Synthesis Energy Systems, Inc.
Robert W. Rigdon
TWST: The last time we spoke was in October 2010. At that time, you told us about Synthesis Energy's three main projects in China. Would you start by giving us an update on each of those projects?
Mr. Rigdon: The three key projects we discussed were our Zao Zhuang joint venture plant in Shandong Province, which is our first project in China, our Yima project, which at that time was in the early engineering stage, and a project we have been working on in Inner Mongolia, which has been in development since the 2007-2008 time frame. The Zao Zhuang joint venture plant, or ZZ, has been in operation for over three and a half years. I'll give you an update on these projects and provide you with more insight into additional opportunities that we are working in China and elsewhere.
With regard to the ZZ joint venture plant, we are the 95% shareholder in the ZZ plant. So we essentially own and operate the plant, while our partner, Hai Hua, owns the remaining 5%. Since the last time we talked, we continued to operate the Zao Zhuang project, up until the last quarter of last year. Today, the plant is idle while we are working out a revised commercial structure with our partner Hai Hua. The revised structure is intended to allow us to integrate Hai Hua's methanol unit, which is adjacent to our syngas plant, so that we can produce methanol from the facility more efficiently than what was done in the past, and therefore, improve the financial performance of the ZZ joint venture plant. In the three and a half years since the ZZ plant began operating, we have made very good progress in demonstrating the robustness of our U-GAS technology.
Also since we last talked, we've done some very important coal-testing campaigns for prospective customers where we have shipped in very challenging, low-quality coals from China and other parts of the world, such as Australia, and tested those coals in the ZZ plant. In every case, these challenging, low-quality coals performed very well in our U-GAS technology process. We have also demonstrated very high-operating availability of the ZZ plant. And since we last talked, we have installed some technical innovations that have further improved the efficiency of our technology in converting low-quality coals to syngas, giving us the one of the best coal conversion efficiency in the industry.
With these accomplishments at the ZZ joint venture over the last three and a half years, we believe we've done a very good job demonstrating the technology as well as our ability to operate the technology and implement it at a commercial scale. And now we are at a point where we want take definitive steps to further improve the financial profitability of the joint venture project as well as lay out the groundwork for scaling up the facility to a larger-scale operation, producing other products besides only methanol, such as glycol and other chemical and energy products.
To that end, over the last quarter of 2011 and through January 2012, we have collaborated with our partner Hai Hua to make progress toward achieving this goal. Recently, we agreed on a framework agreement with Hai Hua. This framework agreement lays out a plan to restructure the current joint venture, as I just mentioned, so that we would integrate their methanol plant and our syngas plant in a way that would make it much more financially capable. Also it lays out the expectation to expand the plant into glycol production, which would improve profitability and is an important scale-up step. In addition, there is a longer-term vision for SES, together with Hai Hua, to work with other parties in Shandong to build this general area where our two facilities are located into a larger-scale coal-to-chemicals and coal-to-energy facility. We would likely bring in other upstream and downstream partners to accomplish this type of large-scale expansion in the future.
Shifting from Zao Zhuang to our Yima project, you may recall that our Yima project is much larger than Zao Zhuang, approximately four to five times the size. So it's already scaled up. The project is designed to convert lower-quality sub-bituminous coal from one of Yima's coal mines in Henan Province into syngas, which would then be converted into glycol and methanol. That project was financially closed and released for engineering and construction in September 2009, and it remains on schedule for the syngas-generating portion of the plant to start up this summer. And then we expect to have methanol, and then later, glycol production coming on in the months afterward.
Yima is the 75% owner of this joint venture and we are the 25% owner. So Yima is managing and controlling that project, and we are, of course, providing all of the technology and technical support for getting the plant up and running, and we'll provide a lot of ongoing support for the operating plant. We're looking forward to starting production this summer. If you want to get a sense of the scope and scale of it, you can go to our Web site at www.synthesisenergy.com, where you can see photos that we update at least monthly.
Now, let me talk about the next major opportunity we are working on in China. You probably are very well aware that in March of last year we announced a strategic collaboration with a group in China called Zhongjixuan Investment Management Ltd., which we call ZJX. ZJX is a private company based in Beijing that has entered into a definitive agreement with SES to purchase shares of our stock representing approximately 42% of our outstanding shares post transaction at a price of $2.25 per share. There is also an option based on the achievement of some significant performance milestones for them to have the ability to achieve 60% ownership of SES in the future. They have a five-year window to achieve the performance milestones in order to be able to realize that option. Now, we are working together with the parties and are in the process of completing the steps to get it funded.
In the middle of last year, we and ZJX introduced this strategic collaboration to Yima. As we reported at the end of 2011, the parties to the proposed transaction continued to indicate their support for the investment. In a review session we held with ZJX, Yima and Yima's advisory team on the detailed activities required for closing, it was determined that an extension of the agreement to March of this year was necessary in order to allow time for Yima and its advisers to complete their due diligence and review of its proposed investment, including evaluating efficient structures for the proposed transaction.
As we have noted, Yima is a Chinese, state-owned company, and therefore, there are a number of internal processes and reviews, as well as government approvals that are required before they can complete their investment into China energy and then into SES. So the parties require additional time to complete the reviews, processes and government approvals necessary to make an investment into a foreign entity such as SES. We believe that each of the parties is taking this investment very seriously as evidenced by their diligence in working toward finalizing the deal.
The $84 million in proceeds are earmarked primarily for use in building out the China business platform for SES. Those funds would go into three key areas that are described in the definitive agreement for China projects: number one, building a business platform for converting coal to natural gas, in the gasification business, we call this SNG, meaning synthetic natural gas; second, a business platform for motor fuels from converting low-quality coals to methanol or gasoline fuels; and third, a business platform for converting low-quality coals into ammonia, which is used in the fertilizer industry, and then lastly, a platform for producing power through the clean conversion of low-quality coal through our technology. These are the four business verticals that are described in our agreement with ZJX. ZJX and SES will have to establish at least one of these verticals with a value on the order of $3 billion U.S. for the achievement of the milestone for the additional shares associated with the option, I just mentioned, and our shares must also be trading above $8 per share.
As I mentioned there is a five-year window to do this. This may sound like a very tall task, but when you really look at the scope and scale of projects being built in China, and particularly, in the energy sector such as SNG and motor fuels, this is achievable potentially with just one or two industrial park project commitments and implementation. So it's certainly doable, but it's very large scale and highly value accretive. This is our major undertaking in China and we believe there are a suite of opportunities available to those business verticals and many of them include projects in Inner Mongolia, specifically because Inner Mongolia is probably the region in China with the greatest amount of low-quality coal reserves. Now, that is the high-level view of our current status and plans in China.
TWST: For somebody who is getting to know the company and wants to get a better understanding of what the end game is, what are some of the most exciting and potentially lucrative end uses of its products and technologies?