The Chinese vendor, which issued a first-half profit warning in early July, reported net income of 373.5 million renminbi (US$46.9 million) for the six months to June 30, down nearly 46 percent year-on-year. The EPS (earnings per share) was RMB0.39, compared with the RMB0.72 reported in the first half of 2005. (See ZTE Warns on Profits.)
A sizeable chunk of that profit came from government subsidies, which accounted for RMB211.9 million ($26.6 million) in the first half of the year. While such income was a welcome boost, questions have been raised about the ongoing levels of subsidies -- including tax refunds and government grants –- that ZTE will receive. The subsidy issue, plus the ongoing battle against chief rival Huawei Technologies Co. Ltd. and increasing competitive pressures abroad as well as at home, have caused concerns for ZTE's investors. (See Pressure Piles on Huawei, ZTE.)
While the latest numbers hardly affected the vendor's stock, as a profit warning had already been issued, the share price has fallen notably in recent months. Despite climbing HK$1.60 today to HK$27.35 (US$3.52), it's down nearly 17 percent from the HK$32.80 (US$4.22) price achieved in early April. Today's closing price, though, is also a considerable improvement from June's low of HK$21.80 (US$2.80).
While profits were down, first-half revenues were up slightly, by about 1.8 percent, to RMB10.49 billion ($1.32 billion), thanks to a ramp in sales outside Asia/Pacific, as Table 1 shows.
Table 1: Geographic Mix of ZTE Revenues
|RM = renminbi||H1 2006 Revenues||As a % of total||H1 2005 revenues||H1 2005 as a % of total|
|People's Republic of China (PRC)||RM6.53 billion||62.20%||RM7.2 billion||69.50%|
|Asia (excluding PRC)||RM1.75 billion||16.70%||RM1.99 billion||19.30%|
|Africa||RM1.42 billion||13.50%||RM1.04 billion||10.10%|
|Others||RM798 million||7.60%||RM115 million||1.10%|
|Total||RM10.49 billion||100%||RM10.3 billion||100%|
International revenues (all revenues outside China) were up nearly 26 percent to RMB3.96 billion ($497 million), and the company continues to invest in its global operations, including a foray into North America, where, it says, it has been making a push with its CDMA infrastructure and handsets, broadband access, and fixed-line terminal products. "Business relationships have been established with carriers," states the vendor in its filing. (See ZTE, Telus Sign and Huawei, ZTE Ramp Up IP Access.)
However, domestic revenues were down year-on-year in a period when, according to numbers from China's Ministry of Information Industry (MII) cited by ZTE, telecom capital expenditure in the country was up by more than 9 percent to RMB84.87 billion ($10.66 billion).
ZTE says the domestic slump is due primarily to a shift in carrier spending ahead of the award of 3G licenses, which could come any time in the next 18 months. Ahead of their investments in 3G networks, China's mobile operators have scaled back spending on legacy technologies such as CDMA and PHS, which have generated significant sales for ZTE in the past.
There are expectations, though, that the imminent green light for 3G network builds from the Chinese government will spark a major wave of new capital investment, and that ZTE will be among the beneficiaries. The company says it has products suitable for all three potential 3G network types -- WCDMA, CDMA EVDO, and China's own flavor of 3G, TD-SCDMA.
In terms of product lines, both the wireless equipment and handset business units noted sales reductions in the first half of this year, but that was offset by increases in wireline, optical and data, and, most notably, software, services, and other products (including fixed-line terminals and modems), which increased nearly 75 percent year-on-year, as Table 2 shows.
Table 2: ZTE Revenues & Costs by Product Line
|RM = renminbi||H1 Revenues||% change over 2005||H1 Costs||% change over 2005||Gross profit margin|
|Wireless equipment||RM3.51 billion||-25.20%||RM1.94 billion||-20.40%||44.40%|
|Wireline equipment||RM1.07 billion||49.20%||RM683 million||81.10%||36%|
|Optical and data equipment||RM1.71 billion||14.70%||RM1.22 billion||24.80%||28.10%|
|Handsets||RM2.13 billion||-3.60%||RM1.59 billion||-19.90%||25.20%|
|Software, services, and other products||RM2.06 billion||74.60%||RM1.39 billion||114.80%||31.80%|
|Total||RM10.49 billion||1.80%||RM6.83 billion||6.30%||34.50%|
That table also shows why profits shrank despite slightly higher revenues. ZTE's costs increased by 6.3 percent in the first half of the year to RMB6.83 billion ($858 million), sending the vendor's gross margin for the period down to 34.5 percent from 36.7 percent a year earlier.
But there's no letup in ZTE's international expansion and R&D plans, which are seen by management as key to securing the vendor's place as a major player in the next-generation networks market.
And to help fund that vision, the company's board has approved plans to apply for loans and credit facilities worth $2.58 billion -- RMB15.35 billion ($1.93 billion) from eight Chinese banks and a further $650 million credit from another three Chinese financial institutions -- during the second half of the year to "provide strong financial coverage for the company’s business development."
ZTE needs those facilities to ensure it doesn't come unstuck, as its balance sheet shows some unhealthy trends. Cash reserves dropped to just short of RMB3 billion ($377 million) at June 30, down from RMB5.57 billion ($700 million) at the end of 2005, while moneys owed, recognized under the "bills receivables" and "trade receivables" lines, shot up to RMB6.34 billion ($797 million) from RMB4.68 billion ($588 million) at the end of 2005.
In addition, the company's inventories rose in value to RMB2.87 billion ($360 million) from RMB2.52 billion ($316 million) in the same period.
— Ray Le Maistre, International News Editor, Light Reading