Daqo New Energy Corp. Q3 FY2022 Earnings Call

Good day, and welcome to the Daqo New Energy Third Quarter 2022 Results Conference Call. All participants will be in listen-only mode. Please note, this event is being recorded. I would now like to turn the conference over to Kevin He, Investor Relations. Please go ahead.

Hello, everyone. This is Kevin, the Investor Relations of Daqo New Energy. Thank you for joining our conference call today. Daqo New Energy just issued its financial results for the third quarter of 2022, which can be found on our website at www.dqsolar.com. To facilitate today's conference call, we have also prepared a PPT presentation for your reference. Today, attending the conference call, we have Mr. Ming Yang, our Chief Financial Officer; and myself. Our CEO, Mr. Longgen Zhang, is on his way from the U.S. to China and is not able to attend today's meeting in person. So today, I will read his comments on market and operations, and then Mr. Yang will discuss the company's financial performance for the quarter. After that, we will open the floor to Q&A from the audience. Before we begin the formal remarks, I would like to remind you that certain statements on today's call, including expected future operational and financial performance and industry growth are forward-looking statements that are made under the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. These statements involve inherent risks and uncertainties. A number of factors could cause actual results to differ materially from those contained in any forward-looking statements. Further information regarding these and other risks is included in the reports or documents we have filed with or furnished to the Securities and Exchange Commission. These statements only reflect our current and preliminary view as of today and may be subject to change. Our ability to achieve these projections is subject to risks and uncertainties. All information provided in today's conference call is as of today, and we undertake no duty to update such information, except as required under applicable law. Also during the call, we will occasionally reference monetary amounts in U.S. dollars. Please keep in mind that our functional currency is the Chinese RMB. We offer these translations into U.S. dollars solely for the convenience of the audience. And now I will read the commentary from our CEO, Mr. Longgen Zhang. We are pleased to announce that the company continued to deliver an excellent performance. In the third quarter of 2022, revenue reached $1.22 billion for the quarter with gross profit of $979 million. Net income attributable to Daqo New Energy shareholders was $323.4 million and adjusted net income attributable to Daqo New Energy shareholders was $590 million. Operating cash flow was $1.7 billion for the first 9 months of this year. We ended the quarter with a very strong balance sheet, as our cash position combined with bank note receivables, which are redeemable for cash reached $4.6 billion at the end of Q3, and we had no financial debts for bank loans. We kept producing above our main capacity with polysilicon production volume of 333,401 metric tons despite our scheduled annual maintenance. Sales volume reached 33,126 metric tons, and we ended the quarter with a very low polysilicon inventory level. Driven by the rising global energy prices and the urgency to address climate change, both demand and pricing for solar PV products increased during the quarter with particularly strong demand from markets such as China, Europe, Southeast Asia, and Brazil. As a result, market demand for polysilicon remained very strong throughout the quarter, and our ASP increased 14% in RMB terms compared to the previous quarter. With higher ASP and lower production costs, Q3 gross margin continued to improve and reached 80% compared to 76% in Q2 this year. In particular, after further process improvement, our mono grade polysilicon reached 99.9% of our production in September, which was record-breaking for the company. Furthermore, Daqo remains one of the most important producers of ultra-high purity polysilicon, which is positioned to become the fastest growing product segment for next year. In June, our Board of Directors authorized the company to repurchase up to $120 million worth of its issued shares on the open market. We have completed the share repurchase program and spent $119.9 million to repurchase approximately 1.88 million ADRs. We will consider another share repurchase program when Xinjiang Daqo determines its dividend plan for the fiscal year 2022, as we believe our current ADR price is seriously undervalued and not reflective of our position as a technology and cost leader with strong profitability and operating cash flow. Despite a more than 50% volume increase in polysilicon supply in the first three quarters of this year compared to the same period last year, the profitability of polysilicon continued to improve, which was driven by stronger-than-expected solar PV demand and relatively faster capacity expansions in downstream sectors, particularly in the wafer segment. According to the China National Energy Administration, China installed 52.6 gigawatts of solar PV projects in the first three quarters of this year, a 106% increase compared to the same period last year. The fourth quarter is typically a busy season for China’s solar PV market. Current polysilicon ASPs remain high at approximately $36 to $38 per kg excluding VAT, and the inventory of polysilicon is low across the value chain. We expect that module prices will be well supported in the range of RMB 1.85 to 1.95 per watt, which will provide very strong support for polysilicon ASPs. Solar PV demand has been increasing significantly beyond market expectations for almost two years, and we believe that it is just the beginning of a new era in which renewable energies will eventually displace fossil fuels to become the biggest source of energy for the world. Solar PV has already reached grid parity in most of the important economies in the world, and this creates great value to address carbon emissions, tackle climate change challenges, and further secure energy security and sustainability. We believe we will continue to greatly benefit from this long-term trend as one of the most competitive low-cost and high-quality polysilicon providers in the world. Now I’ll provide outlook and guidance. The company expects to produce approximately 30,000 to 32,000 metric tons of polysilicon in the fourth quarter of 2022 and approximately 130,000 to 132,000 metric tons of polysilicon in the full year of 2022, inclusive of the impact of the company’s annual facility maintenance. This outlook only reflects our current and preliminary view as of the date of this conference call and may be subject to changes. The company’s ability to achieve these projections is subject to risks and uncertainties. Now I would like to turn the call to our CFO, Mr. Ming Yang, please.

