims any intent or obligation to update publicly these forward-looking statements, whether as a result of new information, future events or otherwise.


We are engaged in the development, manufacturing, marketing and sale of patented biopharmaceutical, modernized traditional Chinese medicines (mTCM), branded generics and other pharmaceuticals in China. We currently manufacture and market a portfolio of 58 products, 24 of which are listed in the National Medical Reimbursement program, including the patent protected Ginkgo Mihuan Oral Liquid (GMOL) and a series of drug candidates that target various high incidence healthcare conditions in China.

Established in 1994, Chengdu Tianyin Pharmaceutical Co., Ltd ("Chengdu Tianyin") is a pharmaceutical company that manufactures and sells mTCMs and branded generics. The current management acquired 100% of the equity interest of Chengdu Tianyin in 2003. On October 30, 2007, Grandway Groups Holdings Ltd. ("Grandway") completed the acquisition of the 100% of the equity interest and now owns 100% of the equity interest of Chengdu Tianyin.

In June 2009, Chengdu Tianyin invested approximately $0.7 million (RMB 5 million) to establish a wholly-owned trading subsidiary, Chengdu Tianyin Medicine Trading Co., Ltd ("TMT") for the sale and distribution of pharmaceutical products to optimize our business model through our distribution channels.

On August 21, 2009, Chengdu Tianyin, Sichuan Mingxin Pharmaceutical and an individual investor established Sichuan Jiangchuan Pharmaceutical Co., Ltd ("JCM"), whose major business is to produce macrolide antibiotic active pharmaceutical ingredients (API). Total registered capital of JCM is approximately $3.2 million (RMB 20 million), of which Chengdu Tianyin accounts for 87%. JCM sets the foundation for a broader strategy to establish a significant presence of the Company in the macrolide antibiotics industry in China.

In order to facilitate the relocation of Chengdu Tianyin's business operation to Qionglai County and to secure land use rights for the relocation of manufacturing facilities, Chengdu Tianyin needed to establish its presence at Qionglai County during the process of construction while all operating subsidiaries of Chengdu Tianyin are registered outside of Qionglai. Therefore, the Company decided to acquire a pharmaceutical distribution company and registered it at Qionglai County as a subsidiary of Chengdu Tianyin. On August 29, 2012, Chengdu Tianyin entered into a Share Transfer Agreement with the shareholders of Sichuan Hengshuo Pharmaceutical Co., Ltd ("Sichuan Hengshuo" or "HSP"), a PRC pharmaceutical trading company, to acquire 100% ownership of HSP for a total consideration of approximately $0.2 million (RMB 1.3 million). The share transfer was closed on November 30, 2012, pursuant to which Chengdu Tianyin now owns 100% of HSP and Dr. Guoqing Jiang has become the legal representative of HSP.

Competitive Environment

The market for pharmaceutical products is highly competitive. Our operations may be affected by technological advances by competitors, industry consolidation, patents granted to competitors, competitive combination products, new products offered by our competitors, as well as new information provided by other marketed products and/or other post-market studies.

Development and Growth Strategy

Research and Development (R&D)

We have a proven cooperative partnership model for the R&D which is cost effective, efficient, and value adding for our organic growth. We focused on innovative products indicated for high incidence diseases with substantial market potential, in addition to the improvement of marketed products. Our R&D partners include a number of most prestigious academic institutions in China, including China Pharmaceutical University, Sichuan University-affiliated West China Center of Medical Sciences, and Shaanxi University of Chinese Medicines. The partnership-based R&D strategy supports TPI to commercialize, produce, and broaden our product pipeline and to market those products through our sales and marketing infrastructure. Currently, we have been monitoring the development of several pipeline drugs with our partnership research institutes, of which we could register intellectual property rights upon milestone results.

