| | | For the three months ended | |
| | | June 30, 2010 | | | | June 30, 2010 | |
| Net Income | | | | | | | |
| (numerator for basic income per share) | | $ | 434,768 | | | | $ | 357,462 | |
| Plus interest on convertible note | | | 697,811 | | | | | - | |
| Net Income - assumed conversions | | | | | | | | | |
| (numerator for diluted income per share) | | $ | 1,132,579 | | | | $ | 357,462 | |
| | | | | | | | | | |
| | | | | | | | | | |
| Weighted average common shares | | | | | | | | | |
| (denominator for basic income per share) | | | 15,235,714 | | | | | 14,510,204 | |
| | | | | | | | | | |
| Effect of Dilutive Securities: | | | | | | | | | |
| Warrants - treasury stock method | | | - | | | | | - | |
| Convertible note as if-converted method | | | 1,689,796 | | | | | - | |
| Weighted average common shares | | | | | | | | | |
| (denominator for diluted income per share) | | | 16,925,510 | | | | | 14,510,204 | |
| | | | | | | | | | |
| Basic net income per share | | $ | 0.03 | | | | $ | 0.02 | |
| Diluted net income per share | | $ | 0.07 | | Antidilutive | | $ | 0.02 | |
| | | For the nine months ended | |
| | | June 30, 2010 | | | | June 30, 2010 | |
| Net Income | | | | | | | |
| (numerator for basic income per share) | | $ | 2,324,448 | | | | $ | 1,089,208 | |
| Plus interest on convertible note | | | 1,114,535 | | | | | - | |
| Net Income - assumed conversions | | | | | | | | | |
| (numerator for diluted income per share) | | $ | 3,438,983 | | | | $ | 1,089,208 | |
| | | | | | | | | | |
| | | | | | | | | | |
| Weighted average common shares | | | | | | | | | |
| (denominator for basic income per share) | | | 14,879,603 | | | | | 14,510,204 | |
| | | | | | | | | | |
| Effect of Dilutive Securities: | | | | | | | | | |
| Warrants - treasury stock method | | | - | | | | | - | |
| Convertible note as if-converted method | | | 860,372 | | | | | - | |
| Weighted average common shares | | | | | | | | | |
| (denominator for diluted income per share) | | | 15,739,975 | | | | | 14,510,204 | |
| | | | | | | | | | |
| Basic net income per share | | $ | 0.16 | | | | $ | 0.08 | |
| Diluted net income per share | | $ | 0.22 | | Antidilutive | | $ | 0.08 | |
| | | Three Months ended | | | Three Months ended | |
| | | | | | | |
| | | Restated March 31, 2010 | | | March 31, 2009 | |
| Numerator for basic and diluted EPS | | | | | | |
| - Net income from continuing operations | | | 444,332 | | | | 489,207 | |
| Denominator for basic and diluted EPS | | | | | | | | |
| Weighted average shares of common stock outstanding shares – basic | | | 14,897,143 | | | | 14,510,204 | |
| Weighted average shares of common stock outstanding shares – diluted | | | 15,798,367 | | | | 14,510,204 | |
| EPS– basic and diluted | | | 0.03 | | | | 0.03 | |
| | | | | | | | | |
| | | Restated Six Months ended March 31, 2010 | | | Six Months ended March 31, 2009 | |
| Numerator for basic and diluted EPS | | | | | | | | |
| - Net income from continuing operations | | | 1,739,680 | | | | 731,746 | |
| Denominator for basic and diluted EPS | | | | | | | | |
| Weighted average shares of common stock outstanding shares – basic | | | 14,701,547 | | | | 14,510,204 | |
| Weighted average shares of common stock outstanding shares – diluted | | | 15,147,208 | | | | 14,510,204 | |
| EPS– basic and diluted | | | 0.12 | | | | 0.05 | |
China SLP Filtration Technology, Inc.
Notes to Consolidated Financial Statements for the six months ended March 31, 2010
(Unaudited - - Expressed in US dollars)
| 15.16. | Accounting for Warrants |
The warrants issued in conjunction with the convertible notes have the following material terms:
The warrants are exercisable at any time during a five-year period commencing on the closing of a “financing,” which means the first sale (or series of related sales) by us of stock (or debt or equity securities convertible into stock), in a capital raising transaction, occurring after the maturity date (or the date the notes become due pursuant to a default, if earlier) with aggregate gross proceeds of at least $2,000,000. The warrants can notcannot be exercised if no financing is consummated within five-year period after the issue date and become void if the notes automatically convert into common stock.
Number of Shares: The warrants represent the right to purchase 8% of the total shares of common stock outstanding (on a fully-diluted basis) immediately after the closing of the financing.