Thank you, Kevin. And hello, everyone. Thank you for joining our call today. Now I will discuss our financial performance for the third quarter of 2022. Revenues were $1.22 billion compared to $1.24 billion in the second quarter of 2022 and $586 million in the third quarter of 2021. Polysilicon sales volume was 33,126 metric tons in Q3 2022, compared to 37,545 metric tons in Q2 2022. Despite an 11.8% decline in polysilicon sales volume when compared to the previous quarter, we achieved similar revenues supported by a 10% increase in polysilicon ASP. Gross profit was $979 million compared to $947 million in the second quarter of 2022 and $435 million in the third quarter of 2021. Gross margin was 80.2%, compared to 76.1% in the second quarter of 2022 and 74.3% in the third quarter of 2021. The increase in gross profit and gross margin compared to Q2 was primarily due to lower production costs and higher ASPs. We further reduced polysilicon production costs for Q3 to $6.82 per kilogram, a decline of 6% compared to $7.26 per kilogram in Q2 2022. SG&A expenses were $280 million, compared to $14.4 million in the second quarter of 2022 and $11.4 million in the third quarter of 2021. SG&A expenses during the quarter included $263 million in non-cash share-based compensation costs related to the company’s 2022 share incentive plan. For future periods, the company expects to recognize approximately $7.3 million of non-cash share-based compensation expenses every month from October 2022 through September 2025 related to the company’s 2022 share incentive practice. Research and development expenses were $2.5 million, compared to $2.7 million in the second quarter of 2022 and $1.9 million in the third quarter of 2021. R&D expenses can vary from period to period and reflect R&D activities that take place during the quarter. Income from operations was $693 million, compared to $928 million in the second quarter of 2022 and $421 million in the third quarter of 2021. Operating margin was 56.8%, compared to 74.6% in the second quarter of 2022 and 72% in the third quarter of 2021. Net income attributable to Daqo New Energy shareholders was $323 million compared to $628 million in the second quarter of 2022 and $292 million in the third quarter of 2021. Earnings per basic ADS was $4.28, compared to $8.36 in the second quarter of 2022 and $3.95 in the third quarter of 2021. Adjusted net income attributable to Daqo New Energy shareholders, excluding non-cash share-based compensation costs, was $590.4 million compared to $638.3 million in the second quarter of 2022 and $294.7 million in the third quarter of 2021. Adjusted earnings per basic ADS was $7.81, compared to $8.39 in the second quarter of 2022 and $3.98 in the third quarter of 2021. EBITDA was $720 million, compared to $955 million in the second quarter of 2022 and $442 million in the third quarter of 2021. EBITDA margin was 59%, compared to 76.8% in the second quarter of 2022 and 75.4% in the third quarter of 2021. Now on the company’s financial condition. As of September 30, 2022, the company had $3.05 billion in cash, cash equivalents, and restricted cash, compared to $3.28 billion as of June 30, 2022. As of September 30, 2022, the company’s bank note receivables balance was $1.57 billion, compared to $1.27 billion as of June 30, 2022. Bank note receivables are issued in guarantee by domestic Chinese banks and can be redeemed for cash. Combined cash and bank note receivable balance was $4.62 billion at the end of Q3. Now on the company's cash flows. For the 9 months ended September 30, 2022, net cash provided by operating activities was $1.7 billion, compared to $653 million in the same period of 2021. The increase was primarily due to higher revenues and gross margin. For the 9 months ended September 30, 2022, net cash used in investing activities was $605 million, compared to $856 million in the same period of 2021. The net cash used in investing activities in the first 9 months of 2022 was primarily related to the capital expenditures on the company’s 100,000 metric ton polysilicon project in Baotou City, Inner Mongolia, which was partially offset by $272.7 million redemption of short-term investments. Total capital expenditures in the first 9 months of 2022 were $841 million, the majority of which was related to the company's Inner Mongolia Baotou polysilicon projects. The company currently expects approximately $650 million of additional capital expenditures related to the Baotou project, of which $250 million is expected to be in the fourth quarter of this year and the remainder will be in 2023. For the 9 months ended September 30, 2022, net cash provided by financing activities was $1.48 billion, compared to $742 million in the same period of 2021. The net cash provided by financing activities in the first 9 months of 2022 was primarily related to the net proceeds of the company’s $1.63 billion from Xinjiang Daqo’s private offering in China. And that concludes our prepared remarks. Now we will open the call to questions from the audience. Operator, please begin.

