Aug 24, 2017
Executives
Kathy Bian – Vice President-Corporate Finance Albert Chen – Chief Financial Officer
Analysts
Michael Schmitz – Jayhawk Capital Patrick Terrell – Terrell Group Management Jeff Neal – Alex Brown
Operator
Welcome everyone to China Cord Blood Corporation's Earnings Conference Call for the First Quarter of Fiscal 2018. All participants' lines will be placed on mute during the presentation after which there will be a question-and-answer session.
Today’s call is being recorded. Now, I would like to introduce Ms.
Kathy Bian, VP of Corporate Finance to begin the presentation.
Kathy Bian
Good morning, everyone. Welcome to our first quarter of fiscal 2018 earnings conference call.
A press release discussing our financial results has already been published and a copy is available on our Company's website. During the call, our management team will summarize corporate developments and financial highlights for the quarter.
A question-and-answer session will follow. Before we begin, please note that today's discussion will contain forward-looking statements that are subject to certain risks and uncertainties and actual results could be materially different from these forward-looking statements.
Kindly refer to our SEC filings for detailed discussions of potential risks. In the interest of time, we will begin with our CEO's remarks followed by a detailed report of our first quarter fiscal 2018 financial given by our CFO, Mr.
Albert Chen. Our management will be available to answer questions during the Q&A session.
Today, on behalf of our CEO, Tina, I will read her prepared remarks. Let's begin our presentation.
Good morning, ladies and gentlemen. Welcome to our first quarter fiscal 2018 earnings conference call.
Due to better execution of precision sales and marketing strategy, we recorded 22,523 new subscribers in this quarter, a year-on-year growth of 35.4% and a quarter-on-quarter increase of 9.5%. We are pleased with our performance in the first quarter of fiscal 2018, which was driven by improved conversion rate of potential clients and our ongoing efforts to improve and enhance our sales team.
Both Guangdong and Zhejiang markets recorded pleasing results in the reporting period and the majority of our new subscribers still came from the Guangdong market. The Beijing market, about to celebrate its 15th anniversary, has performed steadily as expected.
In this quarter, the National Health and Family Planning Commission and five other ministries in China collectively issued the 13th five-year plan, a specific program for Health and Health Science and Technology Innovation, which indicated their full support to the stem cell and regenerative medicine industry and provided clarity on regulations for the clinical applications of biotherapies. In the reporting period, the China Maternal and Child Health Association formed its Umbilical Cord Blood Application Committee in Beijing, a platform aiming to promote communication and interaction within cord blood storage service providers, patients, hospitals and scientific research institutions.
Rollout of the five-year plan and the establishment of the committee will foster healthy development of the umbilical cord blood hematopoietic stem cell industry in the long run. During the reporting period, consumer sentiment remained low.
Certain regions even recorded fewer newborns than in the same period of last year. Nonetheless, our measures on improving organic growth achieved strong results.
The management team will continue to move our business and industry forward while adjusting in accordance with the regulated policies, further explore various sales and marketing techniques, improve demand and expand revenue sources and provide clients and potential clients with more comprehensive health care services. This concludes my remarks regarding our first quarter fiscal 2018 results.
I'd like to thank you all for your ongoing support of CCBC. I will now turn the call over to our CFO, Mr.
Albert Chen to review our first quarter financial performance in greater detail.
Albert Chen
Good morning, everyone. Thank you for joining our call today.
During the first quarter, we recruited more than 22,000 new subscribers as we continued to improve our frontline sales and experienced strong performance from our Guangdong division as well. We are pleased to record revenues growth of 30% year-over-year to RMB224 million.
Revenues generated from processing fees in the first quarter increased by 38% to RMB147 million due to a robust increase in subscription numbers. Revenues generated from processing fees accounted for 66% of revenues.
During the reporting quarter, we reclassified 388 private cord blood units as donated units because we considered the recoverability of these subscribers to be low. Therefore, net accumulated subscriber base was 597,175 units as of June 30, 2017.
Revenues generated from storage fees increased to RMB77 million, up 17% from last year. Storage fees now accounted for approximately 34% of total revenues.
Gross profit for the first quarter of fiscal 2018 increased to RMB179 million. Gross margin also increased to approximately 80% due to economy of scale, which was partially offset by the increase in labor costs, raw material costs as well as collection costs.
