10-Q 1 cxdc_10q-063014.htm FORM 10-Q FOR THE PERIOD ENDED 6/30/2014

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2014

or

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____ to _____
 
Commission File Number: 000-53131

CHINA XD PLASTICS COMPANY LIMITED
(Exact name of registrant as specified in its charter)
 
 
Nevada
04-3836208
(State or other jurisdiction of incorporation or
organization)
(I.R.S. Employer Identification No.)
 
 
No. 9 Dalian North Road, Haping Road Centralized Industrial Park,
Harbin Development Zone, Heilongjiang Province, PRC 150060
(Address of principal executive offices) (Zip Code)

86-451-84346600
(Registrant’s telephone number, including area code)
 
 
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days: Yes x No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer o
Accelerated filer o
Non-accelerated filer o
(Do not check if a smaller reporting company)
Smaller reporting company x
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

As of August 8, 2014, the registrant had 49,590,276 shares of common stock, par value US$0.0001 per share, outstanding.
 

 
 
TABLE OF CONTENTS
 
PAGE
PART I. FINANCIAL INFORMATION
3
 
 
 
Item 1. Financial Statements
3
 
 
 
 
Unaudited Condensed Consolidated Balance Sheets
3
 
 
 
 
Unaudited Condensed Consolidated Statements of Comprehensive Income
4
 
 
 
 
Unaudited Condensed Consolidated Statements of Cash Flows
5
 
 
 
 
Notes to the Unaudited Condensed Consolidated Financial Statements
6
 
 
 
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
16
 
 
Item 3. Quantitative and Qualitative Disclosures About Market Risk
26
 
 
Item 4. Controls and Procedures
27
 
 
 
PART II. OTHER INFORMATION
27
 
 
 
Item 1. Legal Proceedings
27
 
 
 
Item 1A. Risk Factors
27
 
 
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
28
 
 
 
Item 3. Defaults Upon Senior Securities
28
 
 
Item 4. Mine Safety Disclosures
28
 
 
 
Item 5. Exhibits
28
 
 
 
Signatures
29
 
 
2

 
 
  
PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

CHINA XD PLASTICS COMPANY LIMITED AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

 
 
June 30, 2014
   
December 31, 2013
 
 
 
US$
   
US$
 
ASSETS
 
   
 
Current assets:
 
   
 
Cash and cash equivalents
   
132,855,600
     
95,545,904
 
Restricted cash
   
20,184,964
     
13,708,971
 
Time deposits
   
376,078,406
     
281,343,641
 
Accounts receivable, net
   
191,208,084
     
282,320,819
 
Amounts due from related parties
   
8,060
     
225,752
 
Inventories
   
227,951,407
     
144,885,688
 
Prepaid expenses and other current assets
   
12,205,803
     
8,418,143
 
    Total current assets
   
960,492,324
     
826,448,918
 
Property, plant and equipment, net
   
240,571,261
     
233,841,735
 
Land use rights, net
   
12,027,228
     
12,457,001
 
Other non-current assets
   
48,624,793
     
3,158,974
 
    Total assets
   
1,261,715,606
     
1,075,906,628
 
 
               
 
               
LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCKS AND STOCKHOLDERS’ EQUITY
 
Current liabilities:
               
Short-term loans, including current portion of long-term bank loans
   
184,092,299
     
314,682,620
 
Bills payable
   
38,904,378
     
25,604,176
 
Accounts payable
   
130,504,697
     
122,457,396
 
Amounts due to a related party
   
54,710
     
-
 
Income taxes payable
   
7,224,484
     
18,631,698
 
Warrant liability
   
2,132,146
     
1,063,401
 
Accrued expenses and other current liabilities
   
20,813,116
     
55,893,004
 
    Total current liabilities
   
383,725,830
     
538,332,295
 
Long-term bank loans, excluding current portion
   
162,365,723
     
-
 
Notes payable
   
148,491,833
     
-
 
Income taxes payable
   
9,054,968
     
8,224,057
 
Deferred income tax liabilities
   
18,035,495
     
19,428,706
 
    Total liabilities
   
721,673,849
     
565,985,058
 
 
               
Redeemable Series D convertible preferred stock
   
97,576,465
     
97,576,465
 
Stockholders’ equity:
               
Series B preferred stock
   
100
     
100
 
Common stock, US$0.0001 par value, 500,000,000 shares authorized, 49,140,906 shares and
47,896,133 shares issued, 49,119,906 shares and 47,875,133 shares outstanding as of 
June 30, 2014 and December 31, 2013, respectively
   
4,913
     
4,789
 
Treasury stock, 21,000 shares at cost
   
(92,694
)
   
(92,694
)
Additional paid-in capital
   
77,471,214
     
76,341,659
 
Retained earnings
   
352,880,048
     
311,047,337
 
Accumulated other comprehensive income
   
12,201,711
     
25,043,914
 
    Total stockholders’ equity
   
442,465,292
     
412,345,105
 
Commitments and contingencies
   
-
     
-
 
    Total liabilities, redeemable convertible preferred stocks and stockholders’ equity
   
1,261,715,606
     
1,075,906,628
 


See accompanying notes to unaudited condensed consolidated financial statements.
 

3

 
CHINA XD PLASTICS COMPANY LIMITED AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

 
 
 
Three-Month Period Ended June 30,
   
Six-Month Period Ended June 30,
 
 
 
2014
   
2013
   
2014
   
2013
 
 
 
US$
   
US$
   
US$
   
US$
 
 
 
   
   
   
 
Revenues
   
264,208,995
     
202,150,358
     
487,789,670
     
373,117,929
 
Cost of revenues
   
(211,909,052
)
   
(164,965,762
)
   
(388,841,389
)
   
(306,777,202
)
    Gross profit
   
52,299,943
     
37,184,596
     
98,948,281
     
66,340,727
 
 
                               
Selling expenses
   
(135,625
)
   
(47,218
)
   
(257,953
)
   
(109,992
)
General and administrative expenses
   
(4,553,144
)
   
(2,855,659
)
   
(8,349,508
)
   
(6,339,574
)
Research and development expenses
   
(13,355,881
)
   
(5,775,769
)
   
(21,986,615
)
   
(10,786,688
)
    Total operating expenses
   
(18,044,650
)
   
(8,678,646
)
   
(30,594,076
)
   
(17,236,254
)
 
                               
    Operating income
   
34,255,293
     
28,505,950
     
68,354,205
     
49,104,473
 
 
                               
Interest income
   
3,454,649
     
1,470,113
     
6,490,014
     
2,539,717
 
Interest expense
   
(11,614,261
)
   
(3,374,738
)
   
(20,194,238
)
   
(6,310,724
)
Foreign currency exchange gains (losses)
   
406,479
     
877,423
     
(72,711
)
   
1,366,616
 
Losses on foreign currency forward contracts
   
(934,765
)
   
-
     
(934,765
)
   
-
 
Change in fair value of warrants liability
   
(906,006
)
   
400,007
     
(1,068,745
)
   
420,331
 
Government grant
   
12,974
     
1,172
     
1,324,213
     
210,091
 
    Total non-operating expense, net
   
(9,580,930
)
   
(626,023
)
   
(14,456,232
)
   
(1,773,969
)
 
                               
    Income before income taxes
   
24,674,363
     
27,879,927
     
53,897,973
     
47,330,504
 
 
                               
Income tax expense
   
(4,837,703
)
   
(7,073,314
)
   
(12,065,262
)
   
(12,073,036
)
 
                               
    Net income
   
19,836,660
     
20,806,613
     
41,832,711
     
35,257,468
 
 
                               
Earnings per common share:
                               
Basic and diluted
   
0.30
     
0.32
     
0.64
     
0.55
 
 
                               
Net Income
   
19,836,660
     
20,806,613
     
41,832,711
     
35,257,468
 
 
                               
Other comprehensive income (loss)
                               
Foreign currency translation adjustment, net of nil income taxes
   
1,346,532
     
3,758,011
     
(12,842,203
)
   
4,639,287
 
 
                               
Comprehensive income
   
21,183,192
     
24,564,624
     
28,990,508
     
39,896,755
 

 
See accompanying notes to unaudited condensed consolidated financial statements.

