UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10−Q
(Mark
One)
|
x
|
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
For the
quarterly period ended: March 31, 2009
|
o
|
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
For the
transition period from ____________ to _____________
Commission
File Number: 000-30264
NETWORK
CN INC.
(Exact
Name of Registrant as Specified in Its Charter)
|
Delaware
|
|
90-0370486
|
|
(State
or other jurisdiction of incorporation
or
organization)
|
|
(I.R.S.
Employer Identification No.)
|
21/F.,
Chinachem Century Tower
178
Gloucester Road
Wanchai, Hong
Kong
(Address
of principal executive offices, Zip Code)
(852) 2833-2186
(Registrant’s
telephone number, including area code)
_____________________________________________________
(Former
name, former address and former fiscal year, if changed since last
report)
Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes x No ¨
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes ¨ No ¨
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer”, “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
|
Large
accelerated filer ¨
|
Accelerated
filer x
|
|
Non-accelerated
filer ¨
(Do not check if a smaller reporting company)
|
Smaller
reporting company ¨
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes ¨ No x
The
number of shares outstanding of each of the issuer’s classes of common stock, as
of May 3, 2009 is as follows:
|
Class
of Securities
|
|
Shares
Outstanding
|
|
Common
Stock, $0.001 par value
|
|
378,677,071
|
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PART
I
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FINANCIAL
INFORMATION
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3
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29
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38
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39
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PART
II
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OTHER
INFORMATION
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39
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40
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SPECIAL
NOTE REGARDING FORWARD-LOOKING STATEMENTS
This
Quarterly Report on Form 10-Q, including the following “Management’s Discussion
and Analysis of Financial Condition and Results of Operations”, contains
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended. Such statements include, among others, those concerning our expected
financial performance and strategic and operational plans, as well as all
assumptions, expectations, predictions, intentions or beliefs about future
events. You are cautioned that any such forward-looking statements are not
guarantees of future performance and that a number of risks and uncertainties
could cause actual results of the Company to differ materially from those
anticipated, expressed or implied in the forward-looking statements. The words
“believe”, “expect”, “anticipate”, “project”, “targets”, “optimistic”, “intend”,
“aim”, “will” or similar expressions are intended to identify forward-looking
statements. All statements other than statements of historical fact are
statements that could be deemed forward-looking statements. Risks and
uncertainties that could cause actual results to differ materially from those
anticipated include risks related to our potential inability to raise additional
capital; changes in domestic and foreign laws, regulations and taxes;
uncertainties related to China’s legal system and economic, political and social
events in China; Securities and Exchange Commission regulations which affect
trading in the securities of “penny stocks”; changes in economic conditions,
including a general economic downturn or a downturn in the securities markets;
and any of the factors and risks mentioned in the “Risk Factors” sections of our
Annual Report on Form 10-K for fiscal year ended December 31, 2008 and
subsequent SEC filings. The Company assumes no obligation and does not intend to
update any forward-looking statements, except as required by law.
USE
OF TERMS
Except as
otherwise indicated by the context, references in this report to:
|
·
|
“BVI”
are references to the British Virgin
Islands;
|
|
·
|
“China”
and “PRC” are to the People’s Republic of
China;
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|
|
the
“Company”, “NCN”, “we”, “us”, or “our”, are references to Network CN Inc.,
a Delaware corporation and its direct and indirect subsidiaries: NCN Group
Limited, or NCN Group, a BVI limited company; NCN Huamin Management
Consultancy (Beijing) Company Limited, or NCN Huamin, a PRC
limited company; Cityhorizon Limited, or Cityhorizon Hong Kong, a Hong
Kong limited company, and its wholly owned subsidiaries, Cityhorizon
Limited, or Cityhorizon BVI, a BVI limited company; and
Huizhong Lianhe Media Technology Co., Ltd., or Lianhe,
a PRC limited company; and the Company’s variable interest entities: Quo
Advertising Co. Ltd., or Quo Advertising, a PRC limited company and its
51% owned subsidiary, Xuancaiyi (Beijing) Advertising Company Limited, or
Xuancaiyi, a PRC limited company; and Beijing Huizhong Bona Media
Advertising Co., Ltd., or Bona,
a PRC limited company; and Huizhi Botong Media Advertising Beijing Co.,
Ltd., or Botong, a PRC limited
company;
|
|
·
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“NCN
Landmark” are references to NCN Landmark International Hotel Group
Limited, a British
Virgin Islands limited
company, and its wholly-owned subsidiary, Beijing NCN Landmark Hotel
Management Limited, a PRC limited
company;
|
|
·
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“NCN
Management Services” are references to NCN Management Services Limited,
a British
Virgin Islands limited
company;
|
|
·
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“RMB”
are to the Renminbi, the legal currency of
China;
|
|
·
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the
“Securities Act” are to the Securities Act of 1933, as amended; and the
“Exchange Act” are to the Securities Exchange Act of 1934, as
amended;
|
|
·
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“Tianma”,
are references to Guangdong Tianma International Travel Service Co., Ltd,
a PRC limited company; and
|
|
·
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“U.S.
dollar”, “$” and “US$” are to the legal currency of the United
States.
|
PART
I
FINANCIAL
INFORMATION
NETWORK
CN INC.
CONDENSED
CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED
CONSOLIDATED BALANCE SHEETS
|
|
Note
|
|
|
As
of
March
31, 2009
(Unaudited)
|
|
|
As
of
December
31, 2008
(Audited)
|
|
|
ASSETS
|
|
|
|
|
|
|
|
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Current
Assets
|
|
|
|
|
|
|
|
|
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Cash
|
|
|
|
$ |
5,558,927 |
|
|
$ |
7,717,131 |
|
|
Accounts
receivable, net
|
6
|
|
|
|
81,377 |
|
|
|
217,402 |
|
|
Prepayments
for advertising operating rights, net
|
7
|
|
|
|
501,442 |
|
|
|
418,112 |
|
|
Prepaid
expenses and other current assets, net
|
8
|
|
|
|
447,825 |
|
|
|
630,132 |
|
|
Total
Current Assets
|
|
|
|
|
6,589,571 |
|
|
|
8,982,777 |
|
|
|
|
|
|
|
|
|
|
|
|
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Equipment,
Net
|
|
|
|
|
2,276,493 |
|
|
|
2,397,624 |
|
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Intangible
Assets, Net
|
9
|
|
|
|
423,876 |
|
|
|
449,307 |
|
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Deferred
Charges, Net
|
|
|
|
|
1,117,527 |
|
|
|
1,242,958 |
|
|
|
|
|
|
|
|
|
|
|
|
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TOTAL
ASSETS
|
|
|
|
$ |
10,407,467 |
|
|
$ |
13,072,666 |
|
|
|
|
|
|
|
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|
|
|
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LIABILITIES AND
DEFICIT
|
|
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|
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Current
Liabilities
|
|
|
|
|
|
|
|
|
|
|
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Accounts
payable, accrued expenses and other payables
|
|
|
|
|
4,747,839 |
|
|
|
5,577,204 |
|
|
Current
liabilities from discontinued operations
|
|
|
|
|
3,655 |
|
|
|
3,655 |
|
|
12%
convertible promissory note, net
|
10
|
|
|
|
- |
|
|
|
- |
|
|
Total
Current Liabilities
|
|
|
|
|
4,751,494 |
|
|
|
5,580,859 |
|
|
|
|
|
|
|
|
|
|
|
|
|
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3%
Convertible Promissory Notes Due 2011, Net
|
10
|
|
|
|
32,299,939 |
|
|
|
30,848,024 |
|
|
|
|
|
|
|
|
|
|
|
|
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TOTAL
LIABILITIES
|
|
|
|
|
37,051,433 |
|
|
|
36,428,883 |
|
|
|
|
|
|
|
|
|
|
|
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COMMITMENTS
AND CONTINGENCIES
|
11
|
|
|
|
- |
|
|
|
- |
|
|
|
|
|
|
|
|
|
|
|
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DEFICIT
|
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NCN
Stockholders’ Deficit
|
|
|
|
|
|
|
|
|
|
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Preferred
stock, $0.001 par value, 5,000,000 shares authorized
None
issued and outstanding
|
12
|
|
|
|
- |
|
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|
- |
|
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Common
stock, $0.001 par value, 800,000,000 shares authorized
Issued
and outstanding: 71,641,608 as of March 31, 2009 and December 31,
2008
|
12
|
|
|
|
71,642 |
|
|
|
71,642 |
|
|
Additional
paid-in capital
|
12
|
|
|
|
60,138,474 |
|
|
|
59,578,612 |
|
|
Accumulated
deficit
|
12
|
|
|
|
(88,479,634 |
) |
|
|
(84,653,932 |
) |
|
Accumulated
other comprehensive income
|
12
|
|
|
|
1,647,140 |
|
|
|
1,647,461 |
|
|
Total
NCN Stockholders’ Deficit
|
|
|
|
|
(26,622,378 |
) |
|
|
(23,356,217 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Noncontrolling
interests
|
12
|
|
|
|
(21,588 |
) |
|
|
- |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL DEFICIT
|
12
|
|
|
|
(26,643,966 |
) |
|
|
(23,356,217 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL
LIABILITIES AND DEFICIT
|
|
|
|
$ |
10,407,467 |
|
|
$ |
13,072,666 |
|
The
accompanying notes are an integral part of the condensed consolidated financial
statements.
CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE
LOSS
FOR THE THREE MONTHS ENDED MARCH 31, 2009 AND 2008
(RESTATED)
(Unaudited)
|
|
Note
|
|
|
For
the three
months
ended
March
31, 2009
|
|
|
For
the three
months
ended
March
31, 2008
(Restated
(1))
|
|
|
REVENUES
|
|
|
|
|
|
|
|
|
|
Advertising
services
|
|
|
|
$ |
185,149 |
|
|
$ |
584,167 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
COST
OF REVENUES
|
|
|
|
|
|
|
|
|
|
|
|
Cost
of advertising services
|
|
|
|
|
(452,259 |
) |
|
|
(3,961,340 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
GROSS
LOSS
|
|
|
|
|
(267,110 |
) |
|
|
(3,377,173 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
OPERATING
EXPENSES
|
|
|
|
|
|
|
|
|
|
|
|
Selling
and marketing
|
|
|
|
|
(165,986 |
) |
|
|
(640,318 |
) |
|
General
and administrative
|
|
|
|
|
(1,467,671 |
) |
|
|
(2,776,267 |
) |
|
Total
Operating Expenses
|
|
|
|
|
(1,633,657 |
) |
|
|
(3,416,585 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
LOSS
FROM OPERATIONS
|
|
|
|
|
(1,900,767 |
) |
|
|
(6,793,758 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER
INCOME
|
|
|
|
|
|
|
|
|
|
|
|
Interest
income
|
|
|
|
|
3,721 |
|
|
|
9,259 |
|
|
Other
income
|
|
|
|
|
1,923 |
|
|
|
4 |
|
|
Total
Other Income
|
|
|
|
|
5,644 |
|
|
|
9,263 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INTEREST
EXPENSE
|
|
|
|
|
|
|
|
|
|
|
|
Amortization
of deferred charges and debt discount
|
10
|
|
|
|
(1,577,346 |
) |
|
|
(1,348,284 |
) |
|
Interest
expense
|
|
|
|
|
(375,000 |
) |
|
|
(346,625 |
) |
|
Total
Interest Expense
|
|
|
|
|
(1,952,346 |
) |
|
|
(1,694,909 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
LOSS BEFORE INCOME TAXES
|
|
|
|
|
(3,847,469 |
) |
|
|
(8,479,404 |
) |
|
Income
taxes
|
|
|
|
|
- |
|
|
|
- |
|
|
NET
LOSS FROM CONTINUING OPERATIONS
|
|
|
|
|
(3,847,469 |
) |
|
|
(8,479,404 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
DISCONTINUED
OPERATIONS
|
|
|
|
|
|
|
|
|
|
|
|
Net
income from discontinued operations, net of income taxes
|
15
|
|
|
|
- |
|
|
|
34,554 |
|
|
NET
INCOME FROM DISCONTINUED OPERATIONS
|
|
|
|
|
- |
|
|
|
34,554 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
LOSS
|
|
|
|
|
(3,847,469 |
) |
|
|
(8,444,850 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
LESS:
NET LOSS ATTRIBUTABLE TO NONCONTROLLING INTERESTS, NET OF INCOME
TAXES
|
|
|
|
|
21,767 |
|
|
|
73,336 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
LOSS ATTRIBUTABLE TO NCN COMMON STOCKHOLDERS
|
|
|
|
$ |
(3,825,702 |
) |
|
$ |
(8,371,514 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER
COMPREHENSIVE (LOSS) INCOME
|
|
|
|
|
|
|
|
|
|
|
|
Total
other comprehensive (loss) income
|
|
|
|
|
(142 |
) |
|
|
613,250 |
|
|
Less:
foreign currency translation gain attributable to noncontrolling
interests
|
|
|
|
|
(179 |
) |
|
|
(3,932 |
) |
|
Foreign
currency translation (loss) gain attributable to NCN common
stockholders
|
|
|
|
|
(321 |
) |
|
|
609,318 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
COMPREHENSIVE
LOSS ATTRIBUTABLE TO NCN COMMON STOCKHOLDERS
|
|
|
|
$ |
(3,826,023 |
) |
|
$ |
(7,762,196 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
NET
INCOME (LOSS) PER COMMON SHARE – BASIC AND DILUTED
|
|
|
|
|
|
|
|
|
|
|
|
Loss
per common share from continuing operations attributable to NCN common
stockholders
|
14
|
|
|
|
(0.05 |
) |
|
|
(0.12 |
) |
|
Income
per common share from discontinued operations attributable to NCN common
stockholders
|
14
|
|
|
|
- |
|
|
|
- |
|
|
Net
loss per common share – basic and diluted
|
14
|
|
|
$ |
(0.05 |
) |
|
$ |
(0.12 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
WEIGHTED
AVERAGE SHARES OUTSTANDING – BASIC AND DILUTED
|
14
|
|
|
|
71,641,608 |
|
|
|
71,418,201 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
AMOUNTS
ATTRIBUTABLE TO NCN COMMON STOCKHOLDERS
|
|
|
|
|
|
|
|
|
|
|
|
Loss
from continuing operations, net of tax
|
14
|
|
|
|
(3,825,702 |
) |
|
|
(8,389,710 |
) |
|
Discontinued
operations, net of tax
|
14
|
|
|
|
- |
|
|
|
18,196 |
|
|
NET
LOSS ATTRIBUTABLE TO NCN COMMON STOCKHOLDERS
|
14
|
|
|
$ |
(3,825,702 |
) |
|
$ |
(8,371,514 |
) |
(1) See
Note 4 – Restatement and Reclassification
The
accompanying notes are an integral part of the condensed consolidated financial
statements.
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR
THE THREE MONTHS ENDED MARCH 31, 2009 AND 2008 (RESTATED)
(Unaudited)
|
|
|
For
the three
months
ended
March
31, 2009
|
|
|
For
the three
months
ended
March
31, 2008
(Restated
(1))
|
|
|
CASH FLOWS FROM OPERATING
ACTIVITIES:
|
|
|
|
|
|
|
|
Net
loss from continuing operations
|
|
$ |
(3,825,702 |
) |
|
$ |
(8,389,710 |
) |
|
Net
income from discontinued operations
|
|
|
- |
|
|
|
18,196 |
|
|
Net
loss attributable to NCN common stockholders
|
|
|
(3,825,702 |
) |
|
|
(8,371,514 |
) |
|
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
|
|
|
|
|
|
|
|
|
Depreciation
and amortization:
|
|
|
|
|
|
|
|
|
|
Equipment
and intangible assets
|
|
|
145,079 |
|
|
|
441,958 |
|
|
Deferred
charges and debt discount
|
|
|
1,577,346 |
|
|
|
1,348,284 |
|
|
Stock-based
compensation for service
|
|
|
559,861 |
|
|
|
774,743 |
|
|
Loss
on disposal of equipment
|
|
|
8,400 |
|
|
|
- |
|
|
Write-back
of allowance for doubtful debt
|
|
|
(231,985 |
) |
|
|
- |
|
|
Noncontrolling
interests
|
|
|
(21,767 |
) |
|
|
(73,336 |
) |
|
Changes
in operating assets and liabilities, net of effects from
acquisitions:
|
|
|
|
|
|
|
|
|
|
Accounts
receivable
|
|
|
258,213 |
|
|
|
(129,564 |
) |
|
Prepayments
for advertising operating rights
|
|
|
(90,663 |
) |
|
|
(235,690 |
) |
|
Prepaid
expenses and other current assets
|
|
|
292,104 |
|
|
|
(3,781,917 |
) |
|
Accounts
payable, accrued expenses and other payables
|
|
|
(829,365 |
) |
|
|
953,253 |
|
|
Net
cash used in operating activities
|
|
|
(2,158,479 |
) |
|
|
(9,073,783 |
) |
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING
ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
Purchase
of equipment
|
|
|
(52,488 |
) |
|
|
(2,684,884 |
) |
|
Proceeds
from sales of equipment
|
|
|
45,530 |
|
|
|
- |
|
|
Net
cash used in acquisition of subsidiaries, net
|
|
|
- |
|
|
|
(2,571,749 |
) |
|
Net
cash used in investing activities
|
|
|
(6,958 |
) |
|
|
(5,256,633 |
) |
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM
FINANCING
ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
Proceeds
from issuance of 3% convertible promissory note, net of
costs
|
|
|
- |
|
|
|
33,900,000 |
|
|
Repayment
of 12% convertible promissory note
|
|
|
- |
|
|
|
(5,000,000 |
) |
|
Net
cash provided by financing activities
|
|
|
- |
|
|
|
28,900,000 |
|
|
|
|
|
|
|
|
|
|
|
|
EFFECT
OF EXCHANGE RATE CHANGES ON CASH
|
|
|
7,233 |
|
|
|
581,470 |
|
|
|
|
|
|
|
|
|
|
|
|
NET
(DECREASE) INCREASE IN CASH
|
|
|
(2,158,204 |
) |
|
|
15,151,054 |
|
|
|
|
|
|
|
|
|
|
|
|
CASH,
BEGINNING OF PERIOD
|
|
|
7,717,131 |
|
|
|
2,233,528 |
|
|
|
|
|
|
|
|
|
|
|
|
CASH,
END OF PERIOD
|
|
$ |
5,558,927 |
|
|
$ |
17,384,582 |
|
|
|
|
|
|
|
|
|
|
|
|
SUPPLEMENTAL DISCLOSURE
OF CASH FLOW
INFORMATION:
|
|
|
|
|
|
|
|
|
|
Cash
paid during the period for:
|
|
|
|
|
|
|
|
|
|
Income
taxes
|
|
|
- |
|
|
|
- |
|
|
Interest
paid for convertible promissory notes
|
|
|
- |
|
|
|
346,625 |
|
|
Interest
paid for capital lease arrangement
|
|
|
- |
|
|
|
- |
|
|
Non-cash
activities:
|
|
|
|
|
|
|
|
|
|
Issuance
of common stock for acquisition of subsidiaries
|
|
$ |
- |
|
|
$ |
3,738,000 |
|
(1)
See Note 4 – Restatement and Reclassification
SUPPLEMENTAL
DISCLOSURE OF NON-CASH INVESTING ACTIVITIES:
In
January 2008, the Company acquired 100% equity interest of Cityhorizon
Limited (“Cityhorizon BVI”), a British Virgin Islands company. The Company
issued 1,500,000 shares of restricted common stock of par value of $0.001 each,
totaling $3,738,000 as part of the consideration.