Exercise Price: The warrants are exercisable at the price for which the shares of common stock (or common stock equivalent if derivative securities are sold) are sold in the financing. If the financing includes more than one type of security, the exercise price shall equal the lowest price per share of common stock or common stock equivalent included in the financing.
The Company analyzed the warrants and the conversion features in the notes to assess whether they meet the definition of a derivative under the guidance set forth by ASC Topic 815 (SFAS 133, “Accounting for Derivative Instruments and Hedging Activities”) and, thereof, the applicability of the accounting rules in accordance to ASC Topic 815 to treat the warrants as derivative liabilities. Management also evaluated whether the warrants meet the scope exception set forth by ASC Topic 815-40 (“Determining Whether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock”), which is that contracts issued or held by the reporting entity that are both (1) indexed to its own stock and (2) classified in stockholders’ equity shall not be considered to be derivative instruments for purposes of ASC Topic 815. The provisions in ASC Topic 815-40 apply to any freestanding financial instruments or embedded features that have the characteristics of a derivative, as defined by ASC Topic 815 and to any freestanding financial instruments that are potentially settled in an entity’s own common stock.
Management concluded that the warrants issued in conjunction with the private placement of convertible notes in February 2010 to certain accredited investors should be treated as a derivative liability. Derivative instruments areliability and the derivative accounting rules under ASC Topic 815-40 were adopted to record the warrants. Fair market value of the warrants were measured using the Black-Scholes pricing model at the issuance date and recorded at fair value and marked-to-market each period until they are exercised or expire, with any changeas warrants liabilities. Change in the fair value chargedof the warrants is recorded in other income or creditedloss in the statement of operations in the future reporting periods. Change in warrant value from February 2010 to income each period.March 31, 2010 were not material.
As a result of adopting accounting treatment of ASC Topic 815-40,warrants are $1,052,000 was recorded as derivativewarrants liabilities and valued at $1,052,000 based on 1,218,857 shares using the Black-Scholes pricing model on the date of issuance and as of March 31, 2010. Because there was no trade market for the Company’s stock, management used substitute volatility in the initial and subsequent measuring of the fair market value ofentitled under the warrants issued. Management re-measured the fair market value based on the adjusted volatility of publicly traded stock of a company with similar business and the remaining term of the warrants. As of June 30, 2010, these warrants were valued at$690,000. The valuation inputs areas provided in the table as follows.
| February 2010 Financing Warrants - Valuation Inputs | |
| | February 12 and March 31, | |
| Attribute | | 2010 | |
| Stock Price | | $ | 2.45 | |
| Risk Free Interest Rate | | | 2.25 | % |
| Volatility | | | 90.00 | % |
| Exercise Price | | $ | 2.45 | |
| Dividend Yield | | | 0 | % |
| Contractual Life (Years) | | | 1 | |
| | | At date of issuance | | | As of | |
| Attribute | | February 12, 2010 | | | June 30, 2010 | |
| | | | | | | |
| Warrants outstanding | | | 1,218,857 | (*) | | | 1,218,857 | (*) |
| Exercise Price | | $ | 2.45 | | | $ | 2.45 | |
| Risk Free Interst Rate | | | 2.25 | % | | | 0.32 | % |
| Volatility | | | 90 | % | | | 70 | % |
| Dividend Yield | | | 0 | % | | | 0 | % |
| Contractual Life (years) | | | 1 | | | | 0.7 | |
(*) Warrants outstanding is based on 8% of the total outstanding common shares
Notes to Consolidated Financial Statements for the six months ended March 31, 2010
(Unaudited - - Expressed in US dollars)
| 17. | 16. | Income TaxesRecent accounting pronouncements |
USA
The Company and its subsidiary and branch divisions are subjectIn June 2009 the FASB established the Accounting Standards Codification (“Codification” or “ASC”) as the source of authoritative accounting principles recognized by the FASB to income taxes on an entity basis on income arisingbe applied by nongovernmental entities in or derived, from the tax jurisdictionpreparation of financial statements in which they operate. As the Company had no income generatedaccordance with generally accepted accounting principles in the United States there(“GAAP”). Rules and interpretive releases of the Securities and Exchange Commission (“SEC”) issued under authority of federal securities laws are also sources of GAAP for SEC registrants. Existing GAAP was not intended to be changed as a result of the Codification, and accordingly the change did not impact our financial statements. The ASC does change the way the guidance is organized and presented.
Statement of Financial Accounting Standards (“SFAS”) SFAS No. 165 (ASC Topic 855), “Subsequent Events”, SFAS No. 166 (ASC Topic 810), “Accounting for Transfers of Financial Assets – an Amendment of FASB Statement No. 140”, SFAS No. 167 (ASC Topic 810), “Amendments to FASB Interpretation No. 46(R)”, and SFAS No. 168 (ASC Topic 105), “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles – a replacement of FASB Statement No. 162” were recently issued. SFAS No. 165, 166, 167, and 168 have no tax expense or tax liability duecurrent applicability to the InternalCompany or their effect on the financial statements would not have been significant.