We will now begin the question-and-answer session. The first question is from Philip Shen of ROTH Capital Partners. Please go ahead.

Hi, everyone. Thanks for taking my questions. The first one is on your outlook for polysilicon pricing with capacity coming online next year from some of your peers and also yourself. How do you expect the polysilicon price to trend here in this quarter for the last 2 months? And then also by quarter as we get through 2023 and if you have a view for 2024, that would be great. Thanks.

Okay. Thanks, Phil, for your question. This is Ming, the CFO. So currently, the polysilicon ASP is staying at a fairly high level, around $36 to $38 per kilogram, and it has remained so for most of Q3 up until now. Q4 is typically a peak season here in China in terms of installations. And we're tracking the Chinese installations for this year, which is expected to double in 2022 versus 2021. I think the range of estimate provided by the Chinese Photovoltaic Industry Association and the National Energy Administration is expecting China to be 85 to 100 gigawatts this year. So we could see a lot of activity in Q4. Poly ASP is fundamentally closely connected with module ASP. And we are seeing very strong module selling prices in terms of very good price support at around the RMB 1.85 to RMB 1.95 per kilogram level, which is a minimum support polysilicon ASP in the range of 250 to 280 per kilogram. I think for Q4 this year, now at the end of October. And actually, in terms of our sales contract delivery schedule, we are practically sold out for the month of November as well. So at this point, we do not believe polysilicon pricing would drop or would drop much from the current level by the end of this year. And I would say in terms of our outlook for next year and beyond, polysilicon is likely to remain the bottleneck in the value chain. If we look at what's happening in the downstream, one is that the downstream expansion is much faster than polysilicon expansion between wafer and cell capacity but these can typically be expanded within a 6 months to 1-year time frame, while polysilicon takes between 12 to 18 months to expand and then also takes longer to ramp up and also to reach the desired quality, even for existing producers. A lot of the new producers lack experience in polysilicon production and are likely to face a lot of problems, whether it's with their capacity utilization or with quality, as experienced with a lot of start-ups in the past. Looking at downstream expansions, we did see significant expansion in wafer capacity, as wafer capacity remains highly profitable. If you track the profits of LONGi or Songi, they remain very healthy. In fact, even for most integrated manufacturers, most of their profits come from the wafer segment. So we believe we will continue to see healthy expansion in the mono wafer capacity segment. More interestingly, in the more downstream cell and module segment, even though investor profit is relatively thin, we are still seeing large capacity expansion. For example, for solar cell, there's more than 100 gigawatts of n-type solar cell capacity being built in China today. Interestingly, these are actually funded by the Chinese capital market in terms of very high valuations for this capacity. So you are seeing aggressive expansion as well. So from this perspective, I would say, not in 2023, we do not believe we will see a polysilicon supply stop being a bottleneck in the value chain. 2024 is very much further out in terms of forecast, but we do not believe that you will see a significant overcapacity of polysilicon. The quality challenge and the utilization challenge will persist, particularly we believe starting next year, n-type will take significant market share and will become the fastest growth segment. N-type cell technology requires polysilicon, and very few Chinese producers have the capability to produce it, so Daqo will be very well positioned to benefit from this trend as well. So that's our perspective.