The
accompanying notes are an integral part of the condensed consolidated financial
statements.
NOTES
TO CONDENSED CONSOLIDATED
FINANCIAL
STATEMENTS
(UNAUDITED)
NOTE
1. INTERIM
FINANCIAL STATEMENT
The
accompanying unaudited condensed consolidated financial statements of Network CN
Inc., its subsidiaries and variable interest entities (collectively “NCN” or the
“Company”) have been prepared in accordance with generally accepted accounting
principles in the United States (“GAAP”) and the rules and regulations of the
Securities and Exchange Commission for interim financial information.
Accordingly, they do not include all the information and footnotes necessary for
a comprehensive presentation of our financial position and results of
operations.
The
condensed consolidated financial statements for the three months ended March 31,
2009 and 2008 were not audited. It is management’s opinion, however, that all
material adjustments (consisting of normal recurring adjustments) have been made
which are necessary for a fair financial statements presentation. The results
for the interim period are not necessarily indicative of the results to be
expected for the full fiscal year. The year-end condensed consolidated balance
sheet data was derived from audited financial statements, but does not include
all disclosures required by accounting principles generally accepted in the
United States of America.
The
accompanying unaudited condensed consolidated financial statements should be
read in conjunction with the audited consolidated financial statements and notes
thereto included in the Company’s Annual Report on Form 10-K for the fiscal year
ended December 31, 2008, previously filed with the Securities and Exchange
Commission on March 27, 2009.
NOTE
2. ORGANIZATION
AND PRINCIPAL ACTIVITIES
NCN is
principally engaged in the provision of out-of-home advertising in China. Since
late 2006, the Company has been operating an advertising network of roadside LED
digital video panels, mega-size LED digital video billboards and light boxes in
major Chinese cities.
Network
CN Inc., originally incorporated on September 10, 1993 under the name EC Capital
Limited, is a Delaware company with headquarters in the Hong Kong Special
Administrative Region, the PRC. The Company was operated by different management
teams in the past, under different operating names, pursuing a variety of
business ventures. Between 2004 and 2006, the Company operated under the name
Teda Travel Group Inc., which was primarily engaged in the provision of
management services to hotels and resorts in China. On August 1, 2006, the
Company changed its name to “Network CN Inc.” in order to better reflect its new
vision to build a nationwide information and entertainment network in China
through its business in Travel Network and Media Network. In 2008, the Company
disposed of its entire travel network in order to focus on Media Network.
Accordingly, such travel business has been classified as discontinued operations
for all periods presented (see Note 15 – Discontinued Operations for
details).
Details
of the Company’s principal subsidiaries and variable interest entities as of
March 31, 2009 are described in Note 5 – Subsidiaries and Variable Interest
Entities.
Going
Concern
The
Company has experienced continuous recurring net losses in recent years. The net
losses of the Company for the three months ended March 31, 2009 and 2008 were
$3.8 million and $8.4 million respectively. Additionally, the Company has net
cash used in operating activities of $2.2 million and $9.1 million for the three
months ended March 31, 2009 and 2008 respectively. As of March 31, 2009, the
Company recorded a stockholders’ deficit of $26.6 million. These factors raise
substantial doubt about its ability to continue as a going concern. The
Company’s plans regarding those concerns are addressed in the following
paragraph. The condensed consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
In
response to current financial conditions, the Company has undergone drastic
cost-cutting exercise including reduction of the Company’s workforce, rentals,
as well as selling and marketing expenses and other general and administrative
expenses. Certain commercially non-viable concession right contracts were
terminated and management has successfully negotiated with certain authority
parties of concession rights to reduce advertising operating right fees. In
addition, the Company has explored various means of obtaining additional
financing. As of April 2, 2009, the Company entered into a new financing
arrangement with the holders of its convertible notes and warrants and certain
other investors, pursuant to which $45 million of 3% convertible promissory
notes was converted into common stock and the remaining $5 million of the notes
was exchanged for $5 million of 1% convertible promissory notes (see Note 17 –
Subsequent Events for details). Accordingly, management believes that there are
sufficient financial resources to meet the cash requirements for the next 12
months and the condensed consolidated financial statements have been prepared on
a going concern basis.
NOTE
3 SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES
(A)
Basis of Presentation and Preparation
These
condensed consolidated financial statements of the Company have been prepared in
conformity with accounting principles generally accepted in the United
States of America.
These
condensed consolidated financial statements were prepared on a going concern
basis. The Company has determined that the going concern basis of preparation is
appropriate based on its estimates and judgments of future performance of the
Company, future events and projected cash flows. At each balance sheet date, the
Company evaluates its estimates and judgments as part of its going concern
assessment. Based on its assessment, the Company believes there are
sufficient financial and cash resources to finance the Company as a going
concern in the next twelve months. Accordingly, management has prepared the
condensed consolidated financial statements on a going concern
basis.
(B)
Principles of Consolidation
The
condensed consolidated financial statements include the financial statements of
Network CN Inc., its subsidiaries and variable interest entities. Variable
interest entities are those entities in which the Company, through contractual
arrangements, bears the risks of, and enjoys the rewards normally associated
with ownership of the entities, and therefore the Company is the primary
beneficiary of these entities. In accordance with the Financial Accounting
Standards Board (“FASB”) Interpretation No. 46R “Consolidation of Variable Interest
Entities” (“FIN
46R”), the primary beneficiary is required to consolidate the variable interest
entities for financial reporting purposes. All significant intercompany
transactions and balances have been eliminated upon consolidation.
(C)
Use of Estimates
In
preparing condensed consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America,
management is required to make estimates and assumptions that affect the
reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities as of the date of the financial statements and the
reported amounts of revenues and expenses during the reported period. Actual
results could differ from those estimates. Differences from those estimates are
reported in the period they become known and are disclosed to the extent they
are material to the condensed consolidated financial statements taken as a
whole.
(D)
Cash and Cash Equivalents
Cash
includes cash on hand, cash accounts, and interest bearing savings accounts
placed with banks and financial institutions. For the purposes of the cash flow
statements, the Company considers all highly liquid investments with original
maturities of three months or less at the time of purchase to be cash
equivalents. As of March 31, 2009 and 2008, the Company had no cash
equivalents.
(E)
Allowance for Doubtful Debts
Allowance
for doubtful debts is made against receivable to the extent they are considered
to be doubtful. Receivables in the condensed consolidated balance sheet are
stated net of such allowance. The Company records its allowance for doubtful
debts based upon its assessment of various factors. The Company considers
historical experience, the age of the receivable balances, the credit quality of
its customers, current economic conditions, and other factors that may affect
customers’ ability to pay to determine the level of allowance
required.
(F)
Prepayments for Advertising Operating Rights, Net
Prepayments
for advertising operating rights are measured at cost less accumulated
amortization and impairment losses. Cost includes prepaid expenses directly
attributable to the acquisition of advertising operating rights. Such prepaid
expenses are in general charged to the condensed consolidated
statements of operations on a straight-line basis over the operating period. All
the costs expected to be amortized after 12 months of the balance sheet date are
classified as non-current assets.
An
impairment loss is recognized when the carrying amount of the prepayments for
advertising operating rights exceeds the sum of the undiscounted cash flows
expected to be generated from the advertising operating right’s use and eventual
disposition. An impairment loss is measured as the amount by which the carrying
amount exceeds the fair value of the asset calculated using a discounted cash
flow analysis.
(G)
Equipment, Net
Equipment
is stated at cost less accumulated depreciation and impairment losses.
Depreciation is provided using the straight-line method over the estimated
useful life as follows:
|
Media
display equipment
|
|
5 -
7 years
|
|
Office
equipment
|
|
3 -
5 years
|
|
Furniture
and fixtures
|
|
3 -
5 years
|
|
Leasehold
improvements
|
|
Over
the unexpired lease
terms
|
Construction
in progress is carried at cost less impairment losses, if any. It relates to
construction of media display equipment. No provision for depreciation is made
on construction in progress until the relevant assets are completed and put into
use.
When
equipment is retired or otherwise disposed of, the related cost and accumulated
depreciation are removed from the respective accounts, and any gain or loss is
reflected in the condensed consolidated statements of operations. Repairs and
maintenance costs on equipment are expensed as incurred.
(H)
Intangible Assets, Net
Intangible
assets are stated at cost less accumulated amortization and impairment losses.
Intangible assets that have indefinite useful lives are not amortized. Other
intangible assets with finite useful lives are amortized on a straight-line
basis over their estimated useful lives of 16 months to 20 years. The
amortization methods and estimated useful lives of intangible assets are
reviewed regularly.
(I)
Impairment of Long-Lived Assets
Long-lived
assets, including intangible assets with definite lives, are reviewed for
impairment whenever events or changes in circumstance indicate that the carrying
amount of the assets may not be recoverable. An intangible asset that is not
subject to amortization is reviewed for impairment annually or more frequently
whenever events or changes in circumstances indicate that the carrying amount of
the asset may not be recoverable. An impairment loss is recognized when the
carrying amount of a long-lived asset and intangible asset exceeds the sum of
the undiscounted cash flows expected to be generated from the asset’s use and
eventual disposition. An impairment loss is measured as the amount by which
the carrying amount exceeds the fair value of the asset calculated using a
discounted cash flow analysis.
(J)
Deferred Charges, Net
Deferred
charges are fees and expenses directly related to the issuance of convertible
promissory notes, including placement agents’ fees. Deferred charges are
capitalized and amortized over the life of the convertible promissory notes
using the effective yield method. Amortization of deferred charges is included
in interest expense on the condensed consolidated statements of operations while
the unamortized balance is included in deferred charges on the condensed
consolidated balance sheets.
(K)
Convertible Promissory Notes and Warrants
During
2007 and 2008, the Company issued a 12% convertible promissory note and warrants
and 3% convertible promissory notes and warrants. As of March 31, 2009 and
December 31, 2008, the warrants and embedded conversion feature were classified
as equity under Emerging Issues Task Force (“EITF”) Issue No. 00-19 “Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company’s Own Stock” and met the other criteria
in paragraph 11(a) of Statement of Financial Accounting Standards (“SFAS”)
No. 133 “Accounting for Derivative Instruments and
Hedging Activities”. Such classification will
be reassessed at each balance sheet date. The Company allocated the proceeds of
the convertible promissory notes between convertible promissory notes and the
financial instruments related to warrants associated with convertible promissory
notes based on their relative fair values at the commitment date. The fair value
of the financial instruments related to warrants associated with convertible
promissory notes was determined utilizing the Black-Scholes option pricing model
and the respective allocated proceeds to the warrants is recorded in additional
paid-in capital. The embedded beneficial conversion feature associated with
convertible promissory notes was recognized and measured by allocating a
portion of the proceeds equal to the intrinsic value of that feature to
additional paid-in capital in accordance with EITF Issue No. 98-5 “Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion
Ratio” and EITF Issue No. 00-27 “Application of Issue No. 98-5 to
Certain Convertible Instruments”.
The
portion of debt discount resulting from the allocation of proceeds to the
financial instruments related to warrants associated with convertible promissory
notes is being amortized to interest expense over the life of the convertible
promissory notes, using the effective yield method. For the portion of debt
discount resulting from the allocation of proceeds to the beneficial conversion
feature, it is amortized to interest expense over the term of the notes from the
respective dates of issuance using the effective yield method.
(L)
Early Redemption of Convertible Promissory Notes
Should
early redemption of convertible promissory notes occur, the unamortized portion
of the associated deferred charges and debt discount would be fully written off
and any early redemption premium will be recognized as expense upon its
occurrence. All related charges, if material, would be aggregated and included
in a separate line “charges on early redemption of convertible promissory
notes”. Such an expense would be included in ordinary activities on the
condensed consolidated statements of operations as required by SFAS
No. 145 “Rescission of FASB Statements
No. 4, 44, and 64,
Amendment of FASB Statement No. 13, and Technical Corrections”.
Pursuant
to the provisions of agreements in connection with the 3% convertible promissory
notes, in the event of a default, or if the Company’s actual earnings per share
(“EPS”) in any fiscal year is less than 80% of the respective EPS target,
certain investors may require the Company to redeem the 3% Convertible
Promissory Notes at 100% of the principal amount, plus any accrued and unpaid
interest, plus an amount representing a 20% internal rate of return on the then
outstanding principal amount. The Company accounts for such potential liability
of 20% internal rate of return on the then outstanding principal amount in
accordance with SFAS No. 5 “Accounting for
Contingencies”.
(M)
Revenue Recognition
For
advertising services, the Company recognizes revenue in the period when
advertisements are either aired or published. Revenues from advertising barter
transactions are recognized in the period during which the advertisements are
either aired or published. Expenses from barter transactions are recognized in
the period as incurred. Barter transactions are accounted in accordance with
EITF Issue No. 99-17 “Accounting for Advertising Barter
Transactions”,
which are recorded at the fair value of the advertising provided based on the
Company’s own historical practice of receiving cash for similar advertising from
buyers unrelated to the counterparty in the barter transactions. The
amounts included in advertising services revenue and general and administrative
for barter transactions were $nil for the three months ended March 31, 2009 and
2008.
For hotel
management services, the Company recognizes revenue in the period when the
services are rendered and collection is reasonably assured.
For tour
services, the Company recognizes services-based revenue when the services have
been performed. Guangdong Tianma International Travel Service Co., Ltd.
(“Tianma”) offers independent leisure travelers bundled packaged-tour products
which include both air-ticketing and hotel reservations. Tianma’s packaged-tour
products cover a variety of domestic and international
destinations.
Tianma
organizes inbound and outbound tour and travel packages which can incorporate,
among other things, air and land transportation, hotels, restaurants and tickets
to tourist destinations and other excursions. Tianma books all elements of such
packages with third-party service providers such as airlines, car rental
companies and hotels, or through other tour package providers and then resells
such packages to its clients. A typical sale of tour services is as
follows:
|
1.
|
Tianma,
in consultation with sub-agents, organizes a tour or travel package,
including making reservations for blocks of tickets, rooms, etc. with
third-party service providers. Tianma may be required to make deposits,
pay all or part of the ultimate fees charged by such service providers or
make legally binding commitments to pay such fees. For air-tickets, Tianma
normally books a block of air tickets with airlines in advance and pays
the full amount of the tickets to reserve seats before any tours are
formed. The air tickets are usually valid for a certain period of time. If
the pre-packaged tours do not materialize and are eventually not formed,
Tianma will resell the air tickets to other travel agents or customers.
For hotels, meals and transportation, Tianma usually pays an upfront
deposit of 50-60% of the total cost. The remaining balance is then settled
after completion of the tours.
|
|
2.
|
Tianma,
through its sub-agents, advertises tour and travel packages at prices set
by Tianma and sub-agents.
|
|
3.
|
Customers
approach Tianma or its appointed sub-agents to book an advertised packaged
tour.
|
|
4.
|
The
customers pay a deposit to Tianma directly or through its appointed
sub-agents.
|
|
5.
|
When
the minimum required number of customers (which number is different for
each tour based on the elements and costs of the tour) for a particular
tour is reached, Tianma will contact the customers for tour confirmation
and request full payment. All payments received by the appointed
sub-agents are paid to Tianma prior to the commencement of the
tours.
|
|
6.
|
Tianma
will then make or finalize corresponding bookings with outside service
providers such as airlines, bus operators, hotels, restaurants, etc. and
pay any unpaid fees or deposits to such
providers.
|
Tianma is
the principal in such transactions and the primary obligor to the third-party
providers regardless of whether it has received full payment from its customers.
In addition, Tianma is also liable to the customers for any claims relating to
the tours such as accidents or tour services. Tianma has adequate insurance
coverage for accidental loss arising during the tours. The Company utilizes
a network of sub-agents who operate strictly in Tianma’s name and can only
advertise and promote the business of Tianma with the prior approval of
Tianma.
(N)
Stock-based Compensation
In
December 2004, the FASB issued SFAS No. 123R “Share-Based Payment”, a
revision to SFAS No. 123 “Accounting for Stock-Based
Compensation”, and superseding APB Opinion No. 25 “Accounting for Stock Issued to
Employees” and its related
implementation guidance. Effective January 1, 2006, the Company adopted SFAS No.
123R, using a modified prospective application transition method, which
establishes accounting for stock-based awards in exchange for employee services.
