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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB/A
Amendment No. 1
|X| ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934.
For the fiscal year ended December 31, 2003
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OR
|_| TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT
OF 1934.
For the transition period from to
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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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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
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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 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. $20,078,904 based on a closing
bid price of $8.00 on April 12, 2004.
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 April 12, 2004 there
were 22,574,542 shares outstanding
Transitional Small Business Disclosure Format (check one): Yes No X
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State issuer's revenue for its most recent fiscal year $ 55,327,174
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China Automotive Systems, Inc.
FORM 10-KSB
INDEX
Page
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PART I
Item 1. Description of Business............................................1
Item 2. Description of Property...........................................10
Item 3. Legal Proceedings.................................................11
Item 4. Submission of Matters of a Vote of Security Holders...............11
PART II
Item 5. Market for Company's Common Equity, Related Stockholder
Matters and Small Business Issuer Purchases of Equity Securities..13
Item 6. Management's Discussion and Analysis of Financial
or Plan of Operation..............................................26
Item 7. Financial Statements..............................................26
Item 8. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure...............................27
Item 8A. Controls and Procedures...........................................27
PART III
Item 9. Directors and Executive Officers of the Registrant................27
Item 10. Executive Compensation............................................31
Item 11. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters...................................21
Item 12. Certain Relationships and Related Transactions....................32
Item 13. Exhibits, List and Reports on Form 8-K............................32
Item 14. Principal Accountant Fees and Services............................33
Signatures ...........................................................34
Financial Statements........................................................F-1
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. 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. The Company 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, we 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"), Tse
Yiu Wong ("Wong"), Hanlin Chen ("Chen" together with Dong, Wong, Wu and Xie, the
"Sellers") and Great Genesis Holding Limited, a corporation organized under the
laws of the Hong Kong Special Administrative Region, China ("Genesis"), we
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, we issued 20,914,250 shares of common stock to the Sellers.
After the Acquisition, we 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 five Sino-joint ventures
four of 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 2003 the combined sales of the Sino-joint
ventures ranked second in their industry sector, with a market share of 18%.
Effective March 10, 2003, Hanlin Chen, Guofu Dong, Liping Xie, Qizhou
Wu, and Tse Yiu Wong began serving their terms as members of our 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.
1
On May 19, 2003, we changed our name from Visions-In-Glass, Inc. to
China Automotive Systems, Inc.
Business Overview
Unless the context indicates otherwise, we use the terms the "the
Company", "we,", "our" and "us" to refer to both our predecessor, Genesis and
China Automotive collectively on a consolidated basis. The historical financial
statements for the periods prior to the Acquisition and summaries thereof
appearing in this report are those of our predecessor company and represent the
combined financial statements of Genesis. We are a holding company and have no
significant business operations or assets other than our interest in Genesis.
Through Genesis, we manufacture power steering systems and other component parts
for automobiles. All operations are conducted through five Sino-foreign joint
ventures in China. Set forth below is an organizational chart.
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China Automotive Systems
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(100%)
Great Genesis Holdgins Limited
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(100%)
Ji Long Enterprise Investment Limited
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| | | | |
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(42%) 81% 55% (51%) (51%)
Jin Henglong Shashi Jiulong Power Shenyang Jinbei Henglong Zhejiang Henlong & VIE Jingzhou Henglong Fulida
Co. Ltd. Steering Company Limited Automotive Steering Pump Company Limited Textile Co., Ltd.
Automotive Parts ("Jiulong") Systems Company Limited ("Zhejiang") ("Jingzhou")
("Henglong) ("Shenyang")
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Source: Company data
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.
Jingzhou was formed in 2003 to produce environment- protection textile and raw
materials. At present, Henglong, Jiulong and Shenyang are the principal entities
generating revenues while Zhejiang and Jingzhou are in the early development
stage.
We have long-term contracts with more than forty vehicle manufacturers
or VM's, including two of the largest automobile manufacturers in China with
$6.25 billion and $2 billion in annual sales in 2003, respectively. We also have
long-term contracts with the largest van manufacturers in China, Shenyang
Brilliance Jinbei Co., Ltd., and Fukang, a Citroen invested automobile
manufacturer. We also have long-term contracts with SAIC Cherry Automobile Co.,
Ltd. and Geely Automobile Co., Ltd.
2
We currently own two trademarks on automobile parts and twelve Chinese
patents for power steering technology. We are in the process of integrating new
advanced technologies such as electronic chips in power steering systems into
our current product line and are pursuing aggressive strategies in technology to
maintain a competitive edge within the automobile industry. In 2001,we signed a
Licensing Agreement with Bishop Steering Technology Ltd, one of the leading
manufacturers of power steering systems. In 2003, we signed a Technology
Transfer Agreement with Namyang Ind. Co. Ltd., a leading steering column maker,
for the technology necessary for electronic-controlled power steering (EPS)
systems.
Responding to the trends of environmental protection, safety, energy
saving and electronicalization, in 2003, we established a steering systems
research institute with Tsinghua University, designed to develop the EPS and
Electronic Hydraulic Steering System(EHPS).
Strategic Plan
Our short to mid-term strategic plan is to focus on both domestic and
international market expansion. To achieve this goal, we will focus on brand
recognition, quality control, decreasing costs, research and development and
strategic acquisitions. Set forth below are our goals:
o Brand Recognition. Under the Henglong and Jiulong brands we
offer four separate series of power steering sets and 307 models of power
steering sets, steering columns steering oil pumps and steering hoses.
o Quality Control. The Henglong and Jiulong manufacturing
facilities passed the ISO/TS 16949 System Certification process that was
developed by TUVRheindland of Germany.
o Decrease Cost. By improving our production ability and
enhancing equipment management, optimizing the process and products structure,
perfecting the supplier system and cutting production cost, our goal is to
achieve a more competitive profit margin.
o Research and Development. By partnering with Bishop Steering
for the development of advanced steering systems, our objective is to gain
increased market share in China.
o International Expansion. We have established contacts with
several international VM's and auto parts modules suppliers and are in
preliminary negotiations regarding future development projects.
o Acquisitions. We are exploring opportunities to create
long-term growth through new ventures or acquisitions of other auto component
manufacturers. We 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
3
- companies involved with power steering
systems, oil pump or engine-cooling systems.
Customers
Our ten largest customers represent 73.18% of our total sales. The
following table sets forth information regarding our ten largest customers.
List of Major Customers
Name of Customer Percentage of
Total Revenue
Brilliance China Automotive Holdings Limited 25.02%
Beiqi Foton Motor Co., Ltd. 11.08%
SAIC CHERY AUTOMOBILE CO., Ltd 10.49%
Great Wall Motor Company Limited 6.56%
Southeast Automotive Industry Co., Ltd 4.51%
China FAW Group Corporation 4.25%
Hebei Zhongxing Automobile Co., Ltd. 4.13%
Zhejiang Geely Holding Co., Ltd 3.69%
Dongfeng Liuzhou Motor Co., Ltd 2.15%
Zhengzhou Yutong Bus Co.,Ltd 1.30%
Sales and Marketing
Our sales and marketing team of 59 salespersons is divided into two
teams - the OEM team and the aftermarket team. Our sales and marketing team
provide a constant interface with our key customers. These teams are located in
all major vehicle producing regions to more effectively represent their
respective customers' interests within our organization, to promote customer
programs and to coordinate customer strategies with the goal of enhancing
overall customer service and satisfaction. Our ability to support our customers
is further enhanced by our broad presence in terms of sales offices,
manufacturing facilities, engineering/technical centers and joint ventures.
Our sales and marketing organization and activities are designed to
create overall awareness and consideration of, and to increase sales of our
systems, modules and components. To further this objective, we participate in
international trade shows in Paris, Frankfurt and Detroit, as well as
international aftermarket-focused events.
4
Distribution
The core of our distribution system is our ten district sales centers
located in the Northeastern, Northern, Eastern, Southeastern, and the Central
Western parts of China. Each of the district sales centers covers approximately
twelve sales locations in 31 provinces. We guarantee product delivery in eight
hours if the client is located within 200 km from the district sales office. The
guaranteed delivery time is 24 hours for customers located over 200 km from the
sales office. Delivery time is a very important competitive factor, after
quality, pricing and long-term relationships, in terms of customer decision
making.
Employees and Facilities
We currently employ approximately 2,159 persons in our production
facilities of the four joint ventures located at the Jingzhou City of Hubei
Province, Shenyang City of Liaoning Province and Zhejiang Province. Jiulong and
Henglong in Jingzhou together employ 1,601 persons in facilities on 137,970.85
square meters of land. Shenyang has 200 employees, in production facilities
covering an area of 35,000 square meters. Zhejiang has 208 employees covering an
area of 33,000 square meters. Jingzhou has 150 employee covering an area of
46,305 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 in
2002 was 230,000 sets and approximately 15,000 sets in 2003. Although the
production process continues to rely heavily on manual labor, we have invested
substantially in high-level production machinery to improve capacity and
production quality. A total of approximately $10 million has been spent over the
last two years on professional-grade equipment -- approximately 80% of the
machines are already in place and ready for implementation into the
manufacturing process.
Raw Material
We purchase various manufactured components and raw materials for use
in our manufacturing processes. The principal components and raw materials we
purchase include castings, electronic parts, molded plastic parts, finished
sub-components, fabricated metal, aluminum and steel. The most important raw
material is steel. We enter 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 us
from building up inventory when the orders from customers change.
Our three largest suppliers are Shanghai Lemforder Automotive
Components Co. Ltd., Shaoxing Sonic Automotive Components Co., Ltd. and Zhejiang
Yingfeng Cast Co. Ltd. which in the aggregate account for 17.18% of all
components and raw materials we purchase.
All components and raw materials are available from numerous sources.
We have not, in recent years, experienced any significant shortages of
manufactured components or raw materials and normally do not carry inventories
of these items in excess of what is reasonably required to meet our production
and shipping schedules.
5
Research and Development
We have 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, we have
implemented the Bishop steering valve technology into the Henglong brand R&P
power steering gear product.
Henglong owns a Hubei Provincial-Level Technical Center, which is
approved by the Hubei Economic Commission. The center has a staff of 101
including 20 senior engineers, three foreign experts and 63 engineers primarily
focused on Steering System R&D, experiment, process improvement and new material
and process application.
We have established an R&D center-Changchun Hualong Auto Technology
Co., Ltd. - with 40 employees which is composed of eight senior engineers, three
foreign experts and 22 engineers all focused on Steering System R&D,
experiments, and new material applications.
In addition, we have partnered with Tsinghua University to establish a
steering system research center, called Qtsinghua Henglong Automobile Steering
Research Institute for the purpose of R&D and experimentation for
Electronic-controlled Power Steering (EPS).
We estimate that approximately three to five percent of our net
earnings are allocated to research and development each year. We currently own
twelve Chinese patents on power steering technology and four international
patents. Sales of new products developed in 2003 account for approximately 25 to
30 percent of total sales.
Competition
The automotive components industry is extremely competitive. Criteria
for our 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 we have 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 1.875 million
sets with China Automotive Systems providing approximately 450,000 of these
sets. Like many competitive industries, there is downward pressure on selling
prices. In 2003, the selling price of our products was reduced by an average of
6% by the end of the fourth quarter.
Our major competitors are component suppliers of automobile
manufacturers (i.e. the component suppliers that exclusively produce and supply
specific automobile manufacturers) including Shanghai ZF and FKS. Shanghai ZF is
the joint venture of Shanghai Automobile Company and Germany ZF. Shanghai
Automobile Company has 28% of the market share and is an exclusive supplier to
GM and Volkswagen in China. First Auto, FKS is the third largest in the market
with approximately a 12% market share and is a joint venture of First Auto Group
and Japan's Koyo Company.
6
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
we are in China in terms of production cost and flexibility in meeting client
requirements.
The Chinese Automobile Industry
According to the Analysis Report on Vitality of China's Industries,
which is jointly issued by National Planning Economy Research Institute and
Beijing Xinhua-on-ine, there is estimated to be a 30% increase of automobile
sales in China in 2004. Management believes that the automotive market expansion
will bolster the development of automobile component parts.
A key factor in the projected increase of automobile manufacturing is
that Chinese retail banks now offer loans for automobile purchase. Consumers can
obtain financing from banks for up to 70% of the purchase value for a maximum of
six years. Recently, the Chinese government also adopted long-awaited
regulations necessary to allow car firms to finance the purchase of their
vehicles, a step to further accelerate the already rapidly growing market in
China. These new regulations allow non-bank institutions and car companies to
set up car financing firms. Currently, less than 20% of new car buyers in China
use credit financing, as compared to 70% worldwide. Management believes that
this change in banking regulations should encourage more individuals in China to
buy cars.