During the first quarter, sales and marketing expense increased to RMB44 million compared to RMB38 million last year. The increase was attributable to our efforts to implement a precise marketing strategy towards targeted clients, staff replacement and strengthening our sales team in hope to improve conversion rates.
Sales and marketing expenses as a percentage of revenues were 19%, down from 22% last year. General and administrative expenses for the first quarter increased to RMB50 million from RMB43 million of last year.
As a percentage of revenues, general and administrative expenses were 23%, down from 25% last year. Corporate income for the first quarter increased to RMB83 million from RMB52 million last year.
Operating margin improved from 30% last year to 37% in the reporting quarter. In the first quarter, depreciation and amortization expenses were RMB13 million, same as last year.
Net share-based compensation expense however, recorded a reversal of RMB3 million compared to an expense of RMB15 million last year. This is a combined effect after you write back the previously recognized share-based compensation expense following the cancellation of the RSUs forfeited while starting to recognize the additional expense charge under new RSU granted during the first quarter.
That being said, operating income before depreciation and amortization and share-based compensation expenses increased by 16% year-over-year to RMB92 million, representing a margin of 41%. In the first quarter, the company incurred interest expense of RMB3 million compared to RMB29 million of last year.
The difference was mainly because the company previously outstanding convertible notes were converted into ordinary shares in early April 2017. Subsequently, the company has no outstanding convertible notes as a result of that.
Net income attributable to the company shareholders for the reporting quarter jumped to RMB69 million from RMB16 million of last year. The solid bottom line improvement was by large related to the robust top line growth and the reduction in interest expense.
Net margin for the first quarter of fiscal 2018 increased from 9% to 31%. Basic and diluted earnings per ordinary shares for the first quarter of fiscal 2018 were approximately RMB0.62.
In terms of cash flows, as of June 30, 2017, the company had cash and cash equivalent of approximately RMB3.7 billion. Aggregate current and noncurrent deferred revenues were approximately RMB2 billion.
Net cash provided by operating activities for the first quarter of fiscal 2018 was RMB226 million. Now these are the first quarter results highlights.
And I think we are happy to take any questions from the floor.
Q - Michael Schmitz
Hi, Albert, hi guys. Another great quarter, appreciate all your hard work on that.
Could you please provide the breakdown of subscribers by province?
Albert Chen
In terms of the new subscribers breakdown, you're looking at approximately 66% came from the Guangdong region and approximately 18% from Beijing. The rest came from Zhejiang.
Michael Schmitz
Thanks. And with the increase in new subscribers and additionally combined with you said, the number of newborns was down slightly.
I assume that means your penetration rate is increasing slightly. It's been steadily at about 3% the last few years.
Do you think that could get up to 4% this year?
Albert Chen
I think as we stated in our earning release, we have noticed that the birth rates or the number of babies born in certain parts of China, let's just say, have recorded some decline on a year-over-year basis. But it's not like all our target market have recorded a similar decline.
It seems to be rather confined to certain markets only. So I guess, in terms of the penetration rates, we have been working very hard to improve our penetration rates across all the markets.
And as you can see that we are painting a relatively prudent pictures in terms of what we look at for current years. And we talked about certain declines in the number of newborns in certain regions of China.
But with that being said, we are also working very hard to recruit new clients and to basically do counter to offset the decline in newborns as well as the weak market sentiment. So like you said, I mean, the first quarter results came in very strong, and we are pleased with the results, but more importantly is to keep up the good work going forward.
Michael Schmitz
Absolutely. And you also mentioned in the last few quarters about your searching for additional revenue sources.
Could you provide an update on any progress you've made in that front? And what – an example of kind of what that might look like going forward?
Albert Chen
We are still working on the various strategies which we think will make sense in light of the company's strength and weaknesses and to best utilize our "resources on hand", basically our cumulative subscriber base, which we accumulated over time. Unfortunately, there's not much I can share at the stage.
But once we reach a more mature stage and warrant a disclosure, we'll definitely make a public announcement about it. But we are working along the line of the need of our target segments, basically, potential medical services that will be needed during pregnancy of, let's say, prenatal and postnatal services.
That's probably the best way to look at it.
Michael Schmitz
Okay. Thanks.