Under this application, the Company is required to record stock-based
compensation expense for all awards granted after the date of adoption and
unvested awards that were outstanding as of the date of adoption. SFAS No. 123R
requires that stock-based compensation cost is measured at grant date, based on
the fair value of the award, and recognized in expense over the requisite
services period.
Common
stock, stock options and warrants issued to other than employees or directors in
exchange for services are recorded on the basis of their fair value, as required
by SFAS No. 123R, which is measured as of the date required by EITF
Issue 96-18 “Accounting for Equity Instruments That Are Issued to
Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or
Services”. In accordance with EITF 96-18, the non-employee stock
options or warrants are measured at their fair value by using the Black-Scholes
option pricing model as of the earlier of the date at which a commitment for
performance to earn the equity instruments is reached (“performance commitment
date”) or the date at which performance is complete
(“performance completion date”). The stock-based compensation expenses are
recognized on a straight-line basis over the shorter of the period over which
services are to be received or the vesting period. Accounting for non-employee
stock options or warrants which involve only performance conditions when no
performance commitment date or performance completion date has occurred as of
reporting date requires measurement at the equity instruments then-current fair
value. Any subsequent changes in the market value of the underlying common stock
are reflected in the expense recorded in the subsequent period in which that
change occurs.
(O)
Income Taxes
The
Company accounts for income taxes under SFAS No. 109 “Accounting for Income Taxes”.
Under SFAS No. 109, deferred tax assets and liabilities are provided for the
future tax effects attributable to temporary differences between the financial
statement carrying amounts of assets and liabilities and their respective tax
bases, and for the expected future tax benefits from items including tax loss
carry forwards.
Deferred
tax assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences are
expected to be recovered or reversed. Under SFAS No. 109, the effect on deferred
tax assets and liabilities of a change in tax rates is recognized in income in
the period that includes the enactment date.
(P)
Comprehensive Income (Loss)
The
Company follows SFAS No. 130
“Reporting
Comprehensive Income” for the reporting and display of its comprehensive
income (loss) and related components in the financial statements and thereby
reports a measure of all changes in equity of an enterprise that results from
transactions and economic events other than transactions with the shareholders.
Items of comprehensive income (loss) are reported in both the consolidated
statements of operations and comprehensive loss and the
consolidated statement of stockholders’ equity.
(Q)
Earnings (Loss) Per Common Share
Basic
earnings (loss) per common share are computed in accordance with SFAS
No. 128 “Earnings Per
Share” by dividing the net income (loss) attributable to holders of
common stock by the weighted average number of shares of common stock
outstanding during the period. Diluted earnings (loss) per share is computed by
dividing net income (loss) by the weighted average number of common shares
including the dilutive effect of common share equivalents then
outstanding.
The
diluted net loss per share is the same as the basic net loss per share for the
three months ended March 31, 2009 and 2008 as all potential ordinary shares
including stock options and warrants are anti-dilutive and are therefore
excluded from the computation of diluted net loss per share.
(R)
Operating Leases
Leases
where substantially all the rewards and risks of ownership of assets remain with
the leasing company are accounted for as operating leases. Payments made under
operating leases are charged to the condensed consolidated statements of
operations on a straight-line basis over the lease period.
(S)
Foreign Currency Translation
The
assets and liabilities of the Company’s subsidiaries and variable interest
entities denominated in currencies other than U.S. dollars are translated
into U.S. dollars using the applicable exchange rates at the balance sheet date.
For condensed consolidated statements of operations’ items, amounts denominated
in currencies other than U.S. dollars were translated into U.S. dollars using
the average exchange rate during the period. Equity accounts were translated at
their historical exchange rates. Net gains and losses resulting from translation
of foreign currency financial statements are included in the statements of
stockholders’ equity as accumulated other comprehensive income (loss). Foreign
currency transaction gains and losses are reflected in the condensed
consolidated statements of operations.
(T)
Fair Value of Financial Instruments
SFAS
No. 157 “Fair Value Measurements” defines fair value as
the price that would be received from selling an asset or paid to transfer a
liability in an orderly transaction between market participants at the
measurement date. When determining the fair value measurements for assets and
liabilities required or permitted to be recorded at fair value, the Company
considers the principal or most advantageous market in which it would transact
and it considers assumptions that market participants would use when pricing the
asset or liability.
SFAS
No. 157 establishes a fair value hierarchy that requires an entity to
maximize the use of observable inputs and minimize the use of unobservable
inputs when measuring fair value. A financial instrument’s categorization within
the fair value hierarchy is based upon the lowest level of input that is
significant to the fair value measurement. SFAS 157 establishes three levels of
inputs that may be used to measure fair value:
Level 1 - Level 1 applies to
assets or liabilities for which there are quoted prices in active markets for
identical assets or liabilities.
Level 2 - Level 2 applies to
assets or liabilities for which there are inputs other than quoted prices
included within Level 1 that are observable for the asset or liability such as
quoted prices for similar assets or liabilities in active markets; quoted prices
for identical assets or liabilities in markets with insufficient volume or
infrequent transactions (less active markets); or model-derived valuations in
which significant inputs are observable or can be derived principally from,
or corroborated by, observable market data.
Level 3 - Level 3 applies to
assets or liabilities for which there are unobservable inputs to the valuation
methodology that are significant to the measurement of the fair value of the
assets or liabilities.
The
carrying value of the Company’s financial instruments, which consist of cash,
accounts receivable, prepayments for advertising operating rights, prepaid
expenses and other current assets, accounts payable, accrued expenses and other
payables, approximates fair value due to the short-term maturities.
The
carrying value of the Company’s financial instruments related to warrants
associated with convertible promissory notes is stated at a value being
equal to the allocated proceeds of convertible promissory notes based on the
relative fair value of notes and warrants. In the measurement of the fair value
of these instruments, the Black-Scholes option pricing model is utilized, which
is consistent with the Company’s historical valuation techniques. These derived
fair value estimates are significantly affected by the assumptions used.
The allocated value of the financial instruments related to warrants associated
with convertible promissory notes is recorded as an equity, which does not
require to mark-to-market as of each subsequent reporting period.
(U)
Concentration of Credit Risk
The
Company places its cash with various financial institutions. The Company
believes that no significant credit risk exists as these cash investments are
made with high-credit-quality financial institutions.
All the
revenue of the Company and a significant portion of the Company’s assets are
generated and located in China. The Company’s business activities and accounts
receivable are mainly from advertising services. Deposits are usually collected
from customers in advance and the Company performs ongoing credit evaluation of
its customers. The Company believes that no significant credit risk exists as
credit loss.
(V)
Segmental Reporting
SFAS No.
131 “Disclosures about Segments of an
Enterprise and Related
Information”
establishes standards for reporting information about operating segments on a
basis consistent with the Company’s internal organization structure as well as
information about geographical areas, business segments and major customers in
financial statements. The Company’s operating segments are organized internally
primarily by the type of services rendered. In September 2008, the Company
disposed of its entire travel business and focus on developing its media
business in the PRC. Accordingly, it is management’s view that the services
rendered by the Company are of one operating segment: Media
Network.
(W)
Recent Accounting Pronouncements
In
September 2006, the FASB issued SFAS No. 157 “Fair Value Measurements”. Effective January 1,
2008, the Company adopted the measurement and disclosure other than those
requirements related to nonfinancial assets and liabilities in accordance with
guidance from FASB Staff Position 157-2 “Effective Date of FASB Statement
No. 157”,
which delayed the effective date of SFAS No. 157 for all nonfinancial
assets and nonfinancial liabilities, except for items that are recognized or
disclosed at fair value in the financial statements on a recurring basis (at
least annually), until the beginning of fiscal year 2009. In April 2009, the
FASB issued Staff Position No. FAS 157-4 “Determining Fair Value When the
Volume and Level of Activity for the Asset or Liability Have Significantly
Decreased and Identifying Transactions That Are Not Orderly” (“FSP FAS
No. 157-4”). FSP FAS No. 157-4
clarifies the methodology used to determine fair value when there is no active
market or where the price inputs being used represent distressed sales. FSP FAS
No. 157-4 also reaffirms the objective of fair value measurement, as stated
in SFAS No. 157 “Fair
Value Measurements”, which is to reflect how much an asset would be sold
for in an orderly transaction. It also reaffirms the need to use judgment to
determine if a formerly active market has become inactive, as well as to
determine fair values when markets have become inactive. FSP FAS No. 157-4
will be applied prospectively and will be effective for interim and annual
reporting periods ending after June 15, 2009. The Company believes the
adoption of SFAS No. 157 for nonfinancial assets and liabilities will not
have a significant effect on its consolidated financial position or results of
operations.
In
December 2007, the FASB issued SFAS No. 141 (Revised) “Business Combinations”
(“SFAS No. 141(R)”), replacing SFAS No. 141 “Business Combinations” (“SFAS No. 141”),
and SFAS No. 160 “Noncontrolling Interests in
Consolidated Financial Statements – an amendment of ARB No.
51”.
SFAS No. 141(R) retains the fundamental requirements of
SFAS No. 141, broadens its scope by applying the acquisition method to
all transactions and other events in which one entity obtains control over one
or more other businesses, and requires, among other things, that assets
acquired and liabilities assumed be measured at fair value as of the
acquisition date, that liabilities related to contingent consideration
be recognized at the acquisition date and re-measured at fair
value in each subsequent reporting period, that acquisition-related costs
be expensed as incurred, and that income be recognized if the fair
value of the net assets acquired exceeds the fair value of the
consideration transferred. SFAS No. 160 improves the relevance,
comparability, and transparency of the financial information that a reporting
entity provides in its consolidated financial statements by establishing
accounting and reporting standards that require; the ownership interests in
subsidiaries held by parties other than the parent and the amount of
consolidated net income attributable to the parent and to the noncontrolling
interest be clearly identified and presented on the face of the consolidated
statement of income, changes in a parent’s ownership interest while the parent
retains its controlling financial interest in its subsidiary be accounted for
consistently, when a subsidiary is deconsolidated, any retained noncontrolling
equity investment in the former subsidiary be initially measured at fair value,
entities provide sufficient disclosures that clearly identify and distinguish
between the interests of the parent and the interests of the noncontrolling
owners. SFAS No. 160 affects those entities that have an outstanding
noncontrolling interest in one or more subsidiaries or that deconsolidate a
subsidiary. SFAS No. 141(R) and SFAS No. 160 are effective for fiscal years, and
interim periods within those fiscal years, beginning on or after December 15,
2008. In April 2009, the FASB issued Staff Position No. FAS 141(R)-1 “Accounting for Assets Acquired and
Liabilities Assumed in a Business Combination that Arise from Contingencies”
(“FSP FAS No. 141(R)-1”). FSP FAS
No. 141(R)-1 applies to all assets acquired and all liabilities assumed in
a business combination that arise from contingencies. FSP FAS No. 141(R)-1
states that the acquirer will recognize such an asset or liability if the
acquisition-date fair value of that asset or liability can be determined during
the measurement period. If it cannot be determined during the measurement
period, then the asset or liability should be recognized at the acquisition date
if the following criteria, consistent with SFAS No. 5 “Accounting for
Contingencies”, are met: (1) information available before the end of
the measurement period indicates that it is probable that an asset existed or
that a liability had been incurred at the acquisition date, and (2) the
amount of the asset or liability can be reasonably estimated. FSP FAS
No. 141(R)-1 will be effective for assets or liabilities arising from
contingencies in business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period beginning on or after
December 15, 2008. The adoption of SFAS No. 141(R) and FSP FAS No. 141(R)-1
did not have a material impact on our financial statements. Beginning January 1,
2009, the Company has applied the provisions of SFAS No. 160 to its accounting
for noncontrolling interests and its financial statement disclosures. The
disclosure provisions of such standard have been applied to all periods
presented in the accompanying condensed consolidated financial
statements.
In March
2008, the FASB issued SFAS No. 161 “Disclosures about Derivative
Instruments and Hedging Activities, an amendment of FASB Statement
No. 133”
(“SFAS No. 161”). This statement is intended to improve transparency in
financial reporting by requiring enhanced disclosures of an entity’s derivative
instruments and hedging activities and their effects on the entity’s financial
position, financial performance, and cash flows. SFAS No. 161 applies to all
derivative instruments within the scope of SFAS 133 “Accounting for Derivative Instruments
and Hedging Activities” (“SFAS No. 133”) as
well as related hedged items, bifurcated derivatives, and nonderivative
instruments that are designated and qualify as hedging instruments. Entities
with instruments subject to SFAS No. 161 must provide more robust qualitative
disclosures and expanded quantitative disclosures. SFAS No. 161 is effective
prospectively for financial statements issued for fiscal years and interim
periods beginning after November 15, 2008, with early application
permitted. The adoption of SFAS No. 161 did not have a material impact on
our financial statements.
In
May 2008, the FASB issued SFAS No. 162 “The Hierarchy of Generally Accepted
Accounting Principles”. SFAS No. 162 identifies
the sources of accounting principles and the framework for selecting the
accounting principles to be used. Any effect of applying the provisions of this
statement will be reported as a change in accounting principle in accordance
with SFAS No. 154 “Accounting Changes and Error Corrections”. SFAS No. 162 is effective
for fiscal years, and interim periods within those fiscal years, beginning on or
after December 15, 2008. The adoption of SFAS No. 162 did not have a material
impact on our financial statements.
In May
2008, the FASB issued SFAS No. 163 “Accounting for Financial Guarantee
Insurance Contracts, an interpretation of FASB Statement No. 60”. The scope of this
Statement is limited to financial guarantee insurance (and reinsurance)
contracts, as described in this Statement, issued by enterprises included within
the scope of Statement 60. Accordingly, this Statement does not apply to
financial guarantee contracts issued by enterprises excluded from the scope of
Statement 60 or to some insurance contracts that seem similar to financial
guarantee insurance contracts issued by insurance enterprises (such as mortgage
guaranty insurance or credit insurance on trade receivables). This Statement
also does not apply to financial guarantee insurance contracts that are
derivative instruments included within the scope of FASB Statement No. 133 “Accounting for Derivative
Instruments and Hedging Activities”. This Statement will not
have any impact on the Company’s consolidated financial statements.
In May
2008, the FASB issued Staff Position No. APB 14-1 “Accounting for Convertible Debt
Instruments that May be Settled in Cash Upon Conversion”. APB 14-1 requires that the
liability and equity components of convertible debt instruments that may be
settled in cash upon conversion (including partial cash settlement) be
separately accounted for in a manner that reflects an issuer’s nonconvertible
debt borrowing rate. The resulting debt discount is amortized over the period
the convertible debt is expected to be outstanding as additional non-cash
interest expense. APB 14-1 is effective for financial statements issued for
fiscal years beginning after December 15, 2008, and interim periods within
those fiscal years. Retrospective application to all periods presented is
required except for instruments that were not outstanding during any of the
periods that will be presented in the annual financial statements for the period
of adoption but were outstanding during an earlier period. The adoption of APB
14-1 did not have a material impact on our financial statements.
In June
2008, the FASB issued EITF Issue No. 07-5 “Determining whether an Instrument
(or Embedded Feature) is indexed to an Entity’s Own Stock” (“EITF No. 07-5”). This
Issue is effective for financial statements issued for fiscal years beginning
after December 15, 2008, and interim periods within those fiscal years. Early
application is not permitted. Paragraph 11(a) of SFAS No. 133 “Accounting for Derivatives and
Hedging Activities” (“SFAS No. 133”)
specifies that a contract that would otherwise meet the definition of a
derivative but is both (a) indexed to the Company’s own stock and
(b) classified in stockholders’ equity in the statement of financial
position would not be considered a derivative financial instrument. EITF
No. 07-5 provides a new two-step model to be applied in determining whether
a financial instrument or an embedded feature is indexed to an issuer’s own
stock and thus able to qualify for the SFAS No. 133 paragraph 11(a) scope
exception. The adoption of EITF No. 07-5 did not have a material impact on our
financial statements.
In June
2008, the FASB issued EITF Issue No. 08-4 “Transition Guidance for Conforming
Changes to Issue No. 98-5” (“EITF No.
08-4”). The objective of EITF No. 08-4 is to provide transition
guidance for conforming changes made to EITF No. 98-5 “Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratios”, that result from EITF No.
00-27 “Application of Issue No. 98-5 to
Certain Convertible
Instruments”,
and SFAS No. 150 “Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity”. This Issue is effective
for financial statements issued for fiscal years ending after December 15, 2008.
Early application is permitted. The adoption of EITF No. 08-04 did
not have a material impact on our financial statements.
In
December 2008, the FASB issued Staff Position No. FAS 132(R)-1 “Employers’ Disclosures about
Postretirement Benefit Plan Assets” (“FSP FAS
132(R)-1”). FSP FAS 132(R)-1 requires more detailed disclosures about employers’
plan assets in a defined benefit pension or other postretirement plan, including
employers’ investment strategies, major categories of plan assets,
concentrations of risk within plan assets, and inputs and valuation techniques
used to measure the fair value of plan assets. FSP FAS 132(R)-1 also requires,
for fair value measurements using significant unobservable inputs (Level 3),
disclosure of the effect of the measurements on changes in plan assets for the
period. The disclosures about plan assets required by FSP FAS 132(R)-1 must be
provided for fiscal years ending after December 15, 2009. As this pronouncement
is only disclosure-related, it will not have an impact on the financial position
and results of operations.
In April
2009, the FASB issued Staff Position No. FAS 107-1 and APB No. 28-1 “Interim Disclosures about Fair
Value of Financial Instruments” (“FSP FAS No. 107-1 and APB Opinion
No. 28-1”). FSP FAS No. 107-1 and APB Opinion No. 28-1 requires
fair value disclosures for financial instruments that are not reflected in the
condensed consolidated balance sheets at fair value. Prior to the issuance of
FSP FAS No. 107-1 and APB Opinion No. 28-1, the fair values of those
assets and liabilities were disclosed only once each year. With the issuance of
FSP FAS No. 107-1 and APB Opinion No. 28-1, the Company will now be
required to disclose this information on a quarterly basis, providing
quantitative and qualitative information about fair value estimates for all
financial instruments not measured in the condensed consolidated balance sheets
at fair value. FSP FAS No. 107-1 and APB Opinion No. 28-1 will be
effective for interim reporting periods that end after June 15, 2009. As
this pronouncement is only disclosure-related, it will not have an impact on the
financial position and results of operations.