China's 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. GDP growth averaged 9.8% between 1982 and 2002. Per
capita GDP increased from $276 in 1982 to $392 in 1992 and $967 in 2002. 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 in
1998-1999, China's 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.
Looking forward, the Chinese government and the International Monetary
Fund forecast GDP growth in the region of 8% in 2004. Over the longer term,
China's accession to the World Trade Organization (WTO) is expected to
accelerate the capital flow to China from other developed countries.
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. In this regard, by the end of 2002, China's total roads
measured 1.758 million kilometers (1.055 million miles) making it the fourth
longest system in the world (see Figure 1).
7
Figure 1: China Trunk & National Highway Network
[GRAPHIC OMITTED]
Source: worldhighways.com
National expressways run more than 30,000 kilometers , up from 6,200
kilometers as recently as four years ago. According to the Chinese National
Bureau of Statistics, of a total of 78.7% or 1.336 million kilometers are of a
high standard with 13.4% or 227,000 kilometers being first or second grade
roads. For every 100 square kilometers, there are now 17.7 kilometers of road.
With roads spread throughout all counties, 99.3% of towns and 91.8% of villages
in China are connected.
According to a report by Peopledaily.com, the Chinese government's
annual expenditure on road construction had been approximately US $24.2 billion
for three successive years up through 2000 and escalated to be US $31.1 billion
in 2001 and US$26.6 billion budgeted (at the time of the report)) for 2002.
Construction of expressways is expected to continue through 2008 when the
Olympic Games are scheduled to be held in Beijing. A national mainline network
composed of five vertical and seven horizontal throughways is being developed,
and new roads are also being built to improve links with neighboring countries.
It was estimated - in the same report - that 40,000 kilometers (24,855 miles)
were to be constructed during 2002 of which 62% were to be in the west of China.
The Ministry of Communications indicates that the government is expected to
invest some US $84-$100 billion on construction of 300,000 kilometers (217,480
miles) in western regions in the next ten years. China has 12 provinces and
autonomous regions in its western area covering nearly 71.7% of the country's
total landmass, but the roads are generally at a poor low level with few asphalt
roads.
8
Doing Business in China
The Chinese Legal System
The practical effect of the People's Republic of China legal system on
our 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 states. Similarly, the People's Republic of China accounting laws
mandate accounting practices, which are not consistent with US Generally
Accepted Accounting Principles. The China accounting laws require that an annual
"statutory audit" be performed in accordance with People's Republic of China
accounting standards and that the books of account of Foreign Invested
Enterprises are 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 designate 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
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 our 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.
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:
9
o We will be able to capitalize on economic reforms;
o The Chinese government will continue its pursuit of economic
reform policies;
o The economic policies, even if pursued, will be successful;
o Economic policies will not be significantly altered from time
to time; and
o Business operations in China will not become subject to the
risk of nationalization.
Negative impact upon economic reform policies or nationalization could
result in a total investment loss in our 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 our 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
our 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 we 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.
Our 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. We have
a long-term rights to use the land and we own all of the land improvements.
10
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Facility Total Area Product
M2 Manufactured
-------------------------- --------------- ------------------
Jingzhou Henglong 39,529.59 Automotive Parts
-------------------------- --------------- ------------------
Shashi Jiulong 98,441.26 Power Steering
-------------------------- --------------- ------------------
Shenyang Jinbei 35,354 Automotive
Steering
-------------------------- --------------- ------------------
Zhejiang Henlong 27,756 Pumps
-------------------------- --------------- ------------------
Jingzhou Henglong Fulida 46,305.97 Textile
-------------------------- --------------- ------------------
ITEM 3. LEGAL PROCEEDINGS.
We are not a party to any pending or to the best of our 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 us or has a material interest adverse to us in reference to
pending litigation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
During the fourth quarter of the fiscal year 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
Our common stock is traded on the Over-The-Counter Bulletin Board under
the symbol "CAAS.OB" in March 2003. The high and low bid intra-day prices of the
common stock were reported on the OTCBB 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 for the time periods
indicated.
11
Price Range
-----------
High Low
---- ---
Fiscal Year Ended December 31, 2003
First Quarter $.10 $0.01
Second Quarter 4.50 2.90
Third Quarter 4.85 3.82
Fourth Quarter 18.50 4.80
(b) Stockholders
Our common shares are issued in registered form. Securities Transfer
Corporation in Frisco, Texas is the registrar and transfer agent for our common
stock. As of March 15, 2004, there were 22,574,542 shares of our common stock
outstanding and we had approximately 50 stockholders of record.
(c) Dividends
We have never declared or paid any cash dividends on our common stock
and we do not anticipate paying any cash dividends in the foreseeable future. We
currently intend to retain future earnings, if any, to finance operations and
the expansion of our business. Any future determination to pay cash dividends
will be at the discretion of the board of directors and will be based upon our
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 we issued 509,856 shares to investors upon the
exercise of warrants that were issued in March. The warrants were exercised on a
cashless 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.
12
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 our financial position and operating results during
the periods included in the accompanying consolidated financial statements, as
well as information relating to the plans of our current management. This report
includes forward-looking statements. Generally, the words "believes,"
"anticipates," "may," "will," "should," "expect," "intend," "estimate,"
"continue," and similar expressions or the negative thereof or comparable
terminology are intended to identify forward-looking statements. Such statements
are subject to certain risks and uncertainties, including the matters set forth
in this report or other reports or documents we file with the Securities and
Exchange Commission from time to time, which could cause actual results or
outcomes to differ materially from those projected. Undue reliance should not be
place on these forward-looking statements which speak only as of the date
hereof. We undertake no obligation to update these forward-looking statements.
The following discussion and analysis should be read in conjunction with our
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
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.
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 to the former officer, director and controlling shareholder of Visions
for the cancellation of 17,424,750 shares of common stock and have agreed to pay
an additional $70,000, subject to certain conditions.
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.
13
As of December 31, 2002 and 2003, Ji Long owned aggregate net interests in five
Sino-foreign joint ventures organized in the PRC as shown below.
Percentage Interest
-------------------
Name of Entity 2002 2003
-------------- ---- ----
Jingzhou Henglong Automotive Parts
Co. Limited ("Henglong") 42.0% 42.0%
Shashi Jiulong Power Steering Co.
Limited ("Jiulong") 81.0% 81.0%
Shenyang Jinbei Henglong Automotive
Steering System Co. Limited ("Shenyang") 37.6% 55.0%
Zhejiang Henglong & Vie Pump-Manu Co.
Limited ("Zhejiang") 51.0% 51.0%
Jingzhou Henglong Fulida Textile Co., Ltd.
("Jingzhou") -- 51.0%
During December 2002, the Company entered into three transactions with entities
controlled by its chairman and controlling shareholder involving the Company's
minority interest ownership in certain of its Sino-foreign joint ventures as
follows: (1) the Company acquired a 21% interest in Jiulong for $6,320,241; (2)
the Company acquired a 7% interest in Henglong for $3,310,602; and (3) the
Company transferred a 7% interest in Henglong in exchange for an 11% interest in
Jiulong. The amounts due to or from the chairman resulting from these
transactions were accounted for as increases or decreases to the amounts due to
or from shareholders/directors and were recorded at fair value, as determined by
an independent appraisal firm. The difference between fair value and book value
resulting from the disposition of joint venture interests was credited 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 investment being recorded by the Company at the chairman's original
cost basis.
Jingzhou was formed in February 2003 to produce environmental textile and raw
materials, and is owned 51% by Ji Long and 49% by Cixi City Fulida Synthetic
Fibre Co., Ltd. Operations to date have not been material. As an "Act in
Concert" Agreement has been executed for Jingzhou, the Company consolidated
Jingzhou as of December 31, 2003, and for the year then ended.
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. Jingzhou was
formed in 2003 to produce environment-protection textile and raw materials. At
present, Henglong, Jiulong and Shenyang are the main revenue-generating
entities, while Zhejiang and Jingzhou are in the early development stage and
generated approximately 6% of consolidated revenues in 2003. The Company has
long-term contracts with more than forty vehicle manufacturers, including two of
the largest automobile manufacturers in China, First Auto Works, with $6.25
billion in annual sales and Dongfeng Auto Company, with $2.0 billion in annual
sales. The Company also has long-term contracts with the largest van
manufacturer in China, Shenyang Brilliance Jinbei Co., Ltd., which has
approximately $1.6 billion in annual sales, and Fukang, a Citroen-invested
automobile manufacturer which has approximately $1 billion in annual sales. The
Company also has long-term contracts with two other smaller car manufacturers,
SAIC Cherry Automobile Co., Ltd and Geely Automobile Co., Ltd.
14
During early 2003, the Directors of the Company and the other joint venturers in
the Company's Sino-foreign joint ventures executed "Act in Concert" agreements,
resulting in the Company having voting control of such Sino-foreign joint
ventures. The Company is in the process of making application to the relevant
PRC authorities for their approval to effect this change through amendments to
the respective joint venture agreements. Consequently, effective January 1,
2003, the Company changed from equity accounting to consolidation accounting for
its investments in Sino-foreign joint ventures ended December 31, 2003.
As a result of the board structures of the Company's joint ventures, 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 interest in these joint
ventures under the equity method in 2002 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.
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.
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.
15
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 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.
Results of Operations:
The Company's Sino-foreign joint ventures are presented on a consolidated basis
for the year ended December 31, 2003, as compared to the equity method of
accounting for the year December 31, 2002. Accordingly, the results of
operations for the year ended December 31, 2003 are not comparable to the year
ended December 31, 2002. The equity method of accounting does not reflect the
overall financial condition of the whole equity group, including the scale of
assets and liabilities, asset structure, revenue and profitability, and cash
flows. In 2003, the directors of the minority shareholders approved an "Act in
Concert" agreement with the directors of the Company's wholly-owned subsidiary,
Great Genesis. Accordingly, as of and for the year ended December 31, 2003, the
financial statements are presented on a consolidated basis, to present Great
Genesis and its Sino-foreign joint ventures as one accounting body in order to
comprehensively reflect the overall results of operations and financial
condition of the Company.
16
For the years ended December 31, 2003 and 2002, the condensed statements of
operations of the Company's Sino-foreign joint ventures are presented below.
The condensed statements of operations of the Company's Sino-foreign joint
ventures for the year ended December 31, 2003 excludes corporate general and
administrative expense of $1,109,000, stock-based compensation of $1,300,000,
and non-operating income of $106,000.