And one final question, if you don't mind. Based on the transaction price for that majority stake of Qilu, the company that owned the Shandong license from last year, the 24% that China Cord owns should be worth over $300 million, which is a pretty significant portion of the company's market cap.
What information can you provide about that investment in regards to maybe how its operations are looking, the number of subscribers that it's achieving in its province or just a little bit more information about that investment?
Albert Chen
First of all, we've recorded the investment – our investment in Shandong Cord Blood Bank at cost. And in the past couple of years, we have reported the dividend distributed by the Shandong Cord Blood Bank as well.
Based on the information that we have gathered so far, we've seen – it seems like the Shandong Cord Blood Bank is operating in par with the management expectations. And obviously, if they pay out dividend this year, it will be great.
But right now, we just don't have any certainty on that front yet.
Michael Schmitz
And so other than when dividends are announced and released, there's really no other operating information you can provide on that?
Albert Chen
Because I think it involves another public company, so I will respectfully defer to that public company disclosure.
Michael Schmitz
Okay. You're referring to the Nanjing Xinjiekou Department Store in China?
Albert Chen
Yes.
Michael Schmitz
Okay. Thank you.
Operator
We'll go next to Patrick Terrell with Terrell Group Management.
Patrick Terrell
Good morning, Albert. It’s been a while since we’ve talked great results, really impressive.
Hey, in your $294 million of deferred revenue, how do I look at that coming in quarter-over-quarter? And what's the cost associated as you recover that and bring it into profit?
Is it mostly all profit? Or is there some offsetting cost to it?
Albert Chen
Well, in terms of the deferred revenue, as you know Patrick, it is a result of customer choosing upfront payment and prepaying 18 years of storage fees. And as you can see, as our new subscriber – our cumulative subscriber base continue to expand and provided that a decent portion of our client elected the upfront payment options, one would suspect that – or one would expect that the total aggregate deferred revenue will continue to increase over time and, hopefully, it will increase at a rate faster than we convert those deferred revenue into revenue.
And under the accounting treatment, we are currently classifying those deferred revenues as a liability, because it is a service which we have not yet delivered. And then we recognize those future storage fees on a straight-line basis after we've rendered the storage services.
In terms of the costs associated with the deferred revenue, I'll say those are the costs related to the storage service provided. Those will be mainly, for example, electricity, liquid nitrogens, corporate overheads, and that's pretty much about it.
But I do need to remind you that because it is a service that we are not yet delivered, so it is currently being classified as a liability. And part of the reason is because the client will have the right to terminate that services.
And should they elect to do so, that deferred revenue will have to be – or the prepayment by the client will have to be refunded back to the client. Obviously, that is not something that we want to happen.
But as you can see, the accounting treatment is accounting treatment.
Patrick Terrell
Okay. And do you see – Albert, do you see like in the current quarter, when you brought in – as you recognize it every quarter, correct?
Every month, it comes – deferred revenue comes on to…
Albert Chen
Correct, correct. It's recognized on a straight-line basis.
Correct.
Patrick Terrell
Yes. Okay.
So how much is that impact this particular quarter, for instance?
Albert Chen
Well, I mean, storage revenues account for like 34% of our total revenues.
Patrick Terrell
Okay. And obviously, that will continue or grow.
Albert Chen
Yes.
Patrick Terrell
Okay. And then as far as the cash we have now $549 million, what's the discussion?
Obviously, it seems like that's a lot of cash to have on our balance sheet. Clearly, the stock has started to perform well.
As you know, I have been a stockholder since you went public many, many years ago. So it's nice to see the stock doing well.
But it seems to me that the stock would really accelerate if you got into a buyback situation of shares. I consider our stock extremely cheap at the price it's at today.
Any thoughts on that?
Albert Chen
Well, capital allocation has always been a – one of the topic which the board has discussed in terms of how we best utilize the capital on hand and has to take into account the existing market circumstances and the risk and reward for each allocation decisions. Unfortunately, I don't have anything solid to offer at this moment.
But if we have a plan either in terms of a share repurchase or dividends or potential M&A, we will definitely announce in due course and make sure the market is well aware of it. But like you said, we are thankful to see the appreciation in the share value of the company.
We are glad, and we are happy to see shareholders making money – making return on their investments and, hopefully, we can keep up the good work.