Thanks, Ming. I just have one other question here, and then I'll pass it on. Can you give us a little more color on the $260 million share-based compensation? I know you guys press released about it in August. But can you do you expect to do this every year, every Q3? If not, what do you think will dictate the timing? Do you think the magnitude next year could be as big as this year? And then can you talk about the perspective of this share-based compensation relative to the $120 million share buyback? Some investors feel that the share buyback is not necessarily enough to offset the dilution of the payment to the management team? Thanks.

I think Kevin will take this question. Kevin?

This is Kevin. So, first of all, this plan actually spans at least 3 years. It is not going to happen every year because the entire vesting schedule is for at least 3 years. This is basically the time frame. Regarding the buyback and the share compensation program, I prefer to view them separately because we can do buybacks without a share compensation program and vice versa. Even in history, sometimes we didn't really have a buyback program, but we did have a share compensation program. I don’t think it's necessary to be linked. Anyway, this year, because of the buyback, the amount is not very big. It comes from the dividend we received from our subsidiary, Xinjiang Daqo. This year, we’ll likely do another cash dividend at the level of Xinjiang, because this is a requirement from China. As the majority shareholders, Daqo New Energy will receive some cash, and we are likely to consider doing this with the same buyback program. This year’s net profit will be significantly higher than last year, so it is possible that we expect to receive significantly more cash dividend from Xinjiang. Anyway, I need to emphasize that Xinjiang Daqo will need to go through their process, for example, the Board meeting, the shareholders meeting, and then they determine the dividend plan for the fiscal year 2022, most likely in April next year. After that, in one or two months, we should receive the cash, and then if we decide to proceed, then you will very likely see a similar program as we have this year.

Great. Thanks, guys. I’ll pass it on.

Great. Thanks, Phil.

The next question is from Gary Zhou of Credit Suisse. Please go ahead.

Hello, management. Thank you for taking our questions. So my first question is around our new capacity in Mongolia. Can management share with us the latest construction progress? And just wondering if the recent COVID measures would have any kind of impact on construction? Secondly, there were talks that the electricity cost in Mongolia increased. What's the latest update? Thank you.

Okay. Thanks, Gary, for your question. The Mongolia project started construction in March and as of now, the construction is going very smoothly. We are making significant progress even with tight COVID restriction measures. We have implemented many preparations and efforts to mitigate any of the issues and risks related to on-site construction and also related to equipment delivery. All of the design has been completed for the 100,000 metric ton facility by the end of Q3, and this required support from a Design Institute, which has been critical because of a significant lack of resources and capacity from the Design Institute due to a larger number of ongoing projects. This is a significant achievement for us. In terms of our procurement of both equipment and selecting the construction company, this is mostly complete as well. More than 50% of the construction has been completed. If anyone has a chance to visit our site, it's quite an impressive site with a lot of ongoing construction. For October and November, we expect many of the buildings and structures, such as our reactors and product distillation towers, to be completed. By November, most of the structures for our distillation, piping, and gas recovery should finish by the year-end. We expect the installation to happen during this period into Q1, and by the end of Q1, we anticipate that all our units, including distillation, co-selling, and gas recovery, will be completed for pilot production around the end of Q1. So far, everything is on schedule and on track. Regarding electricity costs, the government did announce that it would adjust the utility pricing for the renewable energy industry that was receiving support in the past. The final amount hasn't been announced yet. We have indications that it should remain one of the most competitive energy pricing options for Northwest China. We are very optimistic and hopeful that it will continue to be competitive, at least similar to Xinjiang’s current industrial electricity pricing.