NOTE
4. RESTATEMENT
AND RECLASSIFICATION
(a) Restatement of Financial
Results
On
October 10, 2008, the Company filed a Current Report on Form 8-K to
announce that the Company’s Board of Directors, based upon the consideration of
issues addressed in the SEC review and the recommendation of the Audit
Committee, determined that the Company should restate its previously issued
consolidated financial statements for the year ended December 31, 2007 and
unaudited condensed consolidated financial statements for the interim periods
ended March 31, 2008 and June 30, 2008.
The
restatement adjustments corrected the accounting errors arising from its
misapplication of accounting policies to the discount associated with the
beneficial conversion feature attributed to the issuance of the 3% convertible
promissory notes in 2007. The Company initially amortized the discount according
to EITF Issue No. 98-5
“Accounting for
Convertible Securities with Beneficial Conversion Features or Contingently
Adjustable Conversion Ratio”, which stated that discount resulting from
allocation of proceeds to the beneficial conversion feature should be recognized
as interest expense over the minimum period from the date of issuance to the
date of earliest conversion. As the notes are convertible at the date of
issuance, the Company fully amortized such discount through interest expense at
the date of issuance accordingly. However, according to Issue 6 of EITF Issue
No. 00-27 “Application of Issue No. 98-5 to
Certain Convertible Instruments”, EITF Issues No. 98-5 should be modified
to require the discount related to the beneficial conversion feature to be
accreted from the date of issuance to the stated redemption date regardless of
when the earliest conversion date occurs using the effective interest method.
The restatement adjustments were to reflect the retrospective application of the
Issue 6 of EITF Issue No. 00-27.
The
restatement affected our previously reported non-cash interest expense, net
loss, long-term debt and stockholders’ equity but had no effects on our cash
flow. There was no change to each subtotal (operating, investing and financing
activities) in the Company’s condensed consolidated statements of cash flows as
a result of the restatement. Certain balances related to line items within
certain cash flows were corrected as part of the restatement. The restatement in
the condensed consolidated financial statements as of March 31, 2008 and for the
three months ended March 31, 2008 is as follows:
|
For the three months ended March 31,
2008
|
|
As Previously
Reported
|
|
|
Restatement
Adjustments
|
|
|
As Restated
|
|
|
Interest
Expense
|
|
|
|
|
|
|
|
|
|
|
Amortization
of deferred charges and debt discount
|
|
$ |
11,790,530 |
|
|
$ |
(10,442,246 |
) |
|
$ |
1,348,284 |
|
|
Net
loss attributable to NCN common stockholders
|
|
|
(18,813,760 |
) |
|
|
10,442,246 |
|
|
|
(8,371,514 |
) |
|
Comprehensive
loss
|
|
|
(18,204,442 |
) |
|
|
10,442,246 |
|
|
|
(7,762,196 |
) |
|
Net
loss per common share – basic and diluted
|
|
$ |
(0.26 |
) |
|
$ |
0.14 |
|
|
$ |
(0.12 |
) |
|
As of March 31, 2008
|
|
As Previously
Reported
|
|
|
Restatement
Adjustments
|
|
|
As Restated
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
3%
convertible promissory notes due 2011, net
|
|
$ |
42,045,203 |
|
|
$ |
(15,102,206 |
) |
|
$ |
26,942,997 |
|
|
Total
liabilities
|
|
|
48,026,189 |
|
|
|
(15,102,206 |
) |
|
|
32,923,983 |
|
|
Stockholders’
Equity
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
deficit
|
|
|
(48,642,819 |
) |
|
|
15,102,206 |
|
|
|
(33,540,613 |
) |
|
Total
stockholder’s equity
|
|
$ |
9,127,580 |
|
|
$ |
15,102,206 |
|
|
$ |
24,229,786 |
|
(b) Reclassification
To better
present the results of the Company, the “by function of expense” method for the
presentation of the condensed consolidated statements of operations and
comprehensive loss has been adopted. Comparative amounts for prior periods have
been reclassified in order to achieve a consistent presentation.
In
addition, the Company completed the disposal of travel network during the year
ended December 31, 2008. As a result of the disposal, the condensed consolidated
financial statements of the Company reflect travel network operation as
discontinued operations for all presented periods. Accordingly, revenues and
costs and expenses of travel network have been excluded from the respective
accounts in the condensed consolidated statements of operations. The net
operating results of the discontinued operations have been reported, net of
applicable income taxes, as “Net income from Discontinued Operations, Net of
Income Taxes”. For details, please refer to Note 15 – Discontinued
Operations.
The above
reclassification does not have an effect on net loss and net loss per
share.
NOTE
5. SUBSIDIARIES
AND VARIABLE INTEREST ENTITIES
Details
of the Company’s principal consolidated subsidiaries and variable interest
entities as of March 31, 2009 were as follows:
|
Name
|
Place
of
Incorporation
|
Ownership
interest
attributable to
the Company
|
Principal activities
|
|
NCN
Group Limited
|
BVI
|
100%
|
Investment
holding
|
|
NCN
Media Services Limited
|
BVI
|
100%
|
Investment
holding
|
|
Crown
Winner International Limited
|
Hong
Kong
|
100%
|
Investment
holding
|
|
Cityhorizon
Limited
|
Hong
Kong
|
100%
|
Investment
holding
|
|
NCN
Group Management Limited
|
Hong
Kong
|
100%
|
Provision
of administrative and management services
|
|
NCN
Huamin Management Consultancy (Beijing) Company Limited
|
PRC
|
100%
|
Provision
of administrative and management services
|
|
Shanghai
Quo Advertising Company Limited
|
PRC
|
100%
|
Provision
of advertising services
|
|
Xuancaiyi
(Beijing) Advertising Company Limited
|
PRC
|
51%
|
Provision
of advertising services
|
|
Teda
(Beijing) Hotels Management Limited
|
PRC
|
100%
|
Dormant;
undergoing liquidation process
|
|
NCN
Travel Services Limited
|
BVI
|
100%
|
Dormant
|
|
Linkrich
Enterprise Advertising and Investment Limited
|
Hong
Kong
|
100%
|
Dormant
|
|
Cityhorizon
Limited
|
BVI
|
100%
|
Investment
holding
|
|
Huizhong
Lianhe Media Technology Co., Ltd
|
PRC
|
100%
|
Provision
of high-tech services
|
|
Beijing
Huizhong Bona Media Advertising Co., Ltd.
|
PRC
|
100%
|
Provision
of advertising services
|
|
Huizhi
Botong Media Advertising Beijing Co., Ltd
|
PRC
|
100%
|
Provision
of advertising services
|
|
Crown
Eagle Investment Limited
|
Hong
Kong
|
100%
|
Dormant
|
|
Profit
Wave Investment Limited
|
Hong
Kong
|
100%
|
Dormant
|
|
Qingdao
Zhongan Boyang Advertising Co., Ltd.
|
PRC
|
60%
|
Provision
of advertising services
|
NOTE
6.
ACCOUNTS RECEIVABLE, NET
Accounts
receivable, net as of March 31, 2009 and December 31, 2008 were as
follows:
|
|
|
As
of
March
31, 2009
(Unaudited)
|
|
|
As
of
December
31, 2008
(Audited)
|
|
|
Accounts
receivable
|
|
$ |
383,828 |
|
|
$ |
817,643 |
|
|
Less:
allowance for doubtful debts
|
|
|
(302,451 |
) |
|
|
(600,241 |
) |
|
Total
|
|
$ |
81,377 |
|
|
$ |
217,402 |
|
For the
three months ended March 31, 2009 and 2008, the Company recorded a write-back of
allowance for doubtful debts for accounts receivable of $122,188 and
$nil respectively. Such write-back of allowance for doubtful debts was
included in general and administrative expenses in the condensed consolidated
statements of operations. The Company also recorded a write-off of certain
allowance for doubtful debts for accounts receivable of $175,593 and $nil for
the three months ended March 31, 2009 and 2008 respectively.
NOTE
7. PREPAYMENTS
FOR ADVERTISING OPERATING RIGHTS, NET
Prepayments
for advertising operating rights, net as of March 31, 2009 and December 31,
2008 were as follows:
|
|
|
As
of
March
31, 2009
(Unaudited)
|
|
|
As
of
December
31, 2008
(Audited)
|
|
|
Gross
carrying amount
|
|
$ |
4,456,869 |
|
|
$ |
24,606,150 |
|
|
Less:
accumulated amortization
|
|
|
(1,666,331 |
) |
|
|
(16,275,735 |
) |
|
Less:
provision for impairment
|
|
|
(2,289,096 |
) |
|
|
(7,912,303 |
) |
|
Prepayments
for advertising operating rights, net
|
|
$ |
501,442 |
|
|
$ |
418,112 |
|
Total
amortization expense of prepayments for advertising operating rights of the
Company for the three months ended March 31, 2009 and 2008 were $229,292 and
$3,496,248 respectively. The amortization expense of prepayments for
advertising operating rights was included as cost of advertising services in the
condensed consolidated statements of operations.
NOTE
8.
PREPAID EXPENSES AND OTHER CURRENT
ASSETS, NET
Prepaid
expenses and other current assets, net as of March 31, 2009 and December 31,
2008 were as follows:
|
|
|
As
of
March
31, 2009
(Unaudited)
|
|
|
As
of
December
31, 2008
(Audited)
|
|
|
Rental
deposits
|
|
$ |
84,789 |
|
|
$ |
93,294 |
|
|
Deposits
paid for soliciting potential media projects
|
|
|
- |
|
|
|
3,109,609 |
|
|
Payments
from customers withheld by a third party
|
|
|
1,402,503 |
|
|
|
1,402,751 |
|
|
Other
receivables
|
|
|
57,267 |
|
|
|
2,937,228 |
|
|
Prepaid
expenses
|
|
|
314,340 |
|
|
|
222,679 |
|
|
Sub-total
|
|
|
1,858,899 |
|
|
|
7,765,561 |
|
|
Less:
allowance for doubtful debts
|
|
|
(1,411,074 |
) |
|
|
(7,135,429 |
) |
|
Total
|
|
$ |
447,825 |
|
|
$ |
630,132 |
|
For the
three months ended March 31, 2009 and 2008, the Company recorded a write-back of
allowance for doubtful debts for prepaid expenses and other current assets of
$109,797 and $nil respectively. Such write-back of allowance for
doubtful debts was included in general and administrative expenses in the
condensed consolidated statements of operations. The Company also recorded a
write-off of certain allowance for doubtful debts for prepaid expenses and other
current assets of $5,613,760 and $nil for the three months ended March 31, 2009
and 2008 respectively.
NOTE
9. INTANGIBLE
ASSETS, NET
Intangible
assets, net as of March 31, 2009 and December 31, 2008 were as
follows:
|
|
|
As
of
March
31, 2009
(Unaudited)
|
|
|
As
of
December
31, 2008
(Audited)
|
|
|
Amortized
intangible rights
|
|
|
|
|
$ |
|
|
|
Gross
carrying amount
|
|
$ |
6,551,031 |
|
|
|
7,137,097 |
|
|
Less:
accumulated amortization
|
|
|
(752,155 |
) |
|
|
(1,312,790 |
) |
|
Less:
provision for impairment loss
|
|
|
(5,375,000 |
) |
|
|
(5,375,000 |
) |
|
Amortized
intangible rights, net
|
|
|
423,876 |
|
|
|
449,307 |
|
|
|
|
|
|
|
|
|
|
|
|
Amortized
acquired application systems
|
|
|
|
|
|
|
|
|
|
Gross
carrying amount
|
|
|
1,973,865 |
|
|
|
1,973,865 |
|
|
Less:
accumulated amortization
|
|
|
(197,388 |
) |
|
|
(197,388 |
) |
|
Less:
provision for impairment loss
|
|
|
(1,776,477 |
) |
|
|
(1,776,477 |
) |
|
Amortized
acquired application systems, net
|
|
|
- |
|
|
|
- |
|
|
|
|
|
|
|
|
|
|
|
|
Intangible
assets, net
|
|
$ |
423,876 |
|
|
$ |
449,307 |
|
Total
amortization expense of intangible assets of the Company for the three months
ended March 31, 2009 and 2008 were $25,431and
$259,665 respectively.
NOTE
10. CONVERTIBLE
PROMISSORY NOTES AND WARRANTS
(A) 12%
Convertible Promissory Note and Warrants
On
November 12, 2007, the Company entered into a 12% Note and Warrant Purchase
Agreement with Wei An Developments Limited (“Wei An”) with respect to the
purchase by Wei An a convertible promissory note in the principal account of
$5,000,000 at interest rate of 12% per annum (the “12% Convertible Promissory
Note”). The 12% Convertible Promissory Note is convertible into the
Company’s common stock at the conversion price of $2.40 per share. Pursuant
to the agreement, the Company is subject to a commitment fee of 2% of the
principal amount of the 12% Convertible Promissory Note. The term of the 12%
Convertible Promissory Note is six months and the Company has the option to
extend the 12% Convertible Promissory Note by an additional six-month
period at an interest rate of 14% per annum and be subject to an additional
commitment fee of 2% of the principal amount of the note. However, the Company
has the right to prepay all or any portion of the amounts due under the
note at any time without penalty or premium. In addition, pursuant to the
Warrant Purchase Agreement, the Company issued warrants to purchase up to
250,000 shares of the Company’s common stock at the exercise price of $2.30 per
share, which are exercisable for a period of two years.
As of
March 31, 2009, none of the warrants associated with 12% Convertible Promissory
Note was exercised.
On
February 13, 2008, the Company fully redeemed 12% Convertible Promissory Note
due May 2008 at a redemption price equal to 100% of the principal amount of
$5,000,000 plus accrued and unpaid interest. No penalty or premium was charged
for such early redemption. The Company recognized the unamortized portion of the
associated deferred charges and debt discount of $48,261 and
$149,885 respectively, as expenses included in amortization of deferred
charges and debt discount on the condensed consolidated statements of operations
during the three months ended March 31, 2008.
(B) 3%
Convertible Promissory Notes and Warrants
On
November 19, 2007, the Company and Quo Advertising entered into a 3% Note and
Warrant Purchase Agreement (the “Purchase Agreement”) with affiliated investment
funds of Och-Ziff Capital Management Group (the “Investors”), pursuant to which
the Company agreed to issue 3% Senior Secured Convertible Notes due June 30,
2011 in the aggregate principal amount of up to $50,000,000 (the “3% Convertible
Promissory Notes”) and warrants to acquire an aggregate amount of 34,285,715
shares of common stock of the Company (the “Warrants”).
The 3%
Convertible Promissory Notes and Warrants were issued in three
tranches:
1) On
November 19, 2007, Convertible Notes in the aggregate principal amount of
$6,000,000, Warrants exercisable for 2,400,000 shares at $2.50 per share and
Warrants exercisable for 1,714,285 shares at $3.50 per share were
issued;
2) On
November 28, 2007, Convertible Notes in the aggregate principal amount of
$9,000,000, Warrants exercisable for 3,600,000 shares at $2.50 per share and
Warrants exercisable for 2,571,430 shares at $3.50 per share were issued;
and
3) On
January 31, 2008 (the “Third Closing”), Convertible Notes in the aggregate
principal amount of $35,000,000, Warrants exercisable for 14,000,000 shares at
$2.50 per share and Warrants exercisable for 10,000,000 shares at $3.50 per
share were issued.
The 3%
Convertible Promissory Notes bore interest at 3% per annum payable semi-annually
in arrears and were convertible into shares of common stock at an initial
conversion price of $1.65 per share, subject to customary anti-dilution
adjustments. In addition, the conversion price was subject to adjusted
downward on an annual basis if the Company should fail to meet certain annual
EPS targets described in the Purchase Agreement. The EPS targets for fiscal
2008, 2009 and 2010 are $0.081, $0.453, and $0.699 respectively. In the event of
a default, or if the Company’s actual EPS as defined in the Purchase Agreement
for any fiscal year is less than 80% of the respective EPS target, certain
Investors may require the Company to redeem the 3% Convertible Promissory Notes
at 100% of the principal amount, plus any accrued and unpaid interest, plus an
amount representing a 20% internal rate of return on the then outstanding
principal amount. The Warrants were to expire on June 30, 2011 and granted the
holders the right to acquire shares of common stock at $2.50 and $3.50 per
share, subject to customary anti-dilution adjustments. The exercise price of the
Warrants will also be adjusted downward whenever the conversion price of the 3%
Convertible Promissory Notes is adjusted downward. In connection with the
issuance of the 3% Senior Secured Convertible Notes, the Company also entered
into registration rights agreement with the Investors, pursuant to which, as
amended, the Company agreed to file at their request, a registration statement
registering for resale any shares issued to the Investor upon conversion of the
3% Convertible Promissory Notes or exercise of the Warrants.
On
January 31, 2008, the Company issued $35,000,000 in 3% Convertible Promissory
Notes and amended and restated $15,000,000 in 3% Convertible Promissory Notes
issued in late 2007. Concurrent with the Third Closing, the Company loaned
substantially all the proceeds from 3% Convertible Promissory Notes to its
directly wholly owned subsidiary, NCN Group Limited (the “NCN Group”), and such
loan was evidenced by an intercompany note issued by NCN Group in favor of the
Company (the “NCN Group Note”). At the same time, the Company entered into a
Security Agreement, pursuant to which the Company granted to the collateral
agent for the benefit of the convertible note holders a first-priority security
interest in certain of its assets, including the NCN Group Note and 66% of the
shares of the NCN Group. In addition, the NCN Group and certain of the Company’s
indirectly wholly owned subsidiaries each granted the Company a security
interest in certain of the assets of such subsidiaries to, among other things,
secure the NCN Group Note and certain related obligations.
