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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
AMENDMENT NO.1 TO
FORM 10-KSB
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934.
For the fiscal year ended December 31, 2004
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT
OF 1934.
For the transition period from to
Commission file Number 000-33123
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CHINA AUTOMOTIVE SYSTEMS, INC.
(Name of Small Business Issuer in Its Charter)
Delaware 33-0885775
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(State or other Jurisdiction (I.R.S. Employer
of Incorporation) Identification No.)
No. 1 Henglong Road, Yu Qiao Development Zone
Shashi District, Jing Zhou City Hubei Province
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(Address of Principal Executive Offices) (Zip Code)
(86) 7168329196
(Issuer's Telephone Number, Including Area Code)
SECURITIES REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT:
Name of Each Exchange
Title of Each Class on Which Registered
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1
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT:
COMMON STOCK
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(Title of Class)
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(Title of Class)
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the Company was required to file such reports), and (2) has
been subject to such filing requirements for past 90 days.
Yes [X] No [ ]
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B is not contained in this form, and no disclosure will be
contained to the best of Company's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-SKB. [X]
State issuer's revenue for its most recent fiscal year $ 58,185,845
State the aggregate market value of the voting and non-voting common
equity held by no-affiliates computed by reference to the price at which the
common equity as sold, or the average bid and asked price of such common equity,
as of a specified date within the past 60 days. $29,140,288.35 based on a
closing bid price of $9.65 on March 16, 2005.
APPLICABLE ONLY TO CORPORATE COMPANIES
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date. As of March 16, 2005 there
were 22,574,542 shares outstanding.
Transitional Small Business Disclosure Format (check one): Yes [ ] No [X]
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China Automotive Systems, Inc., (the "Company") is amending its Annual
Report on Form 10-KSB to include the signature of Schwartz Levitsky Feldman LLP
in its letter to the Company's Board of Directors and Stockholders. This
signature was omitted from the Form 10-KSB of the Company filed on March 31,
2005 due to clerical error. The Company has made no other changes in this
Amendment No. 1.
CHINA AUTOMOTIVE SYSTEMS, INC.
FORM 10-KSB
INDEX
Page
----
PART I
Item 1. Description of Business...........................................
Item 2. Description of Property...........................................
Item 3. Legal Proceedings.................................................
Item 4. Submission of Matters of a Vote of Security Holders...............
PART II
Item 5. Market for Company's Common Equity, Related Stockholder
Matters and Small Business Issuer Purchases of Equity Securities....
Item 6. Management's Discussion and Analysis of Financial
or Plan of Operation................................................
Item 7. Financial Statements..............................................
Item 8. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure.................................
Item 8A. Controls and Procedures...........................................
PART III
Item 9. Directors and Executive Officers of the Registrant................
Item 10. Executive Compensation............................................
Item 11. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters.....................................
Item 12. Certain Relationships and Related Transactions....................
Item 13. Exhibits, List and Reports on Form 8-K............................
Item 14. Principal Accountant Fees and Services............................
3
Signatures...................................................................
Financial Statements.........................................................
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
This Annual Report on Form 10-KSB contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, and Section 21E
of the Securities Exchange Act of 1934. These statements relate to future events
or the Company's future financial performance. The Company has attempted to
identify forward-looking statements by terminology including "anticipates,"
"believes," "expects," "can," "continue," "could," "estimates," "expects,"
"intends," "may," "plans," "potential," "predict," "should" or "will" or the
negative of these terms or other comparable terminology. Such statements are
subject to certain risks and uncertainties, including the matters set forth in
this report or other reports or documents the Company files with the Securities
and Exchange Commission from time to time, which could cause actual results or
outcomes to differ materially from those projected. Although the Company
believes that the expectations reflected in the forward-looking statements are
reasonable, the Company cannot guarantee future results, levels of activity,
performance or achievements. Undue reliance should not be placed on these
forward-looking statements which speak only as of the date hereof. The Company's
expectations are as of the date this Form 10-KSB is filed, and the Company does
not intend to update any of the forward-looking statements after the date this
Annual Report on Form 10-KSB is filed to confirm these statements to actual
results, unless required by law.
BUSINESS
COMPANY HISTORY
China Automotive Systems, Inc. ("China Automotive" or the "Company") was
incorporated in the State of Delaware on June 29, 1999 under the name
Visions-In-Glass, Inc. and was principally engaged in the business of designing,
marketing and selling custom-designed stained glass, leaded glass artifacts and
leaded glass windows through a Web site. From August 23, 2002, through March,
2003, the Company had no business operations.
Pursuant to a Share Exchange Agreement dated as of March 5, 2003, among
Yarek Bartosz, Guofu Dong ("Dong"), Liping Xie ("Xie"), Qizhou Wu ("Wu"), Yiu
Wong Tse ("Tse"), Hanlin Chen ("Chen" together with Dong, Tse, Wu and Xie, the
"Sellers") and Great Genesis Holding Limited, a corporation organized under the
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laws of the Hong Kong Special Administrative Region, China ("Genesis"), the
Company acquired (the "Acquisition") from the Sellers all of the issued and
outstanding equity interests of Genesis (the "Genesis Shares"). As consideration
for the Genesis Shares, the Company issued 20,914,250 shares of common stock to
the Sellers. After the Acquisition, the Company continued the operations of
Genesis. Genesis owns all of the capital stock of Jilong Enterprises Investment
Corp. Ltd., a Hong Kong Company ("Jilong"). Jilong in turn owns interests in
four Sino-joint ventures, which manufacture power steering systems and/or
related products for different segments of the automobile industry in China.
According to the China National Information Center, in 2004 the combined sales
of the Sino-joint ventures ranked second in their industry sector, with a market
share of 13.7%.
Effective March 10, 2003, Hanlin Chen, Guofu Dong, Liping Xie, Qizhou Wu,
and Yiu Wong Tse began serving their terms as members of the Company's Board of
Directors. The newly elected directors appointed Hanlin Chen as the Chief
Executive Officer and Chairman of the Board of Directors, Qizhou Wu as the Chief
Operating Officer and Daming Hu as Chief Financial Officer.
On May 19, 2003, the Company changed its name from Visions-In-Glass, Inc.
to China Automotive Systems, Inc.
On August 1, 2004, the Company divested its non-core business, exchanging 51%
equity of Jingzhou Henglong Fulida Textile Co., Ltd. for 2.5% equity of Jingzhou
Henglong Automotive Parts Co. Limited.
BUSINESS OVERVIEW
Unless the context indicates otherwise, the Company uses the terms "the
Company", "we,", "our" and "us" to refer to both its predecessor, Genesis and
China Automotive collectively on a consolidated basis, but such terms do not
include the Jingzhou Henglong Fulida Textile Co., Ltd. The historical financial
statements for the periods prior to the Acquisition and summaries thereof
appearing in this report are those of Vision and Genesis and represent the
combined financial statements of the Company. The Company is a holding company
and has no significant business operations or assets other than its interest in
Genesis. Through Genesis, the Company manufactures power steering systems and
other component parts for automobiles. All operations are conducted through four
Sino-foreign joint ventures in China. Set forth below is an organizational
chart.
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China Automotive Systems
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|
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(100%)
Great Genesis Holdings Limited
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|
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(100%)
Ji Long Enterprise Investment Limited
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|
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| | | |
------------------------- ------------------------ ------------------------------------ -----------------------
(44.5%) 81% 70% (51%)
Jinzhou Henglong Shashi Jiulong Power Shenyang Jinbei Henglong Zhejiang Henlong & VIE
Automotive Parts Co. Ltd. Steering Company Limited Automotive Steering Pump Company Limited
("Henglong") ("Jiulong") Systems Company Limited ("Shenyang") ("Zhejiang")
------------------------- ------------------------ ------------------------------------ -----------------------
Source: Company data, unless the context indicates otherwise.
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Jingzhou was formed in February 2003, with 51% owned by Jilong and 49%
owned by Cixi City Fulida Synthetic Fibre Co., Ltd. ("Cixi"). The highest
authority of the joint venture is the Board of Directors, which is comprised of
seven directors, four of which (57%) are appointed by the Company and three of
which (43%) are appointed by Cixi. Pursuant to the Joint Venture Agreement,
unanimous approval of the Board of Directors is required for any decisions
concerning issues such as amendments to the articles of incorporation,
termination or dissolution of the joint venture, increase or decrease in
registered capital, guaranties, share transfers, mergers and consolidations, and
formation of a subsidiary. As for other operating matters, approval of more than
two-thirds of the members of the Board of Directors (67%) is required. The
Chairman of the Board of Directors is appointed by the Company. The general
manager is appointed by Cixi. Jingzhou's business have been divested since
August 31, 2004.
Zhejiang was formed in 2002, with 51% owned by Great Genesis and 49% owned
by Zhejiang Vie Group ("ZVG"). The highest authority of the joint venture is the
Board of Directors, which is comprised of seven directors, four of which (57%)
are appointed by the Company and three of which (43%) are appointed by ZVG.
Pursuant to the Joint Venture Agreement, unanimous approval of the Board of
Directors is required for any decisions concerning issues such as amendments to
the articles of incorporation, termination or dissolution of the joint venture,
increase or decrease in registered capital, guaranties, share transfers, mergers
and consolidations, and formation of a subsidiary. As for other operating
matters, approval by more than two-thirds of the members of the Board of
Directors (67%) is required. The Chairman of the Board of Directors is appointed
by ZVG. The general manager is appointed by the Company.
Henglong was formed in 1997, with 42% owned by Jilong, 34% owned by Hubei
Wanlong Investment Co., Ltd. ("HBWL"), 12% owned by Jingzhou Jiulong Machinery
and Electronic Manufacturing Co., Ltd. ("JLME"), 7% owned by Jiangling
Tongchuang Machinery Co., Ltd. ("Jiangling") and 5% owned by Shanghai Tianxiang
Automotive Parts Co., Ltd. ("Shanghai").
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The highest authority of the joint venture is the Board of Directors, which is
comprised of seven directors, four of which (57%) are appointed by the Company,
two of which (29%) are appointed by HBWL, and one of which (14%) is appointed by
JLME. Pursuant to the Joint Venture Agreement, unanimous approval of the Board
of Directors is required for any decisions concerning issues such as amendments
to the articles of incorporation, termination or dissolution of the joint
venture, increase or decrease in registered capital, guaranties, share
transfers, mergers and consolidations, and formation of a subsidiary. As for
other operating matters, approval by more than two-thirds of the members of the
Board of Directors (67%) is required. Both the Chairman of the Board of
Directors and the general manager are appointed by the Company.
Jiulong was formed in 1993, with 49% owned by Jilong, 20% owned by
Jingzhou Jiulong Machinery and Electronic Manufacturing Co., Ltd. ("JLME"), 21%
owned by Xiamen Joylon Co., Ltd. ("Joylon") and 10% owned by Jingzhou Tianxin
Investment Consulting Co., Ltd. ("Tianxin"). The highest authority of the joint
venture is the Board of Directors, which is comprised of seven directors, four
of which (57%) are appointed by the Company, two of which (29%) are appointed by
JLME, and one of which (14%) is appointed by Joylon. Pursuant to the Joint
Venture Agreement, unanimous approval of the Board of Directors is required for
any decisions concerning issues such as amendments to the articles of
incorporation, termination or dissolution of the joint venture, increase or
decrease in registered capital, guaranties, share transfers, mergers and
consolidations, and formation of a subsidiary. As for other operating matters,
approval by more than two-thirds of the members of the Board of Directors (67%)
is required. The Chairman of the Board of Directors is appointed by the JLME.
The general manager is appointed by the Company.
Shenyang was formed in 2002, with 25% owned by Jilong, 30% owned by
Henglong, 28% owned by Shenyang Jinbei Automotive Industry Co., Ltd. ("JB
Industry"), and 17% owned by Shengyang Automotive Industry Investment
Corporation ("JB Investment"). The highest authority of the joint venture is the
Board of Directors, which is comprised of seven directors, four of which (57%)
are appointed by the Company, two of which (29%) are appointed by JB Industry,
and one of which (14%) is appointed by JB Investment. Pursuant to the Joint
Venture Agreement, unanimous approval of the Board of Directors is required for
any decisions concerning issues such as amendments to the articles of
incorporation, termination or dissolution of the joint venture, increase or
decrease in registered capital, guaranties, share transfers, mergers and
consolidations, and formation of a subsidiary. As for other operating matters,
approval by more than two-thirds of the members of the Board of Directors (67%)
is required. Both the Chairman of the Board of Directors and the general manager
are appointed by the Company.
As a result of the foregoing board structures and the divestiture of
Jingzhou, each of the minority partners of Zhejiang, Jingzhou, Henlong, Jiulong
and Shenyang had the right to approve major operating decisions of their
respective joint ventures because the Company's representatives on the Boards of
Directors of the joint ventures did not account for the requisite 67% of voting
control required to approve various operating matters, which allowed the
minority partners to participate in the operations of the management of the
respective joint ventures. As such, the Company accounted for its
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interest in these joint ventures under the equity method before January 1, 2003
pursuant to EITF 96-16.
The minority partners of each of the joint ventures are all private
companies not controlled, directly or indirectly, by any PRC municipal
government or other similar government entity.
Henglong and Jiulong are mainly engaged in the production of rack and
pinion power steering gears and integral ball and nut power steering gears for
cars and light and heavy-duty vehicles. Shenyang and Zhejiang were established
in 2002 for the production of power steering parts and power steering pumps.
The Company has long-term business relations with more than fifty vehicle
manufacturers, among them are FAW Group and Dongfeng Auto Group, two of the five
largest automobile manufacturers in China; Shenyang Brilliance Jinbei Co., Ltd.,
the largest van manufacturers in China; Cherry Automobile Co., Ltd, the largest
state owned car manufacturer in China, and Geely Automobile Co., Ltd., the
largest private owned car manufacturer. In 2004, the Company signed a one-year
sales contract with SAIC GM Wuling Co., one of the Sino-Foreign joint ventures
invested by GM.
The Company currently owns two trademarks on automobile parts and twelve
Chinese patents for power steering technology. The Company is in the process of
integrating new advanced technologies such as electronic chips in power steering
systems into its current production line and is pursuing aggressive strategies
in technology to maintain a competitive edge within the automobile industry. In
2001, the Company signed a Licensing Agreement with Bishop Steering Technology
Ltd, a leader in automotive steering gear technology innovation. In 2003, the
Company signed a Technology Transfer Agreement with Namyang Ind. Co. Ltd., a
leading steering column maker, for the technology necessary for electronic power
steering (EPS) systems.
Responding to the trends of environmental protection, safety, energy
saving and electronicalization, in 2003, the Company established a steering
systems research institute with Tsinghua University, designed to develop the
Electronic Power Steering (EPS) and Electronic Hydraulic Steering System (EHPS).
In January 2005, the Company entered into a ten-year Technology License
Agreement with Korea Delphi Automotive Systems Corporation ("KDAS") to
manufacture KDAS's M150/M200 model automotive steering systems. These systems
will be utilized in GM Daewoo Auto & Technology Company's Matiz vehicle.
STRATEGIC PLAN
The Company's short to mid-term strategic plan is to focus on both
domestic and international market expansion. To achieve this goal, the Company
will focus on brand recognition, quality control, decreasing costs, research and
development and strategic acquisitions. Set forth below are the Company's goals:
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- Brand Recognition. Under the Henglong and Jiulong brands, the Company
offers four separate series of power steering sets and 307 models of power
steering sets, steering columns, steering oil pumps and steering hoses.
- Quality Control. The Henglong and Jiulong manufacturing facilities
passed the ISO/TS 16949 System Certification process in January 2004, a well
recognized quality control system in auto industry developed by TUVRheindland of
Germany.
- Decrease Cost. By improving the Company's production ability and
enhancing equipment management, optimizing the process and products structure,
perfecting the supplier system and cutting production cost, the Company's goal
is to achieve a more competitive profit margin.
- Research and Development. By partnering with Bishop Steering Technology
Limited for the development of advanced steering systems, the Company's
objective is to gain increased market share in China.
- International Expansion. The Company has established contacts with
several international vehicle manufacturers and auto parts modules suppliers and
are in preliminary negotiations regarding future development projects.
- Acquisitions. The Company is exploring opportunities to create long-term
growth through new ventures or acquisitions of other auto component
manufacturers. The Company will seek acquisition targets that fulfill the
following criteria:
- companies that can be easily integrated into product
manufacturing and corporate management;
- companies that have strong joint-venture partners that would
become major customers; and
- companies involved with power steering systems, oil pump or
engine-cooling systems.
CUSTOMERS
The Company's ten largest customers represent 73.1% of the Company's total
sales. The following table sets forth information regarding the Company's ten
largest customers.
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List of Major Customers
Percentage of
Name of Customer Total Revenue
Brilliance China Automotive Holdings Limited 19.2%
Beiqi Foton Motor Co., Ltd. 16.2%
Dongfeng Auto Group Co., Ltd 10.9%
China FAW Group Corporation 7.2%
CHERY AUTOMOBILE CO., Ltd 4.3%
Great Wall Motor Company Limited 4.3%
Zhejiang Geely Holding Co., Ltd 3.7%
Shanxi Heavy Auto Co., Ltd 2.8%
Southeast (Fujian) Auto Industry Co., Ltd 2.3%
Hebei Zhongxing Auto Co., Ltd 2.2%
SALES AND MARKETING
The Company's sales and marketing team has 60 sales persons. In addition
to an OEM team and a sales service team established in 2003, the Company
established in 2004 a working group to dedicate itself to international
business. These sales and marketing teams provide a constant interface with the
Company's key customers. They are located in all major vehicle producing regions
to more effectively represent the Company's customers' interests within the
Company's organization, to promote customer programs and to coordinate customer
strategies with the goal of enhancing overall customer service and satisfaction.
The Company's ability to support its customers is further enhanced by its broad
presence in terms of sales offices, manufacturing facilities,
engineering/technical centers and joint ventures.
DISTRIBUTION
The Company's distribution system spreads all over China. The Company has
established sales and service points within certain significant customers to
deal with matters related to such customers timely. The Company also established
distribution warehouses close to major customers to ensure timely delivery. The
Company maintains strict control over inventories. Each of these sales and
service points sends back to the Company through
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E-mail or fax information related to the inventory and customers' needs. The
Company guarantees product delivery in eight hours for those customers who are
located within 200 km from the Company's distribution warehouses, and 24 hours
for customers which are located over 200 km from the Company's distribution
warehouses. Delivery time is a very important competitive factor in terms of
customer decision making, together with quality, pricing and long-term
relationships.
The Company's sales and marketing organization and activities are designed
to create overall awareness and consideration of, and therefore to increase
sales of, the Company's modules systems and components. To achieve that
objective, the Company organized delegations to visit the United States, Korea,
India and Japan and met with potential customers. Through these activities, the
Company has generated potential business interests for a strong base for future
development.
EMPLOYEES AND FACILITIES
The Company currently employs approximately 1,957 persons in its
production facilities of the four joint ventures located at the Jingzhou City of
Hubei Province, Shenyang City of Liaoning Province and Zhuji City of Zhejiang
Province. Jiulong and Henglong in Jingzhou together employ 1,530 persons in
facilities on 137,971 square meters of land. Shenyang has 218 employees, in
production facilities covering an area of 35,000 square meters. Zhejiang has 209
employees covering an area of 33,000 square meters.
Hubei Province, which is home to Dongfeng, one of the largest auto maker
in China, provides an ample supply of inexpensive but skilled labor to
automotive-related industries. The annual production of Henglong and Jiulong was
420,000 units in 2003 and approximately 450,000 units in 2004. Although the
production process continues to rely heavily on manual labor, the Company has
invested substantially in high-level production machinery to improve capacity
and production quality. Approximately $20 million was spent over the last two
years on professional-grade equipment -- approximately 80% of which was already
in place and put into use.
RAW MATERIALS
The Company purchases various manufactured components and raw materials
for use in the Company's manufacturing processes. The principal components and
raw materials the Company purchases include castings, electronic parts, molded
plastic parts, finished sub-components, fabricated metal, aluminum and steel.
The most important raw material is steel. The Company enters into purchase
agreements with local suppliers. The annual purchase plans are predetermined at
the beginning of the calendar year but are subject to revision every three
months as a result of customers' orders. A purchase order is made according to
monthly production plans. This protects the Company from building up inventory
when the orders from customers change.
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The Company's three largest suppliers are Wugang Group Wuhan Metallurgy
Equipment Co., Ltd, Shaoxing Sonic Automotive Components Co., Ltd. and Shenyang
Steering Co., Ltd. They account in the aggregate for 12.0% of all components
and raw materials the Company purchases.
All components and raw materials are available from numerous sources. The
Company has not, in recent years, experienced any significant shortages of
manufactured components or raw materials and normally does not carry inventories
of these items in excess of what is reasonably required to meet the Company's
production and shipping schedules.
RESEARCH AND DEVELOPMENT
The Company has spent $1,518,512 and $1,017,031 on research and
development activities for each of 2004 and 2003, all of which were borne by the
Company. The Company has a 10-year consulting and licensing agreement with
Bishop Steering Technology Ltd, one of the leading design firms in power
steering systems. Bishop's technology in power steering systems is currently
used by carmakers such as BMW and Mercedes Benz. Pursuant to the agreement, the
Company has implemented the Bishop steering valve technology into the Henglong
brand R&P power steering gear product. The Company spends approximately
twenty-five to thirty percent of its net sales of new products on research and
development in 2004.
Henglong owns a Hubei Provincial-Level Technical Center, which is approved
by the Hubei Economic Commission. The center has a staff of 110 including 25
senior engineers, 4 foreign experts and 70 engineers primarily focused on
steering system R&D, tests, production process improvement and new material and
production methodology application.
The Company has established a R&D center, Changchun Hualong Auto
Technology Co., Ltd., with 45 employees which is composed of 10 senior
engineers, 3 foreign experts and 25 engineers, all focusing on steering system
R&D, tests, and new material applications.
In addition, the Company has partnered with Tsinghua University to
establish a steering system research center, called Tsinghua Henglong Automobile
Steering Research Institute for the purpose of R&D and experimentation for
Electronic-controlled Power Steering (EPS).
COMPETITION
The automotive components industry is extremely competitive. Criteria for
the Company's customers include quality, price/cost competitiveness, system and
product performance, reliability and timeliness of delivery, new product and
technology development capability, excellence and flexibility in operations,
degree of global and local presence, effectiveness of customer service and
overall management capability. The power steering system market is fragmented in
China, and the Company has seven major competitors. Of these competitors, two
are Sino-foreign joint ventures while the other five are state-owned. The total
output of the eight top-tier suppliers amounted to approximately 2.4 million
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units with the Company providing approximately 450,000 of these units. Like many
competitive industries, there is downward pressure on selling prices. In 2004,
the selling price of the Company's principal products was reduced by an average
of 6% by the end of the fourth quarter, as compared to the end of 2003.
The Company's major competitors, including Shanghai ZF and FKS, are
component suppliers to specific automobile manufacturers. Shanghai ZF is the
joint venture of SAIC and ZF Germany, has 20% of the market share and is an
exclusive supplier to SAIC-Volkswagen and SAIC-GM. First Auto FKS, a joint
venture between First Auto Group and Japan's Koyo Company, is the third largest
in the market with an approximately 12% market share. Its main customers are
FAW-Volkswagen Company.
While the Chinese government limits foreign ownership of auto assemblers
to 50%, there is no analogous limitation in the automotive components industry.
Thus opportunities exist for foreign component suppliers to set up factories in
China. These overseas competitors employ technology that may be more advanced
and may have already maintained a long-term relationship with the global
automobile assemblers, but they are generally not yet as competitive as the
Company is in China in terms of production cost and flexibility in meeting
client requirements.
THE CHINESE AUTOMOBILE INDUSTRY
According to the latest statistics from China Association of Automobile
Manufacturers (CAAM), in 2004, the output and sales volume of domestic made
vehicles both broke 5 million units for the first time, with 5,070,050 and
5,071,100 units respectively, with an increase of 14.1% and 15.5% compared with
the same period of last year. However, the increase level was 20 percentage
lower than that of the past two years.
CAAM indicated that, although the growth has dropped by 20% from that of
2003, a 15% growth on the base of more than 4 million production and sales
volume of 2003 showed that China's entire automotive industry had developed
smoothly, even if it experienced the drop aforementioned.
Since China has become a member of the World Trade Organization, the
national automotive production and sales amount have increased more than 30%
year by year. In 2002, the production and sales amounts were 3,250,000 and
3,248,000 units with an increase of 38% and 37.1% respectively. In 2003, the
production and sales amounts were 4,443,700 and 4,390,800 units with an increase
of 35.2% and 34.2% respectively.
Among all types of national vehicles, the decline in growth of cars is the
biggest. In 2004, the aggregate production of cars was 2,316,300 units, while
the percentage of increase fell from 83.3% of 2003 to 12.0%; and the sales were
2,326,500 units, while the percentage fell from 75.3% of 2003 to 15.2%. They
dropped by about 60-70%.