4

CHINA XD PLASTICS COMPANY LIMITED AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 
 
Six-Month Period Ended June 30,
 
 
 
2014
   
2013
 
 
 
US$
   
US$
 
Cash flows from operating activities:
 
   
 
Net cash provided by operating activities
   
61,291,114
     
38,925,612
 
 
               
Cash flows from investing activities:
               
Proceeds from maturity of time deposits
   
259,984,756
     
56,618,325
 
Purchase of time deposits
   
(362,130,254
)
   
(182,063,524
)
Purchases of property, plant and equipment
   
(86,442,465
)
   
(13,419,444
)
Net cash used in investing activities
   
(188,587,963
)
   
(138,864,643
)
 
               
Cash flows from financing activities:
               
Proceeds from bank borrowings
   
422,150,363
     
226,906,170
 
Repayments of bank borrowings
   
(383,003,049
)
   
(146,861,566
)
Release of restricted cash
   
3,243,383
     
1,629,354
 
Placement of restricted cash as collateral for bank borrowings
   
(20,595,485
)
   
(888,846
)
Proceeds from the exercise of Series A investor warrants
   
596,740
      -  
Proceeds from issuance of the Notes
   
148,396,175
     
-
 
Payment of issuance costs of the Notes
   
(3,970,357
)
   
-
 
Net cash provided by financing activities
   
166,817,770
     
80,785,112
 
 
               
Effect of foreign currency exchange rate changes on cash and cash equivalents
   
(2,211,225
)
   
1,343,214
 
Net increase (decrease) in cash and cash equivalents
   
37,309,696
     
(17,810,705
)
 
               
Cash and cash equivalents at beginning of period
   
95,545,904
     
83,822,602
 
Cash and cash equivalents at end of period
   
132,855,600
     
66,011,897
 
 
               
Supplemental disclosure of cash flow information:
               
Interest paid
   
12,985,268
     
4,476,797
 
Income taxes paid
   
23,029,798
     
11,108,922
 
 
               

See accompanying notes to unaudited condensed consolidated financial statements
 

5

 
CHINA XD PLASTICS COMPANY LIMITED AND SUBSIDIARIES
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


Note 1 - Basis of presentation, significant concentrations and risks

(a) Basis of presentation

The accompanying unaudited condensed” consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted as permitted by rules and regulations of the United States Securities and Exchange Commission (the “SEC”). The condensed consolidated balance sheet as of December 31, 2013 was derived from the audited consolidated financial statements of China XD Plastics Company Limited (“China XD”) and its subsidiaries (collectively, the “Company”). The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated balance sheet of the Company as of December 31, 2013, and the related consolidated statements of comprehensive income, changes in equity and cash flows for the year then ended, included in the Company’s Annual Report on Form 10-K filed with the SEC on March 26, 2014.

In the opinion of the management, all adjustments (which include normal recurring adjustments) necessary to present a fair statement of the financial position as of June 30, 2014, the results of operations for the three-month and six-month periods ended June 30, 2014 and 2013, and the cash flows for the six-month periods ended June 30, 2014 and 2013, have been made.

The preparation of consolidated financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant items subject to such estimates and assumptions include the recoverability of the carrying amounts of property, plant and equipment, the realizability of inventories, the useful lives of property, plant and equipment, the collectibility of accounts receivable, the fair values of stock-based compensation awards, and the accruals for tax uncertainties and other contingencies. The current economic environment has increased the degree of uncertainty inherent in those estimates and assumptions.

(b) Significant concentrations and risks

Sales concentration

The Company sells its products, substantially through approved distributors in the People’s Republic of China (the “PRC”).  The Company’s sales are highly concentrated.  Sales to major distributors, which individually exceeded 10% of the Company’s revenues, are as follows:
 

 
 
Three-Month Period Ended June 30,
 
 
 
2014
   
2013
 
 
 
US$
   
%
   
US$
   
%
 
Distributor A
   
46,122,237
     
17.5
%
   
37,851,945
     
18.7
%
Distributor B
   
36,194,327
     
13.7
%
   
27,043,818
     
13.4
%
Distributor C
   
36,010,557
     
13.6
%
   
29,715,013
     
14.7
%
Distributor D
   
35,872,313
     
13.6
%
   
-
     
-
 
Distributor E
   
34,853,678
     
13.2
%
   
62,636,042
     
31.0
%
Distributor F
   
7,921,676
     
3.0
%
   
19,931,400
     
9.9
%
Total
   
196,974,788
     
74.6
%
   
177,178,218
     
87.7
%

 
 
Six-Month Period Ended June 30,
 
 
 
2014
   
2013
 
 
 
US$
   
%
   
US$
   
%
 
Distributor A
   
82,477,849
     
16.9
%
   
81,383,863
     
21.8
%
Distributor B
   
69,391,812
     
14.2
%
   
50,068,717
     
13.4
%
Distributor C
   
73,473,179
     
15.1
%
   
52,579,111
     
14.1
%
Distributor D
   
68,405,706
     
14.0
%
   
-
     
-
 
Distributor E
   
67,433,893
     
13.8
%
   
105,637,897
     
28.3
%
Distributor F
   
20,480,431
     
4.2
%
   
42,853,294
     
11.5
%
Total
   
381,662,870
     
78.2
%
   
332,522,882
     
89.1
%

The Company expects revenues from these distributors to continue to represent a substantial portion of its revenue in the future. Any factor adversely affecting the automobile industry in the PRC or the business operations of these customers will have a material effect on the Company’s business, financial position and results of operations.

6

Purchase concentration of raw materials and equipment

The principal raw materials used for the Company’s production of modified plastics products are plastic resins, such as polypropylene, Acrylonitrile Butadiene Styrene (“ABS”) and nylon. The Company purchased substantially all of its raw materials through eight and three distributors, which individually exceeded 10% of the Company’s total raw material purchases, accounting for approximately 81% and 95% of the Company’s total raw materials purchases for the three-month periods ended June 30, 2014 and 2013, respectively, and 79% and 97% of the Company’s total raw materials purchases for the six-month periods ended June 30, 2014 and 2013, respectively.   Management believes that other suppliers could provide similar raw materials on comparable terms. A change in suppliers, however, could cause a delay in manufacturing and a possible loss of sales, which would adversely affect the Company’s business, financial position and results of operations.
 
The Company purchased equipment from two major equipment distributors, which accounted for 98.6% and nil of the Company’s total equipment purchases for the three-month periods ended June 30, 2014 and 2013, respectively, and accounted for 97.5% and 34.9% of the Company’s total equipment purchases for the six-month periods ended June 30, 2014 and 2013.  Management believes that other suppliers could provide similar raw materials on comparable terms. A change in suppliers, however, could cause a delay in manufacturing and a possible loss of sales, which would adversely affect the Company’s business, financial position and results of operations. One of majority owners of the equipment distributor is also the majority owner of a major raw material supplier that supplied approximately nil and 17.6% of the Company’s total raw material purchases for the three-month periods ended June 30, 2014 and 2013, and 0.9% and 18.4% of the Company’s total raw material purchases for the six-month periods ended June 30, 2014 and 2013, respectively.  In addition, the majority owner of the equipment distributor is also the majority owner of sales Distributor B presented above.

Cash concentration
 
Cash and cash equivalents, restricted cash and time deposits maintained at banks consist of the following:
 
 
 
June 30, 2014
   
December 31, 2013
 
 
 
US$
   
US$
 
RMB denominated bank deposits with:
 
   
 
Financial Institutions in the PRC
   
485,607,994
     
389,522,815
 
U.S. dollar denominated bank deposits with:
               
Financial Institution in the U.S.
   
860,684
     
84,011
 
Financial Institutions in the PRC
   
32,201,654
     
-
 
Financial Institution in Hong Kong Special Administrative Region (“Hong Kong SAR”)
   
167,424
     
847,559
 
Financial Institution in Macau Special Administrative Region (“Macau SAR”)
   
27,025,955
     
-
 
Financial Institution in Dubai, United Arab Emirates (“UAE”)
   
593,608
     
-
 
Euro denominated bank deposits with:
               
Financial institution in Hong Kong SAR
   
92,954
     
143,890
 
HK dollar denominated bank deposits with:
               
Financial institution in Hong Kong
   
3,844
     
-
 
Dirham denominated bank deposits with:
               
Financial institution in Dubai, UAE
   
295,678
     
-
 
 
The bank deposits with financial institutions in the PRC are not insured by any government authority.  The bank deposits with financial institutions in the HK SAR are insured by the government authority up to HK$500,000. The bank deposits with financial institutions in the Macau SAR are insured by the government authority up to MOP$500,000.To limit exposure to credit risk, the Company primarily places bank deposits with large financial institutions in the PRC, HK SAR and Macau SAR with acceptable credit rating.