As of
December 31, 2008, the Company failed to meet EPS target for fiscal 2008. The
Investors agreed the conversion price of the 3% Convertible Promissory Notes
remained unchanged at $1.65 and have not proposed any adjustment to the
conversion price as of December 31, 2008 and March 31, 2009. None of the
conversion options and warrants associated with the above convertible promissory
notes has been exercised.
On April
2, 2009, the Company entered into a new financing arrangement with the holders
of the 3% Convertible Promissory Notes and warrants and certain other investors,
pursuant to which, $45 million of original notes was converted into common stock
and the remaining $5 million of the notes was exchanged for $5 million of 1%
convertible promissory notes. In addition, the original holders agreed to cancel
the warrants and terminate the security agreement and the investor rights
agreement among them and the Company. For details, please refer to Note 17 –
Subsequent Events.
The
following table details the accounting treatment of the convertible promissory
notes:
|
|
|
12%
Convertible
Promissory
Note
|
|
|
3%
Convertible
Promissory
Notes
(first
and
second
tranches)
|
|
|
3%
Convertible
Promissory
Notes
(third
tranche)
|
|
|
Total
|
|
|
Proceeds
of convertible promissory notes
|
|
$ |
5,000,000 |
|
|
$ |
15,000,000 |
|
|
$ |
35,000,000 |
|
|
$ |
55,000,000 |
|
|
Allocation
of proceeds:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allocated
relative fair value of warrants
|
|
|
(333,670 |
) |
|
|
(2,490,000 |
) |
|
|
(5,810,000 |
) |
|
|
(8,633,670 |
) |
|
Allocated
intrinsic value of beneficial conversion feature
|
|
|
- |
|
|
|
(4,727,272 |
) |
|
|
(11,030,303 |
) |
|
|
(15,757,575 |
) |
|
Total
net proceeds of the convertible promissory notes
|
|
|
4,666,330 |
|
|
|
7,782,728 |
|
|
|
18,159,697 |
|
|
|
30,608,755 |
|
|
Repayment
of convertible promissory note
|
|
|
(5,000,000 |
) |
|
|
- |
|
|
|
- |
|
|
|
(5,000,000 |
) |
|
Amortization
of debt discount
|
|
|
333,670 |
|
|
|
2,034,549 |
|
|
|
4,322,965 |
|
|
|
6,691,184 |
|
|
Net
carrying value of convertible promissory notes as of March 31,
2009
|
|
$ |
- |
|
|
$ |
9,817,277 |
|
|
$ |
22,482,662 |
|
|
$ |
32,299,939 |
|
Warrants
and Beneficial Conversion Features
The fair
values of the financial instruments associated with warrants of both 12%
convertible promissory note and 3% convertible promissory notes were determined
utilizing Black-Scholes option pricing model, which is consistent with the
Company’s historical valuation methods. The following assumptions and
estimates were used in the Black-Scholes option pricing model: (1) 12%
convertible promissory note: volatility of 182%; an average risk-free
interest rate of 3.52%; dividend yield of 0%; and an expected life of 2 years,
(2) 3% convertible promissory notes: volatility of 47%; an average risk-free
interest rate of 3.30%; dividend yield of 0%; and an expected life of 3.5
years.
Both the
warrants and embedded conversion features issued in connection with 12%
convertible promissory note and 3% convertible promissory notes meet the
criteria of EITF 00-19
“Accounting for
Derivative Financial Instruments Indexed to, and Potentially Settled in, a
Company's Own Stock” for equity classification and also met the other
criteria in paragraph 11(a) of SFAS 133 “Accounting for Derivative Instruments and Hedging
Activities”. Accordingly, the conversion features do not require
derivative accounting. The intrinsic value of beneficial conversion feature is
calculated according to EITF Issue No. 98-5 “Accounting for Convertible
Securities with
Beneficial Conversion Features or Contingently Adjustable Conversion
Ratio” and EITF Issue No. 00-27 “Application of Issue No. 98-5 to
Certain Convertible Instruments”. For 3% convertible promissory note, as
the effective conversion price after allocating a portion of the proceeds to the
warrants was less than the Company’s market price of common stock at commitment
date, it was considered to have a beneficial conversion feature while for the
12% convertible promissory note, no beneficial conversion feature existed. The
value of beneficial conversion feature is recorded as a reduction in the
carrying value of the convertible promissory notes against additional
paid-in capital. As the 3% convertible promissory notes has stated redemption
date, the respective debt discount being equal to the value of beneficial
conversion feature of $15,757,575 is amortized over the term of the notes from
the respective date of issuance using the effective yield method.
Amortization
of Deferred Charges and Debt Discount
The
amortization of deferred charges and debt discount for the three months ended
March 31, 2009 was as follows:
|
|
|
Warrants
|
|
|
Conversion
Features
|
|
|
Deferred
Charges
|
|
|
Total
|
|
|
12%
convertible promissory note
|
|
$ |
- |
|
|
$ |
- |
|
|
$ |
- |
|
|
$ |
- |
|
|
3%
convertible promissory notes
|
|
|
500,919 |
|
|
|
950,996 |
|
|
|
125,431 |
|
|
|
1,577,346 |
|
|
Total
|
|
$ |
500,919 |
|
|
$ |
950,996 |
|
|
$ |
125,431 |
|
|
$ |
1,577,346 |
|
The
amortization of deferred charges and debt discount for the three months ended
March 31, 2008 was as follows:
|
|
|
Warrants
|
|
|
Conversion
Features
|
|
|
Deferred
Charges
|
|
|
Total
|
|
|
12%
convertible promissory note
|
|
$ |
259,204 |
|
|
$ |
- |
|
|
$ |
80,700 |
|
|
$ |
339,904 |
|
|
3%
convertible promissory notes
|
|
|
309,747 |
|
|
|
588,057 |
|
|
|
110,576 |
|
|
|
1,008,380 |
|
|
Total
|
|
$ |
568,951 |
|
|
$ |
588,057 |
|
|
$ |
191,276 |
|
|
$ |
1,348,284 |
|
NOTE
11. COMMITMENTS
AND CONTINGENCIES
(a) Commitments
1.
Rental Lease Commitment
The
Company’s existing rental leases do not contain significant restrictive
provisions. The following is a schedule by year of future minimum lease
obligations under non-cancelable rental operating leases as of March 31,
2009:
|
Nine
months ending December 31, 2009
|
|
$ |
210,823 |
|
|
Fiscal
years ending December 31,
|
|
|
|
|
|
2009
|
|
|
210,823 |
|
|
2010
|
|
|
180,277 |
|
|
2011
|
|
|
- |
|
|
2012
|
|
|
- |
|
|
Total
|
|
$ |
391,100 |
|
2.
Annual Advertising Operating Rights Fee Commitment
Since
November 2006, the Company, through its subsidiaries NCN Media Services Limited,
Quo Advertising, Xuancaiyi, Bona and Botong has acquired advertising rights from
third parties to operate different types of advertising panels for certain
periods.
The
following table sets forth the estimated future annual commitment of the Company
with respect to the advertising operating rights of 1,242 roadside advertising
panels and 5 mega-size advertising panels that the Company held as of March 31,
2009:
|
Nine
months ending December 31, 2009
|
|
$ |
1,295,102 |
|
|
Fiscal
years ending December 31,
|
|
|
|
|
|
2009
|
|
|
1,295,102 |
|
|
2010
|
|
|
1,036,127 |
|
|
2011
|
|
|
768,896 |
|
|
2012
|
|
|
485,398 |
|
|
2013
|
|
|
210,293 |
|
|
Thereafter
|
|
|
80,624 |
|
|
Total
|
|
$ |
3,876,440 |
|
3.
Capital commitments
As
of March 31, 2009, the Company had commitments for capital expenditures in
connection with construction of roadside advertising panels and mega-size
advertising panels of approximately $18,000.
(b) Contingencies
The
Company accounts for loss contingencies in accordance with SFAS No. 5 “Accounting for Loss
Contingencies” and other related
guidelines. Set forth below is a description of certain loss contingencies as of
March 31, 2009 and management’s opinion as to the likelihood of loss in respect
of loss contingency.
On March
20, 2008, the Company’s wholly-owned subsidiary, NCN Huamin Management
Consultancy (Beijing) Company Limited (“NCN Huamin”), entered into a rental
agreement with Beijing Chengtian Zhihong TV & Film Production Co., Ltd.
(“Chengtian”), pursuant to which, a certain office premises located in Beijing
was leased from Chengtian to NCN Huamin for a term of three years, commencing
April 1, 2008. On December 30, 2008, NCN Huamin issued a notice to Chengtian to
terminate the rental agreement effective on December 31, 2008, as Chengtian had
breached several provisions as stated in the rental agreement and refused to
take any remedial actions. On January 14, 2009, NCN Huamin received a notice
from Beijing Arbitration Commission that Chengtian, as plaintiff, had initiated
a lawsuit against NCN Huamin seeking an aggregate of approximately $505,000 for
unpaid rental-related expense plus accrued interest as well as compensation for
unilateral termination of the rental contract. On February 25, 2009, NCN Huamin
counter-claimed for breach of rental contract against Chengtian and
asserted to claim an aggregate of approximately $155,000 from Chengtian for
overpayment of rental expenses and compensation for Chengtian’s breach of
contract.
At
present, the outcome of this lawsuit cannot be reasonably predicted. The Company
does not believe that the outcome of this pending litigation will have a
material impact on the Company’s financial statements, or results of
operations.
NOTE
12. STOCKHOLDERS’
DEFICIT
(A) Stock,
Options and Warrants Issued for Services
1. In
August 2006, the Company issued a warrant to purchase up to 100,000 shares of
restricted common stock to a consultant at an exercise price $0.70 per share.
One-fourth of the shares underlying the warrant became exercisable every 45 days
beginning from the date of issuance. The warrant remains exercisable until
August 25, 2016. The fair market value of the warrant was estimated on the grant
date using the Black-Scholes option pricing model as required by SFAS 123R with
the following assumptions and estimates: expected dividend 0%, volatility 192%,
a risk-free rate of 4.5% and an expected life of one (1) year. The value of the
warrant recognized $nil for the three months ended March 31, 2009 and
2008.
2. In
July 2007, NCN Group Management Limited entered into Executive Employment
Agreements (the “Agreements”) with Godfrey Hui, Chief Executive Officer, Daniel
So, former Managing Director, Daley Mok, Chief Financial Officer, Benedict Fung,
former President, and Stanley Chu, former General Manager. Pursuant to the
Agreements, each executive was granted shares of the Company’s common stock
subject to annual vesting over five years in the following
amounts: Mr. Hui, 2,000,000 shares; Mr. So, 2,000,000 shares;
Dr. Mok 1,500,000 shares; Mr. Fung 1,200,000 shares and Mr. Chu, 1,000,000
shares. However, since Mr. So, Mr. Fung and Mr. Chu resigned from their
respective positions in January 2009, they are no longer entitled to those
shares that will be vested on December 31, 2009, 2010 and 2011 in the following
amounts: Mr. So 1,500,000 shares; Mr. Fung 970,000 shares and Mr. Chu 790,000
shares. In connection with these stock grants and in accordance with SFAS 123R,
the Company recognized non-cash stock-based compensation of $453,250 and
$699,300 included in general and administrative expenses on the condensed
consolidated statements of operations for the three months ended March 31, 2009
and 2008 respectively. Out of the total shares granted under the Agreements, on
January 2, 2008, an aggregate of 660,000 S-8 shares with par value of $0.001
each were vested and issued to the concerned executives.
3. In
September, 2007, the Company entered into a service agreement with independent
directors Peter Mak, Ronglie Xu, Joachim Burger (who resigned as a director of
the Company on September 30, 2008), Gerd Jakob and Edward Lu. Pursuant
to the service agreements, each independent director was granted shares of the
Company’s common stock subject to a vesting period of ten months in the
following amounts: Peter Mak: 15,000 shares; Ronglie Xu: 15,000
shares; Joachim Burger: 15,000 shares, Gerd Jakob: 10,000 shares and
Edward Lu: 10,000 shares. In connection with these stock grants and in
accordance with SFAS 123R, the Company recognized $nil and $43,485 of non-cash
stock-based compensation included in general and administrative expenses on the
condensed consolidated statements of operations for the three months ended March
31, 2009 and 2008 respectively. On July 21, 2008, an aggregate of 65,000
S-8 shares of common stock of par value of $0.001 each were vested and issued to
the independent directors.
4. In
November 2007, the Company issued a warrant to purchase up to 300,000 shares of
restricted common stock to a placement agent for provision of agency services in
connection with the issuance of 3% convertible promissory notes at an exercise
price $3.0 per share which are exercisable for a period of two years. The fair
value of the warrant was estimated on the grant date using the Black-Scholes
option pricing model as required by SFAS 123R with the following weighted
average assumptions: expected dividend 0%, volatility 182%, a risk-free rate of
4.05 % and an expected life of two (2) year. The value of the warrant recognized
for the three months ended March 31, 2009 and 2008 were $31,959 and
$31,958 respectively. As of March 31, 2009, none of the associated warrants
was exercised.
5. In
December 2007, the Company committed to grant 235,000 S-8 shares of common stock
to certain employees of the Company for their services rendered during the year
ended December 31, 2007. In connection with these stock grants and in accordance
with SFAS 123R, the Company recognized non-cash stock-based compensation of $nil
in general and administrative expenses on the condensed consolidated statements
of operations for the three months ended March 31, 2009 and 2008. Such 235,000
S-8 shares of par value of $0.001 each were issued on January 2, 2008. In
addition, the Company committed to grant another 30,000 S-8 shares of common
stock to an employee pursuant to his employment contract for service rendered.
The Company recognized the non-cash stock-based compensation of $nil for the
three months ended March 31, 2009 and 2008 for such 30,000 S-8 shares granted.
In October 2008, such 30,000 S-8 shares of common stock of par value of $0.001
each were vested and issued to the employee.
6. In
June 2008, the Board of Directors resolved to grant 110,000 shares of common
stock to the board of directors, Peter Mak, Ronglie Xu, Joachim Burger, Gerd
Jakob, Edward Lu, Godfrey Hui, Daniel So, Daley Mok and Stanley Chu, as part of
their directors’ fee for their service rendered during the period from July 1,
2008 to June 30, 2009. Each director was granted shares of the Company’s common
stock subject to a vesting period of twelve months in the following amounts:
Peter Mak: 15,000 shares; Ronglie Xu: 15,000 shares; Joachim
Burger: 15,000 shares; Gerd Jakob: 10,000 shares; Edward
Lu: 10,000 shares; Godfrey Hui: 15,000 shares; Daniel So: 10,000 shares;
Daley Mok: 10,000 shares and Stanley Chu: 10,000 shares. In connection with
these stock grants and in accordance with SFAS 123R, the Company recognized
$47,499 and $nil of non-cash stock-based compensation included in general and
administrative expenses on the condensed consolidated statements of operations
for the three months ended March 31, 2009 and
2008 respectively.
7. In
July 2008, the Company committed to grant 170,000 S-8 shares of common stock to
certain employees of the Company for their services rendered. One of the
employees resigned in January 2009 and his
entitlement to 70,000 shares was canceled. In accordance with SFAS 123R,
the Company reversed all previous recognized non-cash stock based compensation
associated with such 70,000 shares. Accordingly, in connection with these stock
grants, the Company recorded a net credit balance of non-cash stock based
compensation of $4,258 and $nil for the three months ended March 31, 2009 and
2008 respectively.
8. In
August 2008, the Company committed to grant 100,000 S-8 shares of common stock
to a consultant for services rendered. The value of stock grant recognized for
the three months ended March 31, 2009 and 2008 were $31,411 and $nil
respectively.
(B) Stock
Issued for Acquisition
In
January 2008, in connection with the acquisition of Cityhorizon BVI, the Company
issued 1,500,000 shares of restricted common stock of par value of $0.001 each,
totaling $3,738,000, as part of the consideration.
(C) Conversion
Option and Stock Warrants Issued in Notes Activities
On
November 12, 2007, pursuant to the 12% Note and Warrant Purchase Agreement of
$5,000,000, the Company issued warrants to purchase up to 250,000 shares of the
Company’s common stock at the exercise price of $2.30 per share, which are
exercisable for a period of two years to Wei An. The allocated proceeds to the
warrants of $333,670 based on the relative fair value of 12% Convertible
Promissory Notes and warrants were recorded as reduction in the carrying
value of the note against additional-paid in capital. As the effective
conversion price is higher than the Company’s market price of common stock at
commitment date, no beneficial conversion existed. Please refer to Note
10 – Convertible Promissory Notes and Warrants for details.
On
November 19, 2007, pursuant to the 3% Note and Warrant purchase Agreement, the
Company issued warrants to purchase up to 2,400,000 shares of the Company’s
common stock at the exercise price of $2.5 per share and 1,714,285 shares of the
Company’s common stock at the exercise price of $3.5 per share associated
with the convertible notes of $6,000,000 in the first closing. On November 28,
2007, the Company also issued warrants to purchase up to 3,600,000 shares of the
Company’s common stock at the exercise price of $2.5 per share and
2,571,430 shares of the Company’s common stock at the exercise price of $3.5 per
share. The allocated proceeds to these warrants were $2,490,000 in aggregate
which were recorded as reduction in the carrying value of the notes against
additional paid-in capital. As the effective conversion price after allocating a
portion of the proceeds to the warrants was less than the Company’s market price
of common stock at commitment date, it was considered to have a beneficial
conversion feature with value of $4,727,272 recorded as a reduction in the
carrying value of the notes against additional paid-in capital. Please refer to
Note 10 – Convertible Promissory Notes and Warrants for
details.