R&D for additional indications of flagship product Gingko Mihuan (GMOL)

Our flagship product GMOL (CFDA certification number: H20013079; patent number:
20061007800225) contributes approximately 40% to our total quarterly revenue. The above mentioned partnership research has been recently explored for further development of capsulation and tablets formulations for GMOL. The in-house research group at TPI together with the partnership research institutes will collaborate in developing, testing and filing for the application for the CFDA approval for these additional formulations. Due to the increased stringency and costs for clinical testing, the span for the R&D of these new GMOL products might be higher than our previously estimated.

Jiangchuan Macrolide Facility (JCM)

In January 2012, the JCM facility for R&D, manufacturing and sale of macrolide APIs received its Good Manufacturing Practice ("GMP") certification designated as "CHUAN M0799," which is valid for the period of December 31, 2011 until December 31, 2015. JCM started the production of the macrolide API for TPI's Azithromycin Dispersible Tablets (SFDA No: H20074145) since July 2012. The API produced by JCM is mainly to supply for TPI's own Azithromycin Tablets.

In April 2014, JCM has developed a new line of Azithromycin API products that support steady monthly export orders to South Asia. Following a series of tests on quality, purity, intermediates contents, stereochemistry, stability in comparison with the international standards of Azithromycin API, JCM has received monthly orders for manufacturing one of the major intermediates of Azithromycin, Azithromycin Amine (AA) at a competitive international price which varies from month to month according to the market demands and the foreign exchange rate. The monthly orders starting April this year for AA were estimated at 5-8 tons per month.

Tianyin Medicine Trading Distribution Business (TMT)

TMT is established to distribute products manufactured by both TPI and other pharmaceutical companies to fuel our expanding sales network as well as to provide synergy to our existing organic product portfolio. TMT has been distributing mainly TPI's own products since its inception in 2009. Since 2010, TPI has signed and later extended distribution contracts with Jiangsu Lianshui Pharmaceutical ("Lianshui") to distribute Lianshui-branded generic injection products including cough suppressant, antibiotics, anti-inflammatory medicines and other healthcare indications. On average, TMT distribution revenue contributed approximately $1-2 million sales per quarter to our total revenue.

As an effort to expand generic market amid the pricing pressure of its generic division, we have explored the strategic reduction of the tendering price of its Hugan Tablets (for liver conditions, approximately $0.6 million sales per year) in order to compete in Zhejiang province of China. The competitive tender price has helped the Company to successfully secure the right of sales for Hugan Tablets in Zhejiang province. However, as a part of the government's regulatory procedure, the China Food and Drug Administration (the "CFDA") normally conducts examination on the production process and the cost of sales for competitive
(low) tendering price bidders. During the period when the Company was under such examination for quality and pricing tests that were conducted by the CFDA of Sichuan province, the Company's GMP certificate granted by the CFDA on August 27, 2013 was being administrated by Sichuan provincial CFDA and the sale of our Hugan Tablets were temporarily halted in mid March 2014, pending the results of quality and pricing tests. The tests were completed by early May 2014 and on May 9, 2014, the Company received its renewed GMP certificate for both of its Chengdu Tianyin's pre-extraction facility at the city of Chengdu and formulation facility at Longquan County of Chengdu, valid until the end of 2015. The production of the majority of products has returned to normal, except the tablets formulation division which is scheduled to be further inspected for its production process by the provincial CFDA on May 24, 2014. Due to the temporary interruption of sales of Hugan Tablets and the sales impact from an early Chinese New Year holiday break compared with other years, the sales of our products were impacted by more than 50% for the third quarter of 2014. This impact along with the rippling market effect, may influence the sales forecast for the remainder of fiscal 2014. In addition to revising our guidance of fiscal year 2014, the Company is currently assessing the impact on overall sales as a result of this event.