Short-term bank deposits that are pledged as collateral for bills payable relating to purchases of raw materials are reported as restricted cash and amounted to US$11,327,204 and US$3,964,518 as of June 30, 2014 and December 31, 2013, respectively. Upon maturity and repayment of the bills payable, which is generally within 6 months, the cash becomes available for use by the Company. Short-term bank deposits that are pledged as collateral for letter of credit relating to purchases of raw materials are reported as restricted cash and amounted to US$64,479 and US$237,871 as of June 30, 2014 and December 31, 2013, respectively. The cash will be available for use by the Company 90 days from the issuance of the letter of credit. The cash flows from the pledged bank deposits, which relate to purchases of raw materials, are reported within cash flows from operating activities in the condensed consolidated statements of cash flows.
 
Short-term bank deposits that are pledged as collateral for short-term bank borrowings are reported as restricted cash and amounted to US$8,793,281 and US$9,506,582 as of June 30, 2014 and December 31, 2013, respectively. Long-term bank deposits that are pledged as collateral for issuance of letter of guarantee are reported as other non-current assets and amounted to US$17,731,640 and nil as of June 30, 2014 and December 31, 2013, respectively. The cash flows from such bank deposits are reported within cash flows from financing activities in the condensed consolidated statements of cash flows. 
 
7

 
 
Note 2 - Accounts receivable, net

Accounts receivable consists of the following:

 
June 30, 2014
 
December 31, 2013
 
 
US$
 
US$
 
 
 
 
Accounts receivable
   
191,339,039
     
282,466,580
 
Allowance for doubtful accounts
   
(130,955
)
   
(145,761
)
Accounts receivable, net
   
191,208,084
     
282,320,819
 
 
As of June 30, 2014 and December 31, 2013, the accounts receivable balances also include notes receivable in the amount of US$1,043,360 and US$7,481,629, respectively. As of June 30, 2014 and December 31, 2013, US$109,847,803 and US$133,778,940 of accounts receivable are pledged for the short-term bank loans, respectively.
 
There was no accrual of additional provision or write-off of accounts receivable for the three-month and six-month periods ended June 30, 2014 and 2013.

 Note 3 - Inventories

Inventories consist of the following:
 
 
 
June 30, 2014
   
December 31, 2013
 
 
 
US$
   
US$
 
Raw materials
   
206,779,697
     
135,120,514
 
Work in progress
   
188,117
     
2,551,621
 
Finished goods
   
20,983,593
     
7,213,553
 
Total inventories
   
227,951,407
     
144,885,688
 
 
 
There was no write down of inventories for the three-month and six-month periods ended June 30, 2014 and 2013.
 
Note 4 – Prepaid expenses and other current assets

Prepaid expenses and other current assets consist of the following:
 
 
June 30, 2014
 
December 31, 2013
 
 
US$
 
US$
 
 
 
 
Advances to suppliers
   
4,965,343
     
920,277
 
Value added taxes receivables
   
2,586,055
     
3,924,767
 
Interest receivable
   
3,580,703
     
2,405,666
 
Others
   
1,073,702
     
1,167,433
 
    Total prepaid expenses and other current assets
   
12,205,803
     
8,418,143
 
 
The Company is required to pay deposits to suppliers for the principal raw materials ordered. The Company makes advanced orders of raw materials based upon (1) the demand and supply situation in the raw materials market and (2) the forecasted demand of products. All advances to suppliers as of June 30, 2014 are related to purchase of raw materials, which were subsequently received by the Company in July 2014.
 
Interest receivable mainly represents interest income earned from time deposits and restricted cash.

Others mainly include other prepaid expenses, staff advances and financial receivable under the foreign currency forward contract (see Note 8).

8

 
 
Note 5 – Property, plant and equipment, net

Property, plant and equipment consist of the following:
 
 
 
June 30, 2014
   
December 31, 2013
 
 
 
US$
   
US$
 
 
 
   
 
Machinery, equipment and furniture
   
207,858,010
     
209,921,805
 
Motor vehicles
   
1,545,923
     
1,580,877
 
Workshops and buildings
   
78,685,983
     
62,217,256
 
Construction in progress
   
7,110,797
     
4,807,666
 
    Total property, plant and equipment
   
295,200,713
     
278,527,604
 
Less accumulated depreciation
   
(54,629,452
)
   
(44,685,869
)
    Property, plant and equipment, net
   
240,571,261
     
233,841,735
 
 
For the three-month and six-month periods ended June 30, 2014 and 2013, no interest expense was capitalized as a component of the cost of construction in progress as the amount was inconsequential. Depreciation expense on property, plant and equipment was allocated to the following expense items:


 
Three-Month Period Ended
June 30,
 
 
2014
 
2013
 
 
US$
 
US$
 
 
 
 
Cost of revenues
   
4,638,160
     
4,780,019
 
General and administrative expenses
   
319,502
     
85,147
 
Research and development expenses
   
527,963
     
427,981
 
    Total depreciation expense
   
5,485,625
     
5,293,147
 
 



 
Six-Month Period Ended
June 30,
 
 
2014
 
2013
 
 
US$
 
US$
 
 
 
 
Cost of revenues
   
9,508,815
     
8,943,524
 
General and administrative expenses
   
621,783
     
726,013
 
Research and development expenses
   
959,972
     
795,964
 
    Total depreciation expense
   
11,090,570
     
10,465,501
 
 

Note 6 - Accrued expenses and other current liabilities

Accrued expenses and other current liabilities consist of the following:

 
 
June 30, 2014
   
December 31, 2013
 
 
 
US$
   
US$
 
Payables for purchase of property, plant and equipment
   
5,944,303
     
44,510,678
 
Accrued freight expenses
   
2,444,510
     
5,010,341
 
Accrued interest expenses
   
8,431,739
     
1,171,203
 
Others
   
3,992,564
     
5,200,782
 
Total accrued expenses and other current liabilities
   
20,813,116
     
55,893,004
 
 
Others mainly represent accrued issuance cost for the note offering, non income tax payables, accrued payroll and employee benefits, and other accrued miscellaneous operating expenses.

9

 
 
Note 7 – Fair value measurement

Short-term financial instruments, including cash and cash equivalents, restricted cash, time deposits, accounts receivable, amounts due from related parties, short-term loans, bills payable, accounts payable, amounts due to a related party, accrued expenses and other current liabilities- carrying amounts approximate fair values because of the short maturity of these instruments.

Long-term bank loans-fair value is based on the amount of future cash flows associated with each loan discounted at the Company’s current borrowing rate for similar debt instruments of comparable terms. The carrying value of the long-term bank loans approximate their fair values as the long-term bank loans carry interest rates which approximate rates currently offered by the Company’s banks for similar debt instruments of comparable maturities.

Notes payable - fair values of the Company’s notes payable are estimated based on quoted market prices which are categorized as Level 1 measurement in the fair value hierarchy. As of June 30, 2014, the carrying amount and estimated fair value of the notes payable were US$148,491,833 and US$165,843,750, respectively.
 
Derivative liabilities-fair values are determined using an option-pricing model which considers the following significant inputs: the Company’s stock price, risk-free interest rate and expected volatility of the Company’s stock price over the term of the derivative liabilities.

Note 8 – Foreign currency forward contracts

On March 14, 2014, the Company entered into a foreign currency forward contract with HSBC Bank (China) Company Ltd. (the “HSBC”), pursuant to which the Company would pay US$80 million to HSBC in exchange for RMB492 million on June 18, 2014.  On June 18, 2014, the Company paid HSBC US$1.1 million to settle the contract because the foreign exchange rate of USD had appreciated against RMB during the period of the forward contract.  The Company entered into another foreign currency forward contract with HSBC on June 18, 2014, pursuant to which the Company would pay US$50 million in exchange for RMB315 million on June 23, 2015.  Changes in fair value of the foreign currency forward contract dated June 18, 2014 amounted to US$0.1 million and was recognized in earnings because it did not qualify or was designated for hedge accounting.
 
During the six-month period ended June 30, 2014, the Company recognized loss on foreign currency forward contracts in the amount of US$0.9 million.