On
January 31, 2008, the Company issued $35,000,000 in 3% Convertible Promissory
Notes and amended and restated $15,000,000 in 3% Convertible Promissory Notes
issued in late 2007. In addition, the Company issued additional warrants to
purchase 14,000,000 shares of the Company’s common stock at $2.50 per share and
warrants to purchase 10,000,000 shares of the Company’s common stock at $3.50
per share. The allocated proceeds to these warrants were $5,810,000 in aggregate
which were recorded as reduction in the carrying value of the notes against
additional paid-in capital. As the effective conversion price after allocating a
portion of the proceeds to the warrants was less than the Company’s market price
of common stock at commitment date, it was considered to have a beneficial
conversion feature with value of $11,030,303 recorded as a reduction in the
carrying value of the notes against additional paid-in capital. Please refer to
Note 10 – Convertible Promissory Notes and Warrants for
details.
The
following table summarizes the changes in deficit for the three months ended
March 31, 2009:
|
|
|
Noncontrolling
Interests
|
|
|
NCN
Common
Stockholders
|
|
|
Total
|
|
|
Total
deficit as of December 31, 2008
|
|
$ |
- |
|
|
$ |
(23,356,217 |
) |
|
$ |
(23,356,217 |
) |
|
Net
loss
|
|
|
(21,767 |
) |
|
|
(3,825,702 |
) |
|
|
(3,847,469 |
) |
|
Other
comprehensive income (loss)
|
|
|
179 |
|
|
|
(321 |
) |
|
|
(142 |
) |
|
Preferred
stock
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
Common
stock
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
Additional
paid-in capital
|
|
|
- |
|
|
|
559,862 |
|
|
|
559,862 |
|
|
Total
deficit as of March 31, 2009
|
|
$ |
(21,588 |
) |
|
$ |
(26,622,378 |
) |
|
$ |
(26,643,966 |
) |
NOTE
13. RELATED
PARTY TRANSACTIONS
During
the three months ended March 31, 2009 and 2008, the Company did not
enter into any material transactions or series of transactions that would be
considered material in which any officer, director or beneficial owner of 5% or
more of any class of the Company’s capital stock, or any immediate family member
of any of the preceding persons, had a direct or indirect material
interest.
NOTE
14. NET
INCOME (LOSS) PER COMMON SHARE
Net loss
per share information for the three months ended March 31, 2009 and 2008 was as
follows:
|
|
|
For
the three
months
ended
March
31, 2009
(Unaudited)
|
|
|
For
the three
months
ended
March
31, 2008
(Unaudited)
|
|
|
Numerator:
|
|
|
|
|
|
|
|
Net
loss from continuing operations attributable to NCN common
stockholders
|
|
$ |
(3,825,702 |
) |
|
$ |
(8,389,710 |
) |
|
Net
income from discontinued operations attributable to NCN common
stockholders
|
|
|
- |
|
|
|
18,196 |
|
|
Net
loss attributable to NCN common stockholders
|
|
|
(3,825,702 |
) |
|
|
(8,371,514 |
) |
|
Denominator:
|
|
|
|
|
|
|
|
|
|
Weighted
average number of shares outstanding, basic
|
|
|
71,641,608 |
|
|
|
71,418,201 |
|
|
Effect
of dilutive securities
|
|
|
- |
|
|
|
- |
|
|
Options
and warrants
|
|
|
- |
|
|
|
- |
|
|
Weighted
average number of shares outstanding, diluted
|
|
|
71,641,608 |
|
|
|
71,418,201 |
|
|
|
|
|
|
|
|
|
|
|
|
Net
income (loss) per common share – basic and diluted
|
|
|
|
|
|
|
|
|
|
Continuing
operations
|
|
|
(0.05 |
) |
|
|
(0.12 |
) |
|
Discontinued
operations
|
|
|
- |
|
|
|
- |
|
|
Net
loss per common share – basic and diluted
|
|
$ |
(0.05 |
) |
|
$ |
(0.12 |
) |
The
diluted net loss per common share is the same as the basic net loss per common
share for the three months ended March 31, 2009 and 2008 as the
ordinary shares to be issued under stock options and warrants outstanding
are anti-dilutive and are therefore excluded from the computation of diluted net
loss per common share. The securities that could potentially dilute basic net
income (loss) per common share in the future that were not included in the
computation of diluted net income (loss) per common share because of
anti-dilutive effect as of March 31, 2009 and 2008 were summarized as
follows:
|
|
|
For
the three
months
ended
March
31, 2009
(Unaudited)
|
|
|
For
the three
months
ended
March
31, 2008
(Unaudited)
|
|
|
Potential
common equivalent shares:
|
|
|
|
|
|
|
|
Stock
warrants for services (1)
|
|
|
- |
|
|
|
64,869 |
|
|
Conversion
feature associated with convertible promissory notes to common
stock
|
|
|
- |
|
|
|
10,466,200 |
|
|
Common
stock to be granted to directors executives and employees for services
(including non-vested shares)
|
|
|
3,975,000 |
|
|
|
7,105,000 |
|
|
Common
stock to be granted to consultants for services (including non-vested
shares)
|
|
|
100,000 |
|
|
|
- |
|
|
Total
|
|
|
4,075,000 |
|
|
|
17,636,069 |
|
Remarks:
|
(1)
|
As of March 31, 2009, the number of potential
common equivalent shares associated with warrants issued for services was
nil, which was related to a
warrant to purchase 100,000 common stock issued by
the Company to a consultant in 2006 for service rendered at an exercise
price of $0.70, which expired in August
2016.
|
NOTE
15. DISCONTINUED
OPERATIONS
In
September 2008, the Company disposed of its entire travel network which was
classified as one of the Company’s business segments in order to focus on its
media business. Accordingly, the Company entered into stock purchase agreements
to dispose of its entire travel network which included the sale of NCN
Management Services Group (including Tianma) and NCN Landmark
Group.
The
Company treated the sale of entire travel network as discontinued operations.
Accordingly, revenues, costs and expenses of the discontinued operations have
been excluded from the respective captions in the condensed consolidated
statements of operations. The net operating results of the discontinued
operations have been reported, net of applicable income taxes, as “Net Income
from Discontinued Operations, Net of Income Taxes”.
Summary
operating results for the discontinued operations for travel network were as
follows:
|
|
|
For
the three
months
ended
March
31, 2009
(Unaudited)
|
|
|
For
the three
months
ended
March
31, 2008
(Unaudited)
|
|
|
Revenues
|
|
$ |
- |
|
|
$ |
8,458,482 |
|
|
Cost
of revenues
|
|
|
- |
|
|
|
(8,301,823 |
) |
|
Gross
profit
|
|
|
- |
|
|
|
156,659 |
|
|
Operating
expenses
|
|
|
- |
|
|
|
(141,225 |
) |
|
Other
income
|
|
|
- |
|
|
|
17,734 |
|
|
Interest
income
|
|
|
- |
|
|
|
1,386 |
|
|
Income
from discontinued operations, net of income taxes
|
|
$ |
- |
|
|
$ |
34,554 |
|
NOTE
16.
BUSINESS SEGMENTS FROM CONTINUING
OPERATIONS
In
September 2008, the Company disposed of its entire travel business. Accordingly,
the Company now operates in one single business segment: Media Network,
providing out-of home advertising services.
NOTE
17.
SUBSEQUENT EVENTS
On April
2, 2009, the Company entered into a new financing arrangement with the holders
of the 3% Convertible Promissory Notes and Warrants and certain other
investors.
Pursuant
to a note exchange and option agreement, dated April 2, 2009, between the
Company and Keywin Holdings Limited ( “Keywin”), Keywin exchanged the 3%
Convertible Promissory Notes in the principal amount of $45,000,000, and all
accrued and unpaid interest thereon, for 307,035,463 shares of the Company’s
common stock and an option to purchase an aggregate of 122,814,185 shares of the
Company’s common stock, for an aggregate purchase price of $2,000,000,
exercisable for a three-month period commencing on April 2, 2009.
Pursuant
to a note exchange agreement, dated April 2, 2009, among the Company and the
Investors, the parties agreed to cancel the 3% Convertible Promissory Notes in
the principal amount of $5,000,000 held by the Investors (including all accrued
and unpaid interest thereon), and all of the Warrants, in exchange for the
Company’s issuance of new 1% Unsecured Senior Convertible Promissory Notes due
2012 in the principal amount of $5,000,000 (the “New Notes”). The New Notes bear
interest at 1% per annum, payable semi-annually in arrears, mature on April 1,
2012, and are convertible at any time into shares of our common stock at an
initial conversion price of $0.02326 per share, subject to customary
anti-dilution adjustments. In addition, in the event of a default, the holders
will have the right to redeem the New Notes at 110% of the principal amount,
plus any accrued and unpaid interest. The parties also agreed to terminate the
security agreement and release all security interests arising out of the
Purchase Agreement and the 3% Convertible Promissory Notes.
In
connection with the issuance of the New Notes, the Company agreed to provide
Keywin and the Investors certain registration rights in respect of the Company’s
common stock issued to Keywin, issuable upon conversion of the option issued to
Keywin and issuable upon conversion of the New Notes, pursuant to a Registration
Rights Agreement, dated April 2, 2009, among the Company, the Investors and
Keywin.
On April
2, 2009, the Company also entered into a Letter Agreement and Termination of
Investor Rights Agreement with the Investors and Keywin (the “Letter
Agreement”), pursuant to which the parties agreed to terminate the Investor
Rights Agreement, dated November 19, 2007, entered into between the Company and
the Investors in connection with the Purchase Agreement.
Pursuant
to the Letter Agreement, the Company also agreed to provide certain co-sale
rights to the Investors. In the event that Keywin, its affiliates and/or
any of the officers or directors of the Company (collectively, the “Controlling
Stockholders”) propose to transfer, sell, assign or otherwise dispose of,
directly or indirectly, any of its or their securities in the Company (the
“Selling Controlling Stockholder”) in a transaction which, together with
previous transfers or sales, would constitute a Change in Control (as defined in
the Letter Agreement), then each of the Investors (and their assigns) will have
the right to sell, at their sole election, together with such Selling
Controlling Stockholder, up to their entire interest in the Company (including
either the New Notes or the securities issuable upon conversion of the New
Notes), except that any such co-sale must be on the same terms and conditions
agreed to by the Selling Controlling Stockholder.
Pursuant
to the Letter Agreement, the parties also agreed to certain limitations on
conversion of the New Notes. The Investors agreed that they would not
convert, and the Company agreed that it would not issue any shares of its common
stock upon any attempted conversion or exercise of, any portion of the New
Notes, if after giving effect to such conversion, the Investors (together with
their affiliates) collectively would have acquired, through the conversion of
the New Notes or otherwise, beneficial ownership of a number of shares of the
Company’s common stock in excess of 9.99% of the aggregate number of shares of
common stock outstanding immediately after giving effect to such conversion or
exercise.
On April
6, 2009, in connection with the above new financing arrangement, an aggregate of
307,035,463 shares of the Company’s common stock with par value of $0.001 each
were issued to Keywin accordingly.
|
|
MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
|
Cautionary
Statements
The
following management’s discussion and analysis of financial condition and
results of operations is based upon and should be read in conjunction with the
Company’s condensed consolidated financial statements and the notes thereto
included in “Part
I – Financial Information, Item 1. Financial Statement”. All amounts are
expressed in U.S. dollars.
Overview
Our
mission is to become a nationwide leader in providing out-of-home advertising in
China, primarily serving the needs of branded corporate customers. We seek
to acquire rights to install and operate roadside advertising panels and
mega-size advertising panels in the major cities in China. In most cases,
we will be responsible for installing advertising panels, although in some
cases, advertising panels might have already been installed and we will be
responsible for operating and maintaining the panels. Once the advertising
panels are put into operation, we sell advertising airtime to our customers
directly. Since late 2006, we have been operating an advertising network of
roadside LED digital video panels, mega-size LED digital video billboards and
light boxes in major Chinese cities. LED (known as “Light Emitting Diode”)
technology has evolved to become a new and popular form of advertising in China,
capable of delivering crisp, super-bright images both indoors and
outdoors.
Our net
advertising revenues were $185,149 and $584,167 for the three months ended March
31, 2009 and 2008 respectively. Our net loss was $3,847,469 and
$8,444,850 for the three months ended March 31, 2009 and 2008. Our results of
operations were negatively affected by a variety of factors, which led to less
than expected revenues and cash inflows during the first quarter of 2009,
including the following:
|
·
|
The
rising costs to acquire advertising rights due to competition among
bidders for those rights;
|
|
·
|
Delays
in obtaining government approvals for panel installation due to the
government’s focus on fighting snow storms in different provinces in the
early months of 2008;
|
|
·
|
Slower
than expected consumer acceptance of the digital form of advertising
media;
|
|
·
|
Strong
competition from other media companies;
and
|
|
·
|
Slowing
demand due to the worldwide financial crisis and deteriorating economic
conditions in China, leading many customers to cut their advertising
budget. The impact of the reduction in the pace of our advertising
spending is expected to be more significant on our new digital form of
media than traditional
advertising platforms.
|
To
address these unfavorable market conditions, in the latter half of
2008, we undertook drastic cost-cutting measures including reduction
of our workforce, rentals, as well as reductions to our selling and marketing
expenses and other general and administrative expenses. In addition, the
commercial viability of each of our concession right contracts was re-assessed.
Some commercially non-viable concession right contracts were terminated as a
result of this re-assessment and management has also successfully negotiated
some reductions in advertising operating right fees under existing
contracts. The outcome of these cost reduction measures has been
reflected in our financial results. We will continue to strictly control our
operating costs for the foreseeable future. We will also continue to allocate
more resources to those commercially viable projects as well as explore new
prominent advertising related projects.
For more
information relating to our business, please see the section entitled “Business”
in our Annual Report on Form 10-K for the fiscal year ending December 31, 2008
as filed with the United States Securities and Exchange Commission on March 27,
2009.
Recent
Developments
Restructuring
of Convertible Debt
On
November 19, 2007, we entered into a Note and Warrant Purchase Agreement, as
amended, or the Purchase Agreement, with our subsidiary Quo Advertising and
affiliated investment funds of Och-Ziff Capital Management Group, or the
Investors, pursuant to which we agreed to issue in three tranches, 3%
Senior Secured Convertible Notes, due June 30, 2011, in the aggregate principal
amount of up to $50,000,000, or the “Notes”, and warrants to acquire an
aggregate amount of 34,285,715 shares of our Common Stock, or the
Warrants. On November 19, 2007, we issued Notes in the aggregate principal
amount of $6,000,000, Warrants to purchase shares of our common stock at $2.50
per share and Warrants to purchase shares of our common stock at $3.50 per
share. On November 28, 2007, we issued Notes in the aggregate principal
amount of $9,000,000, Warrants to purchase shares of our common stock at $2.50
per share and Warrants to purchase shares of our common stock at $3.50 per
share.
On
January 31, 2008, we amended and restated the previously issued Notes and issued
to the Investors 3% Senior Secured Convertible Notes in the aggregate principal
amount of $50,000,000, or the Amended and Restated Notes, Warrants to purchase
shares of our common stock at $2.50 per share and Warrants to purchase shares of
our common stock at $3.50 per share, or the Third Closing. In connection
with the Third Closing, the parties entered into the First Amendment to the
Purchase Agreement, dated as of January 31, 2008, to, among other things,
establish additional funding channels between the Company and its subsidiaries
in China and provide for certain other modifications in connections with the
Third Closing. Concurrently with the Third Closing, we loaned substantially
all the proceeds from the Amended and Restated Notes to our wholly-owned direct
subsidiary, NCN Group, and such loan was evidenced by an intercompany note
issued by NCN Group in favor of the Company, or the NCN Group Note. In
connection with the Amended and Restated Notes, we entered into a Security
Agreement, dated as of January 31, 2008, or the Security Agreement, pursuant to
which we granted to the collateral agent for the benefit of the Investors, a
first-priority security interest in certain of our assets, including the NCN
Group Note and 66% of the equity interest of NCN Group. In addition, NCN Group
and certain of our indirect wholly owned subsidiaries each granted the Company a
security interest in certain of the assets of such subsidiaries to, among other
things, secure the NCN Group Note and certain related
obligations.
On April
2, 2009, we entered into a new financing arrangement with the Investors
and certain other investors, memorialized in the following
documents.
Note
Exchange Agreement
On April
2, 2009, we entered into a Note Exchange Agreement with certain of the
Investors, or the Note Exchange Agreement, pursuant to which the parties agreed
to cancel Amended and Restated Notes in the principal amount of $5 million held
by such Investors (including accrued and unpaid interest thereon), and all the
Warrants, in exchange for our issuance of new 1% Unsecured Senior Convertible
Notes due 2012 in the principal amount of $5 million, or the New Notes. The New
Notes bear interest at 1% per annum, payable semi-annually in arrears, and
mature on April 2, 2012. They are convertible at any time into shares of
our common stock at an initial conversion price of $0.02326 per share, subject
to customary anti-dilution adjustments. In addition, in the event of a default,
the holders of the New Notes, or the Note Holders, will have the right to redeem
the New Notes at 110% of the principal amount, plus any accrued and unpaid
interest. The parties also agreed to terminate the Security Agreement and
release all security interests arising out of the Purchase Agreement and the
Amended and Restated Notes.
Notes
Exchange and Option Agreement
On April
2, 2009, we also entered into a Note Exchange and Option Agreement, or the Note
Exchange and Option Agreement, with Keywin Holdings Limited, a transferee of the
Investors, Keywin, pursuant to which we agreed to exchange the remaining Amended
and Restated Notes in the principal amount of $45 million (including all accrued
and unpaid interest thereon) for (i) 307,035,463 shares of our common stock, or
the Keywin Shares, and (ii) an option to purchase an aggregate of 122,814,185
shares of our common stock for an aggregate purchase price of $2,000,000,
exercisable for a three-month period commencing on April 2, 2009, or the Keywin
Option.
