Final Results

7 April 2011

Hydrodec Group plc

("Hydrodec", the "Company" or the "Group") 

Results for the 12 months ended 31 December 2010

The Board of Hydrodec Group plc, the cleantech industrial oil re-refining group (AIM:HYR), is pleased to announce the audited results for the year ended 31 December 2010.

Financial Highlights

·; Revenues increased 71% to US$17.8 million (2009: US$10.4 million)

·; Gross profit US$7.9 million (2009: US$3.7 million)

·; Gross margins increased to 44% (2009: 35%)

·; Operating loss reduced to US$6.7 million (2009: US$11.5 million)

·; Operating cash burn decreased to US$4.5 million (2009: US$8.8 million)

Operational Highlights

·; Sales volumes up 71% to 20.2 million litres (2009: 11.8 million litres) largely driven by increased US sales of SUPERfine oil

·; SUPERfine pricing up 13% Jan-Dec 2010

·; Current demand for re-refined oil continuing to outstrip production

·; Doubled US supplier base to 26, improving access to used oil feedstock supplies

·; Entered new geographic and industrial markets to leverage SUPERfine's growing brand recognition with environmental benefits, superior quality and value

·; Strengthened senior management team

·; Significant progress on Japanese joint venture with Kobelco Eco-Solutions of Kobe Steel group following signing of strategic alliance in early 2010 - with no direct impact from earthquake

Neil Gaskell, Chairman, commented: "The 2010 results mark a turning point in Hydrodec's prospects as the Company delivered a strong improvement in its operational and financial performance. We expect continued growth this year as demand for SUPERfine oil remains strong and industry fundamentals continue to strengthen. We are also working hard to remove supply bottlenecks which will further ramp up our plant throughput. As a result the Board looks to the future with confidence."

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Notes to Editors:

The Group's technology is a proven highly efficient oil re-refining and chemical process which is being initially targeted at the multi-billion US$ market for transformer oil used by the world's electricity industry. The Group takes spent oil, including polychlorinated biphenyl ("PCB") contaminated oil, as the primary feedstock, which is then processed at its two plants enabling 99 per cent or greater recovery of oil for reuse while also eliminating PCBs, a toxic additive banned under international regulations, without environmentally harmful emissions.

Chairman's Statement

2010 was a year of successful recovery and improvement for the Group after a very challenging 2009. The Group made significant progress, ending the year with its two plants running well and demand comfortably outstripping production. Volumes and revenues were both approximately 70 per cent up on 2009 and the improvement was sustained in the second half of the year with volumes and revenues both increasing approximately 15 per cent on the first six months despite constrained feedstock availability. This improved performance has continued into 2011 with year-to-date volumes substantially up on the same period last year.

The Group's margins improved significantly over 2009 but remain someway short of those typically achieved in the transformer oil market prior to the global financial crisis. During 2010 demand for transformer oil began to move back towards pre recession levels heralding a recovery in market pricing which has continued into 2011. The Board believes that our strengthened customer base combined with its feedstock supply initiatives mean the Group is well positioned to take advantage of the continuing recovery in 2011.

The Board and the executive management team were strengthened during the year with the appointment of Paul Manchester as Finance Director and Stephen Harker as Managing Director, Oils and Chemicals. Throughout the year significant emphasis was placed on furthering the improvement in finance monitoring and reporting systems. These efforts, in concert with ongoing development of operational management controls, have resulted in improved cash management and tighter management of capital.

I am confident that the business will continue to grow strongly as we develop further our existing business as well as realise our exciting plans for Japan. The Japanese strategic alliance took significant strides forward early in 2010 with the Japanese authorities approving the Hydrodec process and the formalising of the joint venture with Kobelco Eco Solutions, a unit of Kobe Steel. Preparations for the first plant construction are on track for production in 2012, while the size of the market opportunity, potential revenue and margins in Japan have been recently validated by independent commissioned research. The recent tragic events in Japan do not appear likely to have had any direct or discernable effect on the joint venture plans for the first plant which is still in its preparatory phase.

Neil Gaskell

Chairman

Chief Executive's Report

2010 was another year of significant progress for Hydrodec as it recovered from a difficult 2009 and continued to establish itself as an innovative provider of cleantech solutions to the world's industrial oil markets. However, this was against the background of continuing challenging market conditions and a fragile global economic recovery, impacting our overall result for the period.

Demand for the Group's SUPERfine branded oil continued to grow during the year as the environmental and economic benefits of our process, and technically premium product, gained wider acceptance in both existing and new geographic and industrial markets. The Group finished the year with demand outstripping production at both plants.

Turnover for the year increased by 71 per cent to US$17.8 million (2009: US$10.4 million), reflecting similar percentage uplift in sales volumes. Turnover of US$9.6 million and volumes of 10.8 million litres in the second six months exceeded the first half of US$8.2 million and 9.4 million litres respectively. This represents increases of 17 per cent and 15 per cent respectively and the Company expects further improvement in the first half of this year.