Note 9 – Borrowings

(a)  Current
 
 
 
 
June 30, 2014
   
December 31, 2013
 
 
   
 
US$
   
US$
 
 
 
 
   
 
Unsecured loans
 
   
77,374,428
     
169,027,897
 
Loans secured by accounts receivable
 
   
88,658,199
     
100,434,445
 
Loans secured by bank deposits
 
   
1,940,000
     
36,960,867
 
Current portion of long-term bank loans (note b)
 
   
8,059,836
     
-
 
 
 
               
    Total short-term bank loans, including current portion of long-term bank loans  
(i)
   
176,032,463
     
306,423,209
 
 
 
               
Interest-free loan secured by land use rights 
(ii)
   
8,059,836
     
8,259,411
 
 
 
               
    Total short-term loans, including current portion of long-term bank loans
 
   
184,092,299
     
314,682,620
 
 
(i)  As of June 30, 2014 and December 31, 2013, the Company’s short-term bank loans (including the current portion of long-term bank loans) bear a weighted average interest rate of 5.8% and 5.9% per annum, respectively. All short-term bank loans mature at various times within one year and contain no renewal terms.

(ii)   The Company obtained an interest-free loan in the amount of RMB50.0 million (equivalent to US$8.1 million) from a company affiliated with the People’s Government of Shunqing District, Nanchong City, Sichuan Province (“Shunqing Government”). The loan was issued to support the Company’s construction of a production plant in Sichuan. The loan will be secured by a land use right to be granted to the Company in connection with the construction. The Company repaid the loan in July 2014.
 
10

(b) Non-current
 
 
June 30, 2014
   
December 31, 2013
 
 
 
US$
   
US$
 
Secured loans
   
70,000,000
     
-
 
Unsecured loans
   
100,425,559
     
-
 
Less: current portion
   
(8,059,836
   
-
 
Total long-term bank loans, excluding current portion
   
162,365,723
     
-
 


On January 17, 2014, the Company obtained four two-year unsecured loans with an aggregated principal amount of RMB150 million (equivalent to US$24.2 million) at 110% of Renminbi benchmark interest rates per annum (6.7650% as of June 30, 2014) from China Construction Bank.

During the second quarter of 2014, the Company obtained a two-year unsecured loan of RMB328 million (equivalent to US$52.9 million) at an interest rate of 6.15% per annum from Bank of China.

On May 15, 2014, the Company obtained a two-year unsecured loan of RMB50 million (equivalent to US$8.1 million) at an interest rate of 6.77% per annum from Bank of Communication. On June 23, 2014, the Company obtained a two-year unsecured loan of RMB45 million (equivalent to US$7.3 million) at an interest rate of 6.77% per annum from Bank of Communication.

On June 12, 2014, the Company obtained a three-year secured loan of US$70 million from Bank of China, at an interest rate of London Inter-Bank Offered Rate (“LIBOR”) plus 2.6% (2.8307% as of June 30, 2014).  The interest rate is reset every three months.

As of June 30, 2014, the Company had total lines of credit of RMB3,491.0 million (US$562.7 million). Other than a US$48.5 million line of credit from a bank in Hong Kong SAR, the remaining lines of credit are from PRC banks in Harbin, Heilongjiang province. As of June 30, 2014, the Company has unused lines of credit of RMB1,241.6 million (US$200.2 million) with remaining terms less than 12 months and RMB 150 million (US$24.2 million) with remaining terms beyond 12 months.

Certain lines of credit contain financial covenants such as total stockholders’ equity, debt asset ratio, current ratio, contingent liability ratio and net profit. As of June 30, 2014, the Company has met these financial covenants.
 
Note 10 – Notes Payable

On February 4, 2014, Favor Sea Limited, a wholly owned subsidiary of the Company, issued US$150,000,000 aggregate principal amount of 11.75% Guaranteed Senior Notes due 2019 (the ’Notes’) with issuance price of 99.080%. The Notes bear interest at a rate of 11.75% per annum, payable on February 4 and August 4 of each year, commencing August 4, 2014.  The Notes will mature on February 4, 2019.  Net proceeds after debt issuance costs and debt discount were approximately US$143.5 million.  Debt issuance costs in the amount of US$4.9 million are recorded as deferred charges and included in the other noncurrent assets on the consolidated balance sheet.  The debt discount and debt issuance costs are amortized into interest expense using the effective interest method over the terms of the Notes.

The Notes can be redeemed prior to their maturity, the details of which are as follows:
 
The Company may at its option redeem the Notes, in whole but not in part, at any time prior to February 4, 2017, at a redemption price equal to 100% of the principal amount of the Notes redeemed plus the Applicable Premium, as defined in the Indenture of the Notes, and accrued and unpaid interest, if any, to (but not including) the redemption date. In addition, at any time and from time to time prior to February 4, 2017, the Company may at its option redeem up to 35% of the aggregate principal amount of the Notes with the net cash proceeds of one or more sales of common stock of China XD in an equity offering, at a redemption price of 111.75% of the principal amount of the Notes redeemed, plus accrued and unpaid interest, if any, to (but not including) the redemption date, provided that at least 65% of the aggregate principal amount of the Notes issued remains outstanding after each such redemption and any such redemption takes place within 60 days after the closing of the related equity offering.

On or after February 4, 2017, the Company may on any or more occasions redeem all or any part of the Notes, at the redemption prices (expressed as percentages of principal amount) set forth below, plus accrued and unpaid interest, if any, on the Notes redeemed, to (but not including) the applicable date of redemption, if redeemed during the twelve-month period beginning on February 4 of the years indicated below:

 
Year
Redemption Price
 
 
 
2017
   
105.875
%
2018
   
102.938
%

Upon occurrence of a Change of Control Triggering Event, as defined in the Indenture of the Notes, the Company must make an offer to purchase all the Notes outstanding at a purchase price equal to 101% of their principal amount, plus accrued and unpaid interest, if any, to (but not including) the purchase date.

The Notes are guaranteed on a senior basis by China XD and Xinda Holding (HK) Company Limited (“Xinda Holding (HK)”), one of its direct subsidiaries. The Notes are secured by a lien on the share capital of Favor Sea Limited and Xinda Holding (HK).

For the three-month and six-month periods ended June 30, 2014, the Company recognized interest expenses of the Notes in the amount of US$4,667,171 and US$7,548,160, respectively.
 
11

Note 11 – Related party transactions

The Company entered into related party transactions with Harbin Xinda High-Tech Co., Ltd. (“Xinda High-Tech”), an entity controlled by the wife of Mr. Han, the chief executive officer and controlling stockholder of the Company and Mr. Han’s son.  The significant related party transactions are summarized as follows:




 
 
Three-Month Period Ended June 30,
 
Six-Month Period Ended June 30,
 
 
 
2014
 
2013
 
2014
 
2013
 
 
 
US$
 
US$
 
US$
 
US$
 
Costs and expenses resulting from transactions with related parties:
 
   
   
   
 
Rental expenses for plant and office spaces
   
195,677
     
200,218
     
395,588
     
398,270
 
 

The balance due from a related party is summarized as follows:

 
June 30, 2014
 
December 31, 2013
 
 
US$
 
US$
 
Amounts due from a related party:
 
 
Prepaid rent expenses to Xinda High-Tech
   
-
     
225,752
 
Prepaid rent expenses to Mr. Han’s son
   
8,060
     
-
 
Total
   
8,060
     
225,752
 
 
Amounts due to a related party:
 
   
 
Rent payable to Xinda High-Tech
   
54,710
     
-
 

The Company rents the following plant and office buildings in Harbin, Heilongjiang province from Xinda High-Tech:
 
Premise Leased
 
Area (M2)
   
Annual Rental Fee (US$)
 
Period of Lease
Plant and office building
   
20,250
     
664,878
 
Between May 1, 2012 and December 31, 2013
Office building
   
250
     
8,108
 
Between January 1, 2012 and December 31, 2013
Office building
   
3,394
     
110,080
 
Between May 1, 2012 and April 30, 2013
Office building
   
3,394
     
110,080
 
Between May 1, 2013 and December 31, 2013
Office building
   
23,894
     
774,959
 
Between January 1, 2014 and December 31, 2018
 
The Company also rents a facility of approximately 3,134 square meters in Harbin, Heilongjiang province from Mr. Han’s son for an annual rental fee of RMB100,000 (approximately US$16,217).  The period of the lease is from January 1, 2014 to December 31, 2014.