Registration
Rights Agreement
In
connection with the Note Exchange Agreement and the Note Exchange and Option
Agreement, we agreed to provide Keywin and the Note Holders, pursuant to a
Registration Rights Agreement, dated April 2, 2009, or the Registration Rights
Agreement, among the Company, the Note Holders and Keywin, demand and piggy-back
registration rights in respect of the Keywin Shares, shares of our common stock
issuable upon exercise of the Keywin Option and shares of our common stock
issuable upon conversion of the New Notes.
Letter
Agreement and Termination of Investor Rights Agreement
On April
2, 2009, we also entered into a Letter Agreement and Termination of Investor
Rights Agreement with the Investors and Keywin, or the Letter Agreement,
pursuant to which the parties agreed to terminate the Investor Rights Agreement,
dated November 19, 2007, entered into between us and the Investors in connection
with the Purchase Agreement.
Pursuant
to the Letter Agreement, we also agreed to provide certain co-sale rights to the
Investors. In the event that Keywin, its affiliates and/or any of the
officers or directors of the Company (collectively, referred to as the
Controlling Stockholders) propose to transfer, sell, assign or otherwise dispose
of, directly or indirectly, any of its or their securities in the Company in a
transaction which, together with previous transfers or sales, would constitute a
Change in Control (as defined in the Letter Agreement), then each of the
Investors (and their assigns) will have the right to sell, at their sole
election, together with such selling Controlling Stockholder, up to their entire
interest in the Company (including either the New Notes or the securities
issuable upon conversion of the New Notes), except that any such co-sale must be
on the same terms and conditions agreed to by the selling Controlling
Stockholder.
Pursuant
to the Letter Agreement, the parties also agreed to certain limitations on
conversion of the New Notes. The Investors agreed that they would not
convert, and we agreed that we would not issue any shares of our common stock
upon any attempted conversion or exercise of, any portion of the New Notes, if
after giving effect to such conversion, the Investors (together with their
affiliates) collectively would have acquired, through the conversion of the New
Notes or otherwise, beneficial ownership of a number of shares of our common
stock in excess of 9.99% of the aggregate number of shares of common stock
outstanding immediately after giving effect to such conversion or
exercise.
On April
6, 2009, in connection with the above new financing arrangement, an aggregate of
307,035,463 shares of the Company’s common stock with par value of $0.001 each
were issued to Keywin accordingly.
Restatements
of Consolidated Financial Statements
On
October 10, 2008, we filed a Current Report on Form 8-K to announce
that our Board of Directors, based upon the consideration of issues addressed in
the SEC review and the recommendation of our Audit Committee, determined that we
should restate our previously issued condensed consolidated financial statements
for quarterly periods ended March 31, 2008 and June 30, 2008 and consolidated
financial statements for the year ended December 31, 2007.
The
restatement adjustments corrected the accounting errors arising from our
misapplication of accounting policies to the discount associated with the
beneficial conversion feature attributed to the issuance of the 3% convertible
promissory notes in 2007 and 2008. We initially amortized the discount according
to EITF Issue No. 98-5, “Accounting for Convertible
Securities with Beneficial Conversion Features or
Contingently Adjustable Conversion Ratio”, which stated that discount
resulting from allocation of proceeds to the beneficial conversion feature
should be recognized as interest expense over the minimum period from the date
of issuance to the date of earliest conversion. As the notes are convertible at
the date of issuance, we fully amortized such discount through interest expense
at the date of issuance accordingly. However, according to Issue 6 of EITF
Issue No. 00-27 “Application of Issue No. 98-5 to Certain
Convertible Instruments”, EITF Issues No. 98-5 should be modified to
require the discount related to the beneficial conversion feature to be accreted
from the date of issuance to the stated redemption date regardless of when the
earliest conversion date occurs using the effective interest method. The
restatement adjustments were to reflect the retrospective application of the
Issue 6 of EITF Issue No. 00-27.
The
aggregate net effect of the restatement was to (1) increase stockholders’ equity
by approximately $15.1 million as of March 31, 2008; (2) decrease both non-cash
interest expense and net loss for the three months ended March 31, 2008 by
approximately $10.4 million. Accordingly, the net loss per common share (basic
and diluted) for the three months ended March 31, 2008 decreased from $0.26 to
$0.12.
Results
of Operations
Comparison
of Three Months Ended March 31, 2009 and March 31, 2008
Revenues – In the
three months ended March 31, 2009, our revenues were derived from sale of
advertising services. Revenues from advertising services for the three months
ended March 31, 2009 were $185,149 as compared to $584,167 for the
corresponding prior year period, a decrease of 68%. The decrease was mainly
attributed to the decrease in the advertising sales orders as a result of the
worldwide financial crisis and deteriorating economic conditions in
China.
Cost of Advertising
Services – Cost of advertising services for the three months
ended March 31, 2009 was $452,259, a decrease of 89% compared to
$3,961,340 for the corresponding prior year period. This significant decrease
was mainly attributable to the decrease in amortization of advertising operating
rights fees. The decrease in the amortization of advertising operating
rights fees resulted from the termination of commercially non-viable concession
right contracts in late 2008 and early 2009 as well as the renegotiation of
certain concession advertising operating right fees to a lower
price.
Selling and Marketing
Expenses – Selling and marketing expenses for the three months
ended March 31, 2009 decreased by 74% to $165,986, compared to $640,318 for the
same period last year, primarily due to a decrease in advertising
services provided by the Company.
General and Administrative Expenses – General
and administrative expenses for the three months ended March 31,
2009 decreased by 47% to $1,467,671, compared to $2,776,267 for the
corresponding prior year period. The decrease in general and administrative
expenses was mainly due to drastic cost cutting measures, including reduction of
the Company’s workforce, rental, and other general and administrative expenses,
since the latter half of 2008. The write-back of allowance for doubtful debts of
$231,985 included in general and administrative expenses also led to the
decrease in general and administrative expenses.
Interest Expense – Interest
expense for the three months ended March 31, 2009 increased to $1,952,346, or by
15%, compared to $1,694,909 for the same period last year. The increase was
primarily due to the issuance of $35,000,000 in 3% Convertible Promissory Notes
on January 31, 2008, which resulted in only two months’ interest expense during
the three-month period ended March 31, 2008, as compared to three months of
interest expense during the 2009 period.
Income Taxes – The
Company derives all of its income in the PRC and is subject to income tax in the
PRC. No income tax was recorded during the three months ended March 31, 2009 and
2008 as the Company and all of its subsidiaries and variable interest entities
operated at a taxable loss during the respective periods.
Net loss from Continuing Operations
– The
Company incurred a net loss from continuing operations of $3,847,469 for the
three months ended March 31, 2009, a decrease of 55% compared to a net loss of
$8,479,404 for the corresponding prior year period. The decrease in net loss was
driven by several factors, including the decrease in the cost of
advertising services, decrease in selling and marketing expenses and decrease in
workforce, rental and other general and administrative expenses as a result of
our cost cutting measures, all as more particularly described
above.
Discontinued
Operations
In 2008,
our Board of Directors determined that it was in the best interests of the
Company to focus on developing its media business and to explore ways of
divesting its travel business. In September 2008, we sold our entire
non-media business division, which included the sale of NCN Management Services
Group (including Tianma) and NCN Landmark Group.
We
treated the sales of entire travel network as discontinued operations.
Accordingly, revenues, costs and expenses of the discontinued operations have
been excluded from the respective captions in the condensed consolidated
statements of operations. Summary operating results for the discontinued
operations for travel network as follows:
|
|
|
Three
Months Ended
|
|
|
|
|
March
31, 2009
(Unaudited)
|
|
|
March
31, 2008
(Unaudited)
|
|
|
Revenues
|
|
$ |
- |
|
|
$ |
8,458,482 |
|
|
Cost
of revenues
|
|
|
- |
|
|
|
(8,301,823 |
) |
|
Gross
profit
|
|
|
- |
|
|
|
156,659 |
|
|
Operating
expenses
|
|
|
- |
|
|
|
(141,225 |
) |
|
Other
income
|
|
|
- |
|
|
|
17,734 |
|
|
Interest
income
|
|
|
- |
|
|
|
1,386 |
|
|
Net
Income from discontinued operations, net of income taxes
|
|
|
- |
|
|
|
34,554 |
|
|
Less:
net income attributable to noncontrolling interests
|
|
|
- |
|
|
|
(16,358 |
) |
|
Income
from discontinued operations, net of income taxes and noncontrolling
interests
|
|
$ |
- |
|
|
$ |
18,196 |
|
Liquidity
and Capital Resources
As of
March 31, 2009, we had cash of $5,558,927, compared to $7,717,131 as of
December 31, 2008, a decrease of $2,158,204. The decrease was mainly
attributable to the cash utilized by operating activities.
Operating
Activities
Net cash
utilized by operating activities for the three months ended March 31, 2009 was
$2,158,479, as compared with $9,073,783 for the corresponding prior year period.
The decrease in net cash used in operating activities was mainly attributable
to the decrease in net loss as a result of our drastic cost-cutting
measures and the decrease in the payments for prepaid expenses and other current
assets.
Investing
Activities
Net cash
used in investing activities for the three months ended March 31, 2009 was
$6,958, compared with $5,256,633 for the corresponding prior year period. The
decrease was mainly attributable to less equipment being purchased and no
acquisitions being completed during the three months ended March 31,
2009. For the three months ended March 31, 2008, the investing activities
consisted primarily of the purchase of equipment related to our media
business and costs associated with the acquisition of Cityhorizon
BVI.
Financing
Activities
Net cash
provided by financing activities was $nil for the three months ended March 31,
2009, compared with $28,900,000 for the same period last
year. For the three months ended March 31, 2008, the financing activities
consisted of the issuance of $35,000,000 in 3% Convertible Promissory Notes,
offset by $5,000,000 paid to redeem the outstanding 12% convertible promissory
note due May 2008.
Capital
Expenditures
During
the three months ended March 31, 2009, we acquired assets of $52,488, which were
financed through proceeds from the issuance of convertible promissory
notes.
Capital
Commitments
Rental
Lease Commitment
The
Company’s existing rental leases do not contain significant restrictive
provisions. The following is a schedule by year of future minimum lease
obligations under non-cancelable rental operating leases as of March 31,
2009:
|
Nine
months ending December 31, 2009
|
|
$ |
210,823 |
|
|
Fiscal
years ending December 31,
|
|
|
|
|
|
2009
|
|
|
210,823 |
|
|
2010
|
|
|
180,277 |
|
|
2011
|
|
|
- |
|
|
2012
|
|
|
- |
|
|
Total
|
|
$ |
391,100 |
|
Annual
Advertising Operating Rights Fee Commitment
Since
November 2006, the Company, through its subsidiaries NCN Media Services Limited,
Quo Advertising, Xuancaiyi, Bona and Botong, has acquired advertising rights
from third parties to operate different types of advertising panels for certain
periods.
The
following table sets forth the estimated future annual commitment of the Company
with respect to the advertising operating rights of 1,242 roadside
advertising panels and 5 mega-size advertising panels that the Company held as
of March 31, 2009:
|
Nine
months ending December 31, 2009
|
|
$ |
1,295,102 |
|
|
Fiscal
years ending December 31,
|
|
|
|
|
|
2009
|
|
|
1,295,102 |
|
|
2010
|
|
|
1,036,127 |
|
|
2011
|
|
|
768,896 |
|
|
2012
|
|
|
485,398 |
|
|
2013
|
|
|
210,293 |
|
|
Thereafter
|
|
|
80,624 |
|
|
Total
|
|
$ |
3,876,440 |
|
Due to
the unexpected unfavorable market conditions described above, cash inflows from
advertising revenues were less than we expected. We will have to raise
additional funds in order to further expand our media network, though we should
be able to satisfy our requirements during the next 12 months if we scale down
our operations. Because we presently have only limited revenue from operations,
we intend to continue to rely primarily on financing through the issuance of
our equity and debt securities to satisfy future capital requirements to
enable us to finance ongoing operations. There can be no assurance that we will
be able to enter into such agreements. Current global financial conditions and
unfavorable conditions in our existing notes described above make securing a
financing difficult to achieve. Failure to raise additional funds would have a
material adverse effect on our financial condition. Furthermore, the issuance of
equity or debt securities which are or may become convertible into equity
securities in connection with such financing could result in substantial
additional dilution to the stockholders.
To
address our cash constraints, our management will continue to strictly control
our operating costs. We will also continue to allocate resources to commercially
viable projects as well as explore new prominent advertising related
projects.
Advertising
Operating Rights Fees
Advertising
operating rights fees are the major cost of our advertising
revenue. To maintain the advertising operating rights, we are required
to pay advertising operating rights fees in accordance with payment terms
set forth in contracts we entered into with various parties. These parties
generally require us to prepay advertising operating rights fees for a period of
time. The details of our advertising operating rights fees as of March 31,
2009 and 2008 were as follows:
|
|
|
Three
Months Ended
|
|
|
|
|
March
31, 2009
(Unaudited)
|
|
|
March
31, 2008
(Unaudited)
|
|
|
Payment
for prepayments for advertising operating rights
|
|
$ |
312,622 |
|
|
$ |
7,377,894 |
|
|
Settlement
of accrued advertising operating rights
|
|
|
700,000 |
|
|
|
- |
|
|
Total
payment
|
|
$ |
1,012,622 |
|
|
$ |
7,377,894 |
|
|
|
|
|
|
|
|
|
|
|
|
Amortization
of prepayments for advertising operating rights
|
|
$ |
229,292 |
|
|
$ |
3,496,248 |
|
|
Accrued
advertising operating rights fee recognized
|
|
|
83,568 |
|
|
|
104,401 |
|
|
Total
advertising operating rights fee recognized
|
|
$ |
312,860 |
|
|
$ |
3,600,649 |
|
|
|
|
As
of
March
31, 2009
|
|
|
As
of
December
31, 2008
|
|
|
Prepayments
for advertising operating rights, net
|
|
$ |
501,442 |
|
|
$ |
418,112 |
|
|
Accrued
advertising operating rights fees
|
|
$ |
116,568 |
|
|
$ |
733,000 |
|
For
future advertising operating rights commitment under non-cancellable advertising
operating right contracts, please refer to the table under the following Section
– “Contractual Obligations and Commercial Commitments”.
We
financed the above payments through the issuance of convertible promissory notes
in the principal amount of $50 million. As we currently generate limited revenue
from our media operation, in addition to the proceeds from the issuance of
convertible promissory notes, we intend to continue to raise funds through the
issuance of equity and debt securities to satisfy future payment requirements.
There can be no assurance that we will be able to enter into such
agreements.
In the
event that advertising operating rights fees cannot be paid in accordance with
the payment terms set forth in our contracts, we may not be able to continue to
operate our advertising panels and our ability to generate revenue will be
adversely affected. As such, failure to raise additional funds would have
significant negative impact on our financial condition.
Contractual
Obligations and Commercial Commitments
The
following table presents certain payments due under contractual obligations with
minimum firm commitments as of March 31, 2009:
|
|
|
Payments
due by period
|
|
|
|
|
Total
|
|
|
Less
than 1 year
|
|
|
1-3
years
|
|
|
3-5
years
|
|
|
More
than 5 years
|
|
|
Long-term
Debt Obligations
|
|
|
50,000,000 |
|
|
|
- |
|
|
|
50,000,000 |
|
|
|
- |
|
|
|
- |
|
|
Operating
Lease Obligations
|
|
|
391,100 |
|
|
|
210,823 |
|
|
|
180,277 |
|
|
|
- |
|
|
|
- |
|
|
Annual
Advertising Operating Rights Fee Obligations
|
|
|
3,876,440 |
|
|
|
1,295,102 |
|
|
|
1,805,023 |
|
|
|
695,691 |
|
|
|
80,624 |
|
|
Purchase
Obligations
|
|
|
18,000 |
|
|
|
18,000 |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
Long-term Debt
Obligations. We issued an aggregate of $50,000,000 in 3% Convertible
Promissory Notes in late 2007 and early 2008 to our investors. Such 3%
Convertible Promissory Notes mature on June 30, 2011. For details, please refer
to the notes to financial statements.
Operating Lease
Obligations. We have entered into various non-cancelable operating lease
agreements for our offices and staff quarter. Such operating leases do not
contain significant restrictive provisions.
Annual
Advertising Operating Rights Fee Obligations. Since November 2006, the
Company, through its subsidiaries, NCN Media Services Limited, Quo Advertising,
Xuancaiyi, Bona and Botong, has acquired rights from third parties to operate
roadside advertising panels and mega-size advertising panels whose lease terms
expiring between 2009 and 2024.
Purchase
Obligations. We are obligated to make payments under non-cancellable
contractual arrangements with our vendors, principally for constructing our
advertising panels.
Critical
Accounting Policies
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires our management to make
assumptions, estimates and judgments that affect the amounts reported, including
the notes thereto, and related disclosures of commitments and contingencies, if
any. We have identified certain accounting policies that are significant to the
preparation of our financial statements. These accounting policies are important
for an understanding of our financial condition and results of operation.
Critical accounting policies are those that are most important to the portrayal
of our financial conditions and results of operations and require management’s
difficult, subjective, or complex judgment, often as a result of the need to
make estimates about the effect of matters that are inherently uncertain and may
change in subsequent periods. Certain accounting estimates are particularly
sensitive because of their significance to financial statements and because of
the possibility that future events affecting the estimate may differ
significantly from management’s current judgments. There have been no material
changes to the critical accounting policies previously disclosed in our Annual
Report on Form 10-K for the fiscal year ended December 31,
2008.