Patrick Terrell
Okay. Well, thank you, Albert.
Keep up the good work.
Albert Chen
Thank you, Pat.
Operator
We will go next to [indiscernible].
Unidentified Analyst
Congratulations on an excellent quarter, Mr. Chen.
Mr. Chen, my question was similar to the previous questioner and that is the cash that's on the balance sheet, which will be some probably $600 million by September 30.
And I would certainly encourage the board to take a strong look at a share repurchase program. Obviously, dividends are a pretty inefficient way to get money back to the shareholders.
So I'm, like the previous caller, interested in the board considering a share repurchase to benefit all of us.
Albert Chen
That's a fair point. And the board is aware of the input from the various shareholders regarding their – regarding to different capital allocation decisions.
And each of them, obviously, have their pros and cons as you have rightfully pointed out. And the board will take that into consideration before taking any actions.
Unidentified Analyst
Well, congratulations on a good quarter, Mr. Chen.
Thank you.
Albert Chen
Thank you very much.
Operator
[Operator Instructions] We will go next to Dan Robison [ph].
Unidentified Analyst
Thank you, Mr. Chen.
I’m just a shareholder. And I would also reiterate the comments of the previous callers.
My questions were mostly pointed towards that deferred revenue and how that would triple the share price – the share earnings price. But I'll accept your explanation, and you can move on to the next caller.
Albert Chen
Your questions – or comments are duly noted. Operator, can we move to the next caller?
Operator
We’ll go next to [indiscernible].
Unidentified Analyst
Hello and thank you for taking my question and congratulation on the results. And I just have one comment and one question – one quick question.
First is a comment, actually, on the comment from Mr. Schmitz, I think, from Jayhawk Capital about Qilu.
Actually, yes, all the results of Qilu are to be available on Nanjing filing on the Shanghai Stock Exchange. And if I remember well from last year, it was something like – in U.S.
dollar terms, it was something like US$40 million. So it's quite significant.
I mean, it was a record result for Qilu. We've seen that, actually, you didn't receive any dividend this year.
I mean, I guess, it was a decision of the management of the company. So my question is very simple.
It's about RSU. You have one of your – the Chief Executive Officer of the Beijing, I think, division resigned a few months ago.
You had about 1 million RSU. My question is simple.
This 1 million RSU, do you – will you cancel it? Or will you attribute Qilu to someone else?
Because I think the total number of RSU is 7.3 million. Thank you.
Albert Chen
Well, first of all, with respect to the comment about Shandong Cord Blood Bank, unfortunately, because from the accounting point of view, we do not take de facto control over the board. So that's why we do not actually, pick up any earnings from Shandong Cord Blood Bank, which is also part of the reason why I stated earlier on in the earnings call saying that the Shandong Cord Blood Bank investment in our company we actually recorded at cost.
Now going to the second question, regarding the RSU. The gentleman rightfully pointed out that our former Beijing division CEO has resigned, and as a result that her – the RSU related to her has been forfeited, and we treated those as canceled.
And then in order to continue to motivate the existing team and also retain talents and whooping the teams to do a better job going forward, we have issued 1 million RSUs to the existing management teams of China Cord. And as a result of that, the outstanding RSU as of today is still 7.3 million, the number did not change and this is the mandate which we received from shareholders in the prior Annual General Meeting.
Unidentified Analyst
Okay. Thank you very much.
Operator
[Operator Instructions] We’ll go next to Jeff Neal with Alex Brown.
Jeff Neal
Good morning and congratulations on the results. Continuing the line of questioning along deferred revenue, I want to focus for a moment so I'm certain my understanding is correct on effectively what the economic revenue was during the quarter given 22,000-plus subscribers.
So I'm going to express this in dollar terms. But you reported $33.1 million of current period revenues.
I calculate that the quarter-over-quarter change in short-term deferrals was approximately $4.1 million and the quarter-over-quarter change in long-term deferrals was approximately $15.1 million, resulting in $52 million of revenue associated with the 22,500 subscribers. Am I looking at that correctly?
Albert Chen
I think you may not be entirely correct because the new subscribers that we reported in the first quarter, for example, the 22,000 number, it is the total number of new subscribers who signed up during the reporting quarter. But not all of them elected the upfront payment option.
Normally – I'll say, normal range in our case is probably the half of it that actually elect the upfront payment option.