CAAM believes the main reasons leading to this situation are as follows:
First, the private car consumption was reduced greatly from the past two years;
secondly, the
13
finance, fuel price, parking, road conditions and some other factors related to
car consumption also influenced consumers' enthusiasm; third, the macroeconomic
adjustment policies of the Chinese government delayed the public car
consumption; and finally, wide ranged continuous price cutting made consumers
waiting longer for more cost cutting.
The Company expects that in 2005, China's automobile market will develop
steadily.
Dr. Shusong Ba, the vice head of the Finance Division, Development and
Research Center of China's State Council, believes that in 2005, the
macroeconomic adjustment and control measures will still be carried out, but
will be improved. He estimated that GDP would increase by 8.5%, a little bit
lower than 9.3% of 2004. He also indicated that in the long run the Chinese
automobile market will grow at a reasonable pace, rather than in an exploded
way.
Xiaoyu Zhang, the vice chairmen of China Mechanical Industry League,
believes that the Chinese automobile market is adaptive to the macroeconomic
adjustment. He believes that the adjustment and control measures will not cause
a negative growth of the market, but will slow it down. He also believes that
the Chinese automobile market will maintain a normal growth in the long period.
Changming Xiu, the head of the Division of Economic Consulting, China
State Information Center, made a projection for the automobile market in 2005:
the total sales volume of domestic vehicles would reach up to 5.64 million
units, with a 12% increase compared with that of last year, among which, the
total sales volume for cars would be 2.64 million units, with an increase of 16%
compared with last year.
CHINESE ECONOMY
Management believes that the most important factor to understanding the
Chinese automobile industry is the country's rapid economic growth. The strong
demand in the auto sector has been, and will continue to be, underpinned by the
desire of residents to improve their living standards, given significant
increase in income levels. According to Asian Development Bank Key Indicators
2004, GDP growth averaged 9% between 1983 and 2003 per year. Per capita GDP
increased from $585 in 1995 to $854 in 2000 and $1,093 in 2003. At present,
China ranks as the world's sixth-largest economy, behind the US, Japan, Germany,
the United Kingdom and France. Despite the Asian financial crisis during
1998-1999, the Chinese economy has been fairly insulated from the fallout. Based
on an accommodative fiscal policy that bolstered domestic demand and
consumption, GDP growth averaged 7.6% between 1998 and 2002. In addition, China
has successfully maintained a low rate of inflation.
Even though the macroeconomic adjustments and controls were implemented in
2004, the data from the China Statistics Bureau showed a 9.5% GDP growth in
2004. The Chinese economy has shown a strong momentum.
14
HIGHWAY DEVELOPMENT
Management believes that the continuing development of the highway system
will have a significant positive impact on the manufacture and sale of private
automobiles.
According to the latest statistics from China Highway Network, in 2004,
the Chinese government invested RMB 500 billion on highway development, an
increase of 21.2% from 2003, and almost twice that of 2000. The statistics from
the Ministry of Traffic show that 46,000 kilometer highway and 4,400 kilometer
expressway were developed in 2004, reaching a total highway and expressway of
1,856,000 kilometers and 34,200 kilometers, respectively.
The China State Council has approved the "National Expressway
Network Plan" in principle. In 2005, road expansion will continue with a focus
on national expressway network. The Ministry of Traffic will devote efforts in
making high level network-building plans to accelerate construction of China's
big channel to reach a total expressway of 35,000 kilometers and highway of
1,900,000 kilometers.
DOING BUSINESS IN CHINA
THE CHINESE LEGAL SYSTEM
The practical effect of the People's Republic of China legal system on the
Company's business operations in China can be viewed from two separate but
intertwined considerations. First, as a matter of substantive law, the Foreign
Invested Enterprise laws provide significant protection from government
interference. In addition, these laws guarantee the full enjoyment of the
benefits of corporate articles and contracts to Foreign Invested Enterprise
participants. These laws, however, do impose standards concerning corporate
formation and governance, which are not qualitatively different from the general
corporation laws of the several provinces. Similarly, the People's Republic of
China accounting laws mandate accounting practices, which are not consistent
with US Generally Accepted Accounting Principles. The Chinese accounting laws
require that an annual "statutory audit" be performed in accordance with the
People's Republic of China accounting standards and that the books of account of
Foreign Invested Enterprises be maintained in accordance with Chinese accounting
laws. Article 14 of the People's Republic of China Wholly Foreign-Owned
Enterprise Law requires a Wholly Foreign-Owned Enterprise to submit certain
periodic fiscal reports and statements to designated financial and tax
authorities, at the risk of business license revocation.
Second, while the enforcement of substantive rights may appear less clear
than United States procedures, the Foreign Invested Enterprises and Wholly
Foreign-Owned Enterprises are Chinese registered companies which enjoy the same
status as other Chinese registered companies in business-to-business dispute
resolution. Because the terms of the respective Articles of Association provide
15
that all business disputes pertaining to Foreign Invested Enterprises are to be
resolved by the Arbitration Institute of the Stockholm Chamber of Commerce in
Stockholm, Sweden applying Chinese substantive law, the Chinese minority partner
in the Company's joint venture companies will not assume a privileged position
regarding such disputes. Any award rendered by this arbitration tribunal is, by
the express terms of the respective Articles of Association, enforceable in
accordance with the "United Nations Convention on the Recognition and
Enforcement of Foreign Arbitral Awards (1958)." Therefore, as a practical
matter, although no assurances can be given, the Chinese legal infrastructure,
while different in operation from its United States counterpart, should not
present any significant impediment to the operation of Foreign Invested
Enterprises.
Because the Chinese government treats the automobile parts supply industry
as an encouraged industry, it is not necessary for the Company's Sino-foreign
joint ventures to obtain any Chinese government approval for production or
distribution of their principal products or services. Except as disclosed in
this Report, the Company is not aware of any probable governmental regulations
on the automobile business and its sino-foreign joint ventures are in compliance
with Chinese environmental laws.
ECONOMIC REFORM ISSUES
Although the Chinese government owns the majority of productive assets in
China, in the past several years the government has implemented economic reform
measures that emphasize decentralization and encourage private economic
activity. Because these economic reform measures may be inconsistent or
ineffectual, there are no assurances that:
- The Company will be able to capitalize on economic reforms;
- The Chinese government will continue its pursuit of economic reform
policies;
- The economic policies, even if pursued, will be successful;
- Economic policies will not be significantly altered from time to
time; and
- Business operations in China will not become subject to the risk of
nationalization.
16
Negative impact upon economic reform policies or nationalization could
result in a total investment loss in the Company's common stock.
Since 1979, the Chinese government has reformed its economic systems.
Because many reforms are unprecedented or experimental, they are expected to be
refined and improved. Other political, economic and social factors, such as
political changes, changes in the rates of economic growth, unemployment or
inflation, or in the disparities in per capita wealth between regions within
China, could lead to further readjustment of the reform measures. This refining
and readjustment process may negatively affect the Company's operations.
Over the last few years, China's economy has registered a high growth
rate. Recently, there have been indications that rates of inflation have
increased. In response, the Chinese government recently has taken measures to
curb this excessively expansive economy. These measures have included
devaluations of the Chinese currency, the renminbi, restrictions on the
availability of domestic credit, reducing the purchasing capability of certain
of its customers, and limited re-centralization of the approval process for
purchases of some foreign products. These austerity measures alone may not
succeed in slowing down the economy's excessive expansion or control inflation,
and may result in severe dislocations in the Chinese economy. The Chinese
government may adopt additional measures to further combat inflation, including
the establishment of freezes or restraints on certain projects or markets.
To date reforms to China's economic system have not adversely impacted the
Company's operations and are not expected to adversely impact operations in the
foreseeable future; however, there can be no assurance that the reforms to
China's economic system will continue or that the Company will not be adversely
affected by changes in China's political, economic, and social conditions and by
changes in policies of the Chinese government, such as changes in laws and
regulations, measures which may be introduced to control inflation, changes in
the rate or method of taxation, imposition of additional restrictions on
currency conversion and remittance abroad, and reduction in tariff protection
and other import restrictions.
ITEM 2. DESCRIPTION OF PROPERTY.
The Company's headquarters are located at No. 1 Henglong Road, Yu Qiao
Development Zone Shashi District, Jing Zhou City Hubei Province. Set forth below
are the manufacturing facilities operated by each of the joint ventures. The
Company has long-term rights (fifty years) to use the land and the Company owns
all of the land improvements on the land.
17
TOTAL AREA BUILDING ORIGINAL COST OF
FACILITY PRODUCT (M2) AREA (M2) EQUIPMENT SITE
Henglong Automotive Parts 307,830 12,490 $ 10,653,640 Jingzhou
City, Hubei
Province
18,820 19,214 -- Wuhan City,
Hubei
Province
Jiulong Power Steering 98,441 17,401 8,071,390 Jingzhou
City, Hubei
Province
Shenyang Automotive Steering 35,354 11,413 2,023,988 Shenyang City,
Liaoning Province
Zhejiang Steering Pumps 27,756 7,262 3,299,415 Zhuji City,
Zhejiang Province
The Company is not involved in investments in (i) real estate or interests
in real estate, (ii) real estate mortgages, and (iii) securities of or interests
in persons primarily engaged in real estate activities, as all of its land
rights are used for production purposes.
ITEM 3. LEGAL PROCEEDINGS.
The Company is not a party to any pending or to the best of the Company's
knowledge, any threatened legal proceedings. No director, officer or affiliate
of the Company, or owner of record of more than five percent (5%) of the
securities of the Company, or any associate of any such director, officer or
security holder is a party adverse to the Company or has a material interest
adverse to the Company in reference to pending litigation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
During the fiscal year 2004, there were no matters submitted to the
stockholders for approval.
PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
(a) MARKET PRICES OF COMMON STOCK
18
The Company's common stock is traded on the Over-The-Counter Bulletin
Board under the symbol "CAAS.OB" since March 2003, and listed and traded on
NASDAQ Small Cap market since August 24, 2004 under the symbol "CAAS". The high
and low bid intra-day prices of the common stock were reported on the OTCBB and
NASDAQ for the time periods indicated on the table below. Accordingly, the table
below contains the high and low bid closing prices of the common stock as
reported on the OTCBB and NASDAQ for the time periods indicated.
For Fiscal Years Ended December 31, 2004 and 2003:
Price Range
--------------------------------------
2004 2003
------------------ ----------------
High Low High Low
------- ------ ------- ----
First Quarter $ 18.45 $ 8.05 $ 0.10 $ 0.01
Second Quarter 9.65 3.70 4.50 2.90
Third Quarter 6.47 3.25 4.85 3.82
Fourth Quarter $ 18.09 $ 3.50 $ 18.50 $ 4.80
The above quotations reflect inter-dealer prices, without retail mark-up,
mark-down or commission, and may not represent actual transactions.
(b) STOCKHOLDERS
The Company's common shares are issued in registered form. Securities
Transfer Corporation in Frisco, Texas is the registrar and transfer agent for
the Company's common stock. As of December 31, 2004, there were 22,574,542
shares of the Company's common stock outstanding and the Company had
approximately 50 stockholders of record.
(c) DIVIDENDS
The Company has never declared or paid any cash dividends on its common
stock and it does not anticipate paying any cash dividends in the foreseeable
future. The Company currently intends to retain future earnings, if any, to
finance operations and the expansion of its business. Any future determination
to pay cash dividends will be at the discretion of the board of directors and
will be based upon the Company's financial condition, operating results, capital
requirements, plans for expansion, restrictions imposed by any financing
arrangements and any other factors that the board of directors deems relevant.
(d) SALES OF UNREGISTERED SECURITIES
In December, 2003 the Company issued 509,856 shares to investors upon the
exercise of warrants that were issued in March, 2003. The warrants were
exercised on a cashless
19
basis. The shares were issued pursuant to an exemption from the registration
requirements under Section 4(2) of the Securities Act of 1933, as amended.
On July 21, 2004, the Company issued options to purchase 7,500 shares of
common stock to each of its three independent directors. Such share options vest
immediately upon grant and are exercisable at $4.50 per share over a period of
two years.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
The following is management's discussion and analysis of certain
significant factors which have affected the Company's financial position and
operating results during the periods included in the accompanying consolidated
financial statements, as well as information relating to the plans of its
current management. This report includes forward-looking statements. These
statements relate to future events or the Company's future financial
performance. The Company has attempted to identify forward-looking statements by
terminology including "anticipates," "believes," "expects," "can," "continue,"
"could," "estimates," "expects," "intends," "may," "plans," "potential,"
"predict," "should" or "will" or the negative of these terms or other comparable
terminology. Such statements are subject to certain risks and uncertainties,
including the matters set forth in this report or other reports or documents the
Company files with the Securities and Exchange Commission from time to time,
which could cause actual results or outcomes to differ materially from those
projected. Although the Company believes that the expectations reflected in the
forward-looking statements are reasonable, the Company cannot guarantee future
results, levels of activity, performance or achievements. Undue reliance should
not be placed on these forward-looking statements which speak only as of the
date hereof. The Company undertakes no obligation to update these
forward-looking statements. The Company's expectations are as of the date this
Form 10-KSB is filed, and the Company does not intend to update any of the
forward-looking statements after the date this Annual Report on Form 10-KSB is
filed to confirm these statements to actual results, unless required by law.
The following discussion and analysis should be read in conjunction with
the Company's consolidated financial statements and the related notes thereto
and other financial information contained elsewhere in this Form 10-KSB.
GENERAL OVERVIEW:
Effective March 5, 2003, Visions-In-Glass, Inc., a United States public
company incorporated in the State of Delaware ("Visions"), entered into a Share
Exchange Agreement to acquire 100% of the shareholder interest in Great Genesis
Holding Limited, a company incorporated on January 3, 2003 under The Companies
Ordinance of Hong Kong as a limited liability company ("Great Genesis"), as a
result of which Great Genesis became a wholly-owned subsidiary of Visions. At
the closing, the old directors and officers of Visions resigned, and new
directors and officers were appointed. Visions subsequently changed its name to
China
20
Automotive Systems, Inc.
China Automotive Systems, Inc., including, when the context so requires,
its subsidiaries and the subsidiaries' interests in the Sino-foreign joint
ventures described below, is referred to herein as the "Company". The Company,
through its Sino-foreign joint ventures described below, is primarily engaged in
the manufacture and sale of automotive systems and components in the People's
Republic of China (the "PRC" or "China") as described below.
Ji Long Enterprise Investment Limited was incorporated on October 8, 1992
under The Companies Ordinance of Hong Kong as a limited liability company ("Ji
Long").Ji Long is an investment holding company. Effective March 4, 2003, all of
the shareholders of Ji Long exchanged their 100% shareholder interest for a 100%
shareholder interest in Great Genesis, as a result of which Ji Long became a
wholly-owned subsidiary of Great Genesis.
In exchange for the acquisition of 100% of the shareholder interest in
Great Genesis, the shareholders of Great Genesis were issued 20,914,250 shares
of common stock of Visions. In addition, the shareholders of Great Genesis paid
$250,000 and $70,000 to the former officer, director and controlling shareholder
of Visions for the cancellation of 17,424,750 shares of common stock in 2003 and
2004, respectively, for a total amount of $320,000.
The acquisition of Great Genesis by the Company was accounted for as a
recapitalization of Great Genesis, pursuant to which the accounting basis of
Great Genesis continued unchanged subsequent to the transaction date.
Accordingly, the pre-transaction financial statements of Great Genesis are the
historical financial statements of the Company.
Ji Long owns the following aggregate net interests in four Sino-foreign
joint ventures organized in the PRC as of December 31, 2004 (Jingzhou was sold
in August, 2004):
Percentage Interest
-------------------
Name of Entity 2004 2003
-------------- ---- ----
Jingzhou Henglong Automotive Parts
Co. Limited ("Henglong") 44.5% 42.0%
Shashi Jiulong Power Steering Co.
Limited ("Jiulong") 81.0% 81.0%
Shenyang Jinbei Henglong Automotive
Steering System Co. Limited ("Shenyang") 70.0% 55.0%
Zhejiang Henglong & Vie Pump-Manu Co.
21
Limited ("Zhejiang") 51.0% 51.0%
Jingzhou Henglong Fulida Textile Co.,Ltd.
("Jingzhou") - 51.0%
As of December 31, 2003, the Company owned 55% equity interest of
Shenyang. On April 8, 2004, the board of directors approved an increase in
Shenyang's registered capital and total capital from $5,421,687 (RMB45,000,000)
to $8,132,530 (RMB67,500,000), the Chinese investor was changed from Shenyang
Jinbei Automotive Industry Co., Ltd. to Shenyang Jinbei Automotive Company
Limited. The shareholder transfer and capital increase, together with the newly
signed Joint Venture Agreement and Articles of Association, have been approved
by the applicable PRC authorities. Accordingly, Shenyang's registered capital is
now $8,132,530 (RMB67,500,000), including $5,692,771 (RMB47,250,000) from the
Company, constituting 70% of the total registered capital, and $2,439,759
(RMB20,250,000) from Shenyang Jinbei Automotive Company Limited, constituting
30% of the total registered capital. The increase in capital of $2,710,843
(RMB22,500,000) has been injected into Shenyang.
Jingzhou was formed in February, 2003 to produce environmental textiles
and raw materials, and was owned 51% by Ji Long and 49% by Cixi City Fulida
Synthetic Fibre Co., Ltd. Effective September 1, 2004, in order to concentrate
on its main products, namely steering and automotive parts, the Company disposed
of its 51% interest in Jingzhou by entering into an equity exchange agreement
(the "Exchange Agreement") with Hubei Wanlong Investment Co., Ltd ("Hubei
Wanlong"), controlled by Mr. Hanlin Chen, the Company's Chairman. Pursuant to
the Exchange Agreement, the 51% equity interest in Jingzhou owned by Ji Long was
exchanged for 2.5% of Hubei Wanlong's equity interest in Henglong based on their
respective fair market values as determined by an independent appraisal firm.
The difference between the fair value and the book value resulting from the
disposition of the joint venture interest in Jingzhou was debited to additional
paid-in capital. With respect to consideration paid by the Company in excess of
its Chairman's basis for his investment, such excess has been charged to
additional paid-in capital as a distribution to the Chairman, resulting in the
acquired 2.5% equity interests in Henglong being recorded by the Company at the
Chairman's original cost basis. The Company paid approximately $90,000 to Hubei
Wanlong in conjunction with this transaction.
The divested non-core business of Jingzhou has been treated as a
discontinued operation under SFAS No. 144. Jingzhou's results of operation and
related charges have been reclassified as discontinued operations in the
Company's consolidated statements of operations. The Company's prior financial
statements have been restated to reflect the discontinued operation of Jingzhou.
See accompanying notes to the Company's consolidated financial statements.
Henglong and Jiulong are mainly engaged in the production of rack and
pinion power steering gears and integral ball and nut power steering gears for
cars, light and heavy-duty vehicles. Shenyang and Zhejiang were established in
2002 and focus on power steering parts and power steering pumps. The Company has
long-term business relations with more
22
than fifty vehicle manufacturers,including two of the largest automobile
manufacturers in China, FAW Group, with 1,007,471 in annual sales volume, and
Dongfeng Auto Group, with 523,309 of annual sales volume in 2004. The Company
also has long-term business relations with the largest van manufacturer in
China, Shenyang Brilliance Jinbei Co., Ltd, which has approximately 99,572 in
annual sales volume, and also has long-term business relations with two other
smaller car manufacturers, Cherry Automobile Co., Ltd and Geely Automobile Co.,
Ltd.
CRITICAL ACCOUNTING POLICIES:
The Company prepares its consolidated financial statements in accordance
with accounting principles generally accepted in the United States of America.
The preparation of these financial statements requires the use of estimates and
assumptions that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amount of revenues and expenses during the reporting
period. Management periodically evaluates the estimates and judgments made.
Management bases its estimates and judgments on historical experience and on
various factors that are believed to be reasonable under the circumstances.
Actual results may differ from these estimates as a result of different
assumptions or conditions.
Minority shareholders' interest refers to the percentage of the owner's
equity of a subsidiary owned by those investors other than the parent company.
Minority shareholders' interest in the consolidated financial statements means
the percentage of the Company's net assets owned by shareholders of the
Company's Sino-foreign joint ventures other than the Company, according to their
respective investment ratios.
The following critical accounting policies affect the more significant
judgments and estimates used in the preparation of the Company's consolidated
financial statements.
REVENUES:
The Company recognizes revenue when the significant risks and rewards of
ownership have been transferred to the customer pursuant to PRC law, including
factors such as when persuasive evidence of an arrangement exists, delivery has
occurred, the sales price is fixed or determinable, sales and value added tax
laws have been complied with, and collectibility is probable. The Company
recognizes product sales generally at the time the product is shipped.
Concurrent with the recognition of revenue, the Company reduces revenue for
estimated product returns. Shipping and handling costs are included in cost of
goods sold. Revenue is presented net of any sales tax and value added tax.
ACCOUNTS RECEIVABLE:
23
In order to determine the value of the Company's accounts receivable, the
Company records a provision for doubtful accounts to cover estimated credit
losses. Management reviews and adjusts this allowance periodically based on
historical experience and its evaluation of the collectibility of outstanding
accounts receivable. The Company evaluates the credit risk of its customers
utilizing historical data and estimates of future performance.
INVENTORIES:
Inventories are stated at the lower of cost or net realizable value. Cost
is calculated on the moving-average basis and includes all costs to acquire and
other costs incurred in bring the inventories to their present location and
condition. The Company evaluates the net realizable value of its inventories on
a regular basis and records a provision for loss to reduce the computed
moving-average cost if it exceeds the net realizable value.
INCOME TAXES:
The Company records a tax provision to reflect the expected tax payable on
taxable income for the period, using tax rates enacted or substantially enacted
at the balance sheet date, and any adjustment to tax payable in respect of
previous periods.
IMPAIRMENT OF LONG-LIVED ASSETS:
The Company's long-lived assets consist of property and equipment and
certain intangible assets. In assessing the impairment of such assets, the
Company periodically makes assumptions regarding the estimated future cash flows
and other factors to determine the fair value of the respective assets. If these
estimates or the related assumptions indicate that the carrying amount may not
be recoverable, the Company records impairment charges for these assets at such
time.
FOREIGN CURRENCIES:
The Company maintains its books and records in Renminbi ("RMB"), the
currency of the PRC, its functional currency. Translation of amounts into United
States dollars ("$") has been made at the rate of RMB8.30 to $1.00. Foreign
currency transactions in RMB are reflected using the temporal method. Under this
method, all monetary items are translated into the functional currency at the
rate of exchange prevailing at the balance sheet date. Non-monetary items are
translated at historical rates. Income and expenses are translated at the rate
in effect on the transaction dates. Transaction gains and losses, if any, are
included in the determination of net income (loss) for the period.
OFF-BALANCE SHEET ARRANGEMENTS
24
The Company does not have any off-balance sheet arrangements.
RESULTS OF OPERATIONS:
During early 2003, the Directors of the Company and the other joint
ventures in the Company's Sino-foreign joint ventures executed "Act in Concert"
agreements, accordingly, the Company has accounted for the above joint ventures
on a consolidated basis since January 1, 2003 because the Company has exercised
sufficient control over their management and operations.
The below condensed statements of continued operations of the Company's
Sino-foreign joint ventures for the years ended December 31, 2003 and 2004
exclude corporate general and administrative expense of $1,108,481, stock-based
compensation of $1,300,000, and non-operating income of $105,151 in 2003; and
also exclude the corporate general and administrative expense of $823,852,
depreciation and amortization of $78,500, stock-based compensation of $55,125,
financial expenses $(4,620), and non-operating loss of $12,806 in 2004.
The results of operations and related charges generated during January to
August 2004 and February to December 2003 of Jingzhou have been classified as a
discontinued operation. Therefore, the analysis and discussions below have
excluded Jingzhou's information in 2004 and 2003.