Henglong Jiulong Shenyang zhejiang
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
2003 2002 2003 2002 2003 2002 2003 2002
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Proportionate
ownership interest
at end of year 42% 42% 81% 81% 55% 37.60% 51% 51%
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Net sales 33,929,946 26,007,000 18,660,367 10,789,000 13,173,434 4,022,000 1,678,018 66,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Cost of goods sold 21,242,707 14,841,000 9,695,034 5,881,000 9,964,598 3,814,000 1,215,407 69,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Gross profit 12,687,239 11,166,000 8,965,333 4,908,000 3,208,836 208,000 462,611 -3,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Selling expenses 1,434,715 632,000 1,078,316 1,900,000 85,499 28,000 121,046 18,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
General and
administrative
expenses 2,724,473 2,109,176 2,764,807 2,242,409 646,879 346,906 359,116 113,343
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Research &
Development expenses 809,914 59,753 201,627 164,881 -- -- 5,490 1,257
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Depreciation and
amortization 757,219 167,071 263,925 99,710 139,168 20,094 161,290 4,400
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Stock-based
compensation
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Income (loss) from
operations 6,960,918 8,198,000 4,656,658 501,000 2,337,290 -187,000 -184,331 -140,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Finance costs 209,146 145,000 126,025 17,000 -1,667 -2,000 1,081 -6,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Other income
(expense), net 228,587 451,000 139,989 216,000 9,553 9,000 49,303 --
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Income (loss)
before income taxes 6,980,359 8,504,000 4,670,622 700,000 2,348,510 -176,000 -136,109 -134,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Income taxes 777,485 1,303,000 973,455 302,000 -- -- -- --
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income (loss) 6,202,874 7,201,000 3,697,167 398,000 2,348,510 -176,000 -136,109 -134,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Equity in income
(loss) of joint
ventures 2,605,207 3,989,000 2,691,050 311,000 1,409,106 -65,000 -69,416 -75,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Jingzhou Elimination Total
---------- ---------- ----------- ---------- ---------- ----------
2003 2002 2003 2002 2003 2002
---------- ---------- ----------- ---------- ---------- ----------
Proportionate
ownership interest
at end of year 51%
---------- ---------- ----------- ---------- ---------- ----------
Net sales 1,702,306 -- -13,816,897 -7,084,000 55,327,174 33,800,000
---------- ---------- ----------- ---------- ---------- ----------
Cost of goods sold 1,764,293 -- -13,481,838 -7,084,000 30,400,201 17,521,000
---------- ---------- ----------- ---------- ---------- ----------
Gross profit -61,987 0 -335,059 0 24,926,973 16,279,000
---------- ---------- ----------- ---------- ---------- ----------
Selling expenses 13,849 -- -- -- 2,733,425 2,578,000
---------- ---------- ----------- ---------- ---------- ----------
General and
administrative
expenses 118,749 -- -- -- 6,614,024 4,811,834
---------- ---------- ----------- ---------- ---------- ----------
Research &
Development expenses -- -- -- -- 1,017,031 225,891
---------- ---------- ----------- ---------- ---------- ----------
Depreciation and
amortization 45,569 -- -- -- 1,367,171 291,275
---------- ---------- ----------- ---------- ---------- ----------
Stock-based
compensation
---------- ---------- ----------- ---------- ---------- ----------
Income (loss) from
operations -240,154 0 -335,059 0 13,195,322 8,372,000
---------- ---------- ----------- ---------- ---------- ----------
Finance costs 11,387 -- -1,249 -- 344,723 154,000
---------- ---------- ----------- ---------- ---------- ----------
Other income
(expense), net 1,464 -- -- -- 428,896 676,000
---------- ---------- ----------- ---------- ---------- ----------
Income (loss)
before income taxes -250,077 0 -333,810 0 13,279,495 8,894,000
---------- ---------- ----------- ---------- ---------- ----------
Income taxes -- -- -- -- 1,750,940 1,605,000
---------- ---------- ----------- ---------- ---------- ----------
Net income (loss) -250,077 0 -333,810 0 11,528,555 7,289,000
---------- ---------- ----------- ---------- ---------- ----------
Equity in income
(loss) of joint
ventures -127,539 -- -333,810 -- 6,174,598 4,160,000
---------- ---------- ----------- ---------- ---------- ----------
17
Years Ended December 31, 2003 and 2002:
Net Sales. The increase in net sales of the Company's Sino-foreign joint
ventures for the year ended December 31, 2003 as compared to the year ended
December 31, 2002 is summarized as follows:
--------------------------------------------------------------------------------------------------------
Contribution
tototal
2002 2003 Increase sales (%)
--------------------------------------------------------------------------------------------------------
Item Quantity Amount ($) Quantity Amount ($) Quantity Amount ($)
--------------------------------------------------------------------------------------------------------
Steering
gear 236,000 28,980,000 417,000 44,557,000 181,000 15,577,000 46%
--------------------------------------------------------------------------------------------------------
Steering
pump 1,326 66,000 34,172 1,678,000 32,846 1,612,000 5%
--------------------------------------------------------------------------------------------------------
Terylene
material -- -- 1,420,000 1,702,000 1,420 1,702,000 5%
--------------------------------------------------------------------------------------------------------
Steering
accessories -- 4,754,000 -- 7,390,000 -- 2,636,000 8%
--------------------------------------------------------------------------------------------------------
Total -- 33,800,000 -- 55,327,000 -- 21,527,000 64%
--------------------------------------------------------------------------------------------------------
For the year ended December 31, 2003, net sales were $55,327,000, as compared to
$33,800,000 for the year ended December 31, 2002, an increase of $21,527,000 or
64%. The increase in net sales in 2003 as compared to 2002 was a result of
several factors.
1. The sales of steering gears, one of the Company's principal products,
increased substantially as a result of increased marketing activities by the
Company. Sales of steering gears increased to 417,000 sets in 2003 from 236,000
sets, reflecting sales in 2003 of $44,557,000, as compared to $28,980,000 in
2002, an increase of $15,577,000 or 54%. Steering gear sales represented 46% of
consolidated sales.
2. Production at Zhejiang and Jingzhou commenced in the fourth quarter of 2003.
Zhejiang was formed in 2002 and is mainly engaged in the production of power
steering pumps. In 2002, Zhejiang was in the initial development stage,
generating $66,000 of net sales. During the three months ended December 31,
2003, Zhejiang commenced production and sales, generating $1,678,000 of net
sales. Jingzhou was formed in February 2003 to produce environmental textiles
and raw materials of terylene, such as POY (pre-oriented yarn) and DTY (draw
texturing yarn). During 2003, Jingzhou generated net sales of $1,702,000. During
2003, Jingzhou and Zhejiang contributed in the aggregate 10% of the Company's
consolidated net sales.
3. Increase in sales of other products. As a result of increased sales of the
Company's main product, sales of accessories also increased. In 2003, net sales
of accessories were $7,390,000, as compared to $4,754,000 for 2002, an increase
of $2,636,000 or 55%. During 2003, accessories contributed in the aggregate 8%
of the Company's consolidated net sales.
Net sales were $55,327,000 for the year ended December 31, 2003. Sales for the
nine months ended September 30, 2003 were $36,776,000 and for the three months
ended December 31, 2003 sales were $18,551,000, reflecting strong sales growth
in the Company's product lines. Sales growth in the fourth quarter of 2003 was
substantially in excess of sales growth in the prior three quarter of 2003 as a
result of several factors.
In the first half of 2003, the SARS virus spread through most of China, which
had a substantial negative impact on consumer spending and, in particular,
automobile sales in China during the nine months ended September 30, 2003. As a
parts supplier to the automobile industry, the Company's sales were also
affected. As a result, during the first three quarter of 2003, the sales of the
Company's Henlong, Jiulong and Jinbei Sino-foreign joint ventures were below
budgeted sales levels.
In the fourth quarter of 2003, the SARS virus was controlled, and the pent-up
demand for automobiles was released. Furthermore, as there is typically a surge
in retail sales during the Chinese New Year (which occurs during January and
February), vehicle manufacturers increased their parts inventories during the
fourth quarter of 2003 in anticipation of this increase in consumer demand.
These factors contributed to a sales increase in the fourth quarter of 2003 at
Henglong, Jiulong and Jinbei in excess of budgeted levels.
During the nine months ended September 30, 2003, Zhejiang and Jingzhou were
Sino-foreign joint ventures in the initial development stage, and were primarily
engaged in preparations to begin production. During the three months ended
December 31, 2003, production and sales commenced.
The Company's ten largest customers accounted for 73.18% of the Company's
consolidated sales, with three customers accounting for in excess of 10% of
consolidated sales, with 25.02%, 11.08% and 10.49% of consolidated sales, or an
aggregate of 46.59% of consolidated sales.
Gross Profit. The change in gross profit for the year ended December 31, 2003 as
compared to the year ended December 31, 2002 is summarized as follows:
-----------------------------------------------------------------------------------------------------------
2002
-----------------------------------------------------------------------------------------------------------
Item Quantity Price Sales amount Unit cost Total cost Gross profit %
-----------------------------------------------------------------------------------------------------------
Power steering
gear 236,000 122.80 28,980,000 63.51 14,988,000 13,992,000 48%
-----------------------------------------------------------------------------------------------------------
Power steering
pump 1,326 49.77 66,000 51.92 69,000 -3,000 -5%
-----------------------------------------------------------------------------------------------------------
Terylene material -- -- -- -- -- -- --
-----------------------------------------------------------------------------------------------------------
Accessories -- -- 4,754,000 -- 2,464,000 2,290,000 48%
-----------------------------------------------------------------------------------------------------------
Total -- -- 33,800,000 -- 17,521,000 16.279.000 48%
-----------------------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------------------
2003
-----------------------------------------------------------------------------------------------------------
Item Quantity Price Sales amount Unit cost Total cost Gross profit %
-----------------------------------------------------------------------------------------------------------
Power steering
gear 417,000 106.85 44,557,000 59.07 24,632,000 19,925,000 45%
-----------------------------------------------------------------------------------------------------------
Power steering
pump 34,172 49.10 1,678,000 31.43 1,074,000 604,000 36%
-----------------------------------------------------------------------------------------------------------
Terylene material 1,420 1,198.59 1,702,000 1,242.25 1,764,000 -62,000 -4%
-----------------------------------------------------------------------------------------------------------
Accessories -- -- 7,390,000 -- 2,930,000 4,460,000 60%
-----------------------------------------------------------------------------------------------------------
Total -- -- 55,327,000 -- 30,400,000 24,927,000 45%
-----------------------------------------------------------------------------------------------------------
Analysis
--------------------------------------------------------------------------------
Increased Effected by Effected by Effected by
Item profit % quantity price unit cost
--------------------------------------------------------------------------------
Power steering
gear 5,933,000 42% 10,731,490 -6,650,600 1,852,110
--------------------------------------------------------------------------------
Power steering
pump 607,000 -- -70,619 -22,740 700,359
--------------------------------------------------------------------------------
Terylene material -62,000 -- -62,000 -- --
--------------------------------------------------------------------------------
Accessories 2,170,000 95% 1,269,760 -- 900,240
--------------------------------------------------------------------------------
Total 8,648,000 53% 11,818,631 -6,673,340 3,452,709
--------------------------------------------------------------------------------
The gross profit in 2003 was $24,927,000, as compared to $16,279,000 in 2002, an
increase of $8,648,000 or 53%, as a result of following factors:
1. The Company increased its marketing activities in 2003, resulting in an
increase in sales, including a 77% increase in sales of the Company's principal
product. Gross profit increased by $11,868,631 in 2003 due to increased sales.
2. In 2003, the Company reduced its sales prices to maintain and increase market
share in a highly competitive environment, including a 13% decrease in the sales
price of its main product. Gross profit decreased by $6,673,340 in 2003 due to
reduced sales prices.
3. The Company increased its investment in advanced production equipment to
improve manufacturing efficiency, while at the same time improving cost
controls. As a result, the production cost of the Company's principal product
decreased by 7%. Gross profit increased by $3,452,709 in 2003 due to the
implementation of cost reduction measures.
As reflected in the table, the decrease in sales price exceeded the decrease in
costs, resulting in a decreased gross margin of 45% in 2003, as compared to 48%
in 2002.
During September 2003, the SARS virus was controlled and the pent-up demand for
automobiles was rapidly released. Increases in real estate construction and
increased production by numerous automobile manufacturers at the same time
resulted in a shortage of steel. Accordingly, during the first quarter of 2004,
as steel demand was in excess of steel supply, steel prices increased by 10% to
20%.
Gross profit was $24,927,000 or 45.1% of net sales for the year ended December
31, 2003, which is consistent with budgeted levels.
The Company expects that gross margins will decrease to approximately 35% during
2004 as a result of increased raw material costs.
In response, the Company intends to attempt to reduce costs and at the same time
continue to improve the quality of its products.
Since the increase in raw material costs will have an adverse effect on gross
margin in 2004, the Company plans to take the following measures to reduce costs
to meet the target of 35%:
1. Reduce the labor force; and
2. Decrease the use of raw materials.
The Company expects to accomplish this in two ways:
1. Equip a digital control system on the common machine and purchase advanced
production equipment to improve manufacturing efficiency; to check and modify
standard working time based on actual work time, and reduce standard working
time per piece.
2. Optimize product design and reduce the weight of the parts, thus reducing the
usage of raw materials. To enhance the production organization, build a special
team to control costs in advance and/or during the manufacturing process.
18
In order to improve its manufacturing efficiency, the Company plans to purchase
advanced production equipment as shown in the table below, while at the same
time reducing labor costs.