Accounting Standards Update (“ASU”) ASU No. 2009-05 (ASC Topic 820), which amends Fair Value Measurements and Disclosures – Overall, ASU No. 2009-13 (ASC Topic 605), Multiple Deliverable Revenue Service of the United States as of June 30, 2010Arrangements, ASU No. 2009-14 (ASC Topic 985), Certain Revenue Arrangements that include Software Elements, and September 30, 2009.
BVI
Hong Hui is incorporated under the International Business Companies Act of the British Virgin Islands and accordingly, is exempted from payment of British Virgin Island’s income taxes.
PRC
PursuantVarious other ASU’s No. 2009-2 through ASU No. 2010-19 which contain technical corrections to existing guidance or affect guidance to specialized industries or entities were recently issued. These updates have no current applicability to the PRC Income Tax Laws, the prevailing statutory rate of enterprise income tax is 25% for Foshan. For 2008 and 2009 Foshan enjoys tax free holiday for two years. From January 2010 onwards, Foshan is taxed at 25% of net income except for the 2010 and 2011years where there is 50% discount on income tax.
The current year tax provision was $6,328 and $6,328 for the three and nine months ended June 30, 2010, respectively. The Company has recorded zero deferred tax assets or liabilities as of June 30, 2010 and September 30, 2009 net of tax allowance because all other significant difference in tax basis and financial statement amounts are permanent differences.
| | | For the three months ended | | | For the nine months ended | |
| | | June 30, | | | June 30, | |
| | | 2010 | | | 2009 | | | 2010 | | | 2009 | |
| | | | | | | | | | | | | |
| Income Tax Expense: | | | | | | | | | | | | |
| | | | | | | | | | | | | |
| Current tax | | $ | 6,328 | | | $ | 0 | | | $ | 6,328 | | | $ | 0 | |
| Change in deferred tax assets – Net operating loss | | | 46,911 | | | | 76,959 | | | | 285,019 | | | | 199,513 | |
| | | | | | | | | | | | | | | | | |
| Change in valuation allowance | | | (46,911 | ) | | | (76,959 | ) | | | (285,019 | ) | | | (199,513 | ) |
| | | | | | | | | | | | | | | | | |
| Total | | $ | 6,328 | | | $ | 0 | | | $ | 6,328 | | | $ | 0 | |
We follow the guidance in FASB ASC 740 Accounting for Uncertainty in Income Taxes. We have not taken any uncertain tax positions on any of our open income tax returns filed through the period ended June 30, 2010. Our methods of accounting are based on established income tax principles and are properly calculated and reflected within our income tax returns. In addition, we have timely filed extension of income tax returns in all applicable jurisdictions in which we believe we are required to make an income tax return filing.
We re-assess the validity of our conclusions regarding uncertain tax positions on a quarterly basis to determine if facts or circumstances have arisen that might cause us to change our judgment regarding the likelihood of a tax position’s sustainability under audit. We have determined that there were no uncertain tax positions for the nine months ended June 30, 2010 and 2009.
All of the Company’s income before income taxes is from PRC sources. Actual income tax expense reported in the consolidated statements of operations and comprehensive income differ from the amounts computed by applying the PRC statutory income tax rate of 12.5% (50% discount of 25%) to income before income taxes for the three and nine months ended June 30, 2010 for the followings reasons:
| | | For the three months ended | | | For the nine months ended | |
| | | June 30, | | | June 30, | |
| | | 2010 | | | 2009 | | | 2010 | | | 2009 | |
| | | | | | | | | | | | | |
| | | | | | | | | | | | | |
| Income before income taxes | | $ | 441,096 | | | $ | 357,462 | | | $ | 2,330,776 | | | $ | 1,089,208 | |
| | | | | | | | | | | | | | | | | |
| Computed “expected” income tax expense at 12.5% and zero in 2010 and 2009 | | $ | 142,363 | | | $ | - | | | $ | 430,664 | | | $ | - | |
| Tax effect of net taxable permanent differences | | | (89,124 | ) | | | - | | | | (139,317 | ) | | | - | |
| | | | | | | | | | | | | | | | | |
| Effect of cumulative tax losses | | | (46,911 | ) | | | - | | | | (285,019 | ) | | | - | |
| | | | | | | | | | | | | | | | | |
| | | | | | | | | | | | | | | | | |
| | | $ | 6,328 | | | $ | - | | | $ | 6,328 | | | $ | - | |
Our policy for recording interest and penalties associated with audits is to record such items as a component of income tax expense. There were no interest and penalties recorded for the nine months ended June 30, 2010 and 2009.