25
For the years ended December 31, 2004 and 2003, the condensed statements of
operations of the Company's Sino-foreign joint ventures were as follows:
Henglong Jiulong Shenyang
-------- ------- --------
2004 2003 2004 2003 2004 2003
------------- ------------- ------------- ------------- ------------- -------------
Proportionate ownership
interest at end of year 44.5% 42% 81% 81% 70% 55%
Net sales $ 29,029,209 $ 33,929,946 $ 26,932,386 $ 18,660,367 $ 12,690,209 $ 13,173,434
Cost of goods sold 20,614,311 21,242,707 17,196,990 9,695,034 9,521,533 9,964,598
------------- ------------- ------------- ------------- ------------- -------------
Gross profit 8,414,898 12,687,239 9,735,396 8,965,333 3,168,676 3,208,836
Selling expenses 1,658,537 1,434,715 1,423,586 1,078,316 160,853 85,499
General and
administrative expenses 2,990,779 2,724,473 1,725,512 2,764,807 626,464 646,879
R & D expenses 1,363,644 809,914 154,434 201,627 -- --
Depreciation
and amortization 372,491 757,219 238,409 263,925 84,012 139,167
------------- ------------- ------------- ------------- ------------- -------------
Income (loss) from
operations 2,029,447 6,960,918 6,193,455 4,656,658 2,297,347 2,337,290
Finance costs 374,067 209,146 366,350 126,025 4,625 (1,667)
Other income
(expense), net 866,935 228,587 710,101 139,989 67,210 9,553
------------- ------------- ------------- ------------- ------------- -------------
Income (loss) before
income taxes 2,522,315 6,980,359 6,537,206 4,670,622 2,359,932 2,348,511
Income taxes (51,395) 777,485 669,795 973,455 -- --
------------- ------------- ------------- ------------- ------------- -------------
Zhejiang Elimination Total
-------- ----------- -----
2004 2003 2004 2003 2004 2003
------------ ----------- ------------- ------------ ------------ -------------
Proportionate ownership
interest at end of year 51% 51%
Net sales $ 4,259,791 $ 1,678,018 $ (14,725,750) $(13,816,897) $ 58,185,845 $ 53,624,868
Cost of goods sold 2,482,645 1,215,407 (14,773,127) (13,481,838) 35,042,352 28,635,908
------------ ----------- ------------- ------------ ------------ -------------
Gross profit 1,777,146 462,611 47,377 (335,059) 23,143,493 24,988,960
Selling expenses 230,828 121,046 -- -- 3,473,804 2,719,576
General and
administrative expenses 318,660 359,116 (6,408) -- 5,655,007 6,495,275
R & D expenses 434 5,490 -- -- 1,518,512 1,017,031
Depreciation
and amortization 74,597 161,290 -- -- 769,509 1,321,601
------------ ----------- ------------- ------------ ------------ ------------
Income (loss) from
operations 1,152,627 (184,331) 53,785 (335,059) 11,726,661 13,435,477
Finance costs (9,460) 1,081 -- (1,249) 735,582 333,336
Other income
(expense), net 20,120 49,303 -- -- 1,664,366 427,432
------------ ----------- ------------- ------------ ------------ -------------
Income (loss) before
income taxes 1,182,207 (136,109) 53,785 (333,810) 12,655,445 13,529,573
Income taxes -- -- -- -- 618,400 1,750,940
------------ ----------- ------------- ------------ ------------ -------------
26
Net income (loss) 2,573,710 6,202,874 5,867,411 3,697,167 2,359,932 2,348,511
Minority interest 1,523,326 3,597,666 1,230,314 1,006,117 849,162 939,405
------------ ----------- ------------- ------------ ------------ -------------
Equity in income
(loss) of joint ventures $ 1,050,384 $ 2,605,208 $ 4,637,097 $ 2,691,050 $ 1,510,770 $ 1,409,106
============ =========== ============= ============ ============ =============
Net income (loss) 1,182,207 (136,109) 53,785 (333,810) 12,037,045 11,778,633
Minority interest 579,652 (66,693) -- -- 4,182,454 5,476,495
------------ ----------- ------------- ------------ ------------ -------------
Equity in income
(loss) of joint ventures $ 602,555 $ (69,416) $ 53,785 $ (333,810) $ 7,854,591 $ 6,302,138
============ =========== ============= ============ ============ =============
27
NET SALES FROM CONTINUED OPERATIONS.
The increase in net sales of the Company is summarized as follows:
2004 2003 Increase
----------------------- ---------------------------- -----------------------------------
Quantity Quantity Increase in
Item (sets) Amount ($) Quantity(sets) Amount ($) (sets) Amount ($) (%)
---- --------- ----------- -------------- ----------- -------- ---------- -----------
Steering Gears 442,962 44,746,849 417,000 44,556,450 25,962 190,399 0.4%
Steering accessories -- 9,179,204 -- 7,390,573 -- 1,788,631 24.2%
Steering pumps 94,881 4,259,792 34,172 1,677,845 60,709 2,581,947 153.9%
------- ---------- ------- ---------- ------ --------- -----
Total -- 58,185,845 -- 53,624,868 -- 4,560,977 8.5%
======= ========== ======= ========== ====== ========= =====
For the year ended December 31, 2004, net sales were $58,185,845, as
compared to $53,624,868 for the year ended December 31, 2003, an increase of
$4,560,977 or 8.5%. The increase in net sales in 2004 as compared to 2003 was a
result of several factors.
1. The steady increase of sales of steering gears, one of the Company's
principal products in 2004. During 2004, the Chinese government implemented
macroeconomic adjustment and control measures. Banks tightened consumer credit,
thus cooled down the light-duty vehicle and car market, as they were partly
supported by consumer credit. As one of the parts suppliers to light-duty
vehicle and car makers, the Company's sales of steering gears for light-duty
vehicles and cars also suffered by dropping 12% in 2004. Under such
disadvantaged situation, the management made adjustments, shifted the Company's
priorities to truck related products and established a special team to develop
the truck market. In 2004, the Company expanded business with several heavy-duty
vehicle customers. Among them are Dongfeng Auto Group and Shanxi Heavy Auto Co.,
whose contribution of sales rose from less than 1% to 10.9% and 2.8%,
respectively. As a result of the expansion in the truck market, sales of
steering gears maintained steady growth, and contributed in aggregate 76.9% of
the Company's consolidated net sales in 2004.
2. Sustained expansion of production and sales of Zhejiang. During 2004,
Zhejiang generated net sales of $4,259,791, an increase of $2,581,773 or 153.9%
as compared with $1,678,018 of 2003. During 2004, Zhejiang contributed a major
part in the increase of the Company's consolidated net sales, i.e.: 56.6%.
3. Increase in sales of steering accessories. The sales of steering
accessories were affected by tight money policy as well. In 2004, sales of
accessories to light-duty and cars customers dropped by 10%, as compared with
2003. The Company strengthened its retail network team to respond to this
unfavorable situation. The number of agents of the Company's products was
increased from twelve in 2003 to twenty in 2004, and some incentive measures
28
were made, for example, promptly refunding their earned incentives to agents
based on their performance during each quarter. These steps of networking and
incentive measures worked effectively. Overall, sales of steering accessories
rose from $7,390,573 in 2003 to $9,179,204 in 2004, an increase of $1,788,631 or
24.2%, which contributed in the aggregate 39.2% to the increase of the Company's
consolidated net sales.
The increase of sales in 2004 also benefited from maintaining customer
loyalty and expanding high grade customer base. During 2004, the Company's ten
largest customers accounted for 73.1% of the Company's consolidated net sales.
Three of them each accounted for more than 10% of consolidated net sales,
contributing 19.2%, 16.2% and 10.9% to consolidated net sales, or an aggregate
of 46.3% of consolidated net sales.
In 2005, the Company intends to increase sales by 15%-20% by developing
the markets both domestically and internationally. In domestic market, the
Company has entered into development plans for a model 323 car of Hainan Mazda
Auto Co., Ltd, model Lioncel of Southeast Auto Co. Ltd. and model ZX of Shenlong
Auto Co, which supplies are expected to be made in batches in the second half of
2005. As for the international market, Henglong passed the quality system
verification of Vesteon in July 2004, and thus has become a potential supplier
to Vesteon, which intends to have Henglong develop the steering gears for its D3
platform.
The Company also established a business relationship with Tata Motors, the
biggest automobile manufacturer in India, and entered into a letter of intention
with it to develop steering systems for city mini cars and business cars. In
January 2005, the Company entered into a Technology Agreement with Korea Delphi
Automotive Systems Corporation to supply GM Daewoo Auto & Technology Company
model M150 and M200 Rack and Pinion steering gears for a type of car named
MATIZ. Pursuant to this agreement, Henglong will supply annually 60,000 sets
rack and pinion steering gears with the support of KDAS.
GROSS PROFIT FROM CONTINUED OPERATIONS.
For the year ended December 31, 2004, the gross profit was $23,143,493, as
compared to $24,988,960 for the year ended December 31, 2003, a decrease of
$1,845,467 or 7%, as a result of following factors:
1. According to the latest statistics from China Highway Network, China's
car and light-duty vehicle industry expansion obviously slowed down starting
with the second quarter of 2004, as compared to the same period of 2003. The
industry booming index fell and the first strong shakedown of the auto industry
after entering TWO occurred. By the end of the third quarter of 2004, the
statistics from the China National Statistic Bureau showed the auto industry
booming index in the third quarter of 2004 was 127.9, a decrease of 3.3% and 10%
from the second and first quarter of 2004, respectively, and a decrease of 24.1%
from the best quarter of the fourth quarter of 2002. Some of the Company's major
car and light-duty vehicle customers experienced a significant drop in their
sales. For example, the sales of Cherry Automobile has dropped to 76,000 units
from 90,000 in 2003, and Southeast Auto has dropped to 58,000 from 72,000 of
2003.
29
As a result, the Company's sales to them of steering used in cars and
light-duty vehicles also dropped dramatically as compared to 2003. However, with
the Chinese government promulgating amendments to the Road Act, opportunities
opened for increased sales of heavy-duty vehicles. The Company adjusted its
marketing strategies timely, made a big effort on developing the heavy-duty and
retail markets, and achieved a steady increase on the sale of the Company's main
products, the Steering gears. The Zhejiang joint venture also had a good
performance of sales of Steering pumps. In 2004, the sales of Steering gears,
Steering pumps and Steering accessories increased 6%, 178% and 3% respectively,
and made a total contribution of $3,393,377 to gross profit.
2. The year 2004 was undoubtedly a "price down" year for the Chinese auto
industry, affecting many different models and types of cars and in different
ranges and degrees. Such "price down" is rare in the world's auto development
history, with an average price reduction of 13.1% during that period. To keep
its market share, the Company also reduced the prices of its principal products:
steering gears by 6%, steering pumps by 9%, and steering accessories by 41% at
the requests of the Company's customers. Decreased gross profit of $6,743,466 in
2004 is due to such decreased sales prices.
3. The advanced production equipment in which the Company invested in 2003
has achieved the expected positive effects. In 2004, the manufacturing
efficiency was improved, and cost control over the production process was
enhanced, reflecting the cost reduction of the main products - steering gears
were reduced by 2%, and steering pumps were reduced by 29%. Gross profit in 2004
increased by $1,504,581 as a result of these cost control measures. However, in
2004, the gross margin decreased to 40% from 47% in 2003 due to greater sales
price reduction than cost reduction.
It is estimated that the Chinese auto market will resume its upward
development in 2005, at approximately 15% for the car market and approximately
13% for the total vehicle market. However, certain factors, such as the downward
trend of the cars' sales price and the upward trend of the price of gasoline,
will accelerate the structural change on automotive consumption framework. More
consumers would be interested in economy cars. This change is not just a choice,
but a historic development trend, and will be more significant in 2005. It is
predicted that the popular private cars in China will not be luxurious but
economy cars. In addition, if the Chinese government begins its intended policy
change to replace the current practice of levy of road maintenance fees with
gasoline tax, the economy car market will get its additional expansion. Overall,
the sale prices of cars and car component parts will be on a further downward
trend in 2005. The automotive manufacturers will request automotive parts
manufacturers to reduce prices to keep their profit and market shares. The
Company estimated that the price reductions of auto parts will be in the range
of 5% to 10% in 2005. This will have an adverse effect on the Company's gross
profit in 2005. The Company plans to take the following measures to reduce costs
to meet its target of 35% gross profit.
1. Reduce the labor force cost. The advanced production equipment which
the Company purchased in 2003 has worked steadily for nearly a year. In 2005,
the Company will modify the standard labor hours per piece based on the new
equipment to reduce the labor cost. The Company estimates that with the
application of new equipment and more controlled standard labor hours, the labor
cost will be reduced by 2%.
30
2. Reduce the cost of raw materials. In 2005, the Company plans to control
cost of raw materials with two measures: Firstly, volume purchase of major raw
materials will be made through a bidding process; for purchases of other smaller
quantities of non major materials, "target price" will be set to guide such
purchases. Second, the technology department was asked to re-evaluate the
product structure and production techniques so as to optimize product design, to
reduce the weight of parts and wastage in the process of production, and to
eventually reduce the cost of raw materials. It is estimated that the cost of
materials would be reduced by 4% through these measures.
3. Reduce the manufacturing expenses. The Company will re-examine the
headcount of non-operative employees in workshops and lay off 20% of them
gradually in 2005. At the same time, the Company will set "targets" to control
the manufacturing overhead. It is estimated that the manufacturing overhead
would be reduced by 2% through these measures.
SELLING EXPENSES FROM CONTINUED OPERATIONS.
For the years ended December 31, 2003 and 2004, selling expenses are summarized
as follows:
Increased (Decreased)
-------------------------
Item 2004 2003 Amount Percentage
---- ----------- ----------- ------------ ----------
Salaries and wages $ 872,720 $ 1,298,470 $ (425,750) -32.8%
Supplies 29,698 141,167 (111,469) -79.0%
Travel 300,082 228,929 71,153 31.1%
Transportation 793,474 760,649 32,825 4.3%
After sales service 1,199,728 69,720 1,130,008 1620.8%
Rent 103,451 69,034 34,417 49.9%
Office 78,979 63,229 15,750 24.9%
Advertising 18,666 34,243 (15,577) -45.5%
Entertainment 37,617 27,092 10,525 38.9%
Insurance 18,813 14,512 4,301 29.6%
Other 20,576 12,531 8,045 64.2%
----------- ----------- ----------- ------
Total $ 3,473,804 $ 2,719,576 $ 754,228 27.7%
=========== =========== =========== ======
Selling expenses were $3,473,804 for the year ended December 31, 2004, as
compared to $2,719,576 for 2003, an increase of $754,228 or 27.7%. Significant
expense items that increased by more than $50,000 in 2004 as compared to 2003
were travel and after sales service. The increase in travel was due to increased
market development activities as described above.
31
The increase in after sales service expenses was due to consumer rights
protection policies of "recall" issued by the Chinese Government in 2004. In
2004, the Chinese Government introduced a number of policies on protection of
consumers' rights, such as the recalling flawed vehicles policy. Accordingly, in
2004 the automobile manufacturers introduced a policy unilaterally requiring the
automotive parts suppliers to pay a "three warranties" service charge (for
compensations, exchange and withdraw) in an amount equal to one percent (1%) of
the total amount of parts supplied. Therefore, the increase in after sales
service charges does not mean an increase of product failures, it is simply due
to the new "three warranties" charges by auto makers.
Significant expense items that decreased more than $50,000 in 2004 as
compared to 2003 were salaries and wages and supplies. The decrease in salaries
and wages was due to the failure of the sales personnel to achieve sales growth
target of 20%. Therefore, the Company reduced their sales bonus. The decrease of
supplies was due to the fact that with the payment of the 1% "three warranties"
charges, certain after-sales service was performed by the automotive
manufacturers.
GENERAL AND ADMINISTRATIVE EXPENSES FROM CONTINUED OPERATIONS.
For the years ended December 31, 2003 and 2004, general and administrative
expenses are summarized as follows:
Increased (Decreased)
------------------------
Item 2004 2003 Amount percentage
---- ----------- ----------- ----------- ----------
Salaries and wages $ 1,896,942 $ 1,414,785 $ 482,157 34.1%
Travel 377,452 188,118 189,334 100.6%
Office 196,058 160,176 35,882 22.4%
Supplies 329,323 566,050 (236,727) -41.8%
Repairs 235,400 197,424 37,976 19.2%
Rent 1,814 103,421 (101,607) -98.2%
Entertainment 37,966 31,866 6,100 19.1%
Securities and insurance 1,105,911 1,062,695 43,216 4.1%
Labor union dues 84,663 78,092 6,571 8.4%
Board of directors expense 56,330 75,026 (18,696) -24.9%
Taxes 196,619 159,420 37,199 23.3%
Provision for bad debts 136,205 1,547,728 (1,411,523) -91.2%
Impairment of inventories 187,871 276,938 (89,067) -32.2%
Training 68,272 56,427 11,845 21.0%
Warranty 391,350 152,208 239,142 157.1%
Listing expenses 823,852 1,108,483 (284,631) -25.7%
Others 352,831 424,899 (72,068) -17.0%
----------- ----------- ----------- -----
Total $ 6,478,859 $ 7,603,756 $(1,124,897) -14.8%
=========== =========== =========== =====
32
General and administrative expenses were $6,478,859 for the year ended
December 31, 2004, consisting of $823,852 incurred by the corporate and
$5,655,007 by the Sino-foreign joint ventures. General and administrative
expenses were $7,603,756 for the year ended 31, 2003, consisting of $1,108,481
incurred by the corporate and $6,495,275 by the Sino-foreign joint ventures.
General and administrative expenses of 2004 decreased by $1,124,897 or
14.8% as compared to the year of 2003.
Significant expense items that increased more than $100,000 in 2004 as
compared to 2003 were salaries and wages, travel and warranty. Significant
expense items that decreased more than $100,000 in 2004 as compared to 2003 were
supplies, rent, provision for bad debts, listing expenses and others. Listing
expenses consisted of the acquisition of a controlling interest in the public
company and the costs associated with legal, accounting and auditing fees of
operating a public company.
The reason for increased salaries and wages was attributable to increased
difficulty of work and workload compared to 2003, and therefore the management
and staff received more compensation compared to 2003. In 2003, demand in the
China automotive consumption market was booming, and therefore it was a seller's
market for the automotive parts suppliers in 2003, but it was reversed in 2004.
The reason for increased travel expenses was attributable to the expenses
of management going abroad for overseas market development, as mentioned in the
sections relating to selling and marketing expenses above.
Warranty reserves represent the Company's obligation to repair or replace
defective products under certain conditions. The estimate of the warranty
reserves is based on historical experience. In 2004, the warranty rate was
determined to be 0.9% of net sales, while in 2003, it was determined to be 0.2%
of net sales.
The reason for decreased supplies expenses was the Company incurred
supplies losses due to plant relocation by Shenyang, Zhejiang and Jiulong in
2003, while there is no similar expense in 2004.
Rent. In the first half of 2003, Zhejiang, Shenyang and Jiulong's
workshops were rented. After their new buildings of workshop were completed and
ready for use in the second half of 2003, the Company had no such rental expense
in 2004.
Provision for bad debts. In 2003, the Company recorded an allowance for
general bad debts and special bad debts based on an analysis of each accounts
receivable aging. The company recorded an allowance for bad debts of 25% for
accounts outstanding from 180-365 days; 50% for accounts outstanding from 1-2
years; and 100% for accounts outstanding over two years. The Company also
identified customers with no ongoing business
33
relationship and a bad credit standing in 2003. Based on this method, the
Company recorded $962,448 special provision for doubtful accounts. The Company
did not record such provision in 2004 because there were no such customers. In
addition, the Company recovered $489,605 included in the special provision for
doubtful accounts in 2003. Such recovery caused a decrease in provision for
doubtful accounts in 2004.
The decrease of listing expenses was due to the Company's paying $250,000
of reverse merger costs for the acquisition of a controlling interest in a
public company in 2003. Only $70,000 was paid in 2004.
The other items included in general and administrative expenses included
traffic expenses and public relationship expenses. Decrease in other items of
general and administrative expenses in 2004 is due to a decrease in public
relationship activities.
RESEARCH AND DEVELOPMENT EXPENSES FROM CONTINUED OPERATIONS. Research and
development expenses were $1,518,512 for the year ended December 31, 2004, as
compared to $1,017,031 for the year ended December 31, 2003, an increase of
$501,481 or 49.3%, consisting of research and development on electronic power
steering units of $361,000, adjustable steering columns of $251,000, and
steering gear improvement of $643,000, and foreign experts' compensation of
$264,000.
DEPRECIATION AND AMORTIZATION EXPENSE FROM CONTINUED OPERATIONS. For the year
ended December 31, 2004, the depreciation and amortization expenses excluded
those recorded in cost of sales were $848,009, as compared to $1,321,601 for the
year ended December 31, 2003, a decrease of $473,592 or 35.8%. The main reasons
are:
1. In 2003 the Company made a one time amortization of $241,625 for
intangible assets and deferred assets, while there was no such amortization in
2004;
2. The amortized deferred assets were sold for at $71,555 in 2004; and
3. As the Company adopted new accelerated depreciation methods in 2003,
some of equipment in use are fully depreciated in 2003, and do not need to be
depreciated any more.
STOCK COMPENSATION FROM CONTINUED OPERATIONS. During March 2003, in conjunction
with the transaction with Great Genesis described above, the Company issued
common stock purchase warrants to three consultants to acquire an aggregate of
550,375 shares of common stock, exercisable for a period of one year at $1.20
per share. The aggregate fair value of these warrants, calculated pursuant to
the Black-Scholes option-pricing model, was estimated to be $1,300,000, which
was charged to operations during the year ended December 31, 2003. The warrants
were exercised on a cashless basis. During July 2004, the Company issued options
to purchase 22,500 shares of common stock to three independent directors. Such
share options vest immediately upon grant and are exercisable at $4.50 per share
over a period of two years. The aggregate fair value of these options,
calculated pursuant to the Black-Scholes option-pricing model, was estimated to
be $55,125, which was charged
34
to operations during the year ended December 31, 2004.
INCOME FROM OPERATIONS FROM CONTINUED OPERATIONS. Income from operations was
$10,769,184 for the year ended December 31, 2004, as compared to $11,026,996 for
the year ended December 31, 2003, a decrease of $257,812 or 2.3%, consisting of
a decrease of gross profit of $1,845,467 or 7.4%, and a decrease of costs and
expenses of $1,587,655 or 11.4%, which increased the income from operations.
OTHER NON-OPERATING INCOME FROM CONTINUED OPERATIONS. For the year ended
December 31, 2003 and 2004, other non-operating income are summarized as
follows:
Write off
Materials Accounts Equipment Share exchange
sold Subsidy income Payable disposal income Total
---- -------------- ------- -------- ------ -----
2004 $ 699,107 $ 175,959 $ 680,980 $ 95,514 $ -- $1,651,560
2003 279,536 132,000 -- 14,047 107,000 532,583
---------- ---------- ---------- ---------- ---------- ----------
Increased (Decreased) Amount $ 419,571 $ 43,959 $ 680,980 $ 81,467 $ (107,000) $1,118,977
---------- ---------- ---------- ---------- ---------- ----------
Increased (Decreased) percentage 150% 33% -- 580% -100% 210%
========== ========== ========== ========== ========== ==========
For the year ended December 31, 2004, the non-operating income was
$$1,651,560, as compared to $532,583 for the year ended December 31, 2003, with
an increase of $1,118,977 or 210%, mainly due to:
1. Increased materials sold income of $419,571 more than 2003;
2. Increased subsidy income of $43,959 more than 2003. The Chinese
government encourages enterprises to purchase domestic equipment. The Company
purchased more domestic equipment in 2004 than in 2003 and thus obtained more
subsidy income;
3. Write off of long-term (over three years) accounts payable of $680,980.
In 2004, two Sino-foreign joint-ventures of the Company, Henglong and Jiulong,
wrote off accounts payables of $680,980 because there had been no pay back
requirements for over 3 years. The Company has received confirmations from those
suppliers. While in 2003, there was no write off of accounts payable;
4. Increased income from equipment disposal of $81,467 more than 2003; and
5. Decreased share exchange income. The Company suffered a reduction in
share exchange income because in 2002, the Company transferred a 7% interest in
Henglong in exchange for an 11% interest of Jiulong. As a term of the
transaction, the joint venture partner paid the Company $107,000 in 2003, which
was recorded as non-operation Income in 2003. In 2004, no share exchange income
occurred.
35
FINANCE EXPENSES FROM CONTINUED OPERATIONS. For the year ended December 31,
2004, finance expenses were $730,962, consisting of bank loan interests of
$641,277 and notes discount expenses of $89,685, as compared with $333,336 for
the year ended December 31, 2003, an increase of $397,626 or 119%, which
consisted of increased interest of $277,098 for additional bank loan, an
increase of interest of $30,843 for interest rate hike, and an increase in
financial expenses $89,685 due to an increased notes discount expense in 2004,
while there was no notes discount expense in 2003.
INCOME BEFORE INCOME TAXES FROM CONTINUED OPERATIONS. Income before income taxes
was $11,689,782 for the year ended December 31, 2004, as compared to $11,226,243
for the year ended December 31, 2003, an increase of $463,539 or 4.1%,
consisting of decreased income from operation of $257,812 or 2.3%, increased
non-operating income of $1,117,532 or 210%, and increased finance expenses of
$397,626 or 119.0%, which reduced the income before income taxed.
INCOME TAXES FROM CONTINUED OPERATIONS. Income tax expense was $618,400 for the
year ended December 31, 2004, as compared to $1,750,940, a decrease of
$1,132,540 or 64.7%, mainly because of:
(1) two of the Company's Sino-foreign joint ventures, Henglong and
Jiulong, received an income tax refund of $901,600 and $521,000 in 2004 and 2003
respectively for purchase of domestic equipment, which have been reflected as a
reduction to income tax expense in the Company's consolidated statements of
operations for the year ended December 31, 2004 and 2003. As compared to 2003,
the increased refund of income tax of $380,600 in 2004 reduced the Company's
income tax expenses; and
(2) The consolidated income before income taxes of Henglong and Jiulong in
2004 were less than those in 2003, which led to a decrease of $230,940 in income
taxes.
