Is China for you? The opportunities, the risks, the way
A two-part series looking at China opportunities from the project and investor point of view, as Cathay Industrial Biotech files for a $200 million NASDAQ IPO
Unless you have been hiding under a rock, you will not have failed to notice that China’s economy is, to put it mildly, on a tear the likes of which have not been seen since the rise of the US industrial complex in the Gilded Age of the late 1800s.
According to the 2010 China Statistical Yearbook, from 2005 to 2009 the gross domestic product of China grew at a compound annual growth rate of 16.5% and the domestic consumption of China grew at a compound annual growth rate of 13.0%.
China is rapidly approaching the point where it will become the largest importer of oil, and its rapidly increasing demand for oil and industrial chemicals is a concern for every Chinese leader focused on maintaining growth.
A combination of industrial biotech know-how, an array of biomass feedstocks (particularly lignocellulose), a strong and growing domestic market, and ready access to scale-up debt for scale-up through China’s steadier project finance system – well, it creates opportunities for scale-up that are remarkable, even compared to the significant progress for industrial biotech in the West.
So it should come as no surprise to even the casual observer of the field that companies like Cathay Industrial Biotech are dipping their toes into the New York capital markets to raise expansion equity. Even so, the plans dropped by Cathay this week – registering a $200 million IPO, aimed at a NASDAQ listing, are ambitious enough to command attention.
In a two-part series debuting today in the Digest, we will look at China, and opportunities therein.
Today, we’ll focus on the Cathay IPO, the 10th major industrial biotech filing of the Green Equity Bull Market of 2010-11, as a basis for understanding the market from the industrial point of view. On Monday, we feature an in-depth interview with Jonathan Glen, partner in Shanghai-based Diverso Management, and look at China’s market from the investor point of view, including Diverso’s decision, among its many clean-tech investments, to strongly back TMO Renewables as a play for the Chinese cellulosic ethanol market.
Acquire guanxi, build mianzi, make qiáncái
In short, we will look at how to acquire guanxi, build mianzi, make qiáncái – which, loosely translates as – acquire relationships, build reputation, and make money. Whether you are an expert in China, or a rank gwailo (or yang-guizi) – we think the market is evolving fast enough to take a fresh look.
Looking at Cathay Industrial Biotech: the background
From the S-1: “We are the world’s largest producer of biobutanol based on active production capacity in 2011, according to CMAI. Our biobutanol is currently used as an industrial solvent and as a chemical intermediate for the production of paints, resins, coatings, plasticizers, herbicides, pharmaceuticals and food grade extractants.
“Based on production capacity in 2010, we are also a leading global producer of bioprocess-based long-chain dicarboxylic acids, or LCDAs, which are used as chemical intermediates primarily for the production of nylon, plastics, adhesives, fragrances, lubricant and powder coatings.
“Our products are sold to a broad base of customers that includes both leading international companies, such as E.I. du Pont de Nemours and Company, or DuPont, Evonik Industries AG, International Flavors & Fragrances Inc., or IFF, Arkema SA, or Arkema, Novo Nordisk A/S, or Novo, and major China-based companies.”
CIB at scale
From the S-1: “We currently operate two commercial scale production facilities in China. Our biobutanol production facility in Jilin Province has an annual production capacity of 100,000 metric tons of biobutanol and co-products, including 65,000 metric tons, or 21 million gallons, of biobutanol and utilizes multiple continuous fermentation bioreactors, designed and constructed by our team in-house, at a scale of 1.8 million liters, or 475,000 gallons, per bioreactor.
“Our LCDA production facility in Shandong Province had an annual production capacity of approximately 12,000 metric tons at the beginning of 2011, approximately 13,500 metric tons as of March 31, 2011 and we are currently optimizing our production process to increase production capacity to 15,000 metric tons by the end of 2011.
“Our production facilities are strategically located in regions with access to feedstock and other key inputs, established logistics and energy infrastructure and local labor pool with a history of fermentation expertise.”
CIB technology and feedstock, today
Today, the company operates off the traditional ABE process that generates acetone, n-butanol and ethanol in a 3:6:1 ratio. Today, the feedstock is corn starch.
From the S-1: “Our commercial starch strain converted starch to biobutanol and co-products bioacetone and bioethanol, or ABE, with 37.74% yield in our 10 liter lab fermenters, which we have successfully scaled up to 37.45% yield in our 5,000 liter pilot fermenters and 37.45% yield in our 1.8 million liter production fermenters.”
CIB revenues and nets
From the S-1: “We have grown significantly since we first began commercial sales of our bioprocess-based products in 2003. Our total revenues amounted to $124.6 million in 2010, respectively. We incurred net losses of $2.1 million in 2010, respectively.
“In the three months ended March 31, 2011 our total revenues amounted to US$41.4 million, respectively. Our net loss for the three months ended March 31, 2011 was $0.9 million.”
Worth pointing out that the company nearly doubled revenues between Q1 2010 and Q1 2011.
Why raise equity?
From the S-1: “We are developing two key pipeline product candidates, Disodium Inosine-5′-monophosphate and Disodium Guanosine-5′-monophosphate, or I+G, and biobutanol using biomass as a feedstock. I+G is a food flavor enhancer that complements monosodium glutamate, or MSG. We expect to commence commercial sales of I+G by the end of the first half of 2012.
“We have developed bioprocess technologies to produce biobutanol from cellulosic biomass feedstock. We believe that using cellulosic biomass feedstock will significantly lower our production cost for biobutanol.”
Cellulosic n-butanol, at scale, in China. Ah-ha. That’s how they plan to make qiáncái.
