HaiKe Chemical Group Ltd.

UNAUDITED RESULTS FOR THE SECOND QUARTER AND SIX MONTHS ENDED 

30 JUNE 2008

HaiKe Chemical Group Ltd ("HaiKe" or the "Company"), the AIM quoted (AIM: HAIK) petrochemical, speciality chemical and biochemical business based in China, is pleased to announce its unaudited results for the second quarter ("2008Q2") and six months ended 30 June 2008 ("2008H1").

The results for the second quarter ("2007Q2") and six months ended 30 June 2007 ("2007H1"), which are set out below for comparative purposes, are those of the Company and its subsidiaries. 

First Half 2008 Highlights

• Total revenues increased 85% to US$ ("$") 317.5m (2007H1: $171.4m)

• Petrochemical revenues increased 98% to $266.8m (2007H1: $134.9m)

• Speciality chemical and biochemical revenues increased 39% to $50.7m (2007H1: $36.6m)

• Gross margin decreased to 3.6% (2007H1: 10.1%)

• Loss after tax of $1.0m (2007H1: profit of $8.4m)

• Loss after minority interests of $3.0m (2007H1: profit of $5.9m)

• Construction of the speciality chemical facilities completed

Second Quarter 2008 Highlights

• Total revenues increased 80% to $175.8m (2007Q2: $97.6m)

• Petrochemical revenues increased 90% to $150.1m (2007Q2: $78.8m)

• Speciality chemical and biochemical revenues increased 37% to $25.8m (2007Q2: $18.8m)

• Gross margin decreased to 2.4% (2007Q2: 8.6%)

• Loss after tax of $2.0m (2007Q2: profit of $4.5m)

• Loss after minority interests of $2.9m (2007Q2: profit of $3.3m)

As announced on 20 June 2008, the Company has decided that it will be moving to half yearly reporting with effect from this announcement.

Mr. Yang Xiaohong, Executive Chairman, said: 

"I am pleased to present our results for the second quarter and the first half of 2008. While these results reflect the current challenging market conditions that have been experienced by the Group, I would like to highlight that these conditions are beginning to improve.  The price of crude oil is steadily dropping from its record high in July 2008 and we have entered into a major production contract with Sinopec Shandong Petroleum Branch, a subsidiary of one of the largest Chinese state-owned oil companies, on 5 September 2008, I am confident that this will have a positive impact on our margins going forward.

Recognising its potential, and until there is a significant improvement in the market conditions being experienced in the petrochemical sector, our focus going forward will be on the development of our speciality chemical facilities and improving the flexibility and scale of our petrochemical activities. This will ensure the Company continues to increase both its speciality chemical sales and the manufacture of the Company's high-margin products. This is expected to benefit overall margins and ultimately profit." 

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First Half 2008 Results

Operating profit decreased 52% from $11.4m in 2007H1 to $5.5m in 2008H1, and the loss after tax was $1.0m (2007H1: profit after tax of $8.4m). The gross margin dropped from 10.1% in 2007H1 to 3.6% in 2008H1.  

Cost of sales increased from $154.1m in 2007H1 to $306.2m in 2008H1, reflecting the significant increase of material costs and sales volume. The incremental selling prices of the petrochemical products were lower than the increases in material costs for the petrochemical sector and this contributed to the lower gross margin and fall in profit in the first half. Conversely however, the shift towards the higher-margin speciality chemical and biochemical products resulted in an improved gross margin and profit for the chemical side of the business, with profit before tax for the speciality chemical and biochemical businesses increasing 51% to $6.6m (2007H1: $4.4m) and gross margin for these divisions increasing from 19.3% to 20.1%. Nonetheless, the reduction in the petrochemical margins still outweighed the increases in speciality chemical and biochemical margins and the overall gross margin declined to 3.6% in 2008H1 from 10.1% in 2007H1. 

Sales and distribution expenses increased 44% from $1.5m in 2007H1 to $2.2m in 2008H1 as a result of the increased freight charges and promotion costs resulting from the significant increase in sales of the speciality chemical products compared to the prior period. Other administrative expenses increased slightly from $3.6m in 2007H1 to $4.5m in 2008H1 as a result of additional personnel costs. Finance costs increased 85% from $3.2m in 2007H1 to $6.0m in 2008H1 due to the increase of the average loan balance and increase of the prime rate in China from 6.57% to 7.47% during the period. 

As a result of the above, operating profit decreased by $5.9m to $5.5m in 2008H1 from $11.4m in 2007H1. Profit before income tax also decreased from $8.4m in 2007H1 to a loss of $0.2m in 2008H1. 

The loss attributable to the shareholders of HaiKe in 2008H1 was $2.9m compared with a profit of $5.9m in 2007H1.

Basic and diluted loss per share were both US 7.5 cents in 2008H1, as compared with earnings per share of US 17 cents and US 16 cents in 2007H1, respectively.