Jeff Neal
And so that half would then be fully recognized in the current quarter revenue. Is that correct?
Albert Chen
No, it depends on the time they sign up during the quarter. Because we actually do the recognition of deferred revenue on a monthly basis.
So for example, if they sign up in the last month of quarter, not a lot of that storage revenues will be recorded. But if the storage revenue is recorded as a result of the service that we are being rendered, those will not be recognized as deferred revenue.
Deferred revenue, especially when it comes to classification, if they end up in noncurrent deferred revenue, it's not a revenue that we'll recognize within the course of the next 12 months.
Jeff Neal
Okay. Extending that a bit, you mentioned that roughly half, perhaps, chose an upfront – full upfront payment versus a series of payments over their following 18 years.
I think in your fourth quarter report, you broke that down, and it resulted in, of your fee payment options, approximately 0.5 in option 1, option 2 and under 5% in option 3. Did those choices or the split in revenue in new subscribers remain approximately the same in this quarter?
Albert Chen
I will say the number of new subscribers electing normal payment has gone up a little bit. So we're looking at basically about 52% of new clients who elected what we call a normal payment scheme.
And the normal payment scheme would involve paying the processing fees and then paying the first year of storage revenues and second year onward will be automatically deducted from the bank account. And then about 45% came from upfront payment.
When I say upfront payment, it means client who actually prepaid the 18 years of storage fees.
Jeff Neal
Yes. And for that, they receive a discount, correct?
Albert Chen
Correct.
Jeff Neal
Okay. My last question has to do with subscribers that you deem no longer able to pay.
They've effectively walked away from their contractual obligation. While you mentioned that impacts deferred revenue, would it be a correct conclusion that, that loss of that customer has no impact on cash balance?
Albert Chen
Let me rephrase it. When I say the impact on deferred revenue, I mean, for example, if a client decided to pay upfront on day 1, so they become new subscribers during the reporting quarter.
And then, let's say two, three years down the road, they – all of a sudden they decide that they don't want the service anymore, so we have to refund the amount that they previously prepaid, especially for those years that have not yet been recognized. Meaning that, for example, if they do sign a 30-year – I mean, I have not delivered 30-year storage services, and then, basically, from the third year to the 18th year, we will have to refund that amount back to the client.
That is what I mean refund and the impact on the deferred revenue. Yes.
Jeff Neal
Okay, all right. Thank you.
Operator
We’ll go next to [indiscernible].
Unidentified Analyst
Yes, good morning, Albert. We are a relatively new shareholder, and thank you for taking the time to spend with us this morning.
It's good to get this information. It's very helpful.
Can you comment on the effective exchange rate on the reporting of operations?
Albert Chen
As you know, majority of the operations or basically 100% of the operation took place within China. So – and I'll say, a decent amount of our raw material also sourced domestically as well.
So I will say that if there is, for example, a sudden depreciation in RMB, probably impact our raw material costs a little bit more. But other than the raw material costs are relating to the consumable, which we imported, I think most of the revenue and the cost items are RMB denominated.
And obviously, I mean, we decided to conduct a dividend or a share repurchase, because the currency that we remitted will be RMB based. So when we convert that, let's say, into U.S.
dollars, I mean, the depreciation in RMB will not be a beneficial factor in that case.
Unidentified Analyst
Okay. Thank you.
And just we wanted to reiterate the feedback you're getting with regard to the efficient use of cash. It's glad – and we're glad to see that the board is giving consideration to some kind of a share buyback program.
Albert Chen
We have done share repurchase program in the past, and the board has not ruled out the opportunity or the possibility of capital redistributions.
Unidentified Analyst
Okay, thank you. Thank you, Albert and good luck to you, as you continue to work hard.
Its good to see these strong numbers and we look forward to even better numbers next quarter. Good luck to you.
Thank you.
Albert Chen
We will try our very best and keep up the good work.
Operator
At this point, there appears to be no further questions. I'll turn the call back to Ms.
Kathy Bian.
Kathy Bian
Thank you, Jennifer. This concludes our earnings conference call for the first quarter of fiscal 2018.
Thank you all for your participation, and I am going to post a great day. Therefore, you may now disconnect.
Thank you.
Operator
This does conclude today's conference. We thank you for your participation.