The strong ramp up in sales volumes and improving margins resulted in a reduction in the operating loss to US$6.7 million (2009: US$11.5 million) and in operating cash-burn to US$4.5 million (2009: US$8.8 million).

Operating review

Group sales volumes for the year were 20.2 million litres, compared with 11.8 million litres in 2009, with both our plants in Australia and the US operating reliably. SUPERfine pricing was up 13 per cent from January to December 2010 and gross unit margins increased significantly on 2009, up 77 per cent from US$0.22 per litre to US$0.39 per litre (excluding 2009 business interruption insurance proceeds).

Following intensive testing of SUPERfine our product was endorsed by new prestigious customers as technically one of the highest quality mineral transformer oils currently available in the US market. The number of active customers in the US has increased 50 per cent compared to this time last year. The goal is to further widen and deepen the portfolio of direct customers and indirect sales channels so that earnings are both increased and diversified.

The Group also benefitted from an improving customer mix by increasing sales to, and expanding its direct relationship with, major customers including US utilities and original equipment manufacturers (OEMs). We also secured new export customers in Brazil, Columbia, Dominican Republic and Peru and continue to develop potential new markets where pricing and payment terms are typically better than domestic US sales. 

We also expanded our addressable market by extending the SUPERfine brand into new agricultural and industrial oil applications. Diversifying product applications in this manner saw the Group begin to exercise improved pricing control over SUPERfine at the same time as lowering risk exposure to demand fluctuations in the transformer and power industries. 

The Group improved the efficiency and production of both plants through the year but the supply of feedstock remained a constraint on further volume growth and plant throughput. Even so, feedstock supplies increased by more than 50 per cent on the previous year, while the number of active feedstock suppliers in the US doubled during the year to 26. Hydrodec continues to implement a number of initiatives to improve sourcing, including potential imports.

The improving feedstock position is also due to the increasing interest in the environmental advantages of the Hydrodec process relative to other options for the used oil, such as fuel blending and incineration. The Group is seeing growing interest, particularly from utilities, in better environmental solutions that reduce their carbon footprint and is actively pursuing an initiative to further change utilities' behaviour in this field. During the year, Veolia Environmental Services, the international environmental services group, began to supply used oil to Canton from a number of different sources in the US. The Group expects this relationship to grow stronger following the expected grant of the US Environmental Protection Agency (EPA) permit to treat high-level PCB contaminated oil. We expect several other suppliers will also be attracted to this opportunity.

The Company is pleased to report that the EPA has informed it that the public notice in respect of the permit will be issued very shortly. This is the beginning of the final formal stages prior to the grant of the permit which, depending on any responses to the public notice, we would expect to receive within the next three to four months. In addition to opening up further feedstock volumes, the treatment of high-level PCB oil will positively impact margins as the used oil should be supplied at nil or low cost. The Group's access to this pool of contaminated oil will build gradually as suppliers are made aware of this new alternative means of treatment and Hydrodec's "one-stop shop" offering for all their used oil. 

Strategic alliance in Japan/Asia

In March 2010, we reached a strategic alliance agreement with Kobelco Eco-Solutions ("KES"), a unit of the Kobe Steel group, for an exclusive 50/50 joint venture to commercially exploit all Hydrodec technology applications and operations in Japan and East Asia. This was further formalised during the year through the establishment of a wholly-owned Japanese Hydrodec subsidiary which in turn has a 50/50 interest with KES in the local IP holding company.

We previously announced that, based on industry data, the estimated potential market for treatment of low level (below 50 parts per million) PCB-contaminated transformer oil in Japan alone is in excess of 1 billion litres, or US$1 billion in potential revenues. Demand for treatment is driven by Japan's world-leading regulations for the eradication of PCBs.  Recent independent research, jointly commissioned by Hydrodec and KES, has confirmed these market estimates as supportable and conservative.

A 12 month environmental base-line survey of the proposed site of the first plant has been completed. The respective boards of the JV partners will shortly consider final budget and financing plans for the first plant. Consideration is also being given to participation in a complementary business model whereby existing in situ contaminated transformer equipment is "washed" with PCB-free oil. This would involve using and re-refining oil a number of times throughout the process, generating scope for additional revenue for the JV. 

There does not appear to be any direct or discernible effect on the joint venture from the recent tragic events in Japan. As a result it remains on track to move from the planning to construction phase later this year with completion of the first plant expected in 2012 as announced previously.

Fundraisings

During the year the Company raised approximately £5m (gross) through the issue of, in aggregate, approximately 72 million new ordinary shares in placings carried out in March and September. 