INCOME BEFORE MINORITY INTEREST FROM CONTINUED OPERATIONS. Income before
minority interest was $11,071,382 for the year ended December 31, 2004, as
compared to $9,475,303 for the year ended December 31, 2003, an increase of
$1,596,079 or 16.8%, due to increased income before income taxes of $463,538 or
4.1%, and decreased income tax expenses of $1,132,540 or 64.7%, which increased
income before minority interest.
MINORITY INTEREST FROM CONTINUED OPERATIONS. The Company recorded minority
interests' share in the earnings of the Sino-foreign joint ventures aggregating
$4,182,454 for the year ended December 31, 2004, as compared to $5,476,495 for
the year ended December 31, 2003, a decrease of $1,294,041 or 23.6%.
The Company owns varied equity interests in four Sino-foreign joint
ventures, through which it conducts its operations. All the operating results of
these four Sino-foreign joint ventures were consolidated in the Company's
financial statements of December 31, 2003 and 2004 (the equity interest of
"Jingzhou" was sold effective August 31, 2004). The Company records the minority
interests' share in the earnings of the respective
36
Sino-foreign joint ventures for each period. Because the Company does not own
the same equity interest in each Sino-foreign joint venture, a comparison of the
Company's consolidated results of operations for different periods can be
significantly affected by the performance mix of the individual joint ventures.
The aggregate minority interests in the earnings of the Company decreased in
2004 as compared to 2003 primarily as a result of a decrease in net income from
Henglong, a 44.5%-owned Sino-foreign joint venture, and an increase in net
income from Jiulong, an 81%-owned Sino-foreign joint venture.
In 2004, as stated above, there was an increased equity in joint-ventures
compared to 2003, which also contributed to a decrease in minority interests.
Based on analysis and calculation, as compared with 2003, the decreased
minority interest for the year ended December 31, 2004 consisted of a decrease
of $942,298 caused by various reduced operating results in different
Sino-foreign joint ventures and different operating periods, and a decrease of
$351,743 caused by decreased minority interest percentage in Sino-foreign joint
ventures.
NET INCOME FROM CONTINUED OPERATIONS. Net income was $6,888,928 for the year
ended December 31, 2004, as compared to $3,998,808 for the year ended December
31, 2003, an increase of $2,890,120 or 72.3%, consisting an increased income
before minority interest of $1,596,078 or 16.8%, and a decreased minority
interest of $1,294,041 or 23.6%, which increased net income.
DISCONTINUED OPERATIONS. As mentioned above, effective August 31, 2004, in order
to concentrate on its main products, namely steering and other automotive parts,
the Company disposed of its 51% interest in Jingzhou by entering into an equity
exchange agreement (the "Exchange Agreement") with Hubei Wanlong Investment Co.,
Ltd ("Hubei Wanlong"), which is controlled by Mr. Chen Hanlin, the Company's
Chairman. Pursuant to the Exchange Agreement, the 51% equity interest in
Jingzhou owned by Ji Long was exchanged for 2.5% of Hubei Wanlong's equity
interest in Henglong based on their respective fair market values as determined
by an independent appraisal firm. Accordingly, effective August 31, 2004, the
Company did not own any Jingzhou's equity.
The divested non-core business of Jingzhou has been treated as a
discontinued operation under SFAS No. 144. Jingzhou's results of operation and
related charges have been reclassified as discontinued operations in the
Company's consolidated statements of operations. The Company's prior financial
statements have been restated to reflect the discontinued operation of Jingzhou.
The following table is the analysis relating to results of operation of
discontinued operations -Jingzhou in 2004 and 2003:
37
Discontinued operation Analysis
(Jingzhou) -------------------------
-------------------------- Increased Percentage
Item 2004 2003 (Decreased) (%)
---- ----------- ----------- ----------- ----------
Net sales of discontinued operation $ 2,746,389 $ 1,702,306 $ 1,044,083 61%
Cost of goods sold of discontinued operation 2,679,008 1,764,293 914,715 52%
----------- ----------- ----------- ----
Gross profit of discontinued operation 67,381 (61,987) 129,368 --
----------- ----------- ----------- ----
Cost and expenses:
Selling expenses 11,595 13,849 (2,254) -16%
General and administrative expenses 80,696 118,749 (38,053) -32%
R & D expenses -- -- -- --
Depreciation and amortization expenses 19,042 45,569 (26,527) -58%
Stock compensation -- -- -- --
----------- ----------- ----------- ----
Total costs and expenses 111,333 178,167 (66,834) -38%
----------- ----------- ----------- ----
Income (loss) from operations of discontinued operation (43,952) (240,154) 196,202 --
----------- ----------- ----------- ----
Other non-operating income (expenses)
Other non-operating income 18,605 1,464 1,7141 1171%
Financial costs (16,989) (11,387) (5,602) 49%
----------- ----------- ----------- ----
Other income (loss), net 1,616 (9,923) 11,539 --
----------- ----------- ----------- ----
Income (loss) before income taxes (42,336) (250,077) 207,741 --
Income taxes -- -- -- --
----------- ----------- ----------- ----
Net income (loss) from discontinued operation (42,336) (250,077) 207,741 --
Minority Interests (loss) from discontinued operations (20,745) (122,538) 101,793 --
----------- ----------- ----------- ----
Equity in income (loss) of joint ventures $ (21,591) $ (127,539) $ 105,948 --
=========== =========== =========== ====
FINANCIAL CONDITION AS OF DECEMBER 31, 2004 AND 2003:
LIQUIDITY AND CAPITAL RESOURCES:
The Company has relied primarily on cash flow from operation, bank loans
and investments for its capital requirements in 2004 and 2003.
38
OPERATIONS. The Company's operations provided cash of $21,365,367 for the year
ended December 31, 2004, including $22,719,873 from continued operations, as
compared to cash of $3,925,587 for the year ended December 31, 2003, including
$1,561,151 from continued operations. The cash from continued operations
increased by $21,158,722, primary as a result of the following:
1. For the year ended December 31, 2004, cash flow provided by product
selling and servicing was $13,013,397, as compared to $13,909,596 for the year
ended December 31, 2003, a decrease of $896,199 as a result of decreased gross
profit.
2. For the year ended December 31, 2004, accounts receivable was reduced
by $6,229,536, as compared to an increase in accounts receivable of $6,842,125
for the year ended December 31, 2003, which led to increased cash inflow of
$13,071,661, as a result of reduced notes receivable and advanced payments.
3. For the year ended December 31, 2004, inventory increased by
$2,882,650, as compared to an increase in inventory of $423,884 for the year
ended December 31, 2003, which led to decreased cash inflow of $2,458,766, as a
result of increased inventory turnover requirement caused by increased
production and sales.
4. For the year ended December 31, 2004, accounts payable was increased by
$6,359,590, as compared to a decrease in accounts payable of $5,082,436 for the
year ended December 31, 2003, which led to increased cash of $11,442,026, as a
result of increased notes payable.
As of December 31, 2004, cash and cash equivalents were $11,164,639, and
working capital was $11,454,114. As of December 31, 2003, cash and cash
equivalents were $10,730,882, and working capital were $19,944,120, reflecting a
current ratio of 1.22:1 and 1.39:1 for 2004 and 2003 respectively.
Since the Company's working capital at December 31, 2004 decreased by
$8,490,006 as compared to December 31, 2003, the Company intends to finance its
costs and expenses for the year ending December 31, 2005 by the following ways.
1. Raise capital from institutional investors. The Company intends to
raise about $15 million to $30 million from the stock market in the United
States.
2. Loans by banks. The Company's Sino-foreign joint-ventures have good
credit records with Chinese banks. In 2005, the Bank of China, China
Construction Bank, and China Industrial & Commercial Bank have approved lines of
credit of $12,048,192 (RMB100,000,000), $8,433,735 (RMB70,000,000) and
$2,409,639 (RMB20,000,000) respectively to the Company.
3. Reduce capital investment activities to meet working capital
requirements. The Company has invested $25,000,000 in 2004 and 2003 to enlarge
its production lines. Based on valuation, the current production capacity has
reached the objective of annual production of 600,000 sets of automotive
steering gears. In 2005, the Company will reduce
39
its investment activities appropriately to meet its working capital
requirements.
INVESTING. During the year ended December 31, 2004, the Company expended net
cash of $18,230,256 in investment activities, including 18,352,025 expenditure
in investment in continued operations investment. The $18,352,025 consisted of a
decrease in other receivables of $316,185, an increased investment of $626,506
in Henglong, and payments of $17,811,256 to acquire fixed assets, and $230,448
to acquire intangible assets. During the year ended December 31, 2003, the
Company expended cash of $9,197,806 in investment activities, including
$6,885,384 expenditure from continued operation. The $6,885,384 consisted of a
decrease in long-term investment of $1,189,157, an increase in other receivable
of $1,211,794, and payments of $6,534,519 to acquire fixed assets, and $328,228
to acquire intangible assets.
During 2003 and 2004, the Company purchased $10,330,000 land and buildings,
$14,510,000 machines and equipment and enlarged its production capacity to
600,000 sets of steering gears annually from 150,000 sets of steering gears
annually in 2002. The Company also increased its equity interest in Henglong
from 42% in 2003 to 44.5% in 2004 by investing about $626,506.
FINANCING. During the year ended December 31, 2004, the Company expended net
cash of $2,701,354 in financing activities, including $3,882,077 expenditure
from continued operations. The $3,882,077 consisted of the proceeds from bank
loans of $3,975,904, contributions to capital by minority interest holders of
$1,251,085, less dividend payments to the minority interest holders of
Joint-venture companies $4,469,379, and a decrease in amounts due to
shareholders/directors of $4,639,687. During the year ended December 31, 2003,
the Company generated net cash of $10,384,665 in financing activities,
consisting of the proceeds from bank loans of $6,101,410, advances from
shareholders/directors of $6,770,887, contributions to capital by minority
interest holders of $159,000, less dividend payments of $2,646,632. In 2004, the
Company repaid shareholders/directors $4,639,687 for their advances in prior
years at their request.
DISCONTINUED OPERATIONS. As mentioned above, effective August 31, 2004, in order
to concentrate on its main products, namely steering and automotive parts, the
Company disposed of its 51% interest in Jingzhou. The divested non-core business
of Jingzhou has been treated as a discontinued operation under SFAS No. 144.
Jingzhou's cash flows have been reclassified as discontinued operations in the
Company's consolidated statements of cash flows. The Company's prior financial
statements have been restated to reflect the discontinued operations of
Jingzhou.
The following table presents the statements of cash flows of discontinued
operations-Jingzhou in 2004 and 2003:
40
2004 2003
---- ----
Cash flows from operating activities:
Net income from discontinued operations $ (21,591) $ (127,539)
Adjustments to reconcile income from discontinued
operations to net cash provided by operating
activities -- --
Minority shareholders' interests (20,745) (122,538)
Depreciation and amortization 83,537 74,909
Changes in operating assets and liabilities:
(Increase) Decrease in:
Accounts and notes receivable and
Advance payments 344,005 (344,005)
Inventories 317,306 (604,162)
Increase (Decrease) in:
Accounts and notes payable, accrued expenses,
other payables and customer deposits (912,507) 2,334,871
Increase(decrease) in liabilities related to
Acquisition of joint venture assets (1,204,819) 1,204,819
Taxes payable 60,308 (51,919)
----------- -----------
Net cash provided by(used in)operating activities (1,354,506) 2,364,436
----------- -----------
Cash flow from investing activities:
(Increase) Decrease in other receivables (300,750) (3,812)
Received (paid) cash for disposal fixed assets 35,412 (2,308,610)
Received (paid) cash from investing activities 387,107 --
----------- -----------
Net cash provided by(used in)investing activities 121,769 (2,312,422)
----------- -----------
Cash flows from financing activities:
(Increase (decrease) of proceeds from bank loans 602,410 --
Contributions to capital by minority interest holders 578,313 --
----------- -----------
Net cash provided by (used in) financing activities 1,180,723 --
----------- -----------
Cash and cash equivalents from discontinued operations:
Net increase(decrease) (52,014) 52,014
At beginning of period 52,014 --
----------- -----------
At end of period $ -- $ 52,014
=========== ===========
DISCLOSURES ABOUT CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS:
The Company has the following material contractual obligations and capital
expenditure
41
commitments:
Date Parties involved Description of Commitments and Contingencies
------------------ ----------------------------- ----------------------------------------------------
October 30, 2001 Henglong Ten year license agreement for the design of
& power steering systems.
Bishop Steering Technology
Limited ("Bishop"), an Henglong is obligated to pay Bishop a
Australian company technical assistance fee of approximately
$200,000 per year during the first
two years and $110,000 per year
during the remaining eight years
of the agreement.
March 2003 Henglong Purchase and construction agreement to
& design and construct a software research and
Wuhan Huazhong Shuguang development facility.
Software Park Co., Ltd.
Total value $4,820,000.
The Company paid $2,421,300 during
2003. The Company will pay an
additional $952,900 during 2004
and pay off the remaining
$1,445,800 after it receives a
license for the right to use the
land and a building property
certificate. During the year ended
December 31, 2004, the Company has
paid $3,164,241 based on the
construction progress, and
$1,655,759 remains outstanding.
July 21, 2003 Henglong Five year license and technical assistance
& agreement. Henglong paid Namyang an initial
Namyang Industrial Co. Ltd. payment of $100,000 and is further obligated
("Namyang"), a Korean to pay a royalty of 3% of the sales price of
manufacturer of steering products sold, which includes the licensed
assemblies for automobiles columns and universal joint technology.
October 2003 Henglong Invest $10,000,000 to develop an industrial
& enterprise to carry out automobile component
Wuhu Science and Technology projects related to power steering systems.
Zone The agreement does not specify a time limit.
The Company plans to invest in phases over a
five year period. The Company plans to invest
approximately $870,000 in the first phase to
acquire land use rights. The
42
Company advanced approximately
$435,000 during 2003 pursuant to the
agreement under the first phase. The
second phase of investment was
delayed because the local Government
did not complete its water and
electricity supply system on time.
This new plant is expected to
service a large vehicle manufacturer
in Wuhu at reduced transportation
and storage costs.
October 5, 2003 Henglong Letter of intent for a joint venture to
& develop a sensor production facility.
Advanced Custom Sensors,
Henglong will be responsible for initial
loans and payments of $500,000, payable in
two installments of $250,000, to be used for
the development of related products, the
training of personnel, and other operating
costs. The first payment of $250,000 was
made on February 12, 2004. The Company paid
$45,000 on August 31, 2004 based on the development
progress. The Company expects to pay the remaining
$205,000 during 2005.
March to December, Henglong & some Have entered into some equipment purchase contracts
2004 equipment manufacturers with a total value of approximately $4,720,000.
Henglong has paid $1,740,000 during 2004, and will
pay off the remaining $2,980,000 during 2005.
March to December Jiulong & some Have entered into some equipment purchase contracts with a
2004 equipment manufacturers total value of approximately $2,750,000. Jiulong has
paid $1,020,000 during 2004, and will
pay off the remaining $1,730,000 during 2005.
INFLATION AND CURRENCY MATTERS:
In the most recent decade, the Chinese economy has experienced periods of
rapid economic growth as well as relatively high rates of inflation, which in
turn has resulted in the periodic adoption by the Chinese government of various
corrective measures designed to regulate growth and contain inflation. The
success of the Company depends in substantial part on the continued growth and
development of the Chinese economy.
Foreign operations are subject to certain risks inherent in conducting
business abroad, including price and currency exchange controls, and
fluctuations in the relative value of currencies. The Company conducts virtually
all of its business
43
in China and, accordingly, the sale of its products is settled primarily in RMB.
As a result, devaluation or currency fluctuation of the RMB against the USD
would adversely affect the Company's financial performance when measured in USD.
Although prior to 1994 the RMB experienced significant devaluation against the
USD, the RMB has remained fairly stable since then. In addition, the RMB is not
freely convertible into foreign currencies, and the ability to convert the RMB
is subject to the availability of foreign currencies. Effective December 1,
1998, all foreign exchange transactions involving the RMB must take place
through authorized banks or financial institutions in China at the prevailing
exchange rates quoted by the People's Bank of China.
As China has recently been admitted as a member of the World Trade
Organization, the central government of China is expected to adopt a more
rigorous approach to partially deregulate currency conversion restrictions,
which may in turn increase the exchange rate fluctuation of the RMB. Should
there be any major change in the Chinese central government's currency policies,
the Company does not believe that such an action would have a detrimental effect
on the Company's operations, since the Company conducts virtually all of its
business in China, and the sale of its products is settled in RMB.
Although prior to 1994 the RMB experienced significant devaluation against
the USD, the RMB has remained fairly stable since then. The exchange rate was
approximately US$1.00 to RMB 8.30 at December 31, 2003 and 2004.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK:
The Company does not have any market risk with respect to such factors as
commodity prices, equity prices, and other market changes that affect market
risk sensitive investments. A 10 basis point change in the Company's average
debt interest rate would not have a material effect on the Company's results of
operations.
With respect to foreign currency exchange rates, the Company does not
believe that a devaluation or fluctuation of the RMB against the USD would have
a detrimental effect on the Company's operations, since the Company conducts
virtually all of its business in China, and the sale of its products and the
purchase of raw materials and services are settled in RMB. The effect of a
devaluation or fluctuation of the RMB against the USD would affect the Company's
results of operations, financial position and cash flows, when presented in USD
(based on a current exchange rate) as compared to RMB.
As the Company's debt obligations are primarily short-term in nature, with
fixed interest rates, the Company does not have any risk from an increase in
market interest rates. However, to the extent that the Company arranges new
borrowings in the future, an increase in market interest rates would cause a
commensurate increase in the interest expense related to such borrowings.
44
RECENT ACCOUNTING PRONOUNCEMENTS
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133
on Derivative Instruments and Hedging Activities". SFAS No. 149 amends and
clarifies under what circumstances a contract with initial investments meets the
characteristics of a derivative and when a derivative contains a financing
component. SFAS No. 149 is effective for contracts entered into or modified
after June 30, 2003. The adoption of SFAS No. 149 did not have a significant
effect on the Company's financial statement presentation or disclosures.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity". SFAS
No. 150 establishes standards for how an issuer classifies and measures in its
statement of financial position certain financial instruments with
characteristics of both liabilities and equity. SFAS No. 150 requires that an
issuer classify a financial instrument that is within its scope as a liability
(or an asset in some circumstances) because that financial instrument embodies
an obligation of the issuer. SFAS No. 150 is effective for financial instruments
entered into or modified after May 31, 2003 and otherwise is effective at the
beginning of the first interim period beginning after June 15, 2003. SFAS No.
150 is to be implemented by reporting the cumulative effect of a change in
accounting principle for financial instruments created before the issuance date
of SFAS No. 150 and still existing at the beginning of the interim period of
adoption. Restatement is not permitted. The adoption of SFAS No. 150 did not
have a significant effect on the Company's financial statement presentation or
disclosures.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN 45"). FIN 45 elaborates on the
existing disclosure requirements for most guarantees, including loan guarantees
such as standby letters of credit. It also clarifies that at the time a company
issues a guarantee, the company must recognize an initial liability for the fair
market value of the obligations it assumes under that guarantee and must
disclose that information in its interim and annual financial statements. The
initial recognition and measurement provisions of FIN 45 apply on a prospective
basis to guarantees issued or modified after December 31, 2002. The Company
implemented the disclosure provisions of FIN 45 in its December 31, 2002
consolidated financial statements, and the measurement and recording provisions
of FIN No. 45 effective January 1, 2003.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities (and Interpretation of ARB No. 51)" ("FIN 46"). FIN
46 requires that the primary beneficiary in a variable interest entity
consolidate the entity even if the primary beneficiary does not have a majority
45
voting interest. The consolidation requirements of FIN 46 are required to be
implemented for any variable interest entity created on or after January 31,
2003. In addition, FIN 46 requires disclosure of information regarding
guarantees or exposures to loss relating to any variable interest entity
existing prior to January 31, 2003 in financial statements issued after January
31, 2003. The implementation of the provisions of FIN 46 effective January 31,
2003 did not have a significant effect on the Company's consolidated financial
statement presentation or disclosures.
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs - an
Amendment of ARB No. 43, Chapter 4." This statement clarifies the accounting for
abnormal amounts of idle facility expense, freight handling costs and spoilage,
requiring these items be recognized as current-period charges. In addition, this
statement requires that allocation of fixed production overheads to the costs of
conversion be based on the normal capacity of the production facilities. The
provisions of this statement are effective for inventory costs incurred during
fiscal years beginning after June 15, 2005. The adoption of this accounting
principle is not expected to have a material impact on the Company's financial
statements.
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment
(Revised 2004)." This statement addresses the accounting for share-based payment
transactions in which a company receives employee services in exchange for the
company's equity instruments or liabilities that are based on the fair value of
the company's equity securities or may be settled by the issuance of these
securities. SFAS No. 123R eliminates the ability to account for share-based
compensation using the intrinsic value method and generally requires that such
transactions be accounted for using a fair value method. The provisions of this
statement are effective for financial statements issued for fiscal periods
beginning after June 15, 2005. The Company has yet to determine a transition
method to adopt SFAS 123R or which valuation method to use. The full impact that
the adoption of this statement will have on the Company's financial statements
will be determined by share-based payments granted in future periods, the
transition method and valuation model used.
In December 2004, the FASB issued FASB Statement No. 153, "Exchanges of
Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for
Nonmonetary Transactions" ("FAS 153"). FAS 153 requires that exchanges of
nonmonetary assets be measured based on the fair value of the assets exchanged.
Further, it expands the exception for nonmonetary exchanges of similar
productive assets to nonmonetary assets that do not have commercial substance.
The provisions of this Statement are effective for nonmonetary asset exchanges
occurring in fiscal periods beginning after June 15, 2005. The adoption of the
provisions of FAS 153 is not expected to have a material impact on our financial
position or results of operations.
In December 2004, the FASB issued FASB Staff Position No. FAS 109-1 ("FAS
109-1"),
46
"Application of FASB Statement No. 109, "Accounting for Income Taxes," to the
Tax Deduction on Qualified Production Activities Provided by the American Jobs
Creation Act of 2004." The AJCA introduces a special 9% tax deduction on
qualified production activities. FAS 109-1 clarifies that this tax deduction
should be accounted for as a special tax deduction in accordance with Statement
109. Pursuant to the AJCA, the Company do not have any operating activities so
far. We do not expect the adoption of these new tax provisions to have a
material impact on our consolidated financial position, results of operations or
cash flows.
In June 2004, the FASB issued Emerging Issues Task Force Issue No. 02-14
("EITF 02-14"), "Whether an Investor Should Apply the Equity Method of
Accounting to Investments Other Than Common Stock." EITF 02-14 addresses whether
the equity method of accounting applies when an investor does not have an
investment in voting common stock of an investee but exercises significant
influence through other means. EITF 02-14 states that an investor should only
apply the equity method of accounting when it has investments in either common
stock or in-substance common stock of a corporation, provided that the investor
has the ability to exercise significant influence over the operating and
financial policies of the investee. The accounting provisions of EITF 02-14 are
effective for reporting periods beginning after September 15, 2004. We do not
expect the adoption of EITF 02-14 to have a material impact on our consolidated
financial position, results of operations or cash flows.
In March 2004, the FASB issued EITF Issue No. 03-1 ("EITF 03-1"), "The
Meaning of Other-Than-Temporary Impairment and Its Application to Certain
Investments" which provided new guidance for assessing impairment losses on
investments. Additionally, EITF 03-1 includes new disclosure requirements for
investments that are deemed to be temporarily impaired. In September 2004, the
FASB delayed the accounting provisions of EITF 03-1; however the disclosure
requirements remain effective for annual periods ending after June 15, 2004 (see
Note 4). We will evaluate the impact of EITF 03-1 once final guidance is issued.
ITEM 7. FINANCIAL STATEMENTS.
(a) FINANCIAL STATEMENTS
The following financial statements are set forth at the end hereof.
1. Report of Independent Auditors
2. Consolidated Balance Sheets as of December 31, 2004 and
December 31, 2003.
3. Consolidated Statements of Operations for the years ended
December 31, 2004 and December 31, 2003.
4. Consolidated Statements of Changes in Stockholders' Equity for
47
the years ended December 31, 2004 and 2003.
5. Consolidated Statements of Cash Flows for the years ended
December 31, 2004 and December 31, 2003.
6. Notes to Consolidated Financial Statements.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Effective May 6, 2003, the Company dismissed Armando C. Ibarra ("Ibarra"),
as the Company's independent accountant. Effective May 6, 2003, the Company
engaged Schwartz Levitsky Feldman LLP ("SLF") as its new independent
accountants. The Company's Board of Directors approved the dismissal of Ibarra
and the engagement of SLF.
Prior to SLF becoming the Company's independent accountants, SLF was not
consulted by the Company or anyone on the Company's behalf regarding either the
application of accounting principles to a specific or contemplated transaction,
or the type of audit opinion that might be rendered on the Company's financial
statements; or any matter that was the subject of a disagreement or event as
defined at Item 304 (a)(1)(iv) of Regulation S-B.