Pre-extraction and formulation plant development at Qionglai Facility (QLF)

In preparation for the new GMP standards stipulated by the PRC government in early 2011, TPI initiated a process to optimize the manufacturing facilities and production lines of the Company in compliance with the new GMP standards. We received our current GMP certificate for both of our pre-extraction plant and formulate facilities on August 27, 2013, renewed on May 9, 2014, for the next three years until the end of 2015. In addition, under the guidance by provincial government, our facility is scheduled to be relocated to Qionglai County, south of Chengdu, which is designated for the pharmaceutical industry. The QLF is approximately 18 miles from the TPI's JCM facility. The relocation project includes our TCM pre-extraction plant which is currently located near the center of the city of Chengdu surrounded by a rapidly expanding residential area. Both the pre-extraction plant and the formulation plant will subsequently be relocated to form a combined QLF, which is estimated to be 80 mu or approximately 13 acres. The combined QLF, designed and constructed according to the latest GMP standards, is expected to relieve the current capacity saturation at the current facilities. The re-location cost for Phase I (which includes relocation of both the pre-extraction and formulation plant) is estimated at $25 million, which, when completed, is expected to expand the current capacity by approximately 30%. The Phase II QLF, an additional $10 million may be invested to double the current capacity. Since the start of the relocation project in February 2012, the QLF construction project has been progressing on schedule. The relocation and equipment purchase and installation process of pre-extraction plant started in February 2014, which will be immediately followed by the initiation of the relocation of formulation plant. TPI will start the preparation for GMP certification process of QLF in the third week of May.

Fiscal 2014 Guidance

TPI continues to experience restrictive pricing pressures in the healthcare market. The prevailing tightened pricing control of generic medicines in China from the government's efforts to promote lower margined essential drugs (EDL) compressed our margins as well as our sale volumes of those generics. These factors, together with the negative market environment of Azithromycin API pricing led to intensified market and pricing competition combined with an excess of capacity that may continue to last for the next few years.

Based on the impact from the suspension of production and sale of Hugan Tablets and the effect from temporary production interruption and the rippling market effect, we revise our previous revenue forecast of 0% to 5% growth year over year from the fiscal year 2013 to (20-30)% year over year reduction mainly due to the further underperformance of our generic segment and the rippling market impact from the temporary interruption of sales of Hugan Tablets. We keep our former 10% net margin forecast until further data is collected for possible revisions. The forecasted net income guidance excludes any non-cash expenses associated with stock compensation plans or stock option expenses.

We believe the following factors will influence the future growth prospects of our Company:

1) Revenue growth of TPI's core product portfolio led by flagship product GMOL;
2) Steady ramp up of JCM revenue in the fiscal year 2014;
3) Stabilization of generic sales following the progressive pricing restrictions and the recovery of market share following of the production restart;
4) Meaningful TMT distribution revenue contribution; and
5) QLF relocation and smooth transition of production capacity.

Our current facilities operate at approximately 90% of the total capacity on a 24 hour per day schedule. We are in the process of optimizing the usage of the remaining capacity and expanding the existing capacities to meet any potential additional market demand.

Management will continue to evaluate the Company's business outlook and communicate any changes on a quarterly basis or as when appropriate.

Discussion on Operating Results

The following table shows the results of our business. All references to the
results of operations and financial conditions are on a consolidated basis that
includes Chengdu Tianyin, TMT, JCM and HSP.

Comparison of results for the three months and nine months ended March 31, 2014
and 2013:

                                      Three Months Ended               Nine Months Ended
                                  March 31,        March 31,      March 31,         March 31,
                                    2014              2013           2014             2013
                                       (In $ millions)                  (In $ millions)
    Sales                                8.6             15.5           37.3              49.1
    Cost of sales                        5.1              9.7           21.6              30.2
    Gross profit                         3.5              5.9           15.7              18.9
    Income from Operation                0.4              1.8            5.0               6.5
    Provision for income taxes           0.4              0.5            1.7               1.7
    Net income                           0.0              1.3            3.1               4.6

Sales for the quarter ended March 31, 2014 was $8.6 million, a decrease of 45% as compared to $15.5 million for the quarter ended March 31, 2013. The sales for the nine months ended March 31, 2014 was $37.3 million, a decrease of 32% as compared to $49.1 million for the nine months ended March 31, 2013. The sales decrease was a result of continuous pricing pressure and restrictive sales policies in generic products compared with the same period last year. The early Chinese New Year Holiday compared with other years along with the temporary interruption of our production also impacted the revenue performance significantly during this quarter.

