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Tuesday, November 14, 2006

China Expert Technology (CXTI) Q3 and new contract

CXTI (combined links) released their 10-Q today and also a new contract award. They also had a conference call, but I'll get to that later.

First, the 10-Q (and comparing it to Q2):
Period ending Sept 30, 2006.
29 million shares on Sept 30, 2006. Add about 10 million to that for warrants and subsequent issued stock.

On the balance sheet, total assets increased by $8 million from Q2. This is mostly due to earnings, but also a drop in derivatives and warrants due to a drop in the stock price, and also $2.8 million additional paid-in capital (probably convertibles and warrants).
Cash jumped to $22.5 million from $13.0 million. $2.7 million net cash (i.e. strong balance sheet).
AR dropped to $21.5 million from $25.4 million.

Revenue up by all measures due to a bunch of contracts starting up.
Gross margins up to 52.0% (6.7% increase from prior year). Due to a higher mix of training and system maintenance, less subcontracting. See press release and results of operations in 10-Q (page 27).

$120 million cost and estimated earnings so far.
$115 million billed to customers.

Specifically, during the third quarter the Company recognized revenue from the 3rd and 4th Phases of Jinjiang, including systems and application training and maintenance contracts, the 3rd and 4th Phases of Dehua, the 1st and 2nd Phases of Nan'an and Huian.
Backlog (including the new contract today) is $119.2 million, down from $125.7 million in August. Page 25 has the table of contracts. ShiShi City is $37 million and it's just starting now. There's a gigantic contract for $31.2 million in "Licheng" starting Nov 2006 and ending Oct 2009. Nan'an has $15.2 million remaining (just started), and Huian has $9.7 million remaining (started this year). Most everything else is small.

Another huge "advertising" charge due to paying [in 1.1 million shares] what seems like essentially a sales commission for the ShiShi City contract. Considering that we would view the stock as cheap (otherwise we wouldn't own it), this seems like a huge payment.

Also a $1 million hit to earnings due to the liquidation damages covered in the previous CXTI post. Caused G&A jump to $1.2 million from $834K in Q2.

Despite all this, operating income increased over 100% from the prior year, although it was down from Q2.

Q3 operating income: $5.9 million
Q2 operating income: $6.4 million

Operating cash flow is greatly helped by the use of stock for currency, offset totally by the large increase in AR and estimated earnings in excess of billings. In reality, they didn't generate much cash from actual operations this year so far. I've said before that this is the nature of this business. It eats cash up front with long cycles. It's bad, but the nature of the business.

Capex is tiny again. In financing, they [net] repaid some money to a former officer. $1 million is due from Mr. Lai Man Yuk. $1.5 million is due to Mr. Lai Man Yuk. The 10-Q has the details of the rental agreement and intended acquisition.

There's $11.8 million in purchase obligations for agreements with subcontractors on page 33 due in less than one year.

Sept 15, 2006 legal issue with Montauk who's seeking $600K. I've covered it before.

Jan 10: 33K shares paid to debenture investors for interest
Jan 25: 1.2 million shares paid to consultant for winning Licheng City contract.
Apr 19: 31K shares paid to 3 [of 5] debenture investors for interest
June 8: 19K shares paid to 2 debenture investors (yeah yeah, I hope I remember it's two next time) for interest
July 11: 43K shares issued for interest
July 17: 1.1 million shares paid to consultant for winning ShiShi City contract (page 28) (I hope these aren't kickbacks, it says independent consultant...)

The total charged against income for these two big blocks of stock is around $5.5 million. That's a lot to pay for sales commission.

Feb 11: 150K warrants issued ($1.08 strike, 5 years) for consultant services.

Total of 6.6 million warrants outstanding, about 2 million have a strike of $3.06.

Oct 4: 44K shares issues for interest
Oct 31: 614 shares being paid to debenture holders

In Q2, the changes in value of derivatives caused a $3.8 million charge. In Q3, the changes boosted results up by $2.2 million. This makes net income meaningless from my perspective, which is why I don't like this method of accounting for the cost of the convertibles and warrants. But it's not like I have anything else that could be used.

If you average out the net income of the last two quarters, it becomes a lot more meaningful at around $3.2 million per quarter (making sure not to count the currency translation gains, which I believe will continue for some time). In my Q2 notes, I assumed 50 million totally diluted shares (this seems pessimistic). So by my own strange flavored accounting, I'd say they're earning around 6.4 cents per totally diluted share per quarter. If you annualize it and slap a P/E of 15 onto it, you'd get $3.84. I figure the stock is probably worth at least $4.00 per share.

I continue to own the stock.

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