Ibarra audited the Company's financial statements for the fiscal years
ended December 31, 2001 and 2002. Ibarra's reports for these periods did not
contain an adverse opinion or a disclaimer of opinion, nor were they qualified
as to audit scope or accounting principles, except that reports indicated that
the Company's losses from operations raised substantial doubt about its ability
to operate as a going concern.
During the fiscal years ended December 31, 2001 and 2002 and the interim
period from January 1, 2003 through May 6, 2003, there were no disagreements
with Ibarra on any matter of accounting principles or practices, financial
statement disclosure, or auditing scope or procedure, which disagreements, if
not resolved to the satisfaction of Ibarra, would have caused such firm to make
reference to the subject matter of the disagreements in connection with its
report on the Company's financial statements. In addition, there were no such
events as described under Item 304(a)(1)(IV)(B) of Regulation S-B during the
fiscal years ended December 31, 2002 and 2001 and the interim period from
January 1, 2003 through May 6, 2003.
ITEM 8A CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures: As of December 31,
2004, the end of the period covered by this report, the Company's chief
executive officer and its chief financial officer reviewed and evaluated the
effectiveness of the Company's disclosure controls and procedures (as defined in
48
Exchange Act Rule 13a-15(e) and 15d-15(e)), which are designed to ensure that
material information the Company must disclose in its report filed or submitted
under the Securities Exchange Act of 1934, as amended (the "Exchange Act") is
recorded, processed, summarized, and reported on a timely basis, and have
concluded, based on that evaluation, that as of such date, the Company's
disclosure controls and procedures were effective to ensure that information
required to be disclosed by the Company in reports that it files or submits
under the Exchange Act is accumulated and communicated to the Company's chief
executive officer and chief financial officer as appropriate to allow timely
decisions regarding required disclosure.
(b) Changes in internal controls over financial reporting: For the fiscal
year ended December 31, 2004, there has been no change in the Company's internal
control over financial reporting that has materially affected, or is reasonably
likely to materially affect, its internal control over financial reporting.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS OF THE REGISTRANT MANAGEMENT
The following table and text set forth the names and ages of all directors
and executive officers of the Company as of December 31, 2004. The Board of
Directors is comprised of only one class. All of the directors will serve until
the next annual meeting of stockholders and until their successors are elected
and qualified, or until their earlier death, retirement, resignation or removal.
Also provided herein are brief descriptions of the business experience of each
director and executive officer during the past five years and an indication of
directorships held by each director in other companies subject to the reporting
requirements under the Federal securities laws.
Name Age Position(s)
Hanlin Chen 47 Chief Executive Officer and Chairman
of the Board
Qizhou Wu 40 Chief Operating Officer and Director
Guofu Dong 39 Vice President and Director
Daming Hu 46 Chief Financial Officer
Li Ping Xie 44 Director
Yiu Wong Tse Andy 34 Sr. VP, Director
Robert Tung 48 Director
Dr. Haimian Cai 41 Director
William E. Thomson 63 Director
BIOGRAPHIES OF DIRECTORS AND EXECUTIVE OFFICERS:
Hanlin Chen has served as chairman of the board and CEO since March
49
2003. Mr. Chen is a standing board member of Political Consulting Committee of
Jingzhou city and vice president of Foreign Investors Association of Hubei
Province. He was the general manager of Jiulong from 1993 to 1997. Since 1997,
he has been the Chairman of the Board of Henglong. Mr. Chen graduated from
Barrington University with an MBA degree.
Qizhou Wu has served as the Chief Operating Officer since March 2003. He
was the Managing Vice General Manager of Jiulong from 1993 to 1999 and GM of
Henglong from 1999 to 2002. Mr. Wu graduated from Tsinghua University in Beijing
with a Masters degree in Automobile Engineering.
Guofu Dong has served as the Vice President of the Company and oversees
general management, international business and investor relations since March
2003. Mr. Dong has over ten years experience in corporate management and
strategic development. Mr. Dong graduated from Fujian Normal University with a
Bachelor of Arts degree. He also completed his law degree in Fudan University.
Daming Hu has served as the Chief Financial Officer of the Company since
March 2003. He is in charge of corporate account planning, reporting and tax
planning. Mr. Hu was the Finance Manager of Jiulong from 1996 to 1999 and
Finance Manager of Heng Long from 1999 to 2002.
Liping Xie has served as a director of the Company since March 2003. She
is the Vice GM of Xiamen Joylon Co., Ltd. She was the Vice GM at Xiamen Jiayum
Auto-parts Repairing Company from 1990-1999. Ms. Xie is the wife of the
Company's Chief Executive Officer, Mr. Hanlin Chen.
Andy Yiu Wong Tse has served as Sr. VP of the Company since March 2003. He
has also served as the general manager of the Henglong and Jiulong joint
ventures and the chairman of the board of Shenyang since 2003. He was the vice
GM of Jiulong from 1993 to 1997 and the vice GM of Henglong. Mr. Tse has over 10
years of experience in automotive parts sales and strategic development. Mr. Tse
has an MBA from the China People University.
Robert Tung has been a Director of the Company since September 2003 and a
member of the Company's Audit Committee, Compensation Committee and Nominating
Committee. Mr. Tung is currently the President of Multi-Media Communications,
Inc. and Executive Vice President of Super Microbial Sciences International,
LLC. Mr. Tung holds an M.S. in Chemical Engineering from the University of
Virginia and B.S. degrees in Computer Science and Chemical Engineering from the
University of Maryland and National Taiwan University, respectively.
Dr. Haimian Cai has been a Director since September 2003 and a member of
the Company's Audit Committee, Compensation Committee and Nominating Committee.
Dr. Cai is a technical specialist in the automotive industry. Prior to that, Dr.
Cai was a staff engineer in ITT Automotive Inc. Dr. Cai has written more than
fifteen technical
50
papers and co-authored a technical book regarding the power of metallurgy
industry for automotive application. Dr. Cai has more than ten patents including
pending patents. Dr. Cai holds a B.S. Degree in Automotive Engineering from
Tsinghua University and a M.S. and Ph.D in manufacturing engineering from
Worcester Polytechnic Institute
William E. Thomson, CA has been a Director of the Company since September
2003 and is a member of the Company's Audit, Compensation and Nominating
Committees. Mr. Thomson has been the president of Thomson Associates, Inc., a
merchant banking company, since 1978. Mr. Thomson's current additional
directorships include: Nasdaq - Maxus Technology Inc. (Technology Waste
Recycling); TSX - Asia Media Group Ltd. Chm. (Media), Score Media Inc. (formerly
Headline Media Group Inc.) (Media), YTW Weslea Growth Capital Corporation
(Capital Pool Company); Private -Corbett Waste Solutions Corporation (Barbados)
(Waste Management Solutions), Electrical Contacts Ltd. (Electrical Contacts),
Redpearl Funding Corporation (IT Financing), Wright Tech Systems Inc. (Waste
Management Solutions), YTW Growth Capital Management Corporation (Vice
Chairman); Not For Profit - World Education Services.
(a) COMPENSATION FOR DIRECTORS AND OTHER MATTERS
In 2004, directors received a certain amount for serving on the Board of
Directors. Each of the three independent directors received $24,000 cash
compensation and 7,500 stock options compensation in the year 2004. Other
directors (except Liping Xie who has received compensation of $16,000 for her
serving on the Board of Directors in 2004) have not been compensated for their
serving on the Board of Directors in the year 2004, but received their
compensation ranging from $40,000 to $100,000 as managers. In addition the
independent directors were reimbursed for any out-of-pocket expenses, if any,
incurred in attending board meetings.
(b) AUDIT COMMITTEE AND INDEPENDENT DIRECTORS
The Audit Committee consists of the following individuals, all of whom the
Company considers to be independent: Robert Tung, Haimian Cai, and William
Thomson. Mr. William Thomson is the Chairman of the Audit Committee. Mr. William
Thomson is the financial expert serving on the Company's audit committee.
(c) COMPENSATION COMMITTEE
The Compensation Committee is responsible for determining compensation for
the Company's executive officers. The Company's three independent directors,
Robert Tung, Haimian Cai and William Thomson serve on the Compensation
Committee. Mr. Haimian Cai is the Chairman of the Compensation Committee.
(d) NOMINATING COMMITTEE
Director candidates are nominated by the Nominating Committee. The
51
Nominating Committee will consider candidates based upon their business and
financial experience, personal characteristics, expertise that is complementary
to the background and experience of other Board members, willingness to devote
the required amount of time to carrying out the duties and responsibilities of
Board membership, willingness to objectively appraise management performance,
and any such other qualifications the Nominating Committee deems necessary to
ascertain the candidates ability to serve on the Board. The Nominating Committee
will not consider nominee recommendations from security holders, other than the
recommendations received from a security holder or group of security holders
that beneficially owned more than five (5) percent of the Company's outstanding
common stock for at least one year as of the date the recommendation is made.
The Company's independent directors, Robert Tung, Haimian Cai and William
Thomson, serve on the Nominating Committee. Mr. Robert Tung is the Chairman of
the Nominating Committee.
(e) STOCKHOLDER COMMUNICATIONS
Stockholders interested in communicating directly with the Board of
Directors, or specified individual directors, may email the Company's
independent director William Thomson at Bill.Thomson@chl.com.cn. Mr. Thomson
will review all such correspondence and will regularly forward to the Board
copies of all such correspondence that deals with the functions of the Board or
committees thereof or that he otherwise determines requires their attention.
Directors may at any time review all of the correspondence received that is
addressed to members of the Board of Directors and request copies of such
correspondence. Concerns relating to accounting, internal controls or auditing
matters will immediately be brought to the attention of the Audit Committee and
handled in accordance with procedures established by the Audit Committee with
respect to such matters.
(f) FAMILY RELATIONSHIPS
Mr. Chen and Ms. Xie are husband and wife.
Mr. Andy Yiu Wong Tse and Ms. Liping Xie are brother and sister.
(g) INVOLVEMENT IN LEGAL PROCEEDINGS
To the best of the Company's knowledge, during the past five years, none
of the following occurred with respect to a present or former director or
executive officer of the Company: (1) any bankruptcy petition filed by or
against any business of which such person was a general partner or executive
officer either at the time of the bankruptcy or within two years prior to that
time; (2) any conviction in a criminal proceeding or being subject to a pending
criminal proceeding (excluding traffic violations and other minor offenses); (3)
being subject to any order, judgment or decree, not subsequently reversed,
suspended or vacated, of any court of any competent jurisdiction, permanently or
temporarily enjoining, barring, suspending or otherwise limiting his involvement
in any type of business, securities or banking activities; and (4) being found
52
by a court of competent jurisdiction (in a civil action), the SEC or the
Commodities Futures Trading Commission to have violated a federal or state
securities or commodities law, and the judgment has not been reversed, suspended
or vacated.
(h) CODE OF ETHICS AND CONDUCT
The Board of Directors has adopted a Code of Ethics and Conduct which is
applicable to all officers directors and employees. The Code of Ethics and
Conduct was attached to the Form 10-K for year ended December 31, 2003.
(i) SECTION 16(a) BENEFICIAL OWNERSHIP COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
the Company's executive officers and directors and persons who own more
than 10% of a registered class of the Company's equity securities to file
with the Securities and Exchange Commission initial statements of
beneficial ownership, reports of changes in ownership and annual reports
concerning their ownership of common stock and other of the Company's
equity securities, on Forms 3, 4 and 5 respectively. Executive officers,
directors and greater than 10% stockholders are required by Commission
regulations to furnish the Company with copies of all Section 16(a)reports
they file. To the best of the Company's knowledge (based solely upon a
review of the Form 3, 4 and 5 filed), no officer, director or 10%
beneficial shareholder failed to file on a timely basis any reports
required by Section 16(a) of the Securities Exchange Act of 1934, as
amended.
ITEM 10. EXECUTIVE COMPENSATION
The following Summary Compensation Table sets forth the compensation
earned by the Company's Chief Executive Officer. No other executive officer(s)
received compensation for the fiscal year 2004 in excess of $100,000.
53
SUMMARY COMPENSATION TABLE
Long-Term Compensation
-------------------------------------------------
Awards Payouts
------------------- ---------------------------
Securities
Other Under- All
Annual Compensation Annual Restricted lying Other
----------------------------- Compen- Stock Options/ LTIP
Name and Salary Bonus sation Award(s) SARs Payouts
Principal Position Year ($) ($) ($) ($) (#) ($) ($)
(a) (b) (c) (d) (e) (f) (g) (h) (i)
------------------ ----- ---------- -------- ------- ---------- ------ ------ --------
Hanlin Chen 2004 100,000.00 -0- 0 0 0 0 0
Hanlin Chen 2003 49,885.00 -0- 0 0 0 0 0
Hanlin Chen 2002 15,883.00 1,237 0 0 0 0 0
Hanlin Chen 2001 5,564.00 1,087 0 0 0 0 0
There are no employment agreements with any of the Company's executive
officers and there are no stock option grants.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
As used in this section, the term beneficial ownership with respect to a
security is defined by Rule 13d-3 under the Securities Exchange Act of 1934, as
amended, as consisting of sole or shared voting power (including the power to
vote or direct the vote) and/or sole or shared investment power (including the
power to dispose of or direct the disposition of) with respect to the security
through any contract, arrangement, understanding, relationship or otherwise,
subject to community property laws where applicable. The percentage ownership is
based on 22,574, 542 shares of Common Stock outstanding at December 31, 2004.
Total Number Percentage
Name/Title of Shares Ownership
Hanlin Chen, CEO, Chairman and President 13,280,547 58.8%
Qizhou Wu, COO, Director 2,195,996 9.7%
Guofu Dong, Vice President, Director 627,429 2.8%
54
Daming Hu, CFO -- --
Liping Xie, Director 2,091,425 9.3%
Yiu Wong Tse Andy, Sr. VP, Director 1,359,426 6.0%
Robert Tung, Director -- --
Dr. Haimian Cai, Director -- --
William E. Thomson, Director -- --
---------- ----
All Directors and Executive Officers 19,554,823 86.6%
(9 persons) ========== ====
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Effective August 2, 2003, the Company entered into a five-year License and
Technical Assistance Agreement (the "Agreement") with Sino-American, Inc.
("Sino-American"), a United States company controlled by the Company's Chairman
and controlling shareholder. The Agreement provided for total payments of
$6,000,000 to enable Sino-American to purchase technical assistance and
equipment for use in the Company's business operations in China. During November
2003, $2,000,000 was paid by the Company to Sino-American, which has been
classified as advance payments in the consolidated balance sheet at December 31,
2003 and 2004, net of amounts expended through such date.
This agreement also allowed the Company to transfer funds from China to
the United States to fund normal corporate general and administrative expenses.
Through December 31, 2004, Sino-American had paid, on behalf of or for the
benefit of the Company, a total of $1,931,105, including a $250,000 initial
investment in a joint venture with an unrelated party, $255,000 for equipment
and $180,000 for software to unrelated third parties, $250,000 to the Company's
Chairman and controlling shareholder as reimbursement for costs incurred by him
related to the March 2003 recapitalization, and $996,105 for selling, general
and administrative expenses for the benefit of or on behalf of the Company. As
this Agreement was terminated effective April 1, 2004, the unexpended funds were
repaid to the Company subsequent to that date or continue to be used to pay
normal operating expenses on behalf of the Company. The $250,000 reimbursement
to the Chairman and controlling shareholder was recorded as a charge to
operations during the three months ended March 31, 2003.
Effective August 31, 2004, in order to concentrate on its main products,
namely steering and automotive parts, the Company disposed of its 51% interest
in Jingzhou by entering into an equity exchange agreement (the "Exchange
Agreement") with Hubei Wanlong Investment Co., Ltd ("Hubei Wanlong"), which is
controlled by Mr. Chen Hanlin, the Chairman of the Company. Pursuant to the
Exchange Agreement, the 51% equity interest in Jingzhou owned by Ji Long was
exchanged for 2.5% of Hubei Wanlong's equity interests in Henglong based on
their respective fair market values as determined by an independent appraisal
firm. The difference between the fair value and the book value resulting from
the disposition of the joint venture interest in Jingzhou was debited to
additional paid-in capital. With respect to consideration paid by the Company in
excess of the Chairman's basis in
55
his investment, such excess has been charged to additional paid-in capital as a
distribution to the Chairman, resulting in the acquired 2.5% equity interests in
Henglong being recorded by the Company at the Chairman's original cost basis.
The Company paid approximately $90,000 to Hubei Wanlong in conjunction with this
transaction.
ITEM 13. EXHIBITS.
The following is a list of exhibits filed as part of this Annual Report on
Form 10-KSB. Where so indicated by footnote, exhibits that were previously filed
are incorporated by reference.
Exhibit Number Description
-------------- -----------
2.1 Equity Exchange Agreement, dated October 23, 2004,
incorporated herein by reference from the Filing
on Form 8-K filed with the Commission on October
27, 2004.
10.1 Technology License Agreement between Korea Delphi
Automotive Systems Corporation and Jingzhou
Henglong Automotive Parts Co., Ltd.*
31.1 Certification under Section 302 of the
Sarbanes-Oxley Act of 2002*
31.2 Certification under Section 302 of the
Sarbanes-Oxley Act of 2002*
32.1 Certification under Section 906 of the
Sarbanes-Oxley Act of 2002*
32.2 Certification under Section 906 of the
Sarbanes-Oxley Act of 2002*
--------------------
* Filed herewith
56
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The following table sets forth the aggregate fees for professional audit
services rendered by Schwartz Levitsky Feldman LLP ("SLF") for the audit of the
Company's annual financial statements for the fiscal years 2004 and 2003, and
fees billed for other services provided by Schwartz Levitsky Feldman LLP for
fiscal years 2004 and 2003.
Fiscal Year Ended
2004 2003
-------------- --------------
Audit Fees $ 190,000.00 $ 140,000.00
Audit-Related Fees(1) -- $ 21,000.00
Tax Fees (2)
All Other Fees -- $ 5,750.00
-------------- --------------
Total Fees Paid $ 190,000.00 $ 166,750.00
============== ==============
(1) Includes accounting and reporting consultations related to acquisitions and
internal control procedures.
(2) Includes fees for service related to tax compliance services, preparation
and filing of tax returns and tax consulting services.
Audit Committee's Pre-Approval Policy
During fiscal year ended December 31, 2003 and 2004, the Audit Committee
of the Board of Directors adopted policies and procedures for the pre-approval
of all audit and non-audit services to be provided by the Company's independent
auditor and for the prohibition of certain services from being provided by the
independent auditor. The Company may not engage the Company's independent
auditor to render any audit or non-audit service unless the service is approved
in advance by the Audit Committee or the engagement to render the service is
entered into pursuant to the Audit Committee's pre-approval policies and
procedures. On an annual basis, the Audit Committee may pre-approve services
that are expected to be provided to the Company by the independent auditor
during the fiscal year. At the time such pre-approval is granted, the Audit
Committee specifies the pre-approved services and establishes a monetary limit
with respect to each particular pre-approved service, which limit may not be
exceeded without obtaining further pre-approval under the policy. For any
pre-approval, the Audit Committee considers whether such services are consistent
with the rules of the Securities and Exchange Commission on auditor
independence.
57
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Company
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
CHINA AUTOMOTIVE SYSTEMS, INC.
Dated: March 29, 2005 /s/ Hanlin Chen
------------------------------------
Name: Hanlin Chen
Title: Chairman, CEO and President
In accordance with the Securities Exchange Act of 1934, this report has
been signed below by the following persons on behalf of the Company and in the
capacities and on the dates indicated.
Dated: March 29, 2005 /s/ Hanlin Chen
------------------------------------
Name: Hanlin Chen
Title: Chairman, CEO and President
Dated: March 29, 2005 /s/ Daming Hu
------------------------------------
Name: Daming Hu
Title: CFO
Dated: March 29, 2005 /s/ Qizhou Wu
------------------------------------
Name: Qizhou Wu
Title: COO, Director
Dated: March 29, 2005 /s/ Guofu Dong
------------------------------------
Name: Guofu Dong
Title: Vice President, Director
Dated: March 29, 2005 /s/ Liping Xie
------------------------------------
Name: Liping Xie
Title: Director
58
Dated: March 29, 2005 /s/ Tse Yiu Wong Andy
------------------------------------
Name: Tse Yiu Wong Andy
Title: ST. VP, Director
Dated: March 29, 2005 /s/ Robert Tung
------------------------------------
Name: Robert Tung
Title: Director
Dated: March 29, 2005 /s/ Dr. Haimian Cai
------------------------------------
Name: Dr. Haimian Cai
Title: Director
Dated: March 29, 2005 /s/ William E. Thomson
------------------------------------
Name: William E. Thomson
Title: Director
59
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
China Automotive Systems, Inc.
We have audited the accompanying consolidated balance sheets of China
Automotive Systems, Inc. as at December 31, 2004 and 2003 and the related
consolidated statements of operations, cash flows and changes in stockholders'
equity for the years then ended. These consolidated financial statements are
the responsibility of the management of China Automotive Systems, Inc. Our
responsibility is to express and opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the consolidated financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provides a reasonable basis for our opinion.
In our opinion, these consolidated financial statements referred to above
present fairly, in all material respects, the financial position of China
Automotive Systems, Inc. as of December 31, 2004 and 2003 and the results of
its operations and its cash flows for the years then ended in conformity with
generally accepted accounting principles in the United States of America.
Toronto, Ontario, Canada
January 28, 2005,
/s/ Schwartz Levitsky Feldman LLP
--------------------------------------
Schwartz Levitsky Feldman LLP
Chartered Accountants
China Automotive Systems, Inc. and Subsidiaries
Consolidated Balance Sheets
December 31, 2004 and 2003
2004 2003
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $ 11,164,639 $ 10,678,868
Pledged cash deposits 1,842,536 1,272,067
Accounts and notes receivable,
including $982,722 and $1,248,328 from
related parties, net of an allowance for doubtful
accounts of $2,944,990 and $ 2,757,374 at
December 31, 2004 and 2003, respectively 37,632,603 38,667,831
Advance payments, including
$433,724 and $1,513,973 to related
parties at December 31, 2004 and 2003, respectively 3,886,406 9,648,542
Inventories 12,507,910 9,625,260
Current assets from discontinued
operations (see Note 19) -- 1,000,181
------------ ------------
Total current assets 67,034,094 70,892,749
------------ ------------
Long-term Assets:
Property, plant and equipment 43,552,725 25,741,469
Less: Accumulated depreciation (7,609,101) (5,625,114)
Discontinued property, plant
and equipment (see Note 19) -- 2,233,701
------------ ------------
35,943,624 22,350,056
------------ ------------
Intangible assets, net 392,552 218,639
Other receivables, including
60
$974,815 and $1,472,758 to related parties,
net of an allowance for doubtful
accounts of $930,425 and $1,053,047 at
December 31,2004 and 2003 respectively 2,044,086 2,309,205
Long-term investments 72,289 72,289
Other assets from discontinued operations - 3,812
(See Note 19)
------------ ------------
Total assets $105,486,645 $ 95,846,750
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Bank loans $ 13,614,458 $ 9,638,554
Accounts and notes payable,
including $522,754 and $1,175,006 to related
parties ended December 31, 2004 and 2003,
respectively 28,518,720 22,928,944
Customer deposits 227,389 652,475
Accrued payroll and related costs 1,370,576 1,168,189
Accrued expenses and other payables 5,005,525 1,210,863
Accrued pension costs 2,438,971 1,516,649
Taxes payable 3,814,746 6,320,722
Amounts due to
shareholders/directors 589,594 5,229,281
Current liabilities of
discontinued operation (See Note 19) - 2,282,952
------------ ------------
Total current liabilities 55,579,979 50,948,629
------------ ------------
Long-term Liabilities:
Advances payable 196,378 196,547
------------ ------------
Total long-term liabilities 196,378 196,547
------------ ------------
Minority interest 17,571,838 18,686,712
------------ ------------
Stockholders' equity:
Preferred stock, $0.0001 par value -
Authorized - 20,000,000 shares
Issued and outstanding - None -- --
Common stock, $0.0001 par value -
Authorized - 80,000,000 shares
Issued and Outstanding -
22,574,542 shares and 22,574,542
61
shares at December 31, 2004 and
2003, respectively 2,257 2,257
Additional paid-in capital 18,003,168 18,779,880
Retained earnings -
Appropriated 4,396,339 3,775,254
Unappropriated 9,733,626 3,461,621
Accumulated other comprehensive income (loss) 3,060 (4,150)
------------ ------------
Total stockholders' equity 32,138,450 26,014,862
------------ ------------
Total liabilities and stockholders'
equity $105,486,645 $ 95,846,750
============ ============
The accompanying notes are an integral part of these
consolidated financial statements
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Operations
Years Ended December 31, 2004 and 2003
2004 2003
------------ ------------
Net sales from continued operations, including
$1,682,625 and $2,666,000 sold to
related parties ended December 31,
2004 and 2003, respectively $ 58,185,845 $ 53,624,868
Cost of sales, including $1,703,179 and $1,663,483
purchased from related parties ended December 31,
2004 and 2003, respectively 35,042,352 28,635,908
------------ ------------
Gross profit 23,143,493 24,988,960
------------ ------------
Costs and expenses:
Selling 3,473,804 2,719,576
General and administrative 6,478,859 7,603,756
Research and development 1,518,512 1,017,031
Depreciation and amortization 848,009 1,321,601
Stock-based compensation 55,125 1,300,000
------------ ------------
Total costs and expenses 12,374,309 13,961,964
------------ ------------
Income from operations 10,769,184 11,026,996
------------ ------------
62
Other income (expenses):
Other non-operating income 1,651,560 532,583
Financial expenses (730,962) (333,336)
------------ ------------
Other income, net 920,598 199,247
------------ ------------
Income before income taxes 11,689,782 11,226,243
Income taxes 618,400 1,750,940
------------ ------------
Income from continued operations
before minority interest 11,071,382 9,475,303
Minority interest from
continued operation 4,182,454 5,476,495
------------ ------------
Net income from continued operation 6,888,928 3,998,808
Net (loss) from discontinued operation
(See Note 19) (21,591) (127,539)
------------ ------------
Net income $ 6,867,337 $ 3,871,269
============ ============
Net income per common share -
Net income from continued operation -
Basic and diluted $ 0.30 $ 0.19
============ ============
Net (loss) from discontinued
Operation - Basic and diluted $ (0.00) $ (0.01)
============ ============
Basic $ 0.30 $ 0.18
============ ============
Diluted $ 0.30 $ 0.18
============ ============
Weighted average common
shares outstanding -
Basic 22,574,542 21,773,149
============ ============
Diluted 22,582,494 22,075,006
============ ============
The accompanying notes are an integral part of these
consolidated financial statements.