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Name Model Former Newly man Quality Made by Made in Price (US$)
man hour hour of
(min/piece) (Min/piece) product
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
CNC Fast Cut FC- CHIEN YIH
Lathe SD39 4.2 2.2 Advanced MACHINERY CO., China 89,675
LTD. Tai Wan
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Steering Rack MEP- 4.9 1.6 Advanced MAGERLE AG Swiss 649,398
Grinding Machine 125-35 MASCHINENFABRIK
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Drilling and TC- 7 4 Advanced DAWAN MACHINERY China 82,988
Cutting Machine 600S CO., LTD. Tai Wan
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Horizontal Cutting MK603H 16.5 8.5 Advanced QUASER MACHINE China 139,494
Central Machine TOOLS, INC. Tai Wan
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
BUDERUS
Internal Thread CNC335IG 12 3.2 Advanced SCHLEIFTECHNIK Germany 558,683
Grinding Machine GMBH
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
BUDERUS
External Thread CNC635GA 3.5 3.5 Advanced SCHLEIFTECHNIK Germany 525,654
Grinding Machine GMBH
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Kirby Worm Shaft
and Valve Sleeve SSM 6 0.6 Advanced KIRBY Australia 516,867
Slotting Machine ENGINEERING
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Kirby Valve Balance VBM 7 1.8 Advanced KIRBY Australia 404,096
and Test Machine ENGINEERING
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Automatic Assembly ZDZPX 20 5 Advanced DALIAN MACHINERY P.R.C. 587,952
Lines CO., LTD.
--------------------- --------- ------------- ----------- --------- ------------------ ---------- -----------
Once the foregoing equipment has been installed and is operational, under the
assumptions that the Company will produce 420,000 - 600,000 steering sets per
year and will have a standard unit man hour cost of $3 per hour, the Company
expects a reduction in man hours from 354,900 to 507,000, thus reducing labor
costs by $1,064,700 -$1,521,000.
During the year ended December 31, 2003, labor costs accounted for approximately
10% of net sales. Through expanded use of numerical control machines and
automatic assembly lines, the Company anticipates reducing labor costs to less
than 8% of net sales by the end of 2004.
The Company also intends to optimize product design and its production
organization to reduce the consumption of raw materials. During the year ended
December 31, 2003, raw material costs accounted for approximately 40% of net
sales. During the first quarter of 2004, the price of the Company's primary raw
material, steel, rose 20% in China. It is estimated the average price increase
during 2004 will be 15%. The Company anticipates that it will attempt to enhance
the processes that control production and optimize the structural design of its
products with the objective being to decrease the use of raw materials and
direct material costs up to 3% of net sales. Combined with the above-mentioned
two factors, the Company expects that direct material costs will increase to 52%
of net sales in 2004.
Selling Expenses. For the years ended December 31, 2002 and 2003, selling
expenses are summarized as follows:
----------------------------------------------------------------------------------------
Salaries Sales
and wages Supplies Travel Transportation service Rent
----------------------------------------------------------------------------------------
2002 1,300,000 86,000 253,000 546,000 211,000 45,000
----------------------------------------------------------------------------------------
2003 1,302,000 142,000 233,000 764,000 69,000 69,000
----------------------------------------------------------------------------------------
Increased
(decreased) 2,000 56,000 -20,000 218,000 -142,000 24,000
amount
----------------------------------------------------------------------------------------
Increased 0.2% 65% -8% 40% -67% 53%
(decreased)
percentage
----------------------------------------------------------------------------------------
Office Advertising Entertainment Insurance Other Total
--------------------------------------------------------------------------------------
2002 53,000 17,000 14,000 23,000 30,000 2,578,000
--------------------------------------------------------------------------------------
2003 64,000 34,000 28,000 15,000 13,000 2,733,000
--------------------------------------------------------------------------------------
Increased
(decreased) 11,000 17,000 14,000 -8,000 -17,000 155,000
amount
--------------------------------------------------------------------------------------
Increased
(decreased) 21% 100% 100% -36% -58% 6%
percentage
--------------------------------------------------------------------------------------
Selling expenses were $2,733,000 for 2003, as compared to $2,578,000 for 2002,
an increase of $155,000 or 6%, principally as a result of increases in supplies,
transportation, rent, advertising and entertainment. The increase in supplies,
transportation and rent was due to the increased level of business. The increase
in advertising and entertainment was due to market development activities as
described above. The decrease in seller's expenses was caused by a reduction in
sales service costs, as a result of the Company hiring outside contractors to
perform this function in 2002, while the Company performed this function
in-house in 2003.
General and Administrative Expenses. For the years ended December 31, 2002 and
2003, general and administrative expenses are summarized as follows:
---------------------------------------------------------------------------------------------------------------------------
Reverse
merger Salaries and Enter- Securities
costs wages Travel Office Supplies Repairs Rent tainment and insurance
---------------------------------------------------------------------------------------------------------------------------
2002 0 680,000 100,000 172,000 384,000 41,000 179,000 12,000 580,000
---------------------------------------------------------------------------------------------------------------------------
2003 1,109,000 1,430,000 193,000 173,000 568,000 198,000 103,000 36,000 863,000
---------------------------------------------------------------------------------------------------------------------------
Increased
(decreased) 1,109,000 750,000 93,000 1,000 184,000 157,000 -76,000 24,000 283,000
amount
---------------------------------------------------------------------------------------------------------------------------
Increased
(decreased) -- 110% 93% -- 48% 383% -42% 196% 49%
percentage
---------------------------------------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------------------------------------------
Impairment
Provision of Impairment
Adminis- for bad long-term of
Item trative Tax debts investment inventories Training Warranty Other Total
---------------------------------------------------------------------------------------------------------------------
2002 159,000 165,000 1,363,000 214,000 -- 47,000 -- 716,000 4,812,000
---------------------------------------------------------------------------------------------------------------------
2003 153,000 159,000 1,549,000 -- 277,000 56,000 157,000 699,000 7,723,000
---------------------------------------------------------------------------------------------------------------------
Increased
(decreased) -6,000 -6,000 186,000 -214,000 277,000 9,000 157,000 -17,000 2,911,000
amount
---------------------------------------------------------------------------------------------------------------------
Increased
(decreased) -4% -4% 14% -100% -- 21% -- 2% 60%
percentage
---------------------------------------------------------------------------------------------------------------------
General and administrative expenses were $7,723,000 for the year ended December
31, 2003, consisting of $1,109,000 from the parent company and $6,614,000 from
the Sino-foreign joint ventures.
Significant expense items that increased more than $100,000 in 2003 as compared
to 2002 were reverse merger costs, salaries and wages, supplier and costs,
insurance, bad debts, impairment of inventories and warranty expense. Reverse
merger costs consisted of the acquisition of a controlling interest in a public
company. The Company also incurred increased costs in 2003 associated with the
legal, accounting and auditing costs of operating a public company.
The reason for increased salaries and wages and insurance was attributable to
increased management costs as a result of increased production at Henglong,
Jiulong and Shenyang, and sustained production from Jingzhou and Zhejiang.
The reason for the increase in supplier and repair costs was due to an increase
in production, which in turn caused an increase in materials used and repaired.
In addition, Jingzhou also incurred inspection and repair expenses during 2003,
its first year of operation.
Allowance for doubtful accounts, impairment of inventories and warranty reserve
are based on historical experience. For 2003, the Company recorded an allowance
for doubtful accounts of $771,841 based on an analysis of the accounts
receivable aging. The Company recorded an allowance for doubtful accounts 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. For 2002, the
Company recorded an allowance for doubtful accounts based on 4% of net sales.
Impairment of inventories is recorded based on the lower of cost or net
realizable value. In 2002, the inventory cost was approximately equal to net
realizable value.
Warranty reserve represents an obligation to repair or replace defective
products under certain conditions. The estimate of the warranty reserve is
calculated based on historical experience. In 2003, the warranty rate was
determined to be 0.3% of net sales.
The expense items that decreased more than $100,000 were impairment of long-term
investment. Since the cost of the long-term investment was approximately equal
to its net realizable value, an impairment reserve was no longer required.
Research and Development Expenses. Research and development expenses were
$1,017,000 for the year ended December 31, 2003, as compared to $226,000 for the
year ended December 31, 2002, an increase of $791,000 or 350%, consisting of new
projects as follows: electronic power steering units - $350,000; absorbable
steering columns - $100,000; steering pumps for passenger vehicles - $80,000;
tie rods - $140,000; and new techniques for rack production - $120,000.
Depreciation and Amortization Expense. Depreciation and amortization expense
included in costs and expenses, excluding amounts included in cost of sales, was
$1,367,170 for the year ended December 31, 2003, as compared to $291,000 for the
year ended December 31, 2002, an increase of $1,076,000 or 369%, as a result of
increased production and the increase in depreciation charges for machinery
equipment of 6 years and electronic equipment of 4 years based on a reduction in
the estimated useful lives of the respective assets. For 2002, the Company
determined that the useful life of machinery equipment ranged from 10 to 13
years, and electronic equipment ranged from 6 to 10 years. The increase in
depreciation expense of $944,000 resulting from the reduction in estimated
useful lives of the respective assets was recorded as a charge to operations in
2003.
Stock Compensation. 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.
Income From Operations. Income from operations was $10,786,842 for the year
ended December 31, 2003.
Equity Income (Loss) of Joint Ventures. The Company recorded equity income of
joint ventures aggregating $4,160,000 for the year ended December 31, 2002,
reflecting the Company's aggregate proportionate share of the earnings of its
Sino-foreign joint ventures based on the equity method of accounting.
Other Non-Operating Income. For the years ended December 31, 2002 and 2003,
other non-operating income is summarized as follows:
------------------------------------------------------------------------
Share
Material Subsidy Equipment exchange
sold income disposal income Total
------------------------------------------------------------------------
2002 267,000 392,000 17,000 -- 676,000
------------------------------------------------------------------------
2003 281,000 132,000 14,000 107,000 534,000
------------------------------------------------------------------------
Increased
(decreased) 14,000 -260,000 -3,000 107,000
amount
------------------------------------------------------------------------
Increased
(decreased) 5% -66% -18% -- -21%
percentage
------------------------------------------------------------------------
For the year ended December 31, 2003, non-operating income was $534,000, as
compared to $676,000 for the year ended December 31, 2002, a decrease of
$142,000 or 21%, primarily because of a reduction in subsidies from the Chinese
government. The Company purchased less domestic equipment in 2003 than in 2002
and thus obtained less subsidy income. In addition, in 2002, the Company
transferred a 7% interest in Henglong in exchange for an 11% interest of
Jiulong. As a part of terms of the transaction, the joint venture partner paid
the Company $107,000 in 2003, which was recorded as non-operating income.
19
Financial Expenses. Financial expenses were $344,723 for the year ended December
31, 2003.
Income Before Income Taxes. Income before income taxes was $10,976,166 for the
year ended December 31, 2003, as compared to $4,159,000 for the year ended
December 31, 2002.
Income Taxes. Income tax expense was $1,750,940 for the year ended December 31,
2003. During the year ended December 31, 2003, Henglong, one of the Company's
Sino-foreign joint ventures, received an income tax refund of $521,000, which
has been reflected as a reduction to income tax expense in the consolidated
statements of operations for the year ended December 31, 2003.
Income Before Minority Interest. Income before minority interest was $9,225,226
for the year ended December 31, 2003, as compared to $4,159,000 for the year
ended December 31, 2002.
Minority Interest. The Company recorded the minority interests' aggregate share
in each Sino-foreign joint venture's earnings aggregating $5,353,957 for the
year ended December 31, 2003.
Net Income. Net income was $3,871,269 for the year ended December 31, 2003, as
compared to $4,159,000 for the year ended December 31, 2002.
Financial Condition - December 31, 2003:
Liquidity and Capital Resources:
The Company has relied primarily on advances and investments from its
shareholders for its capital requirements since inception.
Operating. The Company's operations provided cash of $3,925,587 for the year
ended December 31, 2003. At December 31, 2003, cash and cash equivalents were
$10,730,882. Working capital was $19,944,120 at December 31, 2003, reflecting a
current ratio of 1.39:1.
The Company anticipates that its working capital resources are adequate to fund
anticipated costs and expenses for the year ending December 31, 2004.
Investing. During the year ended December 31, 2003, the Company utilized
$9,197,806 in investing activities, consisting of payments of $8,843,129 to
acquire fixed assets, $328,228 to acquire intangible assets and an increase in
other receivables of $1,215,606, less $1,189,157 generated from the liquidation
of long-term investments. During the year ended December 31, 2002, the Company
utilized $51,000 in investing activities, consisting of an increase in other
receivables.
Financing. During the year ended December 31, 2003, the Company generated
$10,384,665 from financing activities, consisting of bank loans of $6,101,410,
advances from shareholders/directors of $6,770,887 and the proceeds from the
sale of common stock of $159,000, less dividends paid of $2,646,632. During the
year ended December 31, 2002, the Company generated $52,000 from financing
activities, consisting of an increase in amounts due to shareholders/directors.
20
During the year ended December 31, 2002, the shareholders/directors advanced
$3,040,000 to fund the Company's investments in joint ventures and. During the
year ended December 31, 2003, the shareholders/directors cancelled dividends
previously declared of $17,167,000, which was treated as a contribution to
capital.