Note 12 – Income tax

Pursuant to an approval from the local tax authority in July 2013, Sichuan Xinda Enterprise Group Co., Ltd. (“Sichuan Xinda Group”), a subsidiary of China XD, became a qualified enterprise located in the western region of the PRC, which entitled it to a preferential income tax rate of 15% from January 1, 2013 to December 31, 2020. Under the current laws of Dubai, Al Composites Materials FZE (“Al Composites”), a subsidiary of China XD, is exempted from income taxes.
 
The effective income tax rates for the six-month periods ended June 30, 2014 and 2013 were 22.3% and 25.5%, respectively. The effective income tax rate for the six-month period ended June 30, 2014 differs from the PRC statutory income tax rate of 25% primarily due to the abovementioned Sichuan Xinda Group’s and Al Composites’s preferential income tax rate, partially offsetting by effect of tax rate differential on entities not subject to PRC income tax, effect of non-deductible expenses and increase of valuation allowances against deferred income tax assets of certain subsidiaries, which were at cumulative loss position.
 
12

 
 

As of June 30, 2014, the unrecognized tax benefits were US$9,607,277 and the interest relating to unrecognized tax benefits was US$670,142.  No penalties expense related to unrecognized tax benefits were recorded. The Company is currently unable to provide an estimate of a range of the total amount of unrecognized tax benefits that is reasonably possible to change significantly within the next twelve months.
 
Note 13 – Warrants

The following is a summary of outstanding warrants as of June 30, 2014:
 
Warrants
 
Exercise Price
   
Number of Warrants
Outstanding
   
Remaining
Contractual Life
 
 
 
US$
   
   
Years
 
Series A investor warrants
   
4.58
     
438,038
     
0.42
 
Series A placement agent warrants
   
5.50
     
117,261
     
0.42
 
    Total
           
555,299
         

The fair values of the warrants as of June 30, 2014 were calculated using Black-Scholes option pricing model with the following assumptions:
 
 
 
Series A Investor
Warrants
 
 
Series A Placement
Agent Warrants
 
Volatility
 
78.3%
 
 
78.3%
 
Expected dividends yield
 
0%
 
 
0%
 
Fair value of underlying common stock (per share)
 
8.39
 
 
8.39
 
Risk-free interest rate (per annum)
 
0.08%
 
 
0.08%
 

During the six-month period ended June 30, 2014, 882,658 shares of Series A investor warrants were exercised. On April 3, 2014, 130,435 Series A investor warrants were exercised for 130,435 shares of the common stocks of the Company. The Company received proceeds of US$596,740 in cash on April 3, 2014. In addition, 752,223 shares of Series A investor warrants were exercised using cashless method for 440,133 shares of the common stocks of the Company.
 
Note 14 – Stockholders’ equity

The changes of each caption of stockholders’ equity for the six-month period ended June 30, 2014 are as follows:
 
 
 
Series B Preferred Stock
   
Common Stock
   
   
   
   
Accumulated
Other
   
Total
 
 
 
Number
of Shares
   
Amount
   
Number
of Shares
   
Amount
   
Treasury Stock
   
Additional Paid-in
Capital
   
Retained
Earnings
   
Comprehensive
Income
   
Stockholders’
Equity
 
 
 
   
US$
   
   
US$
   
   
   
   
   
 
Balance as of January 1, 2014
   
1,000,000
     
100
     
47,875,133
     
4,789
     
(92,694
)
   
76,341,659
     
311,047,337
     
25,043,914
     
412,345,105
 
Net income
   
-
     
-
     
-
     
-
     
-
     
-
     
41,832,711
     
-
     
41,832,711
 
Other comprehensive loss
   
-
     
-
     
-
     
-
     
-
     
-
     
-
     
(12,842,203
)
   
(12,842,203
)
Exercise of Series A investor warrants
                   
570,568
     
57
             
596,683
                     
596,740
 
Vesting of unvested shares
   
-
     
-
     
674,205
     
67
     
-
     
(67
)
   
-
     
-
     
-
 
Stock based
compensation
   
-
     
-
     
-
     
-
     
-
     
532,939
     
-
     
-
     
532,939
 
Balance as of June 30, 2014
   
1,000,000
     
100
     
49,119,906
     
4,913
     
(92,694
)
   
77,471,214
     
352,880,048
     
12,201,711
     
442,465,292
 

 
13

 
 
Note 15 – Stock based compensation
 
The Company recognized nil and US$82,833 of share-based compensation expense in general and administration expenses relating to stock options for the three-month periods ended June 30, 2014 and 2013, respectively, and nil and US$92,625 of share-based compensation expense in general and administration expenses relating to stock options for the six-month periods ended June 30, 2014 and 2013, respectively.  All outstanding options expired on August 7, 2013.
 
A summary of the nonvested shares activity for the six-month ended June 30, 2014 is as follows:
 
 
 
Number of Nonvested
Shares
   
Weighted Average
Grant date Fair Value
 
 
 
   
US$
 
Outstanding as of December 31, 2013
   
1,090,575
     
4.89
 
Vested
   
(674,205
)
   
4.32
 
Forfeited
   
(27,730
)
   
4.40
 
Outstanding as of June 30, 2014
   
388,640
     
4.37
 


The Company recognized US$122,091 and US$142,856 of share-based compensation expense in general and administration expenses relating to nonvested shares for the three-month periods ended June 30, 2014 and 2013, respectively, and US$532,939 and US$497,413 of share-based compensation expense in general and administration expenses relating to nonvested shares for the six-month periods ended June 30, 2014 and 2013, respectively. As of June 30, 2014, there was US$896,172 total unrecognized compensation cost relating to nonvested shares, which is to be recognized over a weighted average period of 1.59 years. 
 
Note 16 – Earnings per share

Basic and diluted earnings per share are calculated as follows:
 
 
 
Three-Month Period Ended June 30,
   
Six-Month Period Ended June 30,
 
 
 
2014
   
2013
   
2014
   
2013
 
 
 
US$
   
US$
   
US$
   
US$
 
Net income
   
19,836,660
     
20,806,613
     
41,832,711
     
35,257,468
 
Less:
                               
Earnings allocated to participating Series D convertible preferred stock
   
(4,869,197
)
   
(5,195,421
)
   
(10,284,553
)
   
(8,803,806
)
Earnings allocated to participating nonvested shares
   
(119,614
)
   
(93,518
)
   
(352,376
)
   
(183,776
)
Net income for basic and diluted earnings per share
   
14,847,849
     
15,517,674
     
31,195,782
     
26,269,886
 
 
                               
Denominator
                               
Denominator for basic and diluted earnings per share
   
48,789,480
     
47,788,772
     
48,532,252
     
47,742,778
 
 
                               
Earnings per share:
                               
Basic and diluted
   
0.30
     
0.32
     
0.64
     
0.55
 
 

The following table summarizes potentially dilutive securities excluded from the calculation of diluted earnings per share for the three-month periods and six-month periods ended June 30, 2014 and 2013 because their effects are anti-dilutive:
 
 
Three-Month Period Ended June 30,
 
Six-Month Period Ended June 30,
 
 
2014
 
2013
 
2014
 
2013
 
 
 
 
 
 
Shares issuable upon conversion of Series D convertible preferred stock
   
16,000,000
     
16,000,000
     
16,000,000
     
16,000,000
 
Shares issuable upon exercise of Series A investor warrant
   
438,038
     
1,320,696
     
438,038
     
1,320,696
 
Shares issuable upon exercise of Series A placement agent warrant
   
117,261
     
117,261
     
117,261
     
117,261
 
Shares issuable upon exercise of Series C placement agent warrant
   
-
     
166,667
     
-
     
166,667
 
Shares issuable upon exercise of stock options
   
-
     
148,500
     
-
     
148,500
 
 
14

Note 17 – Commitments and contingencies

(1)   Lease commitments
 
Future minimum lease payments under non-cancellable operating leases agreements as of June 30, 2014 were as follows. 

 
 
US$
 
Period from July 1, 2014 to December 31, 2014
   
567,204
 
Years ending December 31,
       
2015
   
1,116,039
 
2016
   
995,142
 
2017
   
839,327
 
2018
   
774,959
 
2019 and thereafter
   
-
 
 


Rental expenses incurred for operating leases of plant and equipment and office spaces were US$302,480 and US$200,998 for the three-month periods ended June 30, 2014 and 2013, respectively, and US$620,708 and US$419,165 for the six-month periods ended June 30, 2014 and 2013, respectively. There are no step rent provisions, escalation clauses, capital improvement funding requirements, other lease concessions or contingent rent in the lease agreements. The Company has no legal or contractual asset retirement obligations at the end of leases. The Company’s leases do not contain any contingent rent payments terms.