63
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
Years Ended December 31, 2004 and 2003
2004 2003
---------- -----------
Net income $6,867,337 $ 3,871,269
Other comprehensive loss:
Foreign currency translation income (loss) 7,210 (4,150)
---------- -----------
Comprehensive income $6,874,547 $ 3,867,119
========== ===========
The accompanying notes are an integral part of these
consolidated financial statements.
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 2004 and 2003
Common Stock Preferred Stock Additional
---------------------- -------------------- Paid-in
Shares Par Value Shares Par Value Capital
---------- --------- -------- --------- ------------
Balance,
December 31, 2003 22,574,542 $ 2,257 $ -- $ -- $ 18,779,880
Foreign currency
translation gain( loss) -- -- -- -- --
Deemed distribution to
shareholders -- -- -- -- (831,837)
Deemed distribution to
minority shareholders -- -- -- -- --
Issuance of options for
independent directors -- -- -- -- 55,125
Appropriation of
Retained earnings -- -- -- -- --
---------- --------- -------- --------- ------------
Balance,
December 31, 2004 22,574,542 $ 2,257 $ -- $ -- $ 18,003,168
========== ========= ======== ========= ============
64
(continued)
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity (continued)
Years Ended December 31, 2004 and 2003
Accumulated
Retained Earnings Other
---------------------------- Comprehensive
Appropriated Unappropriated Income (Loss) Total
------------ -------------- ------------- ------------
Balance,
December 31, 2003 $ 3,775,254 $ 3,461,621 $ (4,150) $ 26,014,862
Foreign currency
translation gain -- -- 7,210 7,210
Deemed distribution to
shareholders -- -- -- (831,837)
Deemed distribution to
minority shareholders 25,753 -- -- 25,753
Issuance of options for
independent directors -- -- -- 55,125
Net income for the year ended
December 31,2004 -- 6,867,337 -- 6,867,337
Appropriation of
Retained earnings 595,332 (595,332) -- --
------------ -------------- ----------- ------------
Balance, ended
December 31, 2004 $ 4,396,339 $ 9,733,626 $ 3,060 $ 32,138,450
============ ============== =========== ============
The accompanying notes are an integral part of these consolidated financial
statements.
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31, 2004 and 2003
2004 2003
----------- ----------
Cash flows from operating activities:
Net income from continued operations $ 6,888,928 $3,998,808
Adjustments to reconcile net income
to net cash provided by operating
activities:
Minority shareholders' interests 4,182,454 5,476,495
Stock-based compensation 55,125 1,300,000
Depreciation and amortization 2,006,052 2,390,944
65
Provision for doubtful accounts (126,370) 777,841
Other operating adjustments 7,208 (34,492)
Changes in operating assets and
liabilities:
(Increase) decrease in:
Pledged cash deposits (570,468) 1,272,067
Accounts and notes receivable,
advance payments 6,800,004 (8,114,192)
Inventories (2,882,650) (423,884)
Increase (decrease) in:
Accounts and notes payable, accrued
expenses, customer deposits
and other payables 7,943,244 (9,694,814)
Accrued pension costs 922,322 755,692
Increase(decrease)liability related
to acquisition of joint venture assets -- --
Taxes payable (2,505,976) 3,660,139
Long-term liabilities -- 196,547
Net cash provided by (used in) operating activities
from discontinued operations (See Notes 19) (1,354,506) 2,364,436
----------- -----------
Net cash provided by (used in)
operating activities 21,365,367 3,925,587
----------- -----------
Cash flows from investing activities:
(Increase) Decrease in other receivables 316,185 (1,211,794)
Cash paid to acquire property, plant and equipment (17,811,256) (6,534,519)
Cash paid to acquire intangible assets (230,448) (328,228)
Increase (decrease) in long-term investments (626,506) 1,189,157
Net Cash provided by (used in) investing activities
from discontinued operations (See Notes 19) 121,769 (2,312,422)
----------- -----------
Net cash provided by (used in)
investing activities (18,230,256) (9,197,806)
----------- -----------
Cash Flows from financing activities:
Proceeds from bank loans, net 3,975,904 6,101,410
Dividends paid to be the minority interest holders of
Joint-venture companies (4,469,379) (2,646,632)
Increase (decrease) in amounts due to
shareholders/directors (4,639,687) 6,770,887
Contributions to capital by minority interest holders 1,251,085 159,000
Net cash provided by financing activities
from discontinued operations (See Notes 19) 1,180,723 --
----------- -----------
66
Net cash provided by (used in)
financing activities (2,701,354) 10,384,665
------------ ------------
Cash and cash equivalents from continued operations:
Net increase 485,771 5,060,432
Cash and cash equivalents from discontinued operations:
Net increase(decrease) (52,014) 52,014
At beginning of year 10,678,868 --
Adjustment as a result of change
to consolidation accounting
from equity accounting
effective January 1, 2003 -- 5,618,436
------------ ------------
At end of year $ 11,164,639 $ 10,678,868
============ ============
(continued)
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Cash Flows (continued)
Years Ended December 31, 2004 and 2003
2004 2003
----------- -----------
SUPPLEMENTAL DISCLOSURE OF
CASH FLOW INFORMATION:
Cash paid for interest $ 641,277 $ 399,610
=========== ===========
Cash paid for income taxes $ 1,676,290 $ 3,591,925
=========== ===========
SUPPLEMENTAL DISCLOSURE OF
NON-CASH INVESTING AND
FINANCING ACTIVITIES:
Cancellation of dividends
previously declared $ -- $17,167,000
67
Shares of common stock
retained by public
shareholders in March
2003 recapitalization $ -- $ 110
Exercise of warrants on
a cashless basis $ -- $ 51
Dividends declared $ -- $(2,295,394)
Advances from shareholders in
connection with dividends
declared $ -- $ 2,295,394
Deemed distribution to shareholders $ (831,837) $ (279,863)
Stock-based compensation $ 55,125 $ 1,300,000
The accompanying notes are an integral part of these
consolidated financial statements.
China Automotive Systems, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Years Ended December 31, 2004 and 2003
1. Organization and Business
Effective March 5, 2003, Visions-In-Glass, Inc., a United States public company
incorporated in the State of Delaware ("Visions"), entered into a Share Exchange
Agreement to acquire 100% of the shareholder interest in Great Genesis Holding
Limited, a company incorporated on January 3, 2003 under The Companies Ordinance
in Hong Kong as a limited liability company ("Great Genesis"), as a result of
which Great Genesis became a wholly-owned subsidiary of Visions. At the closing,
the old directors and officers of Visions resigned, and new directors and
officers were appointed. Visions subsequently changed its name to China
Automotive Systems, Inc.
China Automotive Systems, Inc., including, when the context so requires, its
subsidiaries and the subsidiaries' interests in the Sino-foreign joint ventures
described below, is referred to herein as the "Company". The Company, through
its Sino-foreign joint ventures described below, is primarily engaged in the
manufacture and sale of automotive systems and components in the People's
Republic of China (the "PRC" or "China") as described below.
68
Ji Long Enterprise Investment Limited was incorporated on October 8, 1992 under
the Companies Ordinance in Hong Kong as a limited liability company ("Ji Long").
Ji Long is an investment holding company. Effective March 4, 2003, all of the
shareholders of Ji Long exchanged their 100% shareholder interest for a 100%
shareholder interest in Great Genesis, as a result of which Ji Long became a
wholly-owned subsidiary of Great Genesis.
In exchange for the acquisition of 100% of the shareholder interest in Great
Genesis, the shareholders of Great Genesis were issued 20,914,250 shares of
common stock of Visions. In addition, the shareholders of Great Genesis paid
$250,000 and $70,000 to the former officer, director and controlling shareholder
of Visions for the cancellation of 17,424,750 shares of common stock in 2003 and
2004, respectively, total amount of $320,000.
The acquisition of Great Genesis by the Company was accounted for as a
recapitalization of Great Genesis, pursuant to which the accounting basis of
Great Genesis continued unchanged subsequent to the transaction date.
Accordingly, the pre-transaction financial statements of Great Genesis are the
historical financial statements of the Company.
Ji Long owns the following aggregate net interests in four Sino-foreign joint
Ventures( Jingzhou was sold in August 2004) organized in the PRC as of December
31, 2004. The Company accounted for its interests in these joint ventures in
2004 and 2003 as described in Note 2.
Percentage Interest
-------------------
Name of Entity 2004 2003
-------------- ----- -----
Jingzhou Henglong Automotive Parts
Co. Limited ("Henglong") 44.5% 42.0%
Shashi Jiulong Power Steering Co.
Limited ("Jiulong") 81.0% 81.0%
Shenyang Jinbei Henglong Automotive
Steering System Co. Limited ("Shenyang") 70.0% 55.0%
Zhejiang Henglong & Vie Pump-Manu Co.
Limited ("Zhejiang") 51.0% 51.0%
Jingzhou Henglong Fulida Textile Co., Ltd.
("Jingzhou") -- 51.0%
69
As of December 31, 2003, the Company has owned 55% of Shenyang. On April
8, 2004, the board of directors approved an increase in Shenyang's registered
capital and total capital from $5,421,687 (RMB45,000,000) to $8,132,530
(RMB67,500,000); the Chinese investor was changed from Shenyang Jinbei
Automotive Industry Co., Ltd. to Shenyang Jinbei Automotive Company Limited. The
shareholder transfer and capital increase, along with the newly signed Joint
Venture Agreement and Articles of Incorporation, have been approved by the
applicable PRC authorities. Accordingly, Shenyang's registered capital is now
$8,132,530 (RMB67,500,000), including $5,692,771 (RMB47,250,000) from the
Company, which is 70% of the total registered capital, and $2,439,759
(RMB20,250,000) from Shenyang Jinbei Automotive Company Limited, which is 30% of
the total registered capital. The increase in capital of $2,710,843
(RMB22,500,000) has been injected into Shenyang.
Jingzhou was formed in February 2003 to produce environmental textiles and
raw materials, and was owned 51% by Ji Long and 49% by Cixi City Fulida
Synthetic Fibre Co., Ltd. Effective September 1, 2004, in order to concentrate
on its main products, namely steering and automotive parts, the Company disposed
of its 51% interest in Jingzhou by entering into an equity exchange agreement
(the "Exchange Agreement") with Hubei Wanlong Investment Co., Ltd ("Hubei
Wanlong"), which is controlled by Mr. Chen Hanlin, the Chairman of the Company.
Pursuant to the Exchange Agreement, the 51% equity interest in Jingzhou owned by
Ji Long was exchanged for 2.5% of Hubei Wanlong's equity interests in Henglong
based on their respective fair market values as determined by an independent
appraisal firm. The difference between the fair value and the book value
resulting from the disposition of the joint venture interest in Jingzhou was
debited to additional paid-in capital. With respect to consideration paid by the
Company in excess of the Chairman's basis in his investment, such excess has
been charged to additional paid-in capital as a distribution to the Chairman,
resulting in the acquired 2.5% equity interests in Henglong being recorded by
the Company at the Chairman's original cost basis. The Company paid
approximately $90,000 to Hubei Wanlong in conjunction with this transaction.
The divested non-core business of Jingzhou has been treated as a
discontinued operation under SFAS No. 144. Jingzhou's results of operation and
related charges have been reclassified as discontinued operations in the
Company's consolidated statements of operations. The prior financial statements
have restated to reflect the discontinued operation of Jingzhou for the periods.
See accompanying Notes 19 to consolidated financial statements.
Henglong and Jiulong are mainly engaged in the production of rack and
pinion power steering gears and integral ball and nut power steering gears for
cars, light and heavy-duty vehicles. Shenyang and Zhejiang were established in
2002 and are focused on power steering parts and power steering pumps. The
Company has long-term contracts with more than fifty vehicle manufacturers,
including two of the largest automobile manufacturers in China, First Auto
Group, with 1,007,471 in annual sales volume, and Dongfeng Auto Company, with
523,309 of annual sales volume in 2004. The Company also has long-term contracts
with the largest van manufacturer in China, Shenyang Brilliance Jinbei Co.,
Ltd., which has approximately 99,572 in annual sales volume. The Company also
has long-term contracts with two other smaller car manufacturers, Cherry
Automobile
70
Co., Ltd and Geely Automobile Co., Ltd.
2. Basis of Presentation
Basis of Presentation - For the year ended December 31, 2004 and 2003, the
accompanying consolidated financial statements include the accounts of the
Company and its subsidiaries. The subsidiaries include four Sino-foreign joint
ventures mentioned in Note 1. Significant inter-company balances and
transactions have been eliminated upon consolidation. The consolidated financial
statements have been prepared in accordance with generally accepted accounting
principles in the United States of America.
During early 2003, the Directors of the Company and the other joint venture
partners in the Company's Sino-foreign joint ventures executed "Act in Concert"
agreements, resulting in the Company having voting control in such Sino-foreign
joint ventures. Consequently, effective January 1, 2003, the Company changed
from equity accounting to consolidation accounting for its investments in
Sino-foreign joint ventures for the year ended December 31, 2003. Prior to
January 1, 2003, the Company used the equity method pursuant to Emerging Issues
Task Force Issue No. 96-16, which states that if a minority joint venture
partner has the right to participate in management, the majority joint venture
partner is required to account for its interest in the joint venture under the
equity method of accounting as described as follows:
Jingzhou was formed in February 2003, with 51% owned by Jilong and 49% owned by
Cixi City Fulida Synthetic Fibre Co., Ltd. ("Cixi"). The highest authority of
the joint venture is the Board of Directors, which is comprised of seven
directors, four of which (57%) are appointed by the Company and three of which
(43%) are appointed by Cixi. Pursuant to the Joint Venture Agreement, unanimous
approval of the Board of Directors is required for any decisions concerning
issues such as amendments to the articles of incorporation, termination or
dissolution of the joint venture, increase or decrease in registered capital,
guaranties, share transfers, mergers and consolidations, and formation of a
subsidiary. As for other operating matters, approval of more than two-thirds of
the members of the Board of Directors (67%) is required. The Chairman of the
Board of Directors is appointed by the Company. The general manager is appointed
by Cixi. Jingzhou's business have been divested since August 31, 2004.
Zhejiang was formed in 2002, with 51% owned by Great Genesis and 49% owned by
Zhejiang Vie Group ("ZVG"). The highest authority of the joint venture is the
Board of Directors, which is comprised of seven directors, four of which (57%)
are appointed by the Company and three of which (43%) are appointed by ZVG.
Pursuant to the Joint Venture Agreement, unanimous approval of the Board of
Directors is required for any decisions concerning issues such as amendments to
the articles of incorporation, termination or dissolution of the joint venture,
increase or decrease in registered capital, guaranties, share transfers, mergers
and consolidations, and formation of a subsidiary. As for other operating
matters, approval by more than two-thirds of the members of the Board of
Directors (67%) is required. The Chairman of the Board of Directors is appointed
by ZVG. The general manager is appointed by the Company.
71
Henglong was formed in 1997, with 42% owned by Jilong, 34% owned by Hubei
Wanlong Investment Co., Ltd. ("HBWL"), 12% owned by Jingzhou Jiulong Machinery
and Electronic Manufacturing Co., Ltd. ("JLME"), 7% owned by Jiangling
Tongchuang Machinery Co., Ltd. ("Jiangling") and 5% owned by Shanghai Tianxiang
Automotive Parts Co., Ltd. ("Shanghai"). The highest authority of the joint
venture is the Board of Directors, which is comprised of seven directors, four
of which (57%) are appointed by the Company, two of which (29%) are appointed by
HBWL, and one of which (14%) is appointed by JLME. Pursuant to the Joint Venture
Agreement, unanimous approval of the Board of Directors is required for any
decisions concerning issues such as amendments to the articles of incorporation,
termination or dissolution of the joint venture, increase or decrease in
registered capital, guaranties, share transfers, mergers and consolidations, and
formation of a subsidiary. As for other operating matters, approval by more than
two-thirds of the members of the Board of Directors (67%) is required. The
Chairman of the Board of Directors is appointed by the Company. The general
manager is appointed by the Company.
Jiulong was formed in 1993, with 49% owned by Jilong, 20% owned by Jingzhou
Jiulong Machinery and Electronic Manufacturing Co., Ltd. ("JLME"), 21% owned by
Xiamen Joylon Co., Ltd. ("Joylon") and 10% owned by Jingzhou Tianxin Investment
Consulting Co., Ltd. ("Tianxin"). The highest authority of the joint venture is
the Board of Directors, which is comprised of seven directors, four of which
(57%) are appointed by the Company, two of which (29%) are appointed by JLME,
and one of which (14%) is appointed by Joylon. Pursuant to the Joint Venture
Agreement, unanimous approval of the Board of Directors is required for any
decisions concerning issues such as amendments to the articles of incorporation,
termination or dissolution of the joint venture, increase or decrease in
registered capital, guaranties, share transfers, mergers and consolidations, and
formation of a subsidiary. As for other operating matters, approval by more than
two-thirds of the members of the Board of Directors (67%) is required. The
Chairman of the Board of Directors is appointed by the JLME. The general manager
is appointed by the Company.
Shenyang was formed in 2002, with 25% owned by Jilong, 30% owned by Henglong,
28% owned by Shenyang Jinbei Automotive Industry Co., Ltd. ("JB Industry"), and
17% owned by Shengyang Automotive Industry Investment Corporation ("JB
Investment"). The highest authority of the joint venture is the Board of
Directors, which is comprised of seven directors, four of which (57%) are
appointed by the Company, two of which (29%) are appointed by JB Industry, and
one of which (14%) is appointed by JB Investment. Pursuant to the Joint Venture
Agreement, unanimous approval of the Board of Directors is required for any
decisions concerning issues such as amendments to the articles of incorporation,
termination or dissolution of the joint venture, increase or decrease in
registered capital, guaranties, share transfers, mergers and consolidations, and
formation of a subsidiary. As for other operating matters, approval by more than
two-thirds of the members of the Board of Directors (67%) is required. The
Chairman of the Board of Directors is appointed by the Company. The general
manager is appointed by the Company.
As a result of the foregoing board structures and the divestiture of Jingzhou,
each of the minority partners of Zhejiang, Jingzhou, Henlong, Jiulong and
Shenyang had the right
72
to approve major operating decisions of their respective joint ventures because
the Company's representatives on the Boards of Directors of the joint ventures
did not account for the requisite 67% of voting control required to approve
various operating matters, which allowed the minority partners to participate in
the operations of the management of the respective joint ventures. As such, the
Company accounted for its interest in these joint ventures under the equity
method before January 1, 2003 pursuant to EITF 96-16.
The minority partners of each of the joint ventures are all private companies
not controlled, directly or indirectly, by any PRC municipal government or other
similar government entity.
In March 2003, Henglong outsourced to Jiulong the production of an integral
power steering system. Jiulong sells the related finished product to Henglong,
which then sells the product to third parties. All intercompany profit is
eliminated on consolidation. The transferred profit due to this transaction has
been recorded in the interest account of minority shareholders according to
their investment ratios.
Use of Estimates - The preparation of financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, disclosure of contingent assets and liabilities at the
date of the financial statements, and the reported amounts of revenues and
expenses during the reporting periods. Significant estimates primarily relate to
the realizable value of accounts receivable and inventories, useful lives of
plant and equipment, and warranty liabilities. Actual results could differ from
those estimates.
Cash and Cash Equivalents - Cash and cash equivalents include all highly-liquid
investments with an original maturity of three months or less at the date of
purchase.
Pledged Cash Deposits - The Company has pledged cash deposits to secure trade
finance provided by banks.
Accounts Receivable - In order to determine the value of the Company's accounts
receivable, the Company records a provision for doubtful accounts to cover
estimated credit losses. Management reviews and adjusts this allowance
periodically based on historical experience and its evaluation of the
collectibility of outstanding accounts receivable. The Company evaluates the
credit risk of its customers utilizing historical data and estimates of future
performance.
Inventories - Inventories are stated at the lower of cost and net realizable
value. Cost is calculated on the moving-average basis and includes all costs to
acquire and other costs incurred in bring the inventories to their present
73
location and condition. The Company evaluates the net realizable value of its
inventories on a regular basis and records a provision for loss to reduce the
computed moving-average cost if it exceeds the net realizable value.
Advance Payments - These amounts represent advances or prepayments to acquire
various assets to be utilized in the future in the Company's normal business
operations. Such amounts are paid according to their respective contract terms
and are classified as a current asset in the consolidated balance sheet.
Property and Equipment - Property and equipment are stated at cost. Major
renewals and improvements are capitalized; minor replacements and maintenance
and repairs are charged to operations. Depreciation is provided on the
straight-line method over the estimated useful lives of the respective assets as
follows:
Category Estimated Useful Life (Years)
------------------------------ -----------------------------
Land use rights and buildings:
Land use rights 45
Buildings 25
Machinery and equipment 6
Electronic equipment 4
Motor vehicles 6
Assets under construction represent buildings under construction and plant and
equipment pending installation and are stated at cost. Cost includes
construction and acquisitions, and interest charges arising from borrowings used
to finance assets during the period of construction or installation and testing.
No provision for depreciation is made on assets under construction until such
time as the relevant assets are completed and ready for their intended
commercial use.
Gains or losses on disposal of property, plant and equipment are determined as
the difference between the net disposal proceeds and the carrying amount of the
relevant asset, and are recognized in the consolidated statements of operations
on the date of disposal.
Interest Costs Capitalized - Interest costs incurred in connection with specific
borrowings for the acquisition, construction or installation of fixed assets are
capitalized and depreciated as part of the asset's total cost when the
respective asset is placed into service.
Intangible Assets - Intangible assets, representing patents and technical
know-how acquired, are stated at cost less accumulated amortization and
impairment losses. Amortization is provided on the straight-line method over the
estimated useful lives of the respective assets of 5 years.
74
In January 2002, the Company adopted SFAS No. 142, "Goodwill and Other
Intangible Assets". The Company did not have any goodwill at December 31, 2004
or 2003.
Impairment of long-lived assets is monitored on a continuing basis, and is
assessed based on the undiscounted cash flows generated by the underlying
assets. In the event that the carrying amount of long-lived assets exceeds the
undiscounted future cash flows, then the carrying amount of such assets is
adjusted to their fair value.
Long-Lived Assets - The Company has adopted the provisions of Statement of
Financial Accounting Standards No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets". Property, plant and equipment and intangible
assets are reviewed periodically for impairment losses whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be fully recoverable. If required, an impairment loss is recognized as the
difference between the carrying value and the fair value of the assets.
Long-Term Investments - Investments in which the Company owns less than 20% and
does not have the ability to exert significant influence are stated at cost, and
are reviewed periodically for realizability.
Revenue Recognition - The Company recognizes revenue when the significant risks
and rewards of ownership have been transferred to the customer pursuant to PRC
law, including factors such as when persuasive evidence of an arrangement
exists, delivery has occurred, the sales price is fixed or determinable, sales
and value added tax laws have been complied with, and collectibility is
probable. The Company recognizes product sales generally at the time the product
is shipped. Concurrent with the recognition of revenue, the Company reduces
revenue for estimated product returns. Shipping and handling costs are included
in cost of goods sold. Revenue is presented net of any sales tax and value added
tax.
Sales Taxes - The Company is subject to value added tax ("VAT"). The applicable
VAT tax rate is 17% for products sold in the PRC. The amount of VAT liability is
determined by applying the applicable tax rate to the invoiced amount of goods
sold less VAT paid on purchases made with the relevant supporting invoices. VAT
is collected from customers by the Company on behalf of the PRC tax authorities
and is therefore not charged to the consolidated statements of operations.