Disclosures about Contractual Obligations and Commercial Commitments:
During October 2003, Henglong, one of the Company's Sino-foreign joint ventures,
signed an agreement with the management council of Wuhu Science and Technology
Zone to invest $10,000,000 to develop an industrial enterprise to carry out
automobile component projects related to power steering systems. 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 rights, which will be completed during 2004. The Company
advanced approximately $435,000 during 2003 pursuant to the agreement under the
first phase. This new plant is expected to service a large vehicle manufacturer
in Wuhu at reduced transportation and storage costs.
During March 2003, Henglong signed a purchase and construction agreement with
Wuhan Huazhong Shuguang Software Park Co., Ltd. for $4,820,000 to design and
construct a software research and development facility. This facility will
design software and other products for the automobile. The Company paid
$2,421,300 during 2003. According to the agreement, 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. This new software research and development facility will be located
in an area of Hubei Province that contains ten well-known universities and a
large vehicle manufacturer.
On October 29, 2001, Henglong entered into a ten year license agreement with
Bishop Steering Technology Limited ("Bishop"), an Australian company engaged in
the design of power steering systems. Pursuant to the agreement, Henglong is
obligated to pay Bishop an annual technical assistance fee of approximately
$200,000 per year during the first two years of the agreement and $110,000 per
year during the remaining eight years of the agreement, and a royalty to be
determined.
On July 21, 2003, Henglong entered into a five year license and technical
assistance agreement with Namyang Industrial Co. Ltd. ("Namyang"), a Korean
company engaged in the manufacture of steering columns and universal joint
assemblies for automobiles. Pursuant to the agreement, Henglong paid Namyang an
initial payment of $100,000 and is further obligated to pay a royalty of 3% of
the sales price of products sold that include the licensed technology.
On October 20, 2003, Henglong, one of the Company's Sino-foreign joint ventures,
entered into a contract to purchase a land use right relating to parcel of land
for $3,680,000 and paid a $361,000 deposit. This transaction is expected to
close in 2004.
21
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
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 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, 2002 and 2003.
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 point basis 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.
22
Recent Accounting Pronouncements
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations". SFAS No. 143 addresses the diverse accounting practices for
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. The Company adopted SFAS No. 143 effective
January 1, 2003. The adoption of SFAS No. 143 did not have a significant effect
on the Company's financial statement presentation or disclosures.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections".
SFAS No. 145 rescinds the provisions of SFAS No. 4 that requires companies to
classify certain gains and losses from debt extinguishments as extraordinary
items, eliminates the provisions of SFAS No. 44 regarding transition to the
Motor Carrier Act of 1980 and amends the provisions of SFAS No. 13 to require
that certain lease modifications be treated as sale leaseback transactions. The
provisions of SFAS No. 145 related to classification of debt extinguishments are
effective for fiscal years beginning after May 15, 2002. The adoption of SFAS
No. 145 did not have a significant effect on the Company's financial statement
presentation or disclosures.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities," which requires companies to recognize costs
associated with exit or disposal activities when they are incurred rather than
at the date of a commitment to an exit or disposal plan. Such costs covered by
SFAS No. 146 include lease termination costs and certain employee severance
costs that are associated with a restructuring, discontinued operation, plant
closing, or other exit or disposal activity. SFAS No. 146 replaces the previous
accounting guidance provided by the EITF No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)." SFAS No. 146 is to be
applied prospectively to exit or disposal activities initiated after December
31, 2002. The adoption of SFAS No. 146 did not have a significant effect on the
Company's financial statement presentation or disclosures.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure". SFAS No. 148 amends SFAS No. 123,
"Accounting for Stock-Based Compensation", to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. SFAS No. 148 is effective for fiscal years beginning after December 15,
2002. The interim disclosure provisions are effective for financial reports
containing financial statements for interim periods beginning after December 15,
2002. The adoption of SFAS No. 148 did not have a significant effect on the
Company's financial statement presentation or disclosures.
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
23
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
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.
24
ITEM 7. FINANCIAL STATEMENTS.
(a) Financial Statements
The following financial statements are included elsewhere in this document.
1. Report of Independent Auditors
2. Consolidated Balance Sheets as of December 31, 2003 and
December 31, 2002.
3. Consolidated Statements of Operations for the years ended
December 31, 2003 and December 31, 2002.
4. Consolidated Statements of Changes in Stockholders' Equity for
the years ended December 31, 2002 and 2001.
5. Consolidated Statements of Cash Flows for the years ended
December 31, 2003 and December 31, 2002.
6. Notes to Consolidated Financial Statements.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Effective May 6, 2003, we dismissed Armando C. Ibarra ("Ibarra"), as
China Automotives' independent accountant. Effective May 6, 2003, we engaged
Schwartz Levitsky Feldman LLP ("SLF") as our new independent accountants. China
Automotive's Board of Directors approved the dismissal of Ibarra and the
engagement of SLF.
Prior to SLF becoming our independent accountants, SLF was not
consulted by us or anyone on our 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 our 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 our 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 our
losses from operations raised substantial doubt about its ability to operate as
a going concern.
25
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 our 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, 2003, 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
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, 2003, 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, 2003. 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.
26
Name Age Position(s)
Hanlin Chen 46 Chief Executive Officer and Chairman
of the Board
Qizhou Wu 39 Chief Operating Officer and Director
Guofu Dong 38 Vice President and Director
Daming Hu 45 Chief Financial Officer
Li Ping Xie 43 Director
Tse Yiu Wong Andy 33 Sr. VP, Director
Robert Tung 47 Director
Dr. Haimian Cai 40 Director
William E. Thomson 62 Director
Biographies of Directors and Executive Officers:
Hanlin Chen has served as a chairman of the board and CEO since March
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 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 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 since 1996 to 1999 and
Finance Manager of HengLong from 1999 to 2002.
Li Ping 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 our
Chief Executive Officer, Mr. Hanlin Chen.
Tse Yiu Wong Andy, 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.
27
Dr. Haimian Cai has been a Director since September 2003 and a member
of the Company's Audit Committee, Compensation Committee and Nominating
Committee. Mr. 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 more
than fifteen technical papers and co-authored a technical book regarding the
powder 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 Tsing-Hua 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 - Med-Emerg International Inc. chm. (Healthcare),
Acto Digital Video (USA) Inc. (Consumer Electronics), Maxus Technology Inc.
(Technology Waste Recycling); TSX - Asia Media Group Ltd. Chm. (Media), Imperial
Plastech Inc. (Plastics); Crown Corp. - Aurora Fund (Venture Capital); Private -
Delfour Corporation (Software), Electrical Contracts Ltd. (Electrical Contacts),
Redpearl Funding Corporation (IT Financing), Wright Environment Management Inc.
(Waste Management Solutions); Charitable - Opera Mississauga, World Education
Services.
(a) Compensation and Other Matters
In 2003, directors received $5,000 per quarter for serving on the Board
of Directors. In addition they 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.
(c) Compensation Committee
The Compensation Committeee is responsible for determining compensation
for our executive officers. Our three independent directors, Robert Tung,
Haimian Cai and William Thomson serve on the Compensation Committee.
(d) Nominating Committee
Director candidates are nominated by the Nominating Committee. The
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 responsibilties of
Board membership, willingness to objectively appriase management performance,
and any such other qualifications the Nomianting 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.
Our independent directors, Robert Tung, Haimian Cai and William Thomson, serve
on the Nominating Committee.
28
(e) Stockholder Communications
Stockholders interested in communicating directly with the Board of
Directors, or specified individual directors, may email our 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.
(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
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.
(e) 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 is attached to this Form 10-K as an Exhibit.
(F) Section 16(a) Beneficial Ownership Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended,
requires our executive officers and directors and persons who own more than 10%
of a registered class of our 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 our 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 our 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.
29
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 2003 in excess of $100,000.
SUMMARY COMPENSATION TABLE
Annual Compensation Long-Term Compensation
------------------------------------ ----------------------------------------------
Awards Payouts
------------------------ -------------------
Securities
Other Under- All
Annual Restricted lying Other
Compen- Stock Options/ LTIP Compen-
Name and Salary Bonus sation Award(s) SARs Payouts sation
Principal Position Year ($) ($) ($) ($) (#) ($) ($)
(a) (b) (c) (d) (e) (f) (g) (h) (i)
------------------ ------ ----------- -------- ------- ---------- ---------- ------- -------
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 our 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 22,064, 686 shares outstanding at December 31, 2003.
Total Number Percentage
Name/Title of Shares Ownership
Hanlin Chen, CEO, Chairman and President 13,280,547 60.2%
Qizhou Wu, COO, Director 2,195,996 9.9%
Guofu Dong, Vice President, Director 627,429 2.8%
Daming Hu, CFO -- --
Liping Xie, Director 2,091,425 9.4%
Tse Yiu Wong Andy, Sr.VP, Director 1,359,426 6.1%
Robert Tung, Director -- --
Dr. Haimian Cai, Director -- --
William E. Thomson, Director -- --
All Directors and Executive Officers 19,554,823 88.6%
(9 persons)
30
At December 31, 2003 we did not have any equity compensation plans.
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, net of amounts expended through such date.
ITEM 13. EXHIBITS AND REPORTS ON 8K.
(a) 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
3.1 Certificate of Incorporation, Incorporated herein by reference
from the filing on Form filing on Form 10SB File No.
000-33123.
3.2 Certificate of Amendment to the Certificate of Incorporation,
incorporated herein by reference from the Filing on Schedule
14C, filed with the Commission on April 21, 2004.
4.1 Share Exchange Agreement, dated March 5, 2003, incorporated
herein by reference from the Filing on Form 8-K filed with the
Commission on March 5, 2003.
10.1 Purchase Contract for Futian Automobile Parts*
10.2 Purchase Contract for Chery Automobile Parts*
10.3 Purchase Contract for Shenyang Brillance Hance Automotive*
10.4 License and Technical Assistant Agreement Between Namyang
Industrial Co., Ltd. and Jingzhou Heng Long Automotive Parts
Co., Ltd.*
10.5 License Agreement between Bishop Steering Technology Limited
and Jingzhon Henglong Automotive Parts.*
23.1 Subsidiaries of the Company*
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*
99.1 Code of Conduct and Ethics*
99.2 Audit Committee Charter*
---------------------------
*Filed herewith
31
(b) Reports on Form 8-K.
None.
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 financial statements for the years ended December 31, 2003 and
2002, and fees billed for other services provided by SLF for the years ended
December 31, 2003 and 2002. Certain amounts for the year ended December 31, 2002
have been reclassified to conform to the new presentation requirements.
Years Ended December 31,
------------------------
2003 2002
---------- ----------
Audit Fees $ 140,000 $ 78,763
Audit-Related Fees (1) 21,000 --
Tax Fees (2) -- --
All Other Fees 5,750 --
---------- ----------
Total Fees Paid $ 166,750 $ 78,763
========== ==========
----------------------
(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 the year ended December 31, 2003, 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 our independent auditor and for
the prohibition of certain services from being provided by the independent
auditor. We may not engage our 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.
32
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: October 20, 2004 /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: October20, 2004 /s/ Hanlin Chen
------------------------------------
Name: Hanlin Chen
Title: Chairman, CEO and President
Dated: October20, 2004 /s/ Daming Hu
------------------------------------
Name: Damming Hu
Title: CFO
Dated: October 20, 2004 /s/ Qizhou Wu
------------------------------------
Name: Qizhou Wu
Title: COO, Director
Dated: October 20, 2004 /s/ Guofu Dong
------------------------------------
Name: Guofu Dong
Title: Vice President, Director
Dated: October 20, 2004 /s/ Liping Xie
------------------------------------
Name: Liping Xie
Title: Director
Dated: October 20, 2004 /s/ Tse Yiu Wong Andy
------------------------------------
Name: Tse Yiu Wong Andy
Title: ST.VP, Director
Dated: October 20, 2004 /s/ Robert Tung
------------------------------------
Name: Robert Tung
Title: Director
Dated: October 20, 2004 /s/ Dr. Haimian Cai
------------------------------------
Name: Dr. Haimian Cai
Title: Director
Dated: October 20, 2004 /s/ William E. Thomson
------------------------------------
Name: William E. Thomson
Title: Director
33
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
China Automotive Systems, Inc.
(Formerly Visions-In-Glass, Inc.)