Thanks, management. Another question, and I'll pass on. I noticed that in our guidance, Q4 production volume of 30,000 to 32,000 tons is slightly lower than the third quarter. What's the reason behind that? Thank you.

Okay. I'll take that quickly and then see if Kevin has anything to add. Our full-year production is somewhere between 130 to 132,000 metric tons, right? So if you split that in half, that's about 65,000 metric tons for the half. This year, we delayed maintenance to the second half because of strong demand in the first half. Most of the maintenance was supposed to kick off starting in August. However, because of the COVID restrictions in Xinjiang, we faced significant challenges conducting the maintenance schedule during this time frame. Some of our maintenance that was scheduled from July to September has been pushed out to October or even November. This is why you're seeing slightly higher production in Q3 being offset by slightly lower production in Q4 due to the maintenance schedule. The full-year production should remain consistent.

Okay. Thank you. I have no further questions. Thank you. I’ll pass on.

Very great. Thank you, Gary.

Next question is from Alan Lau of Jefferies. Please go ahead.

Thank you for taking my question and congratulations on the great results. I would like to ask what is the N-type ratio and your understanding of the ramp-up of other peers like the new players or the progress of our new players. Do you see any problems or delays in the capacities from the new players?

I'll let Kevin take this question. Kevin, do you want to address this, the N-type...

Yeah, Alan. First of all, if you look at the purity of our products, last year, we had almost 90% of our product categorized as electricity grade number one, meeting the highest national standard in China, suitable for every application P-type and N-type. Currently, our N-type customers have requests for purity. They still need high-density polysilicon, which we describe as polished surface polysilicon. Right now, the N-type market share is still small, meaning that demand is not very strong. Thus, there isn't a strong incentive for us to switch our process to produce more high-density polysilicon because doing so would decrease overall volume. We need to see a higher premium from N-type to adjust our processes accordingly. For our existing facility, we expect that once our new facility in Mongolia is completed, we can produce at least 80% or more N-type polysilicon. I still emphasize that we are a top-tier quality provider. We believe that most second-tier players and newcomers will struggle with traditional P-type, not to mention N-type. So for the newcomers, the first couple of years will be challenging to reach their main capacity and thereafter, they might slowly ramp up quality over 1-2 years. In terms of market share, N-type technology is growing quickly, and by mid-next year, you will see at least 100 gigawatts of N-type cell production lines ramping up, achieving 25% market share. In the second half of next year, you will see further capacity expansion as the industrialization of N-type technology matures.

Thanks a lot, Kevin. A very comprehensive answer. My last question is about the progress on the X share listing. What is the stage for now regarding the Hong Kong listing?

The international capital market platform is very important for Daqo New Energy. Currently, the PCAOB staff is working in Hong Kong now, and they're making a lot of progress with their inspection of the Chinese auditors. We have not heard of any significant issues hindering the process. We believe that the listing risk is being reduced. However, we are exploring the possibility of dual listing in Hong Kong as a strategy for investors to address any delisting risk. We have engaged with executives from the Hong Kong Stock Exchange to explore the listing. We are working with their staff and other teams on the listing as well. We will announce further updates when appropriate.

I’m also wondering if the COVID situation in Xinjiang is hindering polysilicon production. Is there any supply disruption of metasilicon?

We don't have much information related to Hoshi specifically, other than that the COVID situation is impacting their delivery of silicon metal overall. Related to our orders, they have been making deliveries, but perhaps not as much as we had previously ordered. Most of the COVID challenge for Hoshi is related to logistics; this includes shipping externally and delivery of raw materials to our facilities. These are significant challenges, and it requires a lot of planning and efforts to execute smoothly. We have done a lot of work to mitigate all these issues to ensure our operations run normally, and despite the significant COVID-related restrictions happening in Xinjiang, we're managing overall operations without major impacts. But there is general impact on the industry.

Understood. Thanks a lot.

Great. Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Kevin He for closing remarks.

Thank you, everyone, again for joining us for the conference call today. Should you have any further questions, please don't hesitate to contact us either via e-mail or via phone call. Thank you very much. Bye-bye.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.