(2)
Plant construction

On March 8, 2013, Xinda Holding (HK) entered into an investment agreement with Shunqing Government, pursuant to which Xinda Holding (HK) will invest RMB1.8 billion (equivalent to US$290 million) in property, plant and equipment and approximately RMB0.6 billion (equivalent to US$97 million) in working capital, for the construction of Sichuan plant.

 
(3)
Equipment acquisition

As of June 30, 2014, the Company has a commitment of RMB349,984,604 (equivalent to US$56,416,372, mainly for the acquisition of equipment for Al Composites plant.


Note 18 – Subsequent events

On August 3, 2014, the Company’s Board of Directors approved the grant of (i) 282,460 nonvested shares to certain executive officers and employees which will vest on August 7, 2017; (ii) 9,488 nonvested shares to two independent directors which will vest on February 7, 2015.

The Company and certain of its officers were named as defendants in two putative securities class action lawsuits filed on July 15, 2014 and July 16, 2014 in the United States District Court for the Southern District of New York. The Company, after consultation with its legal counsels, believes that the lawsuite are without merits and intends to vigorously defend against them.  Nevertheless, there is a possibility that a loss may have been incurred. In accordance with ASC Topic 450, no loss contingency was accrued as of June 30, 2014 since the possible loss or range of loss cannot be reasonable estimated.
 
 
15

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

We make forward-looking statements in this report, in other materials we file with the Securities and Exchange Commission (the “SEC”) or otherwise release to the public, and on our website. In addition, our senior management might make forward-looking statements orally to analysts, investors, the media and others. Statements concerning our future operations, prospects, strategies, financial condition, future economic performance (including growth and earnings) and demand for our products and services, and other statements of our plans, beliefs, or expectations, including the statements contained in this Item 2 “Management’s Discussion and Analysis of Financial Condition and Results of Operation,” regarding our future plans, strategies and expectations are forward-looking statements. In some cases these statements are identifiable through the use of words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “plan,” “project,” “target,” “can,” “could,” “may,” “should,” “will,” “would” and similar expressions. We intend such forward-looking statements to be covered by the safe harbor provisions contained in Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and in Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). You are cautioned not to place undue reliance on these forward-looking statements because these forward-looking statements we make are not guarantees of future performance and are subject to various assumptions, risks, and other factors that could cause actual results to differ materially from those suggested by these forward-looking statements. Thus, our ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on our operations and future prospects include, but are not limited to, changes in: economic conditions generally and the automotive modified plastics market specifically, legislative or regulatory changes that affect our business, including changes in regulation, the availability of working capital, the introduction of competing products, and other risk factors described herein. These risks and uncertainties, together with the other risks described from time-to-time in reports and documents that we filed with the SEC should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. Indeed, it is likely that some of our assumptions will prove to be incorrect. Our actual results and financial position will vary from those projected or implied in the forward-looking statements and the variances may be material. We expressly disclaim any obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.

Overview

China XD Plastics Company Limited (“China XD“, “we“, and the “Company“, and “us“ or “our“ shall be interpreted accordingly) is one of the leading specialty chemical companies engaged in the research, development, manufacture and sale of polymer composite materials primarily for automotive applications in China. Through our wholly-owned operating subsidiaries in China, we develop polymer composite materials using our proprietary technology, manufacture and sell our products primarily for use in the fabrication of automobile parts and components. We have 300 certifications from manufacturers in the automobile industry as of June 30, 2014. We are the only company certified as a National Enterprise Technology Center in modified plastics industry in Heilongjiang province. Our Research and Development (“R&D“) team consists of 237 professionals and 2 consultants. As a result of the integration of our academic and technological expertise, we have a portfolio of 115 patents, 2 of which we have obtained the patent rights and the remaining 113 of which we have applications pending in China as of June 30, 2014.

Our products include eleven categories: Modified Polypropylene (PP), Modified Acrylonitrile Butadiene Styrene (ABS), Modified Polyamide 66 (PA66), Modified Polyamide 6 (PA6), Modified Polyoxymethylenes (POM), Modified Polyphenylene Oxide (PPO), Plastic Alloy, Modified Polyphenylene Sulfide (PPS), Modified Polyimide (PI), Modified Polylactic acid (PLA) and Polyether Ether Ketone (PEEK). As we have successfully developed more new products to grow our business, we have re-categorized our product types as presented above in order to present more updated breakdown of polymer composite materials we produce since the beginning of 2014. We believe the current categorization better reflects the nature and characteristics of our products and the way that our management currently views and analyzes our products. In conformity with this new categorization, we have adjusted comparable product information in applicable prior periods. Since not all the categories have achieved sales in the second quarter of 2014, we only presented the categories which achieved sales.


Our products are primarily used in the production of exterior and interior trim and functional components of 24 automobile brands and more than 80 automobile models manufactured in China, including Audi, Mercedes Benz, Buick, Chevrolet, VW Passat, Golf and Jetta, BMW, Mazda, and Toyota. Our research center is dedicated to the research and development of modified plastics, and benefits from its cooperation with well-known scientists from prestigious universities in China. We operate three manufacturing bases in Harbin, Heilongjiang in the PRC, with the construction of our plant in Sichuan underway. As of June 30, 2014, we had approximately 390,000 metric tons of production capacity across 83 automatic production lines utilizing German twin-screw extruding systems, automatic weighing systems and Taiwan conveyer systems. In December 2013, we broke ground on the construction of our fourth production base in Nanchong City, Sichuan Province, with additional 300,000 metric tons of annual production capacity, expecting to bring total installed production capacity to 690,000 metric tons with additional 70 new production lines at the completion of the construction of our fourth production base.  In addition, during the three months ended June 30, 2014, we started the construction of Al Composites plant in UAE with additional 4,000 metric tons targeting on high-end products for the overseas markets, which will be completed by the end of first quarter of 2015.
 
16


 
Highlights for the three months ended June 30, 2014 include:
 
● Revenues were $264.2 million, an increase of 30.7% from $202.2 million in the second quarter of 2013
● Gross profit was $52.3 million, an increase of 40.6% from $37.2 million in the second quarter of 2013
● Gross profit margin was 19.8%, compared to 18.4% in the second quarter of 2013
● Net income was $19.8 million, compared to $20.8 million in the second quarter of 2013
● Total volume shipped was 81,284 metric tons, up 16.3% from 69,915 metric tons in the second quarter of 2013
 
Results of Operations
 
The following table sets forth, for the periods indicated, statements of income data in millions of USD:


(in millions, except  percentage)
 
Three Month Period Ended
   
   
Six Month Period Ended
   
 
 
 
June 30,
   
Change
   
June 30,
   
Change
 
 
 
2014
   
2013
   
%
   
2014
   
2013
   
%
 
Revenues
   
264.2
     
202.2
     
30.7
%
   
487.8
     
373.1
     
30.7
%
Cost of revenues
   
(211.9
)
   
(165.0
)
   
28.4
%
   
(388.9
)
   
(306.8
)
   
26.8
%
Gross profit
   
52.3
     
37.2
     
40.6
%
   
98.9
     
66.3
     
49.2
%
Total operating expenses
   
(18.0
)
   
(8.7
)
   
106.9
%
   
(30.6
)
   
(17.2
)
   
77.9
%
Operating income
   
34.3
     
28.5
     
20.4
%
   
68.3
     
49.1
     
39.1
%
Income before income taxes
   
24.7
     
27.9
     
(11.5
)%
   
53.8
     
47.3
     
13.7
%
Income tax expense
   
(4.9
)
   
(7.1
)
   
(31.0
)%
   
(12.0
)
   
(12.0
)
   
(0.0
)%
Net income
   
19.8
     
20.8
     
(4.8
)%
   
41.8
     
35.3
     
18.4
%


Three months ended June 30, 2014 compared to three months ended June 30, 2013

Revenues

Revenues were US$264.2 million in the second quarter ended June 30, 2014, an increase of US$62.0 million, or 30.7%, compared to US$202.2 million in the same period of last year, due to approximately 16.3% increase in sales volume and 13.6% increase in the average RMB selling price of our products.