Timelines and competitive advantages
From the S-1: “We believe our biobutanol production facility gives us an advantage over our competitors as it allows us to implement and test our cellulosic biomass feedstock technologies at commercial scale and conditions.
“At our biobutanol production facility in Jilin Province, we expect to begin pilot stage testing of our proprietary bioprocess technology for producing biobutanol from cellulosic biomass feedstock by the end of 2011. We also plan to begin construction of a cellulosic biomass processing facility adjacent to our current biobutanol production facility to commercialize biobutanol from cellulosic biomass.
“We plan to expand the annual production capacity at our biobutanol production facility to 200,000 metric tons of biobutanol and co-products, including 130,000 metric tons, or 42 million gallons, of biobutanol, in the future. In addition, we plan to complete construction of our I+G production facility in Jilin Province with an annual production capacity of 5,000 metric tons by the end of the first half of 2012.
“We plan to expand the annual capacity at our LCDA production facility to 20,000 metric tons by the end of 2012. We have also developed a proprietary bioprocess technology to manufacture LCDAs from renewable feedstock, or renewable LCDAs.”
Once more on that global butanol market.
We have covered biobutanol often, most recently with the rise of Gevo – but worth highlighting CIB makes n-butanol – more like Cobalt Technologies, vs the isobutanol made by Gevo and Butamax.
From the S-1: “Butanol is currently used as an industrial solvent and is a major ingredient in paints, coatings, adhesives and household cleaning products. The global market for butanol is expected to expand to US$5.9 billion in 2011, according to Nexant…this global market is expected to expand to approximately US$9.2 billion in 2015 according to Nexant.”
The advantages of China, as CIB sees them
From the S-1: “End-market. China is the largest and one of the fastest growing end-market for certain petrochemical products globally, according to CMAI. Our China-based operations, established local sales network and domestic sales relationships enable us to tap into this demand pool in a highly cost efficient and effective way.
“Cost. The majority of our personnel and operations are based in China, enabling us to benefit from low labor costs and low production facility construction and material costs, reducing our capital expenditure requirements and ongoing operating costs.
“Biomass and fermentation expertise. China has an established cellulosic biomass processing industry converting corncobs to xylose and furfural. China also has a long history in fermentation-based technologies and is the world leading producer of major fermentation products such as citric acid, MSG and lysine. This provides us with access to a large pool of experienced personnel in research and development, production facility construction and operations and feedstock logistics.”
The availability of biomass
From the S-1: “Cellulosic biomass from corn consists of corncob and corn stover. According to the China Statistical Yearbook, Jilin Province in northeast China produced approximately 18 million, 21 million and 18 million metric tons of corn in 2008, 2009 and 2010, respectively.
“Corncobs are currently being collected in Jilin Province on a commercial scale for cellulosic biomass based production of xylose, an intermediate of xylitol, a sweetener, and furfural, a specialty chemical intermediate.
“Based on our technology parameters as of March 31, 2011, we expect to require less than 0.7 million metric tons of cellulosic biomass if we produced 100,000 metric tons of ABE from cellulosic biomass in our production facility in Jilin Province, which represents approximately 3.9% of the cellulosic biomass produced in Jilin Province in 2010, assuming one ton of cellulosic biomass is produced for every ton of corn.”
The Risks, translated
As an investor, you know the rule of thumb – invest in what you know. China is not the first place to begin violating that cardinal rule. It’s opaque as you-know-what to the uninitiated. Here are some risks to consider, from the CIB S-1, relating to doing business in China.
From the S-1: Uncertainties with respect to the PRC legal system could have a material adverse effect on our business, financial condition and results of operation….Adverse changes in political and economic policies of the PRC government could have a material adverse effect on the overall economic growth of China, which could reduce the demand for our products and materially and adversely affect our competitive position.
Translation: China is transitioning – to what, you will be among the last to know.
From the S-1: PRC regulation of loans and direct investment by offshore holding companies to PRC entities may delay or prevent us from using the proceeds we receive from this offering to make loans or additional capital contributions to our PRC operating subsidiaries and affiliated entities, which could materially and adversely affect our liquidity and our ability to fund and expand our business.
Translation: It may be hard to get the money into China in the way we intended.
From the S-1: PRC government restrictions on the convertibility of Renminbi may limit our ability to effectively utilize our revenues and funds….We face uncertainty with respect to indirect transfers of equity interests in PRC resident enterprises by their non-PRC holding companies.
Translation: And you thought getting the money in was tough, just try to get the money out.
From the S-1: Our global income and the dividends that we may receive from our PRC subsidiaries may be subject to PRC taxes under the New EIT Law, which would have a material adverse effect on our results of operations.
Translation: Stick ’em up, this is a hold-up.
From the S-1: The enforcement of the Labor Contract Law and other labor-related regulations in China may adversely affect our business and our results of operations.
Translation: Those fabulous labor conditions that make the ABE process profitable in China, may go away.
On risks in general, have a look at, “This is Guangxi in China and You Ain’t Got It,” a post from David Wolf on his Silicon Hutong blog.
Winner, or loser? The Digest’s Take
We sure like China, and biobutanol – not only for the chemicals markets, but the fuels markets. There is yawning amounts of demand in China. It all comes down to technology, and belief in the company’s ability to expand into lower cost-feedstocks, based on the move into cellulosics. And, the relationships to make that happen in a timely manner, at scale, affordably.
For the seasoned China investor, winner. For the China newbie, buy a taste, watch the 10-Qs and 8-Ks closely, and get experience. Red, in China, is the color of good fortune, and so when they say “The East is Red,” they are not kidding. Or as we say, when looking at the pace and returns from cellulosic development in the West, better red than dead.
Category: Fuels