Warranties - The Company provides for the estimated cost of product warranties
at the time revenue is recognized. Warranty costs are included in general and
administrative expense. The Company's warranty obligation is affected by product
failure rates and material usage and service delivery costs incurred in
correcting a product failure. Should actual product failure rates, material
usage or service delivery costs differ from the Company's estimates, the Company
75
may be required to revise its estimated product warranty liability.
Concentration of Credit Risk - Financial instruments that potentially subject
the Company to significant concentrations of credit risk consist primarily of
trade accounts receivable. The Company performs ongoing credit evaluations with
respect to the financial condition of its creditors, but does not require
collateral. In order to determine the value of the Company's accounts
receivable, the Company records a provision for doubtful accounts to cover
probable credit losses. Management reviews and adjusts this allowance
periodically based on historical experience and its evaluation of the
collectibility of outstanding accounts receivable.
Income Taxes - The Company accounts for income taxes using the liability method
whereby deferred income taxes are recognized for the tax consequences of
temporary differences by applying statutory tax rates applicable to future years
to differences between the financial statement carrying amounts and the tax
bases of certain assets and liabilities. Changes in deferred tax assets and
liabilities include the impact of any tax rate changes enacted during the year.
A valuation allowance is provided for the amount of deferred tax assets that,
based on available evidence, are not expected to be realized.
Research and Development Costs - Research and development costs are expensed as
incurred.
Income Per Share - Basic income per share is calculated by dividing net income
by the weighted average number of common shares outstanding during the period.
Diluted income per share is calculated assuming the issuance of common shares,
if dilutive, resulting from the exercise of stock warrants and options. Income
per common share calculations for the years ended December 31, 2003 reflect the
retroactive restatement of the shareholders' equity section to reflect the March
2003 recapitalization. In 2004, the Company had potential diluted shares due to
issuance of 22,500 common stock options to three independent directors at $4.50
par share.
The Company effected a 3.5 to 1 forward split of its outstanding shares of
common stock during March 2003, prior to the transaction with Great Genesis
described above. Unless otherwise indicated, all share and per share amounts
presented herein have been adjusted to reflect the forward stock split.
Comprehensive Income (Loss) - The Company has adopted the provisions of
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive
Income" ("SFAS No. 130"). SFAS No. 130 establishes standards for the reporting
and display of comprehensive income, its components and accumulated balances in
a full set of general purpose financial statements. SFAS No. 130 defines
comprehensive income (loss) to include all changes in equity except those
resulting from investments by owners and distributions to owners, including
76
adjustments to minimum pension liabilities, accumulated foreign currency
translation, and unrealized gains or losses on marketable securities.
The Company's only component of other comprehensive income (loss) is foreign
currency translation gain of $7,210 for the year ended December 31, 2004. This
amount has been recorded as a separate component of stockholders' equity.
Fair Value of Financial Instruments - The Company believes that the carrying
value of the its cash and cash equivalents, accounts receivables, accounts
payable and accrued liabilities as of December 31, 2004 approximates their
respective fair values due to the short-term nature of those instruments.
Stock-Based Compensation - The Company may periodically issue shares of common
stock for services rendered or for financing costs. Such shares will be valued
based on the market price on the transaction date.
The Company may periodically issue stock options to employees and stock options
or warrants to non-employees in non-capital raising transactions for services
and for financing costs.
The Company has adopted Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" ("SFAS No. 123"), which establishes a
fair value method of accounting for stock-based compensation plans.
The provisions of SFAS No. 123 allow companies to either record an expense in
the financial statements to reflect the estimated fair value of stock options to
employees, or to continue to follow the intrinsic value method set forth in
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees", but to disclose on an annual basis the pro forma effect on net
income (loss) and net income (loss) per share had the fair value of the stock
options been recorded in the financial statements. SFAS No. 123 was amended by
SFAS No. 148, which now requires companies to disclose in interim financial
statements the pro forma effect on net income (loss) and net income (loss) per
common share of the estimated fair market value of stock options issued to
employees. The Company has elected to continue to account for stock-based
compensation plans utilizing the intrinsic value method. Accordingly,
compensation cost for stock options will be measured as the excess, if any, of
the fair market price of the Company's common stock at the date of grant above
the amount an employee must pay to acquire the common stock.
In accordance with SFAS No. 123, the cost of stock options and warrants issued
to non-employees is measured at the grant date based on the fair value of the
award. The fair value of the stock-based award is determined using the
Black-Scholes option-pricing model. The resulting amount is charged to expense
on the straight-line basis over the period in which the Company expects to
77
receive benefit, which is generally the vesting period.
Pro Forma Financial Disclosure - Since the Company has not issued any stock
options to employees, no pro forma financial disclosure has been presented.
In accordance with SFAS No. 123, the Company will provide footnote disclosure
with respect to stock-based employee compensation. The value of a stock-based
award will be determined using the Black-Scholes option-pricing model, whereby
compensation cost is the fair value of the award as determined by the pricing
model at the grant date or other measurement date. The resulting amount will be
charged to expense on the straight-line basis over the period in which the
Company expects to receive benefit, which is generally the vesting period. Stock
options issued to non-employee directors at fair market value will be accounted
for under the intrinsic value method.
Foreign Currencies - The Company maintains its books and records in Renminbi
("RMB"), the currency of the PRC, its functional currency. Translation of
amounts into United States dollars ("US$") has been made at the rate of RMB8.30
to US$1.00.
Foreign currency transactions in RMB are reflected using the temporal method.
Under this method, all monetary items are translated into the functional
currency at the rate of exchange prevailing at the balance sheet date.
Non-monetary items are translated at historical rates. Income and expenses are
translated at the rate in effect on the transaction dates. Transaction gains and
losses, if any, are included in the determination of net income (loss) for the
period.
In translating the financial statements of the Company from its functional
currency into its reporting currency in United States dollars, balance sheet
accounts are translated using the closing exchange rate in effect at the balance
sheet date and income and expense accounts are translated using an average
exchange rate prevailing during the reporting period. Adjustments resulting from
the translation, if any, are included in cumulative other comprehensive income
(loss) in stockholders' equity.
The RMB is not readily convertible into United States dollars or other foreign
currencies. The foreign exchange rate between the United States dollar and the
RMB has been stable at approximately 1RMB to US$0.1205 for the last few years.
No representation is made that the RMB amounts could have been, or could be,
converted into United States dollars at that rate or at any other rate.
Segment Information - No business or geographical segmentation analysis is
78
provided, as less than 10% of consolidated revenues and less than 10% of
consolidated income from operations is attributable to business segments other
than the manufacture and sale of automotive components in the PRC.
3. Certain Significant Risks and Uncertainties
The Company is subject to the consideration and risks of operating in the PRC.
These include risks associated with the political and economic environment,
foreign currency exchange and the legal system in the PRC.
The economy of PRC differs significantly from the economies of the "western"
industrialized nations in such respects as structure, level of development,
gross national product, growth rate, capital reinvestment, resource allocation,
self-sufficiency, rate of inflation and balance of payments position, among
others. Only recently has the PRC government encouraged substantial private
economic activities. The Chinese economy has experienced significant growth in
the past several years, but such growth has been uneven among various sectors of
the economy and geographic regions. Actions by the PRC government to control
inflation have significantly restrained economic expansion in the recent past.
Similar actions by the PRC government in the future could have a significant
adverse effect on economic conditions in PRC.
Many laws and regulations dealing with economic matters in general and foreign
investment in particular have been enacted in the PRC. However, the PRC still
does not have a comprehensive system of laws, and enforcement of existing laws
may be uncertain and sporadic.
The Company's operating assets and primary sources of income and cash flows are
the interests of its subsidiaries in Sino-foreign joint ventures in the PRC. The
PRC economy has, for many years, been a centrally-planned economy, operating on
the basis of annual, five-year and ten-year state plans adopted by central PRC
governmental authorities, which set out national production and development
targets. The PRC government has been pursuing economic reforms since it first
adopted its "open-door" policy in 1978. There is no assurance that the PRC
government will continue to pursue economic reforms or that there will not be
any significant change in its economic or other policies, particularly in the
event of any change in the political leadership of, or the political, economic
or social conditions in, the PRC. There is also no assurance that the Company
will not be adversely affected by any such change in governmental policies or
any unfavorable change in the political, economic or social conditions, the laws
or regulations, or the rate or method of taxation in the PRC.
As many of the economic reforms which have been or are being implemented by the
PRC government are unprecedented or experimental, they may be subject to
adjustment or refinement, which may have adverse effects on the Company.
79
Further, through state plans and other economic and fiscal measures, it remains
possible for the PRC government to exert significant influence on the PRC
economy.
The Company's financial instruments that are exposed to concentration of credit
risk consist primarily of cash and cash equivalents, and accounts receivable
from customers. Cash and cash equivalents are maintained with major banks in the
PRC. The Company's business activity is with customers in the PRC. The Company
periodically performs credit analysis and monitors the financial condition of
its clients in order to minimize credit risk.
Any devaluation of the Renminbi (RMB) against the United States dollar would
consequently have adverse effects on the Company's financial performance and
asset values when measured in terms of the United States dollar. Should the RMB
significantly devalue against the United States dollar, such devaluation could
have a material adverse effect on the Company's earnings and the foreign
currency equivalent of such earnings. The Company does not hedge its RMB -
United States dollar exchange rate exposure.
On January 1, 1994, the PRC government introduced a single rate of exchange as
quoted daily by the People's Bank of China (the "Unified Exchange Rate"). No
representation is made that the RMB amounts have been, or could be, converted
into US$ at that rate. This quotation of exchange rates does not imply free
convertibility of RMB to other foreign currencies. All foreign exchange
transactions continue to take place either through the Bank of China or other
banks authorized to buy and sell foreign currencies at the exchange rate quoted
by the People's Bank of China. Approval of foreign currency payments by the
People's Bank of China or other institutions requires submitting a payment
application form together with suppliers' invoices, shipping documents and
signed contracts.
4. Recent Accounting Pronouncements
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities". SFAS No. 149 amends and
clarifies under what circumstances a contract with initial investments meets the
characteristics of a derivative and when a derivative contains a financing
component. SFAS No. 149 is effective for contracts entered into or modified
after June 30, 2003. The adoption of SFAS No. 149 did not have a significant
effect on the Company's financial statement presentation or disclosures.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity". SFAS No. 150
establishes standards for how an issuer classifies and measures in its statement
of financial position certain financial instruments with characteristics of both
80
liabilities and equity. SFAS No. 150 requires that an issuer classify a
financial instrument that is within its scope as a liability (or an asset in
some circumstances) because that financial instrument embodies an obligation of
the issuer. SFAS No. 150 is effective for financial instruments entered into or
modified after May 31, 2003 and otherwise is effective at the beginning of the
first interim period beginning after June 15, 2003. SFAS No. 150 is to be
implemented by reporting the cumulative effect of a change in accounting
principle for financial instruments created before the issuance date of SFAS No.
150 and still existing at the beginning of the interim period of adoption.
Restatement is not permitted. The adoption of SFAS No. 150 did not have a
significant effect on the Company's financial statement presentation or
disclosures.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting
and Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others" ("FIN 45"). FIN 45 elaborates on the existing disclosure
requirements for most guarantees, including loan guarantees such as standby
letters of credit. It also clarifies that at the time a company issues a
guarantee, the company must recognize an initial liability for the fair market
value of the obligations it assumes under that guarantee and must disclose that
information in its interim and annual financial statements. The initial
recognition and measurement provisions of FIN 45 apply on a prospective basis to
guarantees issued or modified after December 31, 2002. The Company implemented
the disclosure provisions of FIN 45 in its December 31, 2002 consolidated
financial statements, and the measurement and recording provisions of FIN 45
effective January 1, 2003.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities (and Interpretation of ARB No. 51)" ("FIN 46"). FIN
46 requires that the primary beneficiary in a variable interest entity
consolidate the entity even if the primary beneficiary does not have a majority
voting interest. The consolidation requirements of FIN 46 are required to be
implemented for any variable interest entity created on or after January 31,
2003. In addition, FIN 46 requires disclosure of information regarding
guarantees or exposures to loss relating to any variable interest entity
existing prior to January 31, 2003 in financial statements issued after January
31, 2003. The implementation of the provisions of FIN 46 effective January 31,
2003 did not have a significant effect on the Company's consolidated financial
statement presentation or disclosures.
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs - an Amendment
of ARB No. 43, Chapter 4." This statement clarifies the accounting for abnormal
amounts of idle facility expense, freight handling costs and spoilage, requiring
these items be recognized as current-period charges. In addition, this statement
requires that allocation of fixed production overheads to the costs of
conversion be based on the normal capacity of the production facilities. The
81
provisions of this statement are effective for inventory costs incurred during
fiscal years beginning after June 15, 2005. The adoption of this accounting
principle is not expected to have a material impact on the Company's financial
statements.
In December 2004, the FASB issued SFAS No. 123R, "Share-Based Payment (Revised
2004)." This statement addresses the accounting for share-based payment
transactions in which a company receives employee services in exchange for the
company's equity instruments or liabilities that are based on the fair value of
the company's equity securities or may be settled by the issuance of these
securities. SFAS No. 123R eliminates the ability to account for share-based
compensation using the intrinsic value method and generally requires that such
transactions be accounted for using a fair value method. The provisions of this
statement are effective for financial statements issued for fiscal periods
beginning after June 15, 2005. The Company has yet to determine a transition
method to adopt SFAS 123R or which valuation method to use. The full impact that
the adoption of this statement will have on the Company's financial statements
will be determined by share-based payments granted in future periods, the
transition method and valuation model used.
In December 2004, the FASB issued FASB Statement No. 153, "Exchanges of
Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for
Nonmonetary Transactions" ("FAS 153"). FAS 153 requires that exchanges of
nonmonetary assets be measured based on the fair value of the assets exchanged.
Further, it expands the exception for nonmonetary exchanges of similar
productive assets to nonmonetary assets that do not have commercial substance.
The provisions of this Statement are effective for nonmonetary asset exchanges
occurring in fiscal periods beginning after June 15, 2005. The adoption of the
provisions of FAS 153 is not expected to have a material impact on our financial
position or results of operations.
In December 2004, the FASB issued FASB Staff Position No. FAS 109-1 ("FAS
109-1"), "Application of FASB Statement No. 109, "Accounting for Income Taxes,"
to the Tax Deduction on Qualified Production Activities Provided by the American
Jobs Creation Act of 2004." The AJCA introduces a special 9% tax deduction on
qualified production activities. FAS 109-1 clarifies that this tax deduction
should be accounted for as a special tax deduction in accordance with Statement
109. Pursuant to the AJCA, the Company do not have any operating activities so
far. We do not expect the adoption of these new tax provisions to have a
material impact on our consolidated financial position, results of operations or
cash flows.
In June 2004, the FASB issued Emerging Issues Task Force Issue No. 02-14 ("EITF
02-14"), "Whether an Investor Should Apply the Equity Method of Accounting to
Investments Other Than Common Stock." EITF 02-14 addresses whether the equity
method of accounting applies when an investor does not have an investment in
voting common stock of an investee but exercises significant influence through
other means. EITF 02-14 states that an investor should only apply the equity
method of accounting when it has investments in either common
82
stock or in-substance common stock of a corporation, provided that the investor
has the ability to exercise significant influence over the operating and
financial policies of the investee. The accounting provisions of EITF 02-14 are
effective for reporting periods beginning after September 15, 2004. We do not
expect the adoption of EITF 02-14 to have a material impact on our consolidated
financial position, results of operations or cash flows.
In March 2004, the FASB issued EITF Issue No. 03-1 ("EITF 03-1"), "The Meaning
of Other-Than-Temporary Impairment and Its Application to Certain Investments"
which provided new guidance for assessing impairment losses on investments.
Additionally, EITF 03-1 includes new disclosure requirements for investments
that are deemed to be temporarily impaired. In September 2004, the FASB delayed
the accounting provisions of EITF 03-1; however the disclosure requirements
remain effective for annual periods ending after June 15, 2004 (see Note 4). We
will evaluate the impact of EITF 03-1 once final guidance is issued.
5. Accounts Receivable from continued operations
The Company's accounts receivable from continued operations at December 31, 2004
and 2003 are summarized as follows:
2004 2003
Accounts receivable $ 28,440,608 $ 19,725,237
Bills receivable 12,136,985 21,699,968
Less: allowance for doubtful
accounts (2,944,990) (2,757,374)
------------- ------------
$ 37,632,603 $ 38,667,831
============= =============
Bills receivable represent accounts receivable in the form of bills of exchange
whose acceptances and settlements are handled by banks.
The activity in the Company's allowance for doubtful accounts during the year
ended December 31, 2004 and 2003 were summarized as follows:
2004 2003
Balance at beginning of year $ 2,757,374 $ 1,979,533
Add: amounts provided during
the year 187,616 777,841
Less: amounts written off
during the year -- --
------------- -------------
Balance at end of year $ 2,944,990 $ 2,757,374
============= =============
83
6. Other Receivables from continued operations
Other receivables consist of amounts advanced to both related and unrelated
parties, primarily as unsecured demand loans, with no stated interest rate or
due date. At December 31, 2004, other receivables totaled $2,044,086 including
$974,815 to related parties, net of an allowance for doubtful accounts of
$930,425. During the year ended December 31, 2004, the allowance for doubtful
accounts included $472,843 made to an investee of Jiulong.
At December 31, 2003, other receivables totaled $2,309,205 including $1,472,758
to related parties, net of an allowance for doubtful accounts of $1,053,047.
During the year ended December 31, 2003, the allowance for doubtful accounts
included $771,084 made to an investee of Joulong.
In 1997, Jiulong, one of the Company's Sino-foreign joint ventures, made an
investment to establish an auto sales firm named Jingzhou Jiulong Machinery and
Electronic Material Co., Ltd. ("JL Material") in conjunction with a partner,
Jingzhou Jiulong Machinery and Electronic Manufacturing Co., Ltd. JL Material
had total capital of $1,204,819 (RMB10,000,000), owned 20% by Jiulong. During
the six year period from 1997 through 2002, Jiulong and JL Material had an
agreement that Jiulong sold vehicles to JL Material on credit and JL Material
repaid Jiulong according to the terms of the agreement.
At December 31, 2004, Jiulong had an accounts receivable balance from JL
Material of $472,843, as compared with $1,003,987 at December 31, 2003. Since JL
Material was experiencing financial difficulties, the Company believed there
would be an uncollectible amount of $472,843 at December 31, 2004, and
accordingly, recorded an increase to its allowance for doubtful accounts by that
amount. The Company terminated the agreement with JL Material during 2003.
With the exception of the receivable from JL Material, the Company believes that
all other receivables are collectible, as the related parties are in good
financial conditions and are paying their payables to Company pursuant to the
terms of their respective contracts.
7. Inventories from continued operations
Inventories from continued operations at December 31, 2004 and 2003 are
summarized as follows:
2004 2003
Raw materials $ 3,868,859 $ 3,452,120
Work in process 2,049,963 2,056,117
Finished goods 6,817,372 4,429,016
----------- ------------
84
12,736,194 9,937,253
Less: provision for loss (228,284) (311,993)
----------- ------------
$12,507,910 $ 9,625,260
=========== ============
8. Property, Plant and Equipment from continued operations
Property, plant and equipment at December 31, 2004 and 2003 are summarized as
follows:
2004 2003
Land use rights and buildings $13,232,650 $ 3,937,011
Machinery and equipment 20,425,269 15,913,409
Electronic equipment 1,694,587 1,227,039
Motor vehicles 2,083,578 1,253,718
Construction in progress 6,116,641 3,410,292
----------- ------------
43,552,725 25,741,469
Less: Accumulated depreciation (7,609,101) (5,625,114)
----------- ------------
$35,943,624 $ 20,116,355
Add: Discontinued property
Plant and equipment -- 2,233,701
----------- ------------
$35,943,624 $ 22,350,056
=========== ============
9. Intangible Assets from continued operations
The activity in the Company's intangible asset account during the year ended
December 31, 2004 and 2003 is summarized as follows:
2004 2003
Balance at beginning of year, $ 218,639 $ 38,831
Add: Additions during the year -
Management software license 158,159 10,271
Mapping design software license 72,289 180,000
---------- ----------
449,087 229,102
Less: Amortization for the year (56,535) (10,463)
---------- ----------
Balance at end of year $ 392,552 $ 218,639
========== ==========
10. Accounts Payable from continued operations
85
Accounts payable from continued operations at December 31, 2004 and 2003 are
summarized as follows:
2004 2003
Accounts payable $ 15,358,250 $ 14,653,753
Notes payable 13,160,470 8,275,191
------------- -------------
$ 28,518,720 $ 22,928,944
============= =============
Bills payable represent accounts payable in the form of bills of exchange whose
acceptances and settlements are handled by banks.
The Company has pledged cash deposits, notes receivable and certain plant and
machinery to secure trade financing granted by banks.
In 2004, Henglong and Jiulong, two Sino-foreign joint-ventures of the Company
wrote off accounts payable of $680,980 from fifty suppliers, which have not
required to pay back in a long term (over three years). The Company has received
confirmations from related suppliers and authorities. The write off of accounts
payables were shown as the decrease in liability to suppliers in the Balance
Sheets as of December 31, 2004. Should any supplier requires payments in the
future, the Company will record the payment as expense in that period.
11. Bank Loans from continued operations
At December 31, 2004, the Company through its Sino-foreign joint ventures, had
fixed-rate short-term bank loans outstanding of $13,614,458. The weighted
average interest rate for the year ended December 31, 2004 was 4.98% per annum.
Jiulong, one of the Company's joint ventures, has provided Henglong, another of
the Company's joint ventures, with loan guarantees covering bank loans of
$3,012,000. Henglong has provided Jiulong with loan guarantees covering bank
loans of $6,627,000. The remaining balance of the bank loan of $3,976,000 was
mortgaged with some of the plant and equipment of the Company.
At December 31, 2003, the Company, through its Sino-foreign joint ventures, had
outstanding fixed-rate short-term bank loans outstanding of $9,638,554. The
weighted average interest rate for the year ended December 31, 2003 was 4.66%
per annum. Jiulong, one of the Company's joint ventures, has provided Henglong,
another of the Company's joint ventures, with loan guarantees covering bank
loans of $4,819,000. Henglong has provided Jiulong with loan guarantees covering
bank loans of $3,012,000. Great Genesis has provided Henglong with loan
guarantees covering bank loans of $602,000. The remaining balance of the loans
of $1,205,000 is unsecured.
86
12. Amounts Due From and Due to Shareholders/Directors from continued operations
The activity in the amounts due to (due from) shareholders/directors during the
years ended December 31, 2004 and 2003 is summarized as follows:
Balance, December 31, 2002 $ 13,330,000
Dividends declared 2,295,394
Advances from shareholders 6,770,887
Cancellation of dividends previously
declared (17,167,000)
-------------
Balance, December 31, 2003 5,229,281
Advances from shareholders 10,531,918
Return to shareholders (15,171,605)
-------------
Balance, December 31, 2004 $ 589,594
=============
At December 31, 2004 and 2003, the amounts due to shareholders/directors were
unsecured, interest free and repayable on demand.
13. Minority interests' Equity from continued operations
The activities in respect of the amounts of the minority interests' equity
during the year ended December 31, 2004 are summarized as follows:
Balance, December 31, 2003 $ 18,686,712
Contribution by minority shareholders 1,251,085
Minority interests' income 4,182,454
Others 30,103
dividends declared to the minority
interest holders of Joint-venture
companies (5,256,700)
Appropriations of employee welfare
and bonus fund (386,196)
Exchange of equity interest in
Jingzhou for Henglong (935,620)
------------
Balance, December 31, 2004 $ 17,571,838
============
14. Stockholders' Equity from continued operations
As of December 31, 2003, the Company's authorized share capital consists of
80,000,000 shares of common stock, par value $0.0001 per share, and 20,000,000
shares of preferred stock, par value $0.0001 per share.
During March 2003, in conjunction with the transaction with Great Genesis
87
described at Note 1, the Company effected a 3.5 to 1 forward split of its
outstanding shares of common stock, thus increasing the 5,293,000 shares of
common stock outstanding at that time to 18,525,500 shares, of which 17,424,750
shares were then returned to the Company and cancelled.
During March 2003, in conjunction with the transaction with Great Genesis
described at Note 1, the Company issued common stock purchase warrants to three
consultants to acquire an aggregate of 550,375 shares of common stock,
exercisable for a period of one year at $1.20 per share. The aggregate fair
value of these warrants, calculated pursuant to the Black-Scholes option-pricing
model, was estimated to be $1,300,000, which was charged to operations during
the year ended December 31, 2003. Effective December 31, 2003, these warrants
were exercised on a cashless basis, resulting in the issuance of 509,856 shares
of common stock.
During September 2003, the Company sold 49,686 shares of common stock in a
private transaction to three investors at approximate fair value of $3.20 per
share for net proceeds of $159,000.