The increase of sales volume was driven by the strong demand of polymer composite materials in the PRC and Asian markets, the higher penetration of our business in our existing markets supported as well as the marketing efforts to develop new customers. Such increase in demand was driven by increasing demand for middle and high-end automobiles by Chinese consumers, continuing substitution of imported polymer composite materials by domestic suppliers, as well as the increase of plastic content on the per-vehicle-basis in China with even higher adoption rate in higher-end automobile models than lower-end ones. The increase of average RMB selling price was mainly due to the shift of product mix towards higher-end products.

During the second quarter ended June 30, 2014, the Company sold US$20.0 million products to the Korean market, mainly PA66 and plastic alloy, accounting 7.6% of the total revenues for second quarter of 2014.
 
17

 
 
The following table summarizes the breakdown of revenues by categories in millions of US$: 

(in millions, except percentage)
 
Revenues
For the Three-Month Period Ended June 30,
   
   
 
 
 
2014
   
2013
   
   
 
 
 
Amount
   
%
   
Amount
   
%
   
Change in
Amount
   
Change in
%
 
Modified Polyamide 66 (PA66)
   
53.3
     
20.2
%
   
36.9
     
18.3
%
   
16.4
     
44.4
%
 
                                               
Modified Polyamide 6 (PA6)
   
62.6
     
23.7
%
   
39.9
     
19.7
%
   
22.7
     
56.9
%
 
                                               
Plastic Alloy
   
79.0
     
29.9
%
   
53.2
     
26.3
%
   
25.8
     
48.5
%
 
                                               
Modified Polypropylene (PP)
   
55.6
     
21.1
%
   
60.8
     
30.1
%
   
(5.2
)
   
(8.6
)%
 
                                               
Modified Acrylonitrile butadiene styrene (ABS)
   
9.6
     
3.6
%
   
9.5
     
4.7
%
   
0.1
     
1.1
%
 
                                               
Polyoxymethylenes (POM)
   
0.9
     
0.3
%
   
1.4
     
0.7
%
   
(0.5
)
   
(35.7
)%
 
                                               
Polyphenylene Oxide (PPO)
   
3.2
     
1.2
%
   
-
     
0.0
%
   
3.2
     
N/
A
 
                                               
     Sub-total
   
264.2
     
100.0
%
   
201.7
     
99.8
%
   
62.5
     
31.0
%
 
                                               
Service revenue
   
-
     
0.0
%
   
0.5
     
0.2
%
   
(0.5
)
   
(100.0
)%
Total Revenues
   
264.2
     
100
%
   
202.2
     
100
%
   
62.0
     
30.7
%
 
 The following table summarizes the breakdown of metric tons (MT) by product mix:


(in MTs, except percentage)
 
Sales Volume
For the Three-Month Period Ended June 30,
   
   
 
 
 
2014
   
2013
   
   
 
 
 
MT
   
%
   
MT
   
%
   
Change in
MT
   
Change in
%
 
Modified Polyamide 66 (PA66)
   
9,448
     
11.6
%
   
7,232
     
10.3
%
   
2,216
     
30.6
%
 
                                               
Modified Polyamide 6 (PA6)
   
12,481
     
15.4
%
   
7,940
     
11.4
%
   
4,541
     
57.2
%
 
                                               
Plastic Alloy
   
25,426
     
31.3
%
   
20,606
     
29.5
%
   
4,820
     
23.4
%
 
                                               
Modified Polypropylene (PP)
   
29,500
     
36.3
%
   
30,337
     
43.4
%
   
(837
)
   
(2.8
)%
 
                                               
Modified Acrylonitrile butadiene styrene (ABS)
   
3,727
     
4.6
%
   
3,350
     
4.8
%
   
377
     
11.3
%
 
                                               
Polyoxymethylenes (POM)
   
271
     
0.3
%
   
450
     
0.6
%
   
(179
)
   
(39.8
)%
 
                                               
Polyphenylene Oxide (PPO)
   
431
     
0.5
%
   
-
     
0.0
%
   
431
     
N/
A
 
                                               
Total Sales Volume
   
81,284
     
100
%
   
69,915
     
100
%
   
11,369
     
16.3
%


The Company has shifted product mix from traditional Modified Polypropylene (PP) to higher-end products such as Modified Polyamide (PA66 and PA6) and plastic alloy, primarily due to (i) the increasing demand of advanced modified plastics in luxury automobile models in China and Korea market, (ii) the stronger demand as a result of promotion by the Chinese government for clean energy vehicles and (iii) increased sales of higher-end cars made by automotive manufacturers from China and Germany and U.S. and Japanese joint ventures, which manufacturers tend to use more and higher-end modified plastics in quantity per vehicle in China.
 
18

Gross Profit and Gross Profit Margin

 
Three-Month Period Ended June 30,
 
Change
 
(in millions, except percentage)
2014
 
2013
 
Amount
 
%
 
Gross Profit
 
$
52.3
   
$
37.2
   
$
15.1
     
40.6
%
Gross Profit Margin
   
19.8
%
   
18.4
%
           
1.4
%

Gross profit was US$52.3 million in the second quarter ended June 30, 2014 compared to US$37.2 million in the same period of 2013, representing an increase of 40.6%. Our gross margin increased to 19.8% during the quarter ended June 30, 2014 from 18.4% during the same quarter of 2013 primarily due to (i) higher-end product sales accounting for 75.3% of our total revenues for the second quarter ended June 30, 2014 as compared to 65.1% of that of the prior year; (ii) sales to Korean market accounted for 7.6% mainly with products of high-end modified PA66 and plastic alloys; (iii) the average 1.5%  of sales discount off the original prices to lower-end products modified PP and modified ABS for the second quarter ended June 30, 2014 as compared to an average 6.4% discount off the original prices during the second quarter of 2013.   

General and Administrative Expenses

 
Three-Month Period Ended June 30,
 
Change
 
(in millions, except percentage)
2014
 
2013
 
Amount
 
%
 
General and Administrative Expenses
 
$
4.5
   
$
2.9
   
$
1.6
     
55.2
%
as a percentage of revenues
   
1.8
%
   
1.4
%
           
0.4
%

General and administrative (G&A) expenses were US$4.5 million in the quarter ended June 30, 2014 compared to US$2.9 million in the same period in 2013, representing an increase of 55.2%, or US$1.6 million. This increase is primarily due to 1) US$1 million increase of payroll; 2) US$0.2 million increase of office and communication expense; and 3) US$0.3 million increase of rental fee due to the expansion of the business.
 
Research and Development Expenses

 
Three–Month Period Ended June 30,
 
Change
 
(in millions, except percentage)
2014
 
2013
 
Amount
 
%
 
Research and Development Expenses
 
$
13.4
   
$
5.8
   
$
7.6
     
131.0
%
as a percentage of revenues
   
5.1
%
   
2.9
%
           
2.2
%
 
Research and development expenses were US$13.4 million during the quarter ended June 30, 2014 compared with US5.8 million during the same period in 2013, an increase of US$7.6 million, or 131.0%, reflecting increased research and development activities on new products primarily in consumption of raw materials for various experiments for automotive applications from automobile manufacturers as well as other non-automotive applications. As of June 30, 2014, the number of ongoing research and development projects was 151. The consumption of raw materials for these projects accounted for 93% of total R&D expenses for the quarter ended June 30, 2014.
 
We expect to complete and commence to realize economic benefits on approximately 25% of the projects in the near term. The remaining projects are expected to be carried out for a longer period. The majority of the projects are in the field of modified plastics in automotive applications and the rest are in advanced fields such as ships, airplanes, high-speed rail and medical devices.
 
19

Operating Income

Total operating income was US$34.3 million in the second quarter ended June 30, 2014 compared to US$28.5 million in the same period of 2013, representing an increase of 20.4% or US$5.8 million. This increase is primarily due to higher gross profit, partially offset by higher general & administrative expenses, and research & development expenses.
 