Recent Accounting
Pronouncements
In
September 2006, the FASB issued SFAS No. 157 “Fair Value Measurements”. Effective January 1,
2008, the Company adopted the measurement and disclosure other than those
requirements related to nonfinancial assets and liabilities in accordance with
guidance from FASB Staff Position 157-2 “Effective Date of FASB Statement
No. 157”,
which delayed the effective date of SFAS No. 157 for all nonfinancial
assets and nonfinancial liabilities, except for items that are recognized or
disclosed at fair value in the financial statements on a recurring basis (at
least annually), until the beginning of fiscal year 2009. In April 2009, the
FASB issued Staff Position No. FAS 157-4 “Determining Fair Value When the
Volume and Level of Activity for the Asset or Liability Have Significantly
Decreased and Identifying Transactions That Are Not Orderly” (“FSP FAS
No. 157-4”). FSP FAS No. 157-4
clarifies the methodology used to determine fair value when there is no active
market or where the price inputs being used represent distressed sales. FSP FAS
No. 157-4 also reaffirms the objective of fair value measurement, as stated
in SFAS No. 157 “Fair
Value Measurements”, which is to reflect how much an asset would be sold
for in an orderly transaction. It also reaffirms the need to use judgment to
determine if a formerly active market has become inactive, as well as to
determine fair values when markets have become inactive. FSP FAS No. 157-4
will be applied prospectively and will be effective for interim and annual
reporting periods ending after June 15, 2009. The Company believes the
adoption of SFAS No. 157 for nonfinancial assets and liabilities will not
have a significant effect on its consolidated financial position or results of
operations.
In
December 2007, the FASB issued SFAS No. 141 (Revised) “Business Combinations”
(“SFAS No. 141(R)”), replacing SFAS No. 141 “Business Combinations” (“SFAS No. 141”),
and SFAS No. 160 “Noncontrolling Interests in
Consolidated Financial Statements – an amendment of ARB No. 51”. SFAS No. 141(R)
retains the fundamental requirements of SFAS No. 141, broadens
its scope by applying the acquisition method to all transactions and other
events in which one entity obtains control over one or more other businesses,
and requires, among other things, that assets acquired and liabilities
assumed be measured at fair value as of the acquisition date,
that liabilities related to contingent consideration be recognized
at the acquisition date and re-measured at fair value in each
subsequent reporting period, that acquisition-related costs be expensed as
incurred, and that income be recognized if the fair value of the net
assets acquired exceeds the fair value of the consideration transferred.
SFAS No. 160 improves the relevance, comparability, and
transparency of the financial information that a reporting entity provides in
its consolidated financial statements by establishing accounting and reporting
standards that require; the ownership interests in subsidiaries held by
parties other than the parent and the amount of consolidated net income
attributable to the parent and to the noncontrolling interest be clearly
identified and presented on the face of the consolidated statement of income,
changes in a parent’s ownership interest while the parent retains its
controlling financial interest in its subsidiary be accounted for consistently,
when a subsidiary is deconsolidated, any retained noncontrolling equity
investment in the former subsidiary be initially measured at fair value,
entities provide sufficient disclosures that clearly identify and distinguish
between the interests of the parent and the interests of the noncontrolling
owners. SFAS No. 160 affects those entities that have an outstanding
noncontrolling interest in one or more subsidiaries or that deconsolidate a
subsidiary. SFAS No. 141(R) and SFAS No. 160 are effective for fiscal years, and
interim periods within those fiscal years, beginning on or after December 15,
2008. In April 2009, the FASB issued Staff Position No. FAS 141(R)-1 “Accounting for Assets Acquired and
Liabilities Assumed in a Business Combination that Arise from Contingencies”
(“FSP FAS No. 141(R)-1”). FSP FAS
No. 141(R)-1 applies to all assets acquired and all liabilities assumed in
a business combination that arise from contingencies. FSP FAS No. 141(R)-1
states that the acquirer will recognize such an asset or liability if the
acquisition-date fair value of that asset or liability can be determined during
the measurement period. If it cannot be determined during the measurement
period, then the asset or liability should be recognized at the acquisition date
if the following criteria, consistent with SFAS No. 5 “Accounting for
Contingencies”, are met: (1) information available before the end of
the measurement period indicates that it is probable that an asset existed or
that a liability had been incurred at the acquisition date, and (2) the
amount of the asset or liability can be reasonably estimated. FSP FAS
No. 141(R)-1 will be effective for assets or liabilities arising from
contingencies in business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period beginning on or after
December 15, 2008. The adoption of SFAS No. 141(R) and FSP FAS No. 141(R)-1
did not have a material impact on our financial statements. Beginning January 1,
2009, the Company has applied the provisions of SFAS No. 160 to its accounting
for noncontrolling interests and its financial statement disclosures. The
disclosure provisions of such standard have been applied to all periods
presented in the accompanying condensed consolidated financial
statements.
In March
2008, the FASB issued SFAS No. 161 “Disclosures about Derivative
Instruments and Hedging Activities, an amendment of FASB Statement
No. 133”
(“SFAS No. 161”). This statement is intended to improve transparency in
financial reporting by requiring enhanced disclosures of an entity’s derivative
instruments and hedging activities and their effects on the entity’s financial
position, financial performance, and cash flows. SFAS No. 161 applies to all
derivative instruments within the scope of SFAS 133 “Accounting for Derivative
Instruments and Hedging Activities” (“SFAS No. 133”) as
well as related hedged items, bifurcated derivatives, and nonderivative
instruments that are designated and qualify as hedging instruments. Entities
with instruments subject to SFAS No. 161 must provide more robust qualitative
disclosures and expanded quantitative disclosures. SFAS No. 161 is effective
prospectively for financial statements issued for fiscal years and interim
periods beginning after November 15, 2008, with early application
permitted. The adoption of SFAS No. 161 did not have a material impact on
our financial statements.
In
May 2008, the FASB issued SFAS No. 162 “The Hierarchy of Generally Accepted
Accounting Principles”. SFAS No. 162 identifies
the sources of accounting principles and the framework for selecting the
accounting principles to be used. Any effect of applying the provisions of this
statement will be reported as a change in accounting principle in accordance
with SFAS No. 154 “Accounting Changes and Error
Corrections”.
SFAS No. 162 is effective for fiscal years, and interim periods within those
fiscal years, beginning on or after December 15, 2008. The adoption of SFAS No.
162 did not have a material impact on our financial statements.
In May
2008, the FASB issued SFAS No. 163 “Accounting for Financial Guarantee
Insurance Contracts, an interpretation of FASB Statement No. 60”. The scope of this
Statement is limited to financial guarantee insurance (and reinsurance)
contracts, as described in this Statement, issued by enterprises included within
the scope of Statement 60. Accordingly, this Statement does not apply to
financial guarantee contracts issued by enterprises excluded from the scope of
Statement 60 or to some insurance contracts that seem similar to financial
guarantee insurance contracts issued by insurance enterprises (such as mortgage
guaranty insurance or credit insurance on trade receivables). This Statement
also does not apply to financial guarantee insurance contracts that are
derivative instruments included within the scope of FASB Statement No. 133 “Accounting for Derivative
Instruments and Hedging Activities”. This Statement will not
have any impact on the Company’s consolidated financial statements.
In May
2008, the FASB issued Staff Position No. APB 14-1 “Accounting for Convertible Debt
Instruments that May be Settled in Cash Upon Conversion”. APB 14-1 requires that the
liability and equity components of convertible debt instruments that may be
settled in cash upon conversion (including partial cash settlement) be
separately accounted for in a manner that reflects an issuer’s nonconvertible
debt borrowing rate. The resulting debt discount is amortized over the period
the convertible debt is expected to be outstanding as additional non-cash
interest expense. APB 14-1 is effective for financial statements issued for
fiscal years beginning after December 15, 2008, and interim periods within
those fiscal years. Retrospective application to all periods presented is
required except for instruments that were not outstanding during any of the
periods that will be presented in the annual financial statements for the period
of adoption but were outstanding during an earlier period. The adoption of APB
14-1 did not have a material impact on our financial statements.
In June
2008, the FASB issued EITF Issue No. 07-5 “Determining whether an Instrument
(or Embedded Feature)
is indexed to an Entity’s Own Stock” (“EITF No. 07-5”). This
Issue is effective for financial statements issued for fiscal years beginning
after December 15, 2008, and interim periods within those fiscal years. Early
application is not permitted. Paragraph 11(a) of SFAS No. 133 “Accounting for Derivatives and
Hedging Activities” (“SFAS No. 133”)
specifies that a contract that would otherwise meet the definition of a
derivative but is both (a) indexed to the Company’s own stock and
(b) classified in stockholders’ equity in the statement of financial
position would not be considered a derivative financial instrument. EITF
No. 07-5 provides a new two-step model to be applied in determining whether
a financial instrument or an embedded feature is indexed to an issuer’s own
stock and thus able to qualify for the SFAS No. 133 paragraph 11(a) scope
exception. The adoption of EITF No. 07-5 did not have a material impact on our
financial statements.
In June
2008, the FASB issued EITF Issue No. 08-4 “Transition Guidance for Conforming Changes
to Issue No. 98-5” (“EITF No.
08-4”). The objective of EITF No. 08-4 is to provide transition
guidance for conforming changes made to EITF No. 98-5 “Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratios”, that result from EITF No.
00-27 “Application of Issue No. 98-5 to
Certain Convertible Instruments”, and SFAS No. 150 “Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity”. This Issue is effective
for financial statements issued for fiscal years ending after December 15, 2008.
Early application is permitted. The adoption of EITF No. 08-04 did not have
a material impact on our financial statements.
In
December 2008, the FASB issued Staff Position No. FAS 132(R)-1 “Employers’ Disclosures about
Postretirement Benefit Plan Assets” (“FSP FAS
132(R)-1”). FSP FAS 132(R)-1 requires more detailed disclosures about employers’
plan assets in a defined benefit pension or other postretirement plan, including
employers’ investment strategies, major categories of plan assets,
concentrations of risk within plan assets, and inputs and valuation techniques
used to measure the fair value of plan assets. FSP FAS 132(R)-1 also requires,
for fair value measurements using significant unobservable inputs (Level 3),
disclosure of the effect of the measurements on changes in plan assets for the
period. The disclosures about plan assets required by FSP FAS 132(R)-1 must be
provided for fiscal years ending after December 15, 2009. As this pronouncement
is only disclosure-related, it will not have an impact on the financial position
and results of operations.
In April
2009, the FASB issued Staff Position No. FAS 107-1 and APB No. 28-1 “Interim Disclosures about Fair
Value of Financial Instruments” (“FSP FAS No. 107-1 and APB Opinion
No. 28-1”). FSP FAS No. 107-1 and APB Opinion No. 28-1 requires
fair value disclosures for financial instruments that are not reflected in the
condensed consolidated balance sheets at fair value. Prior to the issuance of
FSP FAS No. 107-1 and APB Opinion No. 28-1, the fair values of those
assets and liabilities were disclosed only once each year. With the issuance of
FSP FAS No. 107-1 and APB Opinion No. 28-1, the Company will now be
required to disclose this information on a quarterly basis, providing
quantitative and qualitative information about fair value estimates for all
financial instruments not measured in the condensed consolidated balance sheets
at fair value. FSP FAS No. 107-1 and APB Opinion No. 28-1 will be
effective for interim reporting periods that end after June 15, 2009. As
this pronouncement is only disclosure-related, it will not have an impact on the
financial position and results of operations.
Off
Balance Sheet Arrangements
We do not
have any off-balance sheet arrangements that have or are reasonably likely to
have a current or future effect on our financial condition, changes in financial
condition, revenues or expenses, results of operations, liquidity, capital
expenditures or capital resources that are material to our
investors.
|
|
QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK.
|
The
follow discussion about our market risk disclosures involves forward-looking
statements. Actual results could differ from those projected in the
forward-looking statements. We are exposed to market risk related to
changes in interest rates and foreign currency exchange rates and inflation
rates. We do not use derivative financial instruments for speculative
or trading purposes.
Interest
Rate Risk
We have
no significant interest-bearing assets and our convertible promissory notes are
fixed rate securities. Our exposure to market risk for changes in interest
rates relates primarily to the interest income generated by our cash deposits in
banks. We have not been exposed, nor do we anticipate being exposed, to
material risks due to changes in interest rates. However, our future
interest income may be different from our expectations due to changes in
interest rates.
Foreign Currency Exchange
Risk
While our
reporting currency is the U.S. dollar, our consolidated revenues and
consolidated costs and expenses are substantially denominated in RMB. As a
result, we are exposed to foreign exchange risk as our revenues and results of
operations may be affected by fluctuations in the exchange rate between U.S.
dollars and RMB. If the RMB depreciates against the U.S. dollar, the value of
our RMB revenues, earnings and assets as expressed in our U.S. dollar financial
statements will decline. If the RMB appreciates against U.S. dollars, any new
RMB-denominated investments or expenditures will be more costly to
us. Assets and liabilities are translated at exchange rates at the balance
sheet dates and revenue and expenses are translated at the average exchange
rates and stockholders’ equity is translated at historical exchange
rates. Any resulting translation adjustments are not included in
determining net income but are included in determining other comprehensive
income, a component of stockholders’ equity. To date, we have not entered into
any hedging transactions in an effort to reduce our exposure to foreign currency
exchange risk.
The value
of the RMB against the U.S. dollar and other currencies is affected by, among
other things, changes in China’s political and economic conditions. Since July
2005, the RMB has not been pegged to the U.S. dollar. Although the People’s Bank
of China regularly intervenes in the foreign exchange market to prevent
significant short-term fluctuations in the exchange rate, the RMB may appreciate
or depreciate significantly in value against the U.S. dollar in the medium to
long term. Moreover, it is possible that in the future, PRC authorities may lift
restrictions on fluctuations in the RMB exchange rate and lessen
intervention in the foreign exchange market.
Inflation
Risk
Inflationary
factors such as increases in the costs to acquire advertising rights and
overhead costs may adversely affect our operating results. Although we do
not believe that inflation has had a material impact on our financial position
or results of operations to date, a high rate of inflation in the future may
have an adverse effect on our ability to maintain current levels of gross margin
and selling, general and administrative expenses as a percentage of revenues if
the selling prices of our services do not increase with these increased
costs.
Evaluation
of Disclosure Controls and Procedures
We
maintain disclosure controls and procedures (as defined in Rule 13a-15(e) under
the Exchange Act) that are designed to ensure that information that would be
required to be disclosed in Exchange Act reports is recorded, processed,
summarized and reported within the time period specified in the SEC’s rules and
forms, and that such information is accumulated and communicated to our
management, including to our Chief Executive Officer and Chief Financial
Officer, as appropriate, to allow timely decisions regarding required
disclosure.
As
required by Rule 13a-15 under the Exchange Act, our management, including Mr.
Godfrey Hui, our Chief Executive Officer and Mr. Daley Mok, our Chief Financial
Officer, evaluated the effectiveness of the design and operation of our
disclosure controls and procedures as of March 31, 2009. Based on that
evaluation, Mr. Hui and Mr. Mok concluded that as of March 31, 2009, and as of
the date that the evaluation of the effectiveness of our disclosure controls and
procedures was completed, our disclosure controls and procedures were effective
to satisfy the objectives for which they are intended.
Changes
in Internal Control Over Financial Reporting
We regularly
review our system of internal control over financial reporting and make changes
to our processes and systems to improve controls and increase efficiency, while
ensuring that we maintain an effective internal control
environment. Changes may include such activities as implementing new, more
efficient systems, consolidating activities, and migrating
processes.
During
the fiscal quarter ended March 31, 2009, there were no changes in our internal
control over financial reporting that has materially affected, or is reasonably
likely to materially affect, our internal control over financial
reporting.
PART
II
OTHER
INFORMATION
On March
20, 2008, our wholly-owned subsidiary, NCN Huamin, entered into a rental
agreement with Beijing Chengtian Zhihong TV & Film Production Co., Ltd., or
Chengtian, pursuant to which a certain office premises located in Beijing was
leased from Chengtian to NCN Huamin for a term of three years, commencing April
1, 2008. On December 30, 2008, NCN Huamin issued a notice to Chengtian to
terminate the rental agreement effective on December 31, 2008 due to the fact
that Chengtian had breached several provisions of the rental agreement and
refused to take any remedial actions. On January 14, 2009, NCN Huamin received a
notice from Beijing Arbitration Commission that Chengtian, as plaintiff, had
initiated a lawsuit against NCN Huamin seeking an aggregate of approximately
$505,000 for unpaid rental-related expenses, plus accrued interest, as well as
compensation for unilateral termination of the rental contract. On February 25,
2009, NCN Huamin counter-claimed for breach of rental contract against
Chengtian, seeking an aggregate of approximately $155,000 from Chengtian for
overpayment of rental expenses and compensation for Chengtian’s breach of
contract. At present, the outcome of this lawsuit cannot be reasonably
predicted. We do not believe that the outcome of this pending litigation will
have a material impact on our consolidated financial statements, or our results
of operations.
Other
than as described above, there are no material legal proceedings to which we are
a party, or to which any of our property is subject, that we expect to have a
material adverse effect on our financial condition.
There are
no material changes from the risk factors previously disclosed in Part I, Item
1A. “Risk Factors” of our Annual Report on Form 10-K for the year ended December
31, 2008, filed with the SEC on March 27, 2009.
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UNREGISTERED
SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS.
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None.
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DEFAULTS
UPON SENIOR SECURITIES.
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None.
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SUBMISSION
OF MATTERS TO A VOTE OF SECURITY
HOLDERS.
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No
matters were submitted during the first quarter of 2009 to a vote of security
holders, through the solicitation of proxies or otherwise.
None.
The
following exhibits are filed as part of this report or incorporated by
reference:
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Exhibit
No.
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Description
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31.1
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Certifications
of Principal Executive Officer filed pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
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31.2
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Certifications
of Principal Financial Officer filed pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
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| |
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32.1
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Certifications
of Principal Executive Officer furnished pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
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32.2
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Certifications
of Principal Financial Officer furnished pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
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SIGNATURES
Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
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Date:
May 6,
2009
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NETWORK
CN INC.
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By:
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/s/
Godfrey Hui
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Godfrey
Hui, Chief Executive Officer
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(Principal Executive
Officer)
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By:
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/s/ Daley
Mok
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Daley
Mok, Chief Financial Officer
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(Principal Financial Officer
and Principal
Accounting
Officer)
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