(Successor to Ji Long Enterprise Investment Limited)
We have audited the accompanying revised consolidated balance sheets of China
Automotive Systems, Inc. (incorporated in Delaware) as at December 31, 2003 and
2002 and the revised related consolidated statements of operations, cash flows
and stockholders' equity for each of the years ended December 31, 2003 and 2002.
Our responsibility is to express an 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 financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the 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 provide a
reasonable basis for our opinion.
In our opinion, the revised consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
China Automotive Systems, Inc. as at December 31, 2003 and 2002 and the results
of its operations and its cash flows for each of the years ended December 31,
2003 and 2002 in conformity with United States generally accepted accounting
principles.
As discussed in note 2 to the consolidated financial statements, the basis of
presentation has changed from the equity method of accounting for the Company's
investments in 2002, to the consolidation method of accounting in 2003.
Toronto, Ontario, Canada
February 14, 2004 except for note 18, "Schwartz Levitsky Feldman llp"
as to which the date is April 1, 2004 and Chartered Accountants
note 22, as to which the date is October 26, 2004
F-1
China Automotive Systems, Inc. and Subsidiaries
Consolidated Balance Sheets
December 31, 2003 and 2002
2003 2002
------------ ------------
(Restated -
Note 21)
ASSETS
Current assets:
Cash and cash equivalents $ 10,730,882 $ --
Pledged cash deposits 1,272,067 --
Accounts and notes receivable,
including $1,248,328 from
related parties, net of an
allowance for doubtful
accounts of $2,757,374 38,680,011 --
Advance payments, including
$1,513,973 to related
parties, net of an
allowance for doubtful
accounts of $191,364 9,980,367 --
Inventories 10,229,422 --
------------ ------------
Total current assets 70,892,749 --
------------ ------------
Property, plant and equipment 28,050,079 316,000
Less: Accumulated depreciation (5,700,023) (32,000)
------------ ------------
22,350,056 284,000
------------ ------------
Equity investments in joint ventures -- 19,078,000
Intangible assets, net 218,639 --
Other receivables, including
$1,472,758 to related parties,
net of an allowance for doubtful
accounts of $1,053,047 in 2003 2,313,017 65,000
Long-term investments 72,289 --
------------ ------------
Total assets $ 95,846,750 $ 19,427,000
============ ============
(continued)
F-2
China Automotive Systems, Inc. and Subsidiaries
Consolidated Balance Sheets (continued)
December 31, 2003 and 2002
2003 2002
------------ ------------
(Restated -
Note 21)
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Bank loans $ 9,638,554 $ --
Accounts and notes payable,
including $1,175,006 to
related parties 23,017,221 --
Customer deposits 907,519 --
Accrued payroll and related costs 1,173,576 --
Accrued expenses and other payables 1,992,207 --
Accrued pension costs 1,516,649 --
Liability related to acquisition of
joint venture assets 1,204,819
Taxes payable 6,268,803 --
Amounts due to
shareholders/directors 5,229,281 13,330,000
------------ ------------
Total current liabilities 50,948,629 13,330,000
------------ ------------
Long-term liabilities 196,547 --
Minority interest 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 20,914,250
shares at December 31, 2003 and
2002, respectively 2,257 2,091
Additional paid-in capital 18,779,880 433,909
Retained earnings -
Appropriated 3,775,254 3,186,000
Unappropriated 3,461,621 2,475,000
Foreign currency translation loss (4,150) --
------------ ------------
Total stockholders' equity 26,014,862 6,097,000
------------ ------------
Total liabilities and stockholders'
equity $ 95,846,750 $ 19,427,000
============ ============
See accompanying notes to consolidated financial statements.
F-3
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Operations
Years Ended December 31, 2003 and 2002
2003 2002
------------ ------------
(Restated -
Note 21)
Net sales, including $3,268,978
sold to related parties $ 55,327,174 $ --
Cost of sales, including $2,106,814
purchased from related parties 30,400,201 --
------------ ------------
Gross profit 24,926,973 --
------------ ------------
Costs and expenses:
Selling 2,733,425 --
General and administrative 7,722,505 1,000
Research and development 1,017,031 --
Depreciation and amortization 1,367,170 --
Stock-based compensation 1,300,000 --
------------ ------------
Total costs and expenses 14,140,131 1,000
------------ ------------
Income (loss) from operations 10,786,842 (1,000)
------------ ------------
Other income (expense):
Equity income of joint ventures -- 4,160,000
Other non-operating income 534,047 --
Financial expenses 344,723 --
------------ ------------
Other income, net 189,324 4,160,000
------------ ------------
Income before income taxes 10,976,166 4,159,000
Income taxes 1,750,940 --
------------ ------------
Income before minority interest 9,225,226 4,159,000
Minority interest 5,353,957 --
------------ ------------
Net income $ 3,871,269 $ 4,159,000
============ ============
Net income per common share -
Basic and diluted $ 0.18 $ 0.20
============ ============
Weighted average common
shares outstanding -
Basic and diluted 21,846,034 20,914,250
============ ============
See accompanying notes to consolidated financial statements.
F-4
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
Years Ended December 31, 2003 and 2002
2003 2002
----------- -----------
(Restated -
Note 21)
Net income $ 3,871,269 $ 4,159,000
Other comprehensive loss:
Foreign currency translation loss (4,150) --
----------- -----------
Comprehensive income $ 3,867,119 $ 4,159,000
=========== ===========
See accompanying notes to consolidated financial statements.
F-5
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 2002 and 2003
Common Stock Preferred Stock Additional
------------------------------- ------------------------------- Paid-in
Shares Par Value Shares Par Value Capital
-------------- -------------- -------------- -------------- --------------
Balance, January 1, 2002 20,914,250 $ 2,091 -- $ -- $ 7,174,909
Net income for the year
ended December 31, 2002 -- -- -- -- --
Dividends declared -- -- -- -- --
Deemed distribution to
shareholder -- -- -- -- (6,741,000)
Appropriation of retained
earnings -- -- -- -- --
-------------- -------------- -------------- -------------- --------------
Balance, December 31, 2002 20,914,250 2,091 -- -- 433,909
Adjustment as a result of
recapitalization of
company in conjunction
with reverse merger -- -- -- -- (279,863)
Dividends declared -- -- -- -- --
Cancellation of dividends
previously declared -- -- -- -- 17,167,000
Shares of common stock
retained by public
shareholders in March
2003 reverse merger
transaction 1,100,750 110 -- -- (110)
Issuance of warrants for
consulting services -- -- -- -- 1,300,000
Sale of common stock for
cash 49,686 5 -- -- 158,995
Exercise of warrants on a
cashless basis 509,856 51 -- -- (51)
Foreign currency translation
loss -- -- -- -- --
Net income for the year
ended December 31, 2003 -- -- -- -- --
Appropriation of retained
earnings -- -- -- -- --
-------------- -------------- -------------- -------------- --------------
Balance, December 31, 2003 22,574,542 $ 2,257 -- $ -- $ 18,779,880
============== ============== ============== ============== ==============
(continued)
F-6
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity (continued)
Years Ended December 31, 2002 and 2003
Foreign
Retained Earnings Currency
------------------------------- Translation
Appropriated Unappropriated Gain (Loss) Total
-------------- -------------- -------------- ------------
Balance, January 1, 2002 $ 2,881,000 $ 2,230,000 $ -- $ 12,288,000
Net income for the year
ended December 31, 2002 -- 4,159,000 -- 4,159,000
Dividends declared -- (3,609,000) -- (3,609,000)
Deemed distribution to
shareholder -- -- -- (6,741,000)
Appropriation of retained
earnings 305,000 (305,000) -- --
-------------- -------------- -------------- ------------
Balance, December 31, 2002 3,186,000 2,475,000 -- 6,097,000
Adjustment as a result of
recapitalization of
company in conjunction
with reverse merger -- -- -- (279,863)
Dividends declared -- (2,295,394) -- (2,295,394)
Cancellation of dividends
previously declared -- -- -- 17,167,000
Shares of common stock
retained by public
shareholders in March
2003 reverse merger
transaction -- -- -- --
Issuance of warrants for
consulting services -- -- -- 1,300,000
Sale of common stock for
cash -- -- -- 159,000
Exercise of warrants on a
cashless basis -- -- -- --
Foreign currency translation
loss -- -- (4,150) (4,150)
Net income for the year
ended December 31, 2003 -- 3,871,269 -- 3,871,269
Appropriation of retained
earnings 589,254 (589,254) -- --
-------------- -------------- -------------- ------------
Balance, December 31, 2003 $ 3,775,254 $ 3,461,621 $ (4,150) $ 26,014,862
============== ============== ============== ============
See accompanying notes to consolidated financial statements.
F-7
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
Years Ended December 31, 2003 and 2002
2003 2002
----------- -----------
(Restated -
Note 21)
Cash flows from operating activities:
Net income $ 3,871,269 $ 4,159,000
Adjustments to reconcile net income
to net cash provided by operating
activities:
Equity income of joint ventures -- (4,160,000)
Minority shareholders' interests 5,353,957 --
Issuance of warrants to consultants 1,300,000 --
Depreciation and amortization 2,465,853 --
Provision for doubtful accounts 777,841 --
Other operating adjustments (34,492) --
Changes in operating assets and
liabilities:
(Increase) decrease in:
Pledged deposits 1,272,067 --
Accounts receivable (8,458,197) --
Inventories (1,028,046) --
Increase (decrease) in:
Accounts payable, accrued
expenses, customer deposits
and other payables (7,359,943) --
Accrued pension costs 755,692 --
Liability related to acquisition
of joint venture assets 1,204,819 --
Taxes payable 3,608,220 --
Long-term liabilities 196,547 --
----------- -----------
Net cash provided by (used in)
operating activities 3,925,587 (1,000)
----------- -----------
Cash flows from investing activities:
Increase in other receivables (1,215,606) (51,000)
Cash paid to acquire fixed assets (8,843,129) --
Cash paid to acquire intangible assets (328,228) --
Decrease in long-term investments 1,189,157 --
----------- -----------
Net cash used in investing activities (9,197,806) (51,000)
----------- -----------
(continued)
F-8
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Cash Flows (continued)
Years Ended December 31, 2003 and 2002
2003 2002
------------ ------------
(Restated -
Note 21)
Cash Flows from financing activities:
Proceeds from bank loans, net $ 6,101,410 $ --
Dividends paid (2,646,632) --
Increase in amounts due to
shareholders/directors 6,770,887 52,000
Proceeds from sale of common stock 159,000 --
------------ ------------
Net cash provided by financing activities 10,384,665 52,000
------------ ------------
Cash and cash equivalents:
Net increase 5,112,446 --
At beginning of year -- --
Adjustment as a result of change
to consolidation accounting
from equity accounting
effective January 1, 2003 5,618,436 --
------------ ------------
At end of year $ 10,730,882 $ --
============ ============
(continued)
F-9
China Automotive Systems, Inc. and Subsidiaries
Consolidated Statements of Cash Flows (continued)
Years Ended December 31, 2003 and 2002
2003 2002
------------ ------------
(Restated -
Note 21)
SUPPLEMENTAL DISCLOSURE OF
CASH FLOW INFORMATION:
Cash paid for interest $ 399,610 $ --
============ ============
Cash paid for income taxes $ 3,591,925 $ --
============ ============
SUPPLEMENTAL DISCLOSURE OF
NON-CASH INVESTING AND
FINANCING ACTIVITIES:
Acquisition of interest in
joint venture from
controlling shareholder $ -- $ 9,631,000
Advances from shareholder to
fund investments in joint
ventures -- 3,040,000
Cancellation of dividends
previously declared 17,167,000 --
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) (3,609,000)
Advances from shareholders in
connection with dividends
declared 2,295,394 3,609,000
Deemed distribution to shareholders (279,863) 6,741,000
Issuance of warrants to consultants 1,300,000 --
See accompanying notes to consolidated financial statements.
F-10
China Automotive Systems, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Years Ended December 31, 2003 and 2002
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.
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 to the former officer, director and controlling shareholder of Visions
for the cancellation of 17,424,750 shares of common stock (see Note 13), and
have agreed to pay an additional $70,000, subject to certain conditions.
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.
As of December 31, 2002 and 2003, Ji Long owned aggregate net interests in five
Sino-foreign joint ventures organized in the PRC as shown below. The Company
accounted for its interests in these joint ventures in 2002 and 2003 as
described at Note 2.
Percentage Interest
-------------------
Name of Entity 2002 2003
-------------- ---- ----
Jingzhou Henglong Automotive Parts
Co. Limited ("Henglong") 42.0% 42.0%
Shashi Jiulong Power Steering Co.