In July 2004, the Company adopted a stock incentive plan. The stock incentive
plan provides for the issuance, to the Company's officers, directors, management
and employees, of options to purchase shares of the Company's common stock. On
July 21, 2004, the Company issued options to purchase 7,500 shares of common
stock to each of its three independent directors. Such stock options vest
immediately upon grant and are exercisable at $4.50 per share over a period of
two years. The exercise price represents a 11.11% premium from the fair market
value as based upon the grant date the stock options.
15. Additional paid-in capital from continued operations
At December 31, 2004, the Company had $18,003,168 additional paid-in capital, as
compared to $18,779,880 at December 31, 2003, a decrease of $776,712. An
increase of $55,125 was related to the above mentioned granted options to three
independent directors. The Company calculated pursuant to the Black-Scholes
option-pricing model and debited in operating expenses, credited in additional
paid-in capital. A decrease of $831,837 was due to the exchange 51% of Jingzhou
equity for 2.5% of Henglong equity based on Equity Exchange Agreement as
mentioned in Note 1. The excess paid by Company for the Chairman investment had
been debited in additional paid-in capital, which was deemed to be distribution
to the Chairman.
16. Non-operating Income from continued operations
In 2004, Company recorded $1,651,560 non-operating income, in which
$699,107 was net income from selling materials, $175,959 was subsidies from
government, $95,514 was net income from the disposal of the equipments and
$680,980 was income from write off of accounts payable of suppliers.
88
In 2004, two Sino-foreign joint-ventures of the Company, Henglong and
Jiulong, wrote off accounts payable of $680,980 as mentioned in Note 11. Related
net non-operating income after deducting income tax was $579,550, which was
shown in the statements of operations of 2004. Net non-operating income (net of
the allocation to minority interests) would be decreased by $382,364 or $0.02
per share, if there were no such non-operating income item.
17. Distribution of Profits from continued operations
Pursuant to the relevant laws and regulations of Sino-foreign joint venture
enterprises, the profits of the Company's Sino-foreign subsidiaries, which are
based on their PRC statutory financial statements, are available for
distribution in the form of cash dividends after these subsidiaries paid all the
relevant PRC tax liabilities, provided for losses in previous years, and made
appropriations to reserve funds, as determined at the discretion of the board of
directors in accordance with the PRC accounting standards and regulations.
As stipulated by the relevant laws and regulations for enterprises operating in
the PRC, the Company's Sino-foreign joint ventures are required to make annual
appropriations to two reserve funds, consisting of the statutory surplus and
collective welfare funds. In accordance with the relevant PRC regulations and
the articles of association of the respective companies, the companies are
required to allocate a certain percentage of their profits after taxation, as
determined in accordance with the PRC accounting standards applicable to the
companies, to the statutory surplus reserve until such reserve reaches 50% of
the registered capital of the companies. Based on the business licenses of the
Sino-foreign joint ventures, the registered capital of Henglong, Jiulong,
Shenyang and Zhejiang are $9,000,000, RMB19,800,000, RMB67,500,000, and
$7,000,000, respectively.
The Company's Sino-foreign joint ventures are also required to make
appropriations to a general reserve fund, an enterprise development fund and an
employee welfare and incentive fund, The percentage of annual appropriations of
these funds are stipulated in the joint venture agreement. The employee welfare
and incentive fund is charged to the statement of operations. The accrual of
such fund of $633,972 was recorded in general and administrative expenses during
2004. The other appropriations are not available for distribution as dividends
to the joint venture partners of the companies. Appropriation of these funds of
$595,332 was made during 2004. Under the joint venture agreements, the boards of
directors determine the percentages of these appropriations with regard to the
economic situation of each company.
Net income as reported in the US GAAP financial statements differs from that as
reported in the PRC statutory financial statements. In accordance with the
relevant laws and regulations in the PRC, the profits available for distribution
are based on the statutory financial statements. If the Company has foreign
currency available after meeting its operational needs, the Company may make its
profit distributions in foreign currency
89
to the extent foreign currency is available. Otherwise, it is necessary to
obtain approval and convert such distributions at an authorized bank.
18. Income Taxes from continued operations
The Company's subsidiaries registered in the PRC are subject to state and local
income taxes within the PRC at the applicable tax rate on the taxable income as
reported in their PRC statutory financial statements in accordance with the
relevant income tax laws applicable to foreign invested enterprises. Two of the
Company's subsidiaries, Henglong and Jiulong, were subject to a tax rate of 15%
during 2004 and 2003. Shenyang is entitled to and was rectified for a two-year
tax holiday commencing with its first profit-making year of 2003. Hence Shenyang
was tax exempted in 2003 and 2004. The tax rate for the Company's other
subsidiary, Zhejiang, has not been ratified, but in accordance with the relevant
income tax laws for Sino-foreign joint ventures, Zhejiang is also entitled to a
two-year tax holiday commencing with its first profit-making year of 2004.
Had these tax holidays and concessions not been available, income tax expense
(net of the allocation to minority interests) would have been increased by
approximately $1,382,000 or $0.06 per share for the year ended December 31,
2003, and $1,899,272 or $0.08 per share for 2004.
No provision for Hong Kong profits tax has been made as Ji Long and Great
Genesis are investment holding companies and did not have any assessable profits
in Hong Kong in 2003 and 2004.
The reconciliation of the effective income tax rate of the Company to the
statutory income tax rate in the PRC for the year ended December 31, 2004 and
2003 are as follows:
Statutory tax rate 33%
Tax holidays and concessions (18)
---
Effective tax rate 15%
===
Chinese government encourages enterprises to purchase domestic equipment by
refunding part of income tax payment at 40% of the total amount of qualified
purchases. During the year ended December 31, 2004 and 2003, two of the
Company's Sino-foreign joint ventures, Henglong and Jiulong, received an income
tax refund of $901,600 and $521,000 respectively, which have been reflected as a
reduction to income tax expense in the accompanying consolidated statements of
operations. Had these tax holidays and concessions not been available, income
tax expense (net of the allocation to minority interests) would have been
increased by approximately $585,091 or $0.03 per share and $301,181 or $0.01 per
share for the year ended December 31, 2004 and 2003 respectively.
19. Discontinued operations
90
Effective August 31, 2004, in order to concentrate on its main products,
namely steering and automotive parts, the Company disposed of its 51% interest
in Jingzhou by entering into an equity exchange agreement (the "Exchange
Agreement") with Hubei Wanlong Investment Co., Ltd ("Hubei Wanlong"), which is
controlled by Mr. Chen Hanlin, the Chairman of the Company. Pursuant to the
Exchange Agreement, the 51% equity interest in Jingzhou owned by Ji Long was
exchanged for 2.5% of Hubei Wanlong's equity interests in Henglong based on
their respective fair market values as determined by an independent appraisal
firm. Accordingly, effective August 31, 2004, the Company did not own Jingzhou's
equity.
The disposal of Jingzhou was accounted for as discontinued operations
according as SFAS No. 144. The operating results and related costs and expense
of Jingzhou have shown as discontinued operations in the consolidated Statements
of operations. Financial statements of prior period are also changed to reflect
the discontinued operation of Jingzhou. There is no taxes accrued from
discontinued operating loss. The financial position and operating results are
summarized as follows:
1. Assets and liabilities of discontinued operations as of December 31, 2003.
Item December 31, 2003
ASSETS
Current assets:
Cash and cash equivalents $ 52,014
Accounts and notes receivable 12,180
Advance payments 331,825
Inventories 604,162
-----------
Total current assets 1,000,181
-----------
Property, plant and equipment 2,308,610
Less: Accumulated depreciation (74,909)
2,233,701
-----------
Other receivable 3,812
-----------
Total assets 3,237,694
===========
Current liabilities:
Bank loans --
Accounts and notes payable 88,277
Customer deposits 255,044
Accrued payroll and related costs 5,387
Accrued expenses and other payables 781,344
Liability related to acquisition of
joint venture assets 1,204,819
Taxes payable (51,919)
-----------
Total current liabilities $ 2,282,952
-----------
Net assets $ 954,742
===========
91
The consolidated balance sheet of the Company for the year ended December 31,
2004 excludes assets and liabilities of Jingzhou, since the Company did not own
Jingzhou effective August 31, 2004. The Company have restated the Consolidated
balance sheet of 2003 on December 31, 2004. The current assets of Jingzhou have
shown as current assets from discontinued operations, such as $1,000,181 in
above schedule. Current liabilities of Jingzhou are shown as current liabilities
from discontinued operations. Property, plant and equipment of Jingzhou are
shown as property, plant and equipment from discontinued operation. The other
assets except current assets and property, plant and equipments have been shown
as other assets from discontinued operations.
2. Statements of operation from discontinued operations for 2004 and 2003:
Item 2004 2003
Net sales $ 2,746,389 $ 1,702,306
Cost of sales 2,679,008 1,764,293
----------- -----------
Gross profit 67,381 (61,987)
----------- -----------
Costs and expenses:
Selling 11,595 13,849
General and administrative 80,696 118,749
Depreciation and amortization 19,042 45,569
----------- -----------
Total costs and expenses 111,333 178,167
----------- -----------
Income (loss) from operations (43,952) (240,154)
----------- -----------
Other income (expenses):
Other non-operating income 18,605 1,464
Financial expenses (16,989) (11,387)
----------- -----------
Other income (loss), net 1,616 (9,923)
----------- -----------
(Loss) before income taxes (42,336) (250,077)
Income taxes -- --
----------- -----------
(Loss) before minority interest (42,336) (250,077)
Minority interest (loss) from discontinued
operation (20,745) (122,538)
----------- -----------
Net (loss) from discontinued operations $ (21,591) $ (127,539)
=========== ===========
92
The consolidated statements of operations included results of discontinued
operations, but reclassified for 2004 and 2003. The net loss of discontinued
operations of $(21,591) and $(127,539) in 2004 and 2003, respectively have been
reclassified as net loss from discontinued operations.
3. Statement of Cash Flows from discontinued operations for 2004 and 2003:
Item 2004 2003
Cash flows from operating activities:
Net loss from discontinued operations $ (21,591) $ (127,539)
Adjustments required to reconcile income from discontinued
operations to net cash provided by operating
activities
Minority interests (20,745) (122,538)
Depreciation and amortization 83,537 74,909
Changes in operating assets and liabilities:
(Increase) decrease in:
Accounts and notes receivable and
advance payments 344,005 (344,005)
Inventories 317,306 (604,162)
Increase (decrease) in:
Accounts and notes payable, accrued expenses
and other payables and customer deposits (912,507) 2,334,871
Increase(decrease) in liabilities related to
acquisition of joint venture assets (1,204,819) 1,204,819
Taxes payable 60,308 (51,919)
------------ ------------
Net cash provided by(used in)operating activities (1,354,506) 2,364,436
------------ ------------
Cash flow from investing activities:
(Increase)decrease in other receivables (300,750) (3,812)
Received(paid) cash for disposal fixed assets 35,412 (2,308,610)
Received(paid)cash from investing activities 387,107 --
------------ ------------
Net cash provided by(used in)investing activities 121,769 (2,312,422)
------------ ------------
Cash flows from financing activities:
Increase(decrease)proceeds from bank loans 602,410 --
Contributions to capital by minority interest holders 578,313 --
------------ ------------
Net cash used in financing activities 1,180,723 --
------------ ------------
Cash and cash equivalents from discontinued operations:
Net increase(decrease) (52,014) 52,014
At beginning of period 52,014 --
------------ ------------
At end of period $ -- $ 52,014
============ ============
93
The Statements of Cash Flows included cash flows from discontinued operations
reclassified for 2003. In the consolidated statements of cash flows, cash flows
from discontinued operations in 2004 and 2003 have been classified as net cash
flows provided by (used in) operation activities from discontinued operations of
$(1,354,506) and $2,364,436; net cash provided by (used in) investing activities
from discontinued operations of $121,769 and $(2,312,422); net cash provided by
(used in) financing activities from discontinued operations of $1,180,723 and
$0, respectively.
20. Significant Concentrations
The Company grants credit to its customers, generally on an open account basis.
The Company's customers are all located in the PRC.
In 2004, the Company's ten largest customers accounted for 73.1% of the
Company's consolidated sales, with three customers accounting for in excess of
10% of consolidated sales, with 19.2%, 16.2% and 10.9% of consolidated sales, or
an aggregate of 46.3% of consolidated sales.
In 2003, the Company's ten largest customers accounted for 73.2% of the
Company's consolidated sales, with three customers accounting for in excess of
10% of consolidated sales, with 25.0%, 11.1% and 10.5% of consolidated sales, or
an aggregate of 46.6% of consolidated sales.
At December 31, 2004 and 2003, approximately 38.7% and 34% of accounts
receivable were from trade transactions with the aforementioned three customers.
21. Related Party Transactions
Effective August 2, 2003, the Company entered into a five-year License and
Technical Assistance Agreement (the "Agreement") with Sino-American, Inc.
94
("Sino-American"), a United States company controlled by the Company's Chairman
and controlling shareholder. The Agreement provided for total payments of
$6,000,000 to enable Sino-American to purchase technical assistance and
equipment for use in the Company's business operations in China. During November
2003, $2,000,000 was paid by the Company to Sino-American, which has been
classified as advance payments in the consolidated balance sheet at December 31,
2004 and 2003, net of amounts expended through such date.
This agreement also allowed the Company to transfer funds from China to the
United States to fund normal corporate general and administrative expenses.
Through December 31, 2004, Sino-American had paid, on behalf of or for the
benefit of the Company, a total of $1,931,105, including $250,000 for an initial
investment in an unrelated joint venture; $255,000 for equipment and $180,000
for software to unrelated third parties, $250,000 to the Company's Chairman and
controlling shareholder as reimbursement for costs incurred by him related to
the March 2003 recapitalization, and $996,105 for selling, general and
administrative expenses for the benefit of or on behalf of the Company. As this
Agreement was terminated effective April 1, 2004, it is expected that any funds
not expended will be repaid to the Company by May 1, 2004.
Effective October 23, 2004, in order to concentrate on its main products, namely
steering and automotive parts, the Company disposed of its 51% interest in
Jingzhou by entering into an equity exchange agreement (the "Exchange
Agreement") with Hubei Wanlong Investment Co., Ltd ("Hubei Wanlong"), which is
controlled by Mr. Chen Hanlin, the Chairman of the Company. Pursuant to the
Exchange Agreement, the 51% equity interest in Jingzhou owned by Ji Long was
exchanged for 2.5% of Hubei Wanlong's equity interests in Henglong based on
their respective fair market values as determined by an independent appraisal
firm. The difference between the fair value and the book value resulting from
the disposition of the joint venture interest in Jingzhou was debited to
additional paid-in capital. With respect to consideration paid by the Company in
excess of the Chairman's basis in his investment, such excess has been charged
to additional paid-in capital as a distribution to the Chairman, resulting in
the acquired 2.5% equity interests in Henglong being recorded by the Company at
the Chairman's original cost basis. The Company paid approximately $90,000 to
Hubei Wanlong in conjunction with this transaction.
During year ended December 31, 2004 and 2003, the joint ventures entered into
related party transactions with companies with common directors as shown below:
2004 2003
Sales
- received $ 699,903 $ 2,020,650
- receivable 982,722 1,248,328
Purchases
- paid $1,180,425 $ 931,808
- payable 522,754 1,175,006
95
These transactions were consummated under similar terms as those with the
Company's customers and suppliers.
22. Commitments and Contingencies
Legal Proceedings - The Company is not currently a party to any threatened or
pending legal proceedings, other than incidental litigation arising in the
ordinary course of business. In the opinion of management, the ultimate
disposition of these matters will not have a material adverse effect on the
Company's consolidated financial position, results of operations or cash flows.
The Company has the following material contractual obligations and capital
expenditure commitments:
Date Parties involved Description of Commitments and Contingencies
---------------- --------------------------- --------------------------------------------
October 30, 2001 Henglong Ten year license agreement for the design of
& power steering systems.
Bishop Steering Technology
Limited ("Bishop"), an Henglong is obligated to pay Bishop a
Australian company technical assistance fee of approximately
$200,000 per year during the first two
years and $110,000 per year during the
remaining eight years of the agreement.
March 2003 Henglong Purchase and construction agreement to
& design and construct a software research and
Wuhan Huazhong Shuguang development facility.
Software Park Co., Ltd.
Total value $4,820,000.
The Company paid $2,421,300 during 2003.
The Company will pay an additional
$952,900 during 2004 and pay off the
remaining $1,445,800 after it receives a
license for the right to use the land and
a building property certificate. During
the year ended December 31, 2004, the
company has paid $3,164,241 based on the
construction progress, and $1,655,759
remains outstanding.
July 21, 2003 Henglong Five year license and technical assistance
& agreement. Henglong paid Namyang an initial
96
Namyang Industrial Co. Ltd. payment of $100,000 and is further obligated
("Namyang"), a Korean to pay a royalty of 3% of the sales price of
manufacturer of steering products sold, which includes the licensed
columns and universal joint technology.
assemblies for automobiles.
October 2003 Henglong Invest $10,000,000 to develop an industrial
& enterprise to carry out automobile component
Wuhu Science and Technology projects related to power steering systems.
Zone The agreement does not specify a time limit.
The Company plans to invest in phases over
a five year period. The Company plans to
invest approximately $870,000 in the first
phase to acquire land use rights. The
Company advanced approximately $435,000
during 2003 pursuant to the agreement
under the first phase. The second phase of
investment was delayed because the local
Government did not complete its water
and electricity supply system on time.
This new plant is expected to service a
large vehicle manufacturer in Wuhu at
reduced transportation and storage costs.
October 5, 2003 Henglong Letter of intent for a joint venture to
& develop a sensor production facility.
Advanced Custom Sensors,
Henglong will be responsible for initial
loans and payments of $500,000, payable in
two installments of $250,000, to be used
for the development of related products,
the training of personnel, and other
operating costs. The first payment of
$250,000 was made on February 12, 2004.
The Company paid $45,000 on August 31,
2004 based on the development progress.
The company expects to pay the remaining
$205,000 during 2005.
March to December, Henglong & some Have entered into some equipment purchase contracts with a
2004 equipment manufacturers total value of approximately $4,720,000. Henglong has
paid $1,740,000 during 2004, and will
pay off the remaining $2,980,000 during 2005
March to December Jiulong & some Have entered into some equipment purchase contracts with a
2004 equipment manufacturers total value of approximately $2,750,000. Jiulong has
paid $1,020,000 during 2004, and will
pay off the remaining $1,730,000 during 2005
97
23. Information with Respect to the Company's Sino-Foreign Joint Ventures.
98
As of December 31, 2003 and 2004, the condensed balance sheets for continued
operations of the Company's Sino-foreign joint ventures, which excluding assets,
liability and shareholders' equity of the corporate were as follows,:
Henglong Jiulong Shenyang
-------- ------- --------
2004 2003 2004 2003 2004 2003
----------- ----------- ----------- ----------- ------------ ----------
Current assets $31,288,596 $35,336,427 $30,491,838 $26,575,218 $ 10,141,350 $6,716,225
Non-current assets 22,674,199 11,633,355 5,051,405 1,528,072 3,586,772 3,294,543
----------- ----------- ----------- ----------- ------------ -----------
Total assets 53,962,795 46,969,782 35,543,243 28,103,290 13,728,122 10,010,768
=========== =========== =========== =========== ============ ===========
Current liabilities 38,315,831 28,831,634 22,336,677 16,888,077 5,570,048 2,761,733
Non-current liabilities 192,459 192,459 -- -- 3,920 4,089
Shareholders' equity 15,454,505 17,945,689 13,206,566 11,215,213 8,154,154 7,244,946
----------- ----------- ----------- ----------- ------------ -----------
Total liabilities and
shareholders' equity $53,962,795 $46,969,782 $35,543,243 $28,103,290 $ 13,728,122 $10,010,768
=========== =========== =========== =========== ============ ===========
Zhejiang Total
-------- -----
2004 2003 2004 2003
---------- ---------- ------------ -----------
Current assets $5,205,019 $3,358,264 $ 77,126,803 $71,986,134
Non-current assets 4,520,360 3,251,814 35,832,736 19,707,784
---------- ---------- ------------ -----------
Total assets 9,725,379 6,610,078 112,959,539 91,693,918
========== ========== ============ ===========
Current liabilities 1,810,811 1,877,718 68,033,367 50,359,162
Non-current liabilities -- -- 196,379 196,548
Shareholders' equity 7,914,568 4,732,360 44,729,793 41,138,208
---------- ---------- ------------ -----------
Total liabilities and
shareholders' equity $9,725,379 $6,610,078 $112,959,539 $91,693,918
========== ========== ============ ===========
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For the years ended December 31, 2004 and 2003, the condensed statements of
operations from continued operations of the Company's Sino-foreign joint
ventures are as below. The condensed statements of operations excludes corporate
general and administrative expense of $1,108,481, stock-based compensation of
$1,300,000, and non-operating income of $105,151 in 2003; excludes corporate
general and administrative expense of $823,852, Depreciation and amortization of
$78,500 , stock-based compensation of $55,125, financial costs of $(4,620)and
non-operating income of $12,806 in 2004.
Henglong Jiulong Shenyang
---------------------------- --------------------------- -----------------------------
2004 2003 2004 2003 2004 2003
------------ ------------ ------------ ------------- -------------- ------------
Proportionate ownership
interest at end of year 44.5% 42% 81% 81% 70% 55%
Net sales $ 29,029,209 $ 33,929,946 $ 26,932,386 $ 18,660,367 $ 12,690,209 $ 13,173,434
Cost of goods sold 20,614,311 21,242,707 17,196,990 9,695,034 9,521,533 9,964,598
------------ ------------ ------------ ------------- -------------- ------------
Gross profit 8,414,898 12,687,239 9,735,396 8,965,333 3,168,676 3,208,836
Selling expenses 1,658,537 1,434,715 1,423,586 1,078,316 160,853 85,499
General and
administrative expenses 2,990,779 2,724,473 1,725,512 2,764,807 626,464 646,879
R & D expenses 1,363,644 809,914 154,434 201,627 -- --
Depreciation
and amortization 372,491 757,219 238,409 263,925 84,012 139,167
------------ ------------ ------------ ------------- -------------- ------------
Income (loss) from
operations 2,029,447 6,960,918 6,193,455 4,656,658 2,297,347 2,337,290
Finance costs 374,067 209,146 366,350 126,025 4,625 (1,667)
Other income
(expense), net 866,935 228,587 710,101 139,989 67,210 9,553
------------ ------------ ------------ ------------- -------------- ------------
Zhejiang Elimination Total
-------------------------- ------------------------------ --------------------------
2004 2003 2004 2003 2004 2003
------------ ----------- ------------ ------------ ----------- ------------
Proportionate ownership
interest at end of year 51% 51%
Net sales $ 4,259,791 $ 1,678,018 $(14,725,750) $(13,816,897) $58,185,845 $ 53,624,868
Cost of goods sold 2,482,645 1,215,407 (14,773,127) (13,481,838) 35,042,352 28,635,908
------------ ----------- ------------ ------------ ----------- ------------
Gross profit 1,777,146 462,611 47,377 (335,059) 23,143,493 24,988,960
Selling expenses 230,828 121,046 -- -- 3,473,804 2,719,576
General and
administrative expenses 318,660 359,116 (6,408) -- 5,655,007 6,495,275
R & D expenses 434 5,490 -- -- 1,518,512 1,017,031
Depreciation
and amortization 74,597 161,290 -- -- 769,509 1,321,601
------------ ----------- ------------ ------------ ----------- ------------
Income (loss) from
operations 1,152,627 (184,331) 53,785 (335,059) 11,726,661 13,435,477
Finance costs (9,460) 1,081 -- (1,249) 735,582 333,336
Other income
(expense), net 20,120 49,303 -- -- 1,664,366 427,432
------------ ----------- ------------ ------------ ----------- ------------
100
Income (loss) before
income taxes 2,522,315 6,980,359 6,537,206 4,670,622 2,359,932 2,348,511
Income taxes (51,395) 777,485 669,795 973,455 - -
------------ ------------ ------------ ------------- -------------- ------------
Net income (loss) 2,573,710 6,202,874 5,867,411 3,697,167 2,359,932 2,348,511
Minority interest 1,523,326 3,597,666 1,230,314 1,006,117 849,162 939,405
------------ ------------ ------------ ------------- -------------- ------------
Equity in income
(loss) of joint ventures $ 1,050,384 $ 2,605,208 $ 4,637,097 $ 2,691,050 $ 1,510,770 $ 1,409,106
============ ============ ============ ============= ============== ============
Income (loss) before
income taxes 1,182,207 (136,109) 53,785 (333,810) 12,655,445 13,529,573
Income taxes - - - - 618,400 1,750,940
------------ ----------- ------------ ------------ ----------- ------------
Net income (loss) 1,182,207 (136,109) 53,785 (333,810) 12,037,045 11,778,633
Minority interest 579,652 (66,693) - - 4,182,454 5,476,495
------------ ----------- ------------ ------------ ----------- ------------
Equity in income
(loss) of joint ventures $ 602,555 $ (69,416) $ 53,785 $ (333,810) $ 7,854,591 $ 6,302,138
============ =========== ============ ============ =========== ============
101