Capital expenditure

Investment in property, plant and equipment increased from $19.0m in 2007H1 to $28.6m in 2008H1, mainly due to the construction works for the capacity expansion projects of dimethyl carbonate and caustic soda (in the speciality chemical segment). The Company incurred costs of $18.1m on the construction of the heavy oil catalytic cracking facility in 2007H1, which was completed in November 2007.

Cash flows

In 2008H1, cash used for operating activities amounted to $2.5m whereas the cash generated from operating activities amounted to $20.6m in 2007H1 in line with the decrease in operating profit.

The capital expenditure of $28.6m was mainly funded from the increase in bank borrowings, from $86.1m as at 31 December 2007 to $147.4m as at 30 June 2008. Within the Chinese banking system, it is common to provide bank borrowings on a short-term renewal basis to most non-government controlled enterprises. It is expected that the facilities will be renewed when they fall due.

Cash and cash equivalents increased from $24.3m as at 31 December 2007 to $42.9m as at 30 June 2008.

  Liquidity and financial risk

We believe that the Company has sufficient funds to meet foreseeable business requirements due to a number of factors including the entry into a major production contract with Sinopec Shandong Petroleum Branch on 5 September 2008, the fact that raw material costs are currently dropping, resulting in an anticipated improvement in market conditions in the petrochemical sector and the unutilised banking facilities of approximately $3m. Any surplus funds may be used for further investments, although we will not undertake any speculative treasury transactions.

Operational Review

During the first half of 2008, the petrochemical sector continued to experience challenging market conditions, with crude oil prices rising across the globe. The ongoing rise in oil prices continued to put pressure on the Company's residual oil and petrolatum oil feedstock and had a direct negative impact on overall petrochemical margins and profit. Unfortunately, in the first half, these reductions were not offset by increases in the selling prices of diesel products.  

The Board believes that there will be further changes in the domestic oil pricing policy by the Chinese government. These changes were partially carried out on 19 June 2008 when the guiding prices of refined products were increased by an average of 18%.  It is expected that further changes, as and when they occur, will allow the Company to sell certain refined products at higher prices, which will help to offset the reduction in margins and profit. 

As a result of the ongoing challenging market conditions within the petrochemical sector, the Company is increasing its focus on the speciality chemical sector. Despite the petrochemical business being the largest contributor to group revenue, the speciality chemical business is now the largest contributor to group profit. The focus for the Company going forward is therefore to increase speciality chemical production with selective production of petrochemical products, mainly focusing on higher-margin products to enhance profit.

The testing phase of the dimethyl carbonate and caustic soda expansion projects was completed in July 2008 and these facilities are expected to become fully operational during the third quarter. These facilities are expected to increase the percentage of sales coming from the speciality chemical business and increase the proportion of sales coming from high-margin products. 

The biochemical business, being part of the speciality chemical segment, remains the Company's smallest contributor to group revenue and profit, although revenue increased by 65% (from $1.3m to $2.2m) and gross profit increased by 62% (from $0.3m to $0.5m) compared to 2007H1. Although its results do not have a significant impact on the Group's overall results, the biochemical market is still a market where good gross margins can be achieved. In February 2008, there were several fatalities resulting from contaminated heparin-based products, which were being exported from China to the United States and Germany. Although HaiKe's products were not involved in these fatalities, . the Chinese government imposed a temporary restriction on the export of heparin-based products for the entire biochemical industry, which resulted in our lower than expected biochemical sales for 2008Q1. The temporary restriction applied to all exporters, even though our products did not breach any safety standards. The Company subsequently passed all quality assurance testing and the restriction was lifted in April 2008. Despite this temporary restriction, demand for our biochemical products was strong for the rest of the period during 2008H1.

Outlook

Market conditions for the petrochemical sector remain difficult but demand for our products continues to increase.  As a result of consistently high oil prices, and in the absence of further price adjustment notices for the refined oil products in China, the margins of the petrochemical side of the business reduced to a level at which those operations were not profitable. We therefore determined to carry out the essential maintenance of the refinery facilities in July and August 2008, which involved a complete shut-down of the refining operations to help reduce the Company's exposure to further risk.

Given that raw material costs are currently decreasing and the award of a major new contract with Sinopec Shandong Petroleum Branch, a subsidiary of one of the largest Chinese state-owned oil companies, on 5 September 2008, we reopened the refinery facilities on 4 September 2008.

The speciality chemical business is showing strong improvements on the comparable period last year and, again, we are continuing to experience increasing demand for our products. 

The focus for the second half of 2008 is to continue the expansion of the dimethyl carbonate and caustic soda production facilities whereby the new facilities will be completed in the third quarter of 2008. We continue to explore a number of other capacity expansion projects, in particular within the speciality chemical sector, together with other potential applications and revenue streams both in our existing and related new markets. 

We are confident of achieving further growth in revenues for the remainder of 2008 despite the high oil prices. We anticipate that this growth will be driven by our existing areas of business, including the speciality chemical business, and will be supported by increased domestic demand for all our products. In addition, we will continue to explore opportunities in the oil refinery business to ensure that we are operating with positive margins. 

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