Limited ("Jiulong") 81.0% 81.0%
Shenyang Jinbei Henglong Automotive
Steering System Co. Limited ("Shenyang") 37.6% 55.0%
Zhejiang Henglong & Vie Pump-Manu Co.
Limited ("Zhejiang") 51.0% 51.0%
Jingzhou Henglong Fulida Textile Co., Ltd.
("Jingzhou") -- 51.0%
F-11
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. Jingzhou was
formed in 2003 to produce environment-protection textile and raw materials. At
present, Henglong, Jiulong and Shenyang are the main revenue-generating
entities, while Zhejiang and Jingzhou are in the early development stage and
generated approximately 6% of consolidated revenues in 2003.
At December 31, 2002, the investors in Shenyang were Ji Long, Henglong,
Shengyang Automotor Industry Investment Corporation and Shenyang Jinbei
Automotor Industry Co., Ltd. On December 12, 2002, according to a decision made
at the meeting of the board of directors, 30% of the stock rights in Shenyang
held by Henglong were to be transferred to Ji Long, and 17% of the stock rights
in Shenyang held by Shenyang Automotor Industry Investment Corporation were to
be transferred to Shenyang Jinbei Automotor Industry Co., Ltd. On January 8,
2003, Ji Long and Henglong signed an agreement for the transfer of stock rights,
which was approved by the applicable PRC authorities on May 22, 2003. As of
December 31, 2002, the Company owned 25% of Shenyang directly and 12.6% of
Shenyang indirectly through its ownership in Henglong, for a combined ownership
of 37.6%. As of December 31, 2003, the Company owned 55.0% of Shenyang directly.
The Company accounted for this increase in ownership in Shenyang commencing as
of the effective date of January 1, 2003, with an appropriate adjustment to the
minority interest.
During December 2002, the Company entered into three transactions with entities
controlled by its chairman and controlling shareholder involving the Company's
minority interest ownership in certain of its Sino-foreign joint ventures as
follows: (1) the Company acquired a 21% interest in Jiulong for $6,320,241; (2)
the Company acquired a 7% interest in Henglong for $3,310,602; and (3) the
Company transferred a 7% interest in Henglong in exchange for an 11% interest in
Jiulong. The amounts due to or from the chairman resulting from these
transactions were accounted for as increases or decreases to the amounts due to
or from shareholders/directors and were recorded at fair value, as determined by
an independent appraisal firm. The difference between fair value and book value
resulting from the disposition of joint venture interests was credited 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 investment being recorded by the Company at the chairman's original
cost basis.
Jingzhou was formed in February 2003 to produce environmental textile and raw
materials, and is owned 51% by Ji Long and 49% by Cixi City Fulida Synthetic
Fibre Co., Ltd. Operations to date have not been material. As an "Act in
Concert" Agreement has been executed for Jingzhou, the Company consolidated
Jingzhou as of December 31, 2003, and for the year then ended.
2. Basis of Presentation
Basis of Presentation - For the year ended December 31, 2003, the accompanying
consolidated financial statements include the accounts of the Company and its
majority-owned subsidiaries and Sino-foreign joint ventures. For the year ended
December 31, 2002, the accompanying financial statements include the accounts of
the Company, with the Company's investments in its Sino-foreign joint ventures
accounted for under the equity method of accounting. All significant
intercompany accounts and transactions have been eliminated in 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 venturers in
the Company's Sino-foreign joint ventures executed "Act in Concert" agreements,
resulting in the Company having voting control of such Sino-foreign joint
ventures. The Company is in the process of making application to the relevant
PRC authorities for their approval to effect this change through amendments to
the respective joint venture agreements. Consequently, effective January 1,
F-12
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 more fully 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.
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"). 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, 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 interest in these joint ventures under the equity method in 2002
pursuant to EITF 96-16.
F-13
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 period. Significant estimates primarily relate to
the realizable value of accounts receivable and inventories. 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 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.
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)
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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.
F-14
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.
In January 2002, the Company adopted SFAS No. 142, "Goodwill and Other
Intangible Assets". The Company did not have any goodwill at December 31, 2002
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
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
F-15
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 warrants. Income per common share
calculations for the years ended December 31, 2002 and 2003 reflect the
retroactive restatement of the shareholders' equity section to reflect the March
2003 recapitalization.
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
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 loss of $4,150 for the year ended December 31, 2003. 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, 2003 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.
F-16
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
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.
As of December 31, 2003, the Company had not adopted any stock-based
compensation plans.
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
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
F-17
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.
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.
F-18
4. Recent Accounting Pronouncements
In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations". SFAS No. 143 addresses the diverse accounting practices for
obligations associated with the retirement of tangible long-lived assets and the
associated asset retirement costs. The Company adopted SFAS No. 143 effective
January 1, 2003. The adoption of SFAS No. 143 did not have a significant effect
on the Company's financial statement presentation or disclosures.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections".
SFAS No. 145 rescinds the provisions of SFAS No. 4 that requires companies to
classify certain gains and losses from debt extinguishments as extraordinary
items, eliminates the provisions of SFAS No. 44 regarding transition to the
Motor Carrier Act of 1980 and amends the provisions of SFAS No. 13 to require
that certain lease modifications be treated as sale leaseback transactions. The
provisions of SFAS No. 145 related to classification of debt extinguishments are
effective for fiscal years beginning after May 15, 2002. The adoption of SFAS
No. 145 did not have a significant effect on the Company's financial statement
presentation or disclosures.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities", which requires companies to recognize costs
associated with exit or disposal activities when they are incurred rather than
at the date of a commitment to an exit or disposal plan. Such costs covered by
SFAS No. 146 include lease termination costs and certain employee severance
costs that are associated with a restructuring, discontinued operation, plant
closing, or other exit or disposal activity. SFAS No. 146 replaces the previous
accounting guidance provided by the EITF No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)". SFAS No. 146 is to be
applied prospectively to exit or disposal activities initiated after December
31, 2002. The adoption of SFAS No. 146 did not have a significant effect on the
Company's financial statement presentation or disclosures.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure". SFAS No. 148 amends SFAS No. 123,
"Accounting for Stock-Based Compensation", to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, SFAS No. 148 amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. SFAS No. 148 is effective for fiscal years beginning after December 15,
2002. The interim disclosure provisions are effective for financial reports
containing financial statements for interim periods beginning after December 15,
2002. The adoption of SFAS No. 148 did not have a significant effect on the
Company's financial statement presentation or disclosures.
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.
F-19
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.
5. Accounts Receivable
The Company's accounts receivable at December 31, 2003 are summarized as
follows:
Accounts receivable $ 19,737,417
Bills receivable 21,699,968
Less: Allowance for doubtful
accounts (2,757,374)
------------
$ 38,680,011
============
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, 2003 is summarized as follows:
Balance at beginning of year $ 1,979,533
Add: Amounts provided during
the year 777,841
Less: Amounts written off
during the year --
------------
Balance at end of year $ 2,757,374
============
6. Other Receivables
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, 2003, other receivables totaled $2,313,017, 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 was increased by $1,053,047, including $771,084 to an investee of
Jiulong.
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
Manufacturing"). 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, 2003, Jiulong had an accounts receivable from JL Material of
$1,003,987. Since JL Material was experiencing financial difficulties, the
Company believed there would be an uncollectible amount of $771,084 at December
31, 2003, 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.
F-20
7. Inventories
Inventories at December 31, 2003 are summarized as follows:
Raw materials $ 3,622,369
Work in process 2,110,612
Finished goods 4,808,434
------------
10,541,415
Less: Provision for loss (311,993)
------------
$ 10,229,422
============
8. Property, Plant and Equipment
Property, plant and equipment at December 31, 2003 are summarized as follows:
Land use rights and buildings $ 5,593,726
Machinery and equipment 16,550,441
Electronic equipment 1,233,580
Motor vehicles 1,253,718
Construction in progress 3,418,614
------------
28,050,079
Less: Accumulated depreciation (5,700,023)
------------
$ 22,350,056
============
9. Intangible Assets
The activity in the Company's intangible asset account during the year ended
December 31, 2003 is summarized as follows:
Balance at beginning of year,
consisting of technical know-how $ 38,831
Add: Additions during the year -
Financial software license 10,271
Mapping design software license 180,000
------------
229,102
Less: Accumulated amortization (10,463)
------------
Balance at end of year $ 218,639
============
For the year ended December 31, 2003, amortization expense was $10,463.
10. Accounts Payable
Accounts payable at December 31, 2003 are summarized as follows:
Accounts payable $ 14,742,030
Bills payable 8,275,191
------------
$ 23,017,221
============
F-21
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 and certain plant and machinery to secure
trade financing granted by banks.
11. Liability Related to Acquisition of Joint Venture Assets
In conjunction with the formation of the Jingzhou Sino-foreign joint venture in
February 2003, the Company purchased certain operating assets consisting of
production equipment from the local government and had a remaining obligation
outstanding of $1,204,819 at December 31, 2003. The obligation was interest free
and matured on February 28, 2004. The Company paid this liability in full on a
timely basis.
12. Bank Loans
At December 31, 2003, the Company, through its Sino-foreign joint ventures, had
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.
13. Amounts Due From and Due to Shareholders/Directors
The activity in the amounts due to (due from) shareholders/directors during the
years ended December 31, 2002 and 2003 is summarized as follows:
Balance, December 31, 2001 $ (112,000)
Dividends declared 3,609,000
Deemed distribution to shareholder 6,741,000
Advances from shareholder to fund
investments in joint ventures 3,040,000
Other advances from shareholders 52,000
------------
Balance, December 31, 2002 13,330,000
Dividends declared 2,295,394
Cash advances from shareholder 6,770,887
Cancellation of dividends previously
declared (17,167,000)
------------
Balance, December 31, 2003 $ 5,229,281
============
At December 31, 2002 and 2003, the amounts due to shareholders/directors were
unsecured, interest free and repayable on demand.
During December 2002, the Company entered into three transactions with entities
controlled by its chairman and controlling shareholder involving the Company's
minority interest ownership in certain of its Sino-foreign joint ventures as
follows: (1) the Company acquired a 21% interest in Jiulong for $6,320,241; (2)
the Company acquired a 7% interest in Henglong for $3,310,602; and (3) the
Company transferred a 7% interest in Henglong in exchange for an 11% interest in
Jiulong. The amounts due to or from the chairman resulting from these
transactions were accounted for as increases or decreases to the amounts due to
or from shareholders/directors and were recorded at fair value, as determined by
an independent appraisal firm. The difference between fair value and book value
resulting from the disposition of joint venture interests was credited 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 investment being recorded by the Company at the chairman's original
cost basis.
F-22
14. Stockholders' Equity
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
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.
As of December 31, 2003, the Company did not have any stock options outstanding,
and had not adopted a stock option plan.
15. Distribution of Profits
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 they has satisfied all 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
F-23
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, Zhejiang and Jingzhou are $9,000,000, RMB 19,800,000, RMB 45,000,000,
$7,000,000 and $2,600,000, 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, in which the percentage of annual
appropriations are subject to the joint venture agreement. The employee welfare
and incentive fund is charged to the statement of operations. The other
appropriations are accounted for as reserve funds in the balance sheet and are
not available for distribution as dividends to the joint venture partners of the
companies. Under the joint venture agreements, the boards of directors determine
the 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 to the extent foreign currency is
available. Otherwise, it is necessary to obtain approval and convert such
distributions at an authorized bank.
16. Income Taxes
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 enterprises. Two of the Company's
subsidiaries, Henglong and Jiulong, were subject to a tax rate of 15% during
2002 and 2003. The tax rate for the Company's three other subsidiaries,
Shenyang, Zhejiang and Zhejiang, has not been ratified. Certain of the Company's
Sino-foreign joint ventures are also entitled to a two-year tax holiday
commencing with the first profit-making year.
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.
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.
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, 2003 is as
follows:
Statutory tax rate 33%
Tax holidays and concessions (17)
--
Effective tax rate 16%
==
During the year ended December 31, 2003, one of the Company's Sino-foreign joint
ventures, Henglong, received an income tax refund of $521,000, which has been
reflected as a reduction to income tax expense in the accompanying consolidated
statements of operations.
17. 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.
The Company's ten largest customers accounted for 73.18% of the Company's
consolidated sales, with three customers accounting for in excess of 10% of
consolidated sales, with 25.02%, 11.08% and 10.49% of consolidated sales, or an
aggregate of 46.59% of consolidated sales.