Current trading and outlook

SUPERfine pricing has improved a further 15 per cent in the first three months of the year, reflecting a sustained period of market demand recovery against tight supply capacity. The Group is seeking to improve margins in this more favourable market dynamic.

Volumes are more than 50 per cent up on the same period last year and the Board expects that volumes and margins for the first half will exceed the previous six months as demand remains strong and feedstock supplies are improving. 

The Company is in discussions with potential sources of debt funding which would allow it to, inter alia, build its feedstock inventory during the coming months when availability typically improves in order to off-set the cash constraints of buying when feedstock is seasonally in shorter supply. This year, the seasonal effects of a harsh US winter on both feedstock supply and cost were exacerbated by the Australian floods which temporarily affected both feedstock supplies and sales, and restrained margins in what is historically the weakest quarter of the year. The US winter has a dual impact - limiting available feedstock supplies due to utilities' reduced maintenance schedules, while also increasing competitor demand for the reduced pool of used oil as heating fuel.

The impact of these feedstock constraints on budgeted volumes and cash-flow are such that the Board no longer expects the Company to achieve an operating cash surplus for the first half of 2011. Without the debt funding referred to above or other remedial measures, the Company could potentially face a tight cash position after it has met the interest payment on its loan notes at the end of June. However, the improving market conditions and operating performance of the Company provides the Board with reason to expect that the Company's financial and operational performance should continue to improve.

Mark McNamara

CEO

All transactions arise from continuing operations.

The financial statements were approved by the Board of Directors on 6 April 2011 and were signed on its behalf by:

Neil Gaskell

Chairman

Paul Manchester

Finance Director

1 Accounting policies

The group's principal activity is the commercialisation of the Hydrodec technology which is a patented technology for the re-refining of used transformer oil into new SUPERfineTM oil. Hydrodec Group plc is the group's ultimate parent company. It is incorporated and domiciled in England & Wales and situated at 120 Moorgate, London. The group's shares are listed on the Alternative Investment Market of the London Stock Exchange.

Basis of preparation

The financial information set out in this announcement does not constitute the group's statutory accounts, as defined in Section 435 of the Companies Act 2006, for the years ended December 31 2010, or December 31 2009, but is derived from the 2010 Annual Report. Statutory accounts for 2009 have been delivered to the Registrar of Companies and those for 2010 will be delivered in due course. The auditors have reported on those accounts; their reports were unqualified, however they included a reference to an emphasis of matter in 2010 with regard to going concern, and the reports did not contain statements under section 498(2) or 498(3) of the Companies Act 2006.

The accounting policies used in completing this financial information have been consistently applied in all periods shown. These accounting policies are detailed in the group's financial statements for the year ended 31 December 2009 which can be found on the group's website.

The group's consolidated financial statements are prepared in accordance with the principal accounting policies adopted by the group as set out below and International Financial Reporting Standards ("IFRS") and International Financial Reporting Interpretations ("IFRIC") as adopted for use in the European Union (EU), and with those parts of the Companies Act 2006 applicable to companies reporting under IFRS.

The preparation of financial statements in accordance with IFRS requires the use of estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Although these estimates are based on management's best knowledge of current events and actions, actual results may ultimately differ from those estimates.

Presentational currency

The group presents its financial statements in US dollars, as the group's business is influenced by pricing in international commodity markets which is primarily dollar based.

Going concern

The financial statements have been prepared on the going concern basis, which assumes that the group will have sufficient funds to continue in operational existence for the foreseeable future.

Currently, the group is dependent upon its two plants to produce sufficient SUPERfine oil at satisfactory margins to generate sufficient cash to meet the group's forecast requirements. The current economic climate is demanding and the group has reported an operating loss for the year. Margins are affected by, amongst other things, the world price for oil and demand for transformer oil which are beyond the directors' control. The plants are also reliant on satisfactory production rates which are dependent on the availability of sufficient feedstock, and at the appropriate cost. Sensitivity to change on both criteria have been assessed by the board. The directors consider that the outlook presents significant challenges in terms of both sales volume and pricing as well as input costs. Whilst the directors have instituted measures to preserve cash and are investigating additional debt funding, these market circumstances create material uncertainties over future trading results and cash flows.

The directors are satisfied that at projected production, sales and margin rates the group's operating cash flow requirements will be met, and the group will be able to continue in operational existence for the foreseeable future.

Key judgements in applying the group's accounting policies

In the process of applying the group's accounting policies, which are described in this note, management has not been required to make any judgements that have a significant effect on the amounts recognised in the financial statements (apart from those involving estimations, which are dealt with below).

Key sources of estimation uncertainty

The key assumptions concerning the future, and other key sources of estimation uncertainty at the balance sheet date, that have a significant risk of causing a material adjustment to the carrying amounts of assets and liabilities within the next financial year, are discussed below.