For the past nine months ended March 31, 2014, our top five core product sales were:

1. Gingko mihuan oral liquid (GMOL) for stroke and cardiovascular disorders:
$16.6 million
2. Mycophenolate mofetil capsules (MM) for renal transplant: $4.3 million
3. Azithromycin tablets (AZI) for infection: $1.6 million
4. Qingre jiedu oral liquid (QR): $1.9 million
5. Qianlie Shule capsules (QS) for prostate conditions: $0.93 million

These core products totaled $25.3 million in sales, representing 68% of our revenue for the nine months ended March 31, 2014. With the generic pricing and margin pressure, we expect further concentration of sales in the core product segment and erosion of sales and margins in generic segment. The contribution from our distribution business through TMT for the past nine months amounted to $3.0 million at 10% gross margin in the nine months ended March 31, 2014.

Cost of Sales for the quarter ended March 31, 2014 was $5.1 million or 59.5% of sales, as compared to $9.7 million or 62.3% of sales for the quarter ended March 31, 2013. Cost of sales for the nine months ended March 31, 2014 was 57.9% of sales, as compared to 61.5% for the nine months ended March 31, 2013. Our cost of sales primarily consists of the costs of direct raw materials (85% of the cost of goods sold) and production cost (15% of cost of goods sold). The percentage decrease in our cost of sales from the previous period was mainly attributable to a greater mix of higher margin products and a decrease of our lower margin generic segment.

Gross Margin for the quarter ended March 31, 2014 was 40.5% as compared to 37.7% for the quarter ended March 31, 2013. Gross margin for the nine months ended March 31, 2014 was 42.1% as compared to 38.5% for the nine months ended March 31, 2013. As discussed above in the segment of costs of sales, our gross margin improved, predominately as a result of a greater mix of higher margin products being sold during the period.

Income from Operations was $0.4 million for the quarter ended March 31, 2014, as compared to $1.8 million for the quarter ended March 31, 2013. The income from operations for the nine months ended March 31, 2014 was $5.0 million as compared to $6.5 million for the nine months ended March 31, 2013. The significant decrease in income from operations were mainly due to the fixed costs in operation of manufacturing and an increase of operation costs in JCM as the production of Azithromycin API ramped up during the quarter.

Net Income was $(0.0) million for the quarter ended March 31, 2014, as compared to net income of $1.3 million with net margin of 8.1% for the quarter ended March 31, 2013. The significant decrease of the net margin for the quarter was primarily the result from the impact on sales from the Hugan Tablets incident and the loss in JCM operation was unable to offset the profit in other subsidiaries. The net income for the nine months ended March 31, 2014 was $3.1 million as compared to $4.6 million for the nine months ended March 31, 2013.

Foreign Currency Translation Adjustment. Our reporting currency is the US dollar. We have evaluated the determination of its functional currency based on the guidance in ASC Topic, "Foreign Currency Matters," which provides that an entity's functional currency is the currency of the primary economic environment in which the entity operates; normally, that is the currency of the environment in which an entity primarily generates and expends cash. We have conducted financings in U.S. dollars, paid operating expenses primarily in U.S. dollars, paid dividends to our shareholders of common stock and expect to receive any dividends that may be declared by our subsidiaries in U.S. dollars. Therefore, we have determined that our functional currency is the U.S. dollar based on the expense and financing indicators, in accordance with the guidance in ASC 830-10-85-5. However, the functional currency of Chengdu Tianyin, our indirectly owned operating subsidiary is Renminbi (RMB). 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 are included in accumulated other comprehensive income in the consolidated statement of Comprehensive Income and amounted to $0.15 million for the nine months ended March 31, 2014. The balance sheet amounts with the exception of equity as of March 31, 2014 were translated at
6.1614 RMB to 1.00 US dollar as compared to 6.2657 RMB to 1.00 US dollar as of March 31, 2013. The equity accounts were stated at their historical rate. The average translation rates applied to income statement accounts for the quarters ended March 31, 2014 and 2013 were the average exchange rates during the years.

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