At December 31, 2003, approximately 34% of accounts receivable were from trade
transactions with the aforementioned three customers.
18. 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.
("Sino-American"), a United States company controlled by the Company's Chairman
and controlling shareholder. The Agreement provided for total payments of
F-24
$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, 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, 2003, Sino-American had paid, on behalf of or for the
benefit of the Company, a total of $1,136,737, including $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 $451,737 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.
During December 2002, the Company entered into three transactions with entities
controlled by its chairman and controlling shareholder involving the Company's
minority interest ownership in certain of its Sino-foreign joint ventures as
follows: (1) the Company acquired a 21% interest in Jiulong for $6,320,241; (2)
the Company acquired a 7% interest in Henglong for $3,310,602; and (3) the
Company transferred a 7% interest in Henglong in exchange for an 11% interest in
Jiulong. The amounts due to or from the chairman resulting from these
transactions were accounted for as increases or decreases to the amounts due to
or from shareholders/directors and were recorded at fair value, as determined by
an independent appraisal firm. The difference between fair value and book value
resulting from the disposition of joint venture interests was credited 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 investment being recorded by the Company at the chairman's original
cost basis.
During year ended December 31, 2003, the joint ventures entered into related
party transactions with companies with common directors as shown below:
Sales
- received $ 2,020,650
- receivable 1,248,328
Purchases
- paid 931,808
- payable 1,175,006
These transactions were consummated under similar terms as those with the
Company's customers and suppliers.
19. 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.
License Agreement - On October 29, 2001, Henglong, one of the Company's
Sino-foreign joint ventures, entered into a ten year license agreement with
Bishop Steering Technology Limited ("Bishop"), an Australian company engaged in
the design of power steering systems. Pursuant to the agreement, Henglong is
obligated to pay Bishop an annual technical assistance fee of approximately
$200,000 per year during the first two years of the agreement and $110,000 per
year during the remaining eight years of the agreement, and a royalty to be
determined.
F-25
License and Technical Assistance Agreement - On July 21, 2003, Henglong, one of
the Company's Sino-foreign joint ventures, entered into a five year license and
technical assistance agreement with Namyang Industrial Co. Ltd. ("Namyang"), a
Korean company engaged in the manufacture of steering columns and universal
joint assemblies for automobiles. Pursuant to the agreement, Henglong paid
Namyang an initial payment of $100,000 and is further obligated to pay a royalty
of 3% of the sales price of products sold that include the licensed technology.
Capital Commitments -
During October 2003, Henglong, one of the Company's Sino-foreign joint ventures,
signed an agreement with the management council of Wuhu Science and Technology
Zone to invest $10,000,000 to develop an industrial enterprise to carry out
automobile component projects related to power steering systems. 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 rights, which will be completed during 2004. The Company
advanced approximately $435,000 during 2003 pursuant to the agreement under the
first phase. This new plant is expected to service a large vehicle manufacturer
in Wuhu at reduced transportation and storage costs.
During March 2003, Henglong signed a purchase and construction agreement with
Wuhan Huazhong Shuguang Software Park Co., Ltd. for $4,820,000 to design and
construct a software research and development facility. This facility will
design software and other products for the automobile. The Company paid
$2,421,300 during 2003. According to the agreement, 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. This new software research and development facility will be located
in an area of Hubei Province that contains ten well-known universities and a
large vehicle manufacturer.
On October 20, 2003, Henglong, one of the Company's Sino-foreign joint ventures,
entered into a contract to purchase a land use right relating to parcel of land
for $3,680,000 and paid a $361,000 deposit. This transaction is expected to
close in 2004.
F-26
20. Information with Respect to the Company's Sino-Foreign Joint Ventures
For the year ended December 31, 2002, the Company's financial statements
included the Company's investments in Sino-foreign joint ventures accounted for
under the equity method of accounting.
As of December 31, 2003 and 2002, the condensed balance sheets of the Company's
Sino-foreign joint ventures were as follows:
Henglong Jiulong Shenyang
2003 2002 2003 2002 2003 2002
----------- ----------- ----------- ----------- ----------- -----------
Current
assets 35,336,427 27,358,000 26,575,218 18,334,000 6,716,225 2,406,000
Non-current
Assets 11,633,355 11,353,000 1,528,072 1,519,000 3,294,543 2,427,000
----------- ----------- ----------- ----------- ----------- -----------
Total assets 46,969,782 38,711,000 28,103,290 19,853,000 10,010,768 4,833,000
=========== =========== =========== =========== =========== ===========
Current
Liabilities 28,831,634 22,880,000 16,888,077 10,849,000 2,761,733 1,258,000
Non-current
liabilities 192,459 196,000 -- -- 4,089 9,000
Shareholders'
equity 17,945,689 15,635,000 11,215,213 9,004,000 7,244,946 3,566,000
----------- ----------- ----------- ----------- ----------- -----------
Total
liabilities
and
shareholders'
equity 46,969,782 38,711,000 218,103,290 19,853,000 10,010,768 4,833,000
=========== =========== =========== =========== =========== ===========
Zhejiang Jingzhou Total
2003 2002 2003 2002 2003 2002
----------- ----------- ----------- ----------- ----------- -----------
Current
asset 3,358,264 2,450,000 1,003,992 -- 72,990,126 50,548,000
Non-current
Assets 3,251,814 2,993,000 2,233,702 -- 21,941,486 18,292,000
----------- ----------- ----------- ----------- ----------- -----------
Total assets 6,610,078 5,443,000 3,237,694 -- 94,931,612 68,840,000
=========== =========== =========== =========== =========== ===========
Current
Liabilities 1,877,718 494,000 2,282,952 -- 52,642,114 35,481,000
Non-current
liabilities -- -- -- -- 196,548 205,000
Shareholders'
equity 4,732,360 4,949,000 954,742 -- 42,092,950 33,154,000
----------- ----------- ----------- ----------- ----------- -----------
Total
liabilities
and
shareholders'
equity 6,610,078 5,443,000 3,237,694 -- 94,931,612 68,840,000
=========== =========== =========== =========== =========== ===========
F-27
For the years ended December 31, 2003 and 2002, the condensed statements of
operations of the Company's Sino-foreign joint ventures are presented below.
The condensed statements of operations of the Company's Sino-foreign joint
ventures for the year ended December 31, 2003 excludes corporate general and
administrative expense of $1,109,000, stock-based compensation of $1,300,000,
and non-operating income of $106,000.
Henglong Jiulong Shenyang zhejiang
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
2003 2002 2003 2002 2003 2002 2003 2002
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Proportionate
ownership interest
at end of year 42% 42% 81% 81% 55% 37.60% 51% 51%
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Net sales 33,929,946 26,007,000 18,660,367 10,789,000 13,173,434 4,022,000 1,678,018 66,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Cost of goods sold 21,242,707 14,841,000 9,695,034 5,881,000 9,964,598 3,814,000 1,215,407 69,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Gross profit 12,687,239 11,166,000 8,965,333 4,908,000 3,208,836 208,000 462,611 -3,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Selling expenses 1,434,715 632,000 1,078,316 1,900,000 85,499 28,000 121,046 18,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
General and
administrative
expenses 2,724,473 2,109,176 2,764,807 2,242,409 646,879 346,906 359,116 113,343
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Research &
Development expenses 809,914 59,753 201,627 164,881 -- -- 5,490 1,257
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Depreciation and
amortization 757,219 167,071 263,925 99,710 139,168 20,094 161,290 4,400
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Stock-based
compensation
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Income (loss) from
operations 6,960,918 8,198,000 4,656,658 501,000 2,337,290 -187,000 -184,331 -140,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Finance costs 209,146 145,000 126,025 17,000 -1,667 -2,000 1,081 -6,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Other income
(expense), net 228,587 451,000 139,989 216,000 9,553 9,000 49,303 --
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Income (loss)
before income taxes 6,980,359 8,504,000 4,670,622 700,000 2,348,510 -176,000 -136,109 -134,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Income taxes 777,485 1,303,000 973,455 302,000 -- -- -- --
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income (loss) 6,202,874 7,201,000 3,697,167 398,000 2,348,510 -176,000 -136,109 -134,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Equity in income
(loss) of joint
ventures 2,605,207 3,989,000 2,691,050 311,000 1,409,106 -65,000 -69,416 -75,000
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
Jingzhou Elimination Total
---------- ---------- ----------- ---------- ---------- ----------
2003 2002 2003 2002 2003 2002
---------- ---------- ----------- ---------- ---------- ----------
Proportionate
ownership interest
at end of year 51%
---------- ---------- ----------- ---------- ---------- ----------
Net sales 1,702,306 -- -13,816,897 -7,084,000 55,327,174 33,800,000
---------- ---------- ----------- ---------- ---------- ----------
Cost of goods sold 1,764,293 -- -13,481,838 -7,084,000 30,400,201 17,521,000
---------- ---------- ----------- ---------- ---------- ----------
Gross profit -61,987 0 -335,059 0 24,926,973 16,279,000
---------- ---------- ----------- ---------- ---------- ----------
Selling expenses 13,849 -- -- -- 2,733,425 2,578,000
---------- ---------- ----------- ---------- ---------- ----------
General and
administrative
expenses 118,749 -- -- -- 6,614,024 4,811,834
---------- ---------- ----------- ---------- ---------- ----------
Research &
Development expenses -- -- -- -- 1,017,031 225,891
---------- ---------- ----------- ---------- ---------- ----------
Depreciation and
amortization 45,569 -- -- -- 1,367,171 291,275
---------- ---------- ----------- ---------- ---------- ----------
Stock-based
compensation
---------- ---------- ----------- ---------- ---------- ----------
Income (loss) from
operations -240,154 0 -335,059 0 13,195,322 8,372,000
---------- ---------- ----------- ---------- ---------- ----------
Finance costs 11,387 -- -1,249 -- 344,723 154,000
---------- ---------- ----------- ---------- ---------- ----------
Other income
(expense), net 1,464 -- -- -- 428,896 676,000
---------- ---------- ----------- ---------- ---------- ----------
Income (loss)
before income taxes -250,077 0 -333,810 0 13,279,495 8,894,000
---------- ---------- ----------- ---------- ---------- ----------
Income taxes -- -- -- -- 1,750,940 1,605,000
---------- ---------- ----------- ---------- ---------- ----------
Net income (loss) -250,077 0 -333,810 0 11,528,555 7,289,000
---------- ---------- ----------- ---------- ---------- ----------
Equity in income
(loss) of joint
ventures -127,539 -- -333,810 -- 6,174,598 4,160,000
---------- ---------- ----------- ---------- ---------- ----------
F-28
21. Restatement
In conjunction with the Company's audit of its consolidated financial statements
for the year ended December 31, 2003, the Company identified certain adjustments
to its financial statements relating to the year ended December 31, 2002. A
summary of the effect of these adjustments to the statement of operations for
the year ended December 31, 2002 is as follows:
Net income, as reported $ 4,731,000
Adjustments to:
Write-off intangible assets
improperly deferred at
December 31, 2002 (52,000)
Record sales bonus not
properly accrued at
December 31, 2002 (520,000)
------------
Net income, as revised $ 4,159,000
============
Net income per common share -
basic and diluted - as reported $ 0.23
Adjustments to:
Write-off intangible assets
improperly deferred at
December 31, 2002 --
Record sales bonus not
properly accrued at
December 31, 2002 (0.03)
------------
Net income per common share -
basic and diluted - as adjusted $ 0.20
============
Weighted average common shares
outstanding - basic and diluted 20,914,250
============
F-29
22. Restatement to financial statements
Based on the comments from the Securities and Exchange Commission, the company
amended the consolidated statement of cash flows for the year ended December 31,
2003 and extended or modified certain notes to the consolidated financial
statements to provide additional information as detailed below. The consolidated
balance sheets, consolidated statements of operations, consolidated statements
of comprehensive income and consolidated statements of stockholders' equity
remained unchanged.
The following table presents the effects of the aforementioned amendments to the
consolidated statement of cash flows, reflecting interest paid of $330,167 as
"net cash provided by operating activities" instead of as "net cash provided by
financing activities". Certain other items included in "net cash provided by
operating activities" were also reclassified.
2003
-------------------------------
$ $
As restated As previously
reported
Net cash provided by operating activities 3,925,587 4,255,754
Net cash provided by financing activities 10,384,665 10,054,498
The following notes have been expanded or modified to provide additional
information: Notes 1, 2, 6, 9, 11 and 20.