Amortisation of intangible assets and goodwill

The intangible assets carried forward relate to the intellectual property and goodwill acquired by the group in 2004, and through the acquisition of Virotec International plc and reclassification of a royalty prepaid in 2008. The original cost of £19.5 million is amortised over the estimated useful life of the asset. The intellectual property consists of know how and trade secrets relating to the technology, some of which is covered in a patent. It is management's view that the useful life of the intellectual property will extend far beyond the life of the patent (approximately 10 years) and for the purposes of calculating the period over which the costs are amortised it has been estimated that the cost will be amortised over 15 years.

Convertible loan notes

The fair value of the loan notes is lower than the net proceeds. Management have applied their judgment in estimating the fair value of the loan element and in posting the corresponding credit to equity on the basis that the debt holder has an equity interest in the company (note 6).

Impairment of goodwill and other intangibles

There are a number of assumptions management have considered in performing impairment reviews of goodwill and intangible assets. In determining whether goodwill and intangible assets are impaired, an estimation of value in use of cash generating units to which goodwill and other intangible assets are allocated is made. The value in use calculation requires the directors to estimate the future cash flows expected to arise from the cash generating unit and a suitable discount rate in order to calculate present value.

Useful lives of property, plant and equipment

Property, plant and equipment is depreciated over its useful life. The useful life is based on the management's estimates of the period that the assets will generate revenue, which are periodically reviewed for continued appropriateness. Changes to estimates can result in significant variations in the carrying value and amounts charged to the income statement in specific periods.

Going concern basis for preparation of the financial statements

Estimates and assumptions regarding future trading and cash flows have been made in appraising the going concern basis for preparing the financial statements, as set out in note 1.

2 Revenue and operating loss

Revenue and assets for both years are wholly attributable to the group's sole activity of the treatment of used transformer oil and the sale of SUPERfine oil, which are deemed to be continuing activities. Revenue in 2009 included loss of profits insurance proceeds totalling USD1,022,000 for heater failures which caused a temporary shutdown of the Canton refinery.

Geographic analysis

All revenue comprises amounts earned on amounts receivable from customers. During the year two customers in the USA each accounted for more than 10% of the group's total revenue. Revenue recognised during the year and the amounts outstanding at the year end in respect of those customers were as follows:

The loss on ordinary activities before taxation is stated after charging the following expenses:

Fees paid to the group auditors and its associates for non-audit services to the company itself are not disclosed in the individual accounts of Hydrodec Group plc because the company's consolidated financial statements are required to disclose such fees on a consolidated basis.

3 Interest payable

4 Tax

A deferred tax asset of approximately USD8,448,000 (2009: USD7,105,000) in respect of losses against future taxable profits is not recognised due to the uncertainty of future taxable profits.

5 Loss per share

The calculation of the basic loss per share is based on the loss attributable to ordinary shareholders divided by the weighted average number of shares in issue during the year.

The weighted average number of shares used in the calculations are set out below:

In 2009 and 2010, the share options were anti-dilutive and diluted earnings per share is the same as basic. The calculation of the weighted average number of shares excludes shares which are now held by a member of the group and in respect of which votes may not be cast at a general meeting and also shares held by the Employee Benefit Trust.

6 Non-current liabilities - borrowings

In November 2007, the company issued a £13.8m convertible loan note by private placement, convertible at the loan note holder's option into ordinary share capital of the company at a fixed price of 19p, subject to anti-dilutive conditions for subsequent share issues at below market price. Under the terms of the issue, the conversion price is revised for subsequent issues of share capital at discounts in excess of 10 per cent to the prevailing 5 day share price average.

At 31 December 2010, the current conversion price was 14.64p (2009: 17.65p) per share. Loan notes are convertible into ordinary shares at any time prior to 1 November 2012. Those elements not converted into shares by this date are repayable, at the company's determination, between 1 November 2012 and 31 October 2014.

Interest is charged at a fixed rate of 8% per annum on the value of the unconverted loan. Management recognise that the 8% interest rate is below market rate for this type of financial instrument and the fair value of the liability component was calculated using estimated interest rates for an equivalent non-convertible bond. The internal rate of return for the convertible bond has been assessed using comparable internal rates of return by the group for other income streams. The residual amount representing the equity conversion option, is included in the equity reserve in shareholders' funds.

During the year, no loan notes (2009: US$1,229,000) were converted into share capital of the company.

7 Share capital

The company issued the following 0.5 pence ordinary shares during the period:

VIN Australia Pty Ltd, a member of the group holds 54,500,000 ordinary shares in Hydrodec Group plc pursuant to the acquisition of Virotec International plc in 2008. Votes in respect of these shares, and a further 2,173,333 shares issued pursuant to that acquisition, may not be cast in a general meeting of Hydrodec Group plc and as such they are treated as if they were treasury shares on consolidation.