Interest Income (Expenses)
 
 
 
Three-Month Period Ended June 30,
   
Change
 
(in millions, except percentage)
 
2014
   
2013
   
Amount
   
%
 
Interest Income
 
$
3.5
   
$
1.5
   
$
2.0
     
133.3
%
Interest Expenses
   
(11.7
)
   
(3.4
)
   
(8.3
)
   
244.1
%
Net Interest Expenses
 
$
(8.2
)
 
$
(1.9
)
 
$
(6.3
)
   
331.6
%
as a percentage of revenues
   
(3.1
)%
   
(1.0
)%
           
(2.1
)%
 
Net interest expense was US$8.2 million for the three-month period ended June 30, 2014, compared to net interest expense of US$1.9 million in the same period of 2013, primarily due to (i) an increase of US$4.7 million interest expenses resulting from the Notes issued on February 4, 2014; and (ii) an increase of US$3.5 million interest expenses increase resulting from the increase of bank loans to meet the need of our future capacity expansion in Southwest China and Dubai. The average short and long-term loan balance for the three months ended June 30, 2014 was US$93.6 million as compared to US$51.4 million for the three months ended June 30, 2013, leading to US$3.5 million more interest expense, partially offset by (iii) an increase of US$2.0 million interest income. The average deposit balance for the three months ended June 30, 2014 was US$110.6 million as compared to US$51.6 million as of that of the prior year, leading to the increase of interest income.
 
Losses on foreign currency forward contracts

 
Three–Month Period Ended June 30,
 
Change
 
(in millions, except percentage)
2014
 
2013
 
Amount
 
%
 
Losses on foreign currency forward contracts
 
$
(0.9
)
 
$
   
$
(0.9
)
   
N/
A
as a percentage of revenues
   
(0.4
)%
   
-
             
(0.4
)%

During the three-month period ended June 30, 2014, the Company settled the foreign currency forward contract which was entered into to manage its exposure to foreign currency risks with a notional amount of US$80M.  Due to the appreciation of US dollars against Chinese Yuan during the three-month period ended June 30, 2014, the Company had a loss of US$0.9 million on foreign currency forward contracts.

Income Taxes

 
Three–Month Period Ended June 30,
 
Change
 
(in millions, except percentage)
2014
 
2013
 
Amount
 
%
 
Income before Income Taxes
 
$
24.7
   
$
27.9
   
$
(3.2
)
   
(11.5
)%
Income Tax Expense
   
(4.9
)
   
(7.1
)
   
2.2
     
(31.0
)%
Effective income tax rate
   
19.8
%
   
25.4
%
           
(5.6
)%

The effective income tax rates for the three-month periods ended June 30, 2014 and 2013 were 19.8% and 25.4%, respectively. The effective income tax rate for the three-month period ended June 30, 2014 differs from the PRC statutory income tax rate of 25% primarily due to (i) Sichuan Xinda Group’s preferential income tax rate and exemption of income tax for the income earned by Al Composites, (ii) increase of valuation allowances against deferred income tax assets of certain subsidiaries, which were at cumulative loss position, partially offsetting by (iii) effect of tax rate differential on entities not subject to PRC income tax, and (iv) effect of non-deductible expenses.  
 
Our PRC subsidiaries have US$489.1 million of cash and cash equivalents, restricted cash and time deposits as of June 30, 2014, which are planned to be indefinitely reinvested in the PRC. The distributions from our PRC subsidiaries are subject to U.S. federal income tax at 34%, less any applicable foreign tax credits. Due to our policy of indefinitely reinvesting our earnings in our PRC business, we have not provided for deferred income tax liabilities on undistributed earnings of our PRC subsidiaries.
 
Net Income

As a result of the above factors, we had a net income of US$19.8 million in the second quarter of 2014 compared to a net income of US$20.8 million in the same quarter of 2013.
 
Six Months Ended June 30, 2014 compared to six months ended June 30, 2013

Revenues

Revenues were US$487.8 million for the six months ended June 30, 2014, an increase of US$114.7 million, or 30.7%, compared to US$373.1 million in the same period of last year, due to approximately 14.6% increase in sales volume and 13.7% increase in the average RMB selling price of our products. The increase of sales volume was mainly driven by the strong demand of polymer composite materials in the PRC market and higher penetration of our business in our existing markets supported. Such increase in demand was driven by increasing demand for middle and high-end automobiles by Chinese consumers, continuing substitution of imported polymer composite materials by domestic suppliers, as well as the increase of plastic content on the per-vehicle-basis in China with even higher adoption rate in higher-end automobile models than lower-end ones. The increase of average RMB selling price was mainly due to the shift of product mix towards higher-end products.

In addition, the Company initiated its marketing efforts to develop new customers, in particular those in the Korean market. During the six months ended June 30, 2014, the Company sold US$20.0 million products to the Korean market, mainly PA 66 and plastic alloy, accounting 4.1% of total revenue for the six months ended June 30, 2014.

20

Product Mix
 
The following table summarizes the breakdown of revenues by product mix in millions of US$:


(in millions, except percentage)
 
Revenues
 For the Six-Month Period  Ended June 30,
 
 
 
 
 
 
2014
 
2013
 
 
 
 
 
 
Amount
 
 
%
 
Amount
 
 
%
 
Change in
Amount
 
Change in
%
Modified Polyamide 66 (PA66)
 
112.2
 
 
23.0%
 
69.7
 
 
18.7%
 
42.5
 
61.0%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Modified Polyamide 6 (PA6)
 
114.7
 
 
23.5%
 
70.1
 
 
18.8%
 
44.6
 
63.6%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Plastic Alloy
 
130.5
 
 
26.8%
 
97.7
 
 
26.2%
 
32.8
 
33.6%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Modified Polypropylene (PP)
 
104.9
 
 
21.5%
 
118.2
 
 
31.6%
 
(13.3)
 
(11.3)%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Modified Acrylonitrile butadiene styrene (ABS)
 
19.2
 
 
3.9%
 
14.4
 
 
3.9%
 
4.8
 
33.3%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Polyoxymethylenes (POM)
 
2.1
 
 
0.4%
 
2.0
 
 
0.5%
 
0.1
 
5.0%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Polyphenylene Oxide (PPO)
 
4.2
 
 
0.9%
 
-
 
 
0.0%
 
4.2
 
N/A
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
     Sub-total
 
487.8
 
 
100.0%
 
372.1
 
 
99.7%
 
115.7
 
31.1%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Service revenue
 
-
 
 
0.0%
 
1.0
 
 
0.3%
 
(1.0
(100.0%)
Total Revenues
 
487.8
 
 
100%
 
373.1
 
 
100%
 
114.7
 
30.7%
 
 The following table summarizes the breakdown of metric tons (MT) by product mix:


(in MTs, except percentage)
 
Sales Volume
 For the Six-month period ended June 30,
 
 
 
 
 
 
2014
 
2013
 
 
 
 
 
 
MT
 
 
%
 
MT
 
 
%
 
Change in
MT
 
Change in
%
Modified Polyamide 66 (PA66)
 
19,759
 
 
13.2%
 
13,877
 
 
10.6%
 
5,882
 
42.4%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Modified Polyamide 6 (PA6)
 
22,814
 
 
15.2%
 
14,159
 
 
10.8%
 
8,655
 
61.1%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Plastic Alloy
 
45,824
 
 
30.5%
 
38,026
 
 
29.0%
 
7,798
 
20.5%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Modified Polypropylene (PP)
 
53,559
 
 
35.6%
 
59,209
 
 
45.2%
 
(5,650)
 
(9.5)%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Modified Acrylonitrile butadiene styrene (ABS)
 
7,100
 
 
4.7%
 
5,120
 
 
3.9%
 
1,980
 
38.7%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Polyoxymethylenes (POM)
 
601
 
 
0.4%
 
670
 
 
0.5%
 
(69
(10.3)%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Polyphenylene Oxide (PPO)
 
571
 
 
0.4%
 
-
 
 
0.0%
 
571
 
N/A
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total Sales Volume
 
150,228
 
 
100%
 
131,061
 
 
100%
 
19,167
 
14.6%

The Company has shifted product mix from traditional Modified Polypropylene (PP) to higher-end products such as Modified Polyamide (PA66 and PA6), primarily due to (i) the increasing demand of advanced modified plastics in luxury automobile models in China, (ii) the stronger demand as a result of promotion by the Chinese government for clean energy vehicles and (iii) increased sales of higher-end cars made by automotive manufacturers from China and Germany joint ventures, and U.S. and Japanese joint ventures, which manufacturers tend to use more and higher-end modified plastics in quantity per vehicle in China.
 

21

Gross Profit and Gross Profit Margin

 
Six Month Period Ended June 30,
 
Change
 
(in millions, except percentage)
2014
 
2013
 
Amount
 
%
 
Gross Profit
 
$
98.9
   
$
66.3
   
$
32.6
     
49.2
%
Gross Profit Margin
   
20.3
%
   
17.8
%
           
2.5