17. Recent Accounting Pronouncements
Fair Value Measurements
In January 2010, the FASB issued guidance to amend the disclosure requirements related to recurring and nonrecurring fair value measurements. The guidance requires disclosure of transfers of assets and liabilities between Level 1 and Level 2 of the fair value measurement hierarchy, including the reasons and the timing of the transfers and information on purchases, sales, issuance, and settlements on a gross basis in the reconciliation of the assets and liabilities measured under Level 3 of the fair value measurement hierarchy. The guidance is effective for annual and interim reporting periods beginning after December 15, 2009, except for Level 3 reconciliation disclosures which are effective for annual and interim periods beginning after December 15, 2010. The Company adopted this guidance at January 1, 2010, except for the Level 3 reconciliation disclosurestheir effect on the rollforward activities, which it will adopt at the beginning of January 1, 2011. Adoption didfinancial statements would not have a material impact on our consolidated financial statements.
Receivables
In April 2010, the FASB issued ASU 2010-18, Receivables (Topic 310), Effect of a Loan Modification When the Loan is Part of A Pool That Is Accounted for as a Single Asset. ASU 2010-18 provides that modifications of loans that are accounted for within a pool under Subtopic 310-30 do not result in the removal of those loans from the pool even if the modification of those loans would otherwise be considered a troubled debt restructuring. An entity will continue to be required to consider whether the pool of assets in which the loans are included is impaired if expected cash flows for the pool change. This guidance is effective prospectively for the first interim and annual period ending on or after July 15, 2010. Early adoption is permitted. The Company adopted this guidance without a material impact on its consolidated financial statements.been significant.
Management does not believe that any other recently issued, but not yet effective accounting pronouncements, if adopted, would have a material effect on the accompanying financial statements.
18. Restatements of Previously Issued Financial Statements
Subsequent to the issuance of our consolidated financial statements for the three and six months ended March 31, 2010, included in our Quarterly Report on Form 10-Q for the period ended March 31, 2010, filed with the United States Securities and Exchange Commission on May 24, 2010, as amended on May 26, 2010, and in connection with the SEC’s review of our registration statement on Form S-1 (File No. 333-168028), originally filed on July 8, 2010, as amended on September 7, 2010 and October 15, 2010, it was identified that we failed to record a liability of $75,000 owed to each of United Best and Primary Capital (totaling $150,000) for advisory services rendered in connection with our private placement of convertible notes which closed on February 12, 2010. We have revised the previously issued consolidated financial statements to include the liability in our consolidated balance sheet, consolidated statements of operations, and consolidated statements of cash flows for the periods affected. The following tables highlight changes to specific accounts affected:
| | | As reported | | | As restated | |
| | | March 31, 2010 | | | March 31, 2010 | |
| | | | | | | |
| Accounts payable and accrued liabilities | | $ | 371,247 | | | $ | 521,247 | |
| Total Current Liabilities | | $ | 7,248,935 | | | $ | 7,398,935 | |
| Retained earnings | | $ | 6,390,212 | | | $ | 6,240,212 | |
| Total Stockholders’ equity | | $ | 16,131,432 | | | $ | 15,981,432 | |
A restatement of the consolidated statements of operations and comprehensive income affected the three month and six month periods ended March 31, 2010 in general and administrative expenses as follows:
| | | Three months ended | | | Six months ended | |
| | | March 31, 2010 | | | March 31, 2010 | |
| | | As reported | | | As restated | | | As reported | | | As restated | |
| | | | | | | | | | | | | |
| Selling, General and Administrative Expenses | | $ | 407,461 | | | $ | 557,461 | | | $ | 662,138 | | | $ | 812,138 | |
| Income from Operations | | $ | 983,899 | | | $ | 833,899 | | | $ | 2,041,054 | | | $ | 2,191,054 | |
| Income before Income Taxes | | $ | 594,332 | | | $ | 444,332 | | | $ | 1,889,680 | | | $ | 1,739,680 | |
| Net Income | | $ | 594,332 | | | $ | 444,332 | | | $ | 1,889,680 | | | $ | 1,739,680 | |
| Comprehensive income | | $ | 570,393 | | | $ | 420,393 | | | $ | 1,864,435 | | | $ | 1,714,435 | |
| Earnings per share – basic and diluted | | $ | 0.03 | | | $ | 0.02 | | | $ | 0.13 | | | $ | 0.12 | |
Statements of Cash Flows for the six months ended March 31, 2010 are restated under net income and accounts payable and accrued liabilities as follows:
| | | As reported | | | As restated | |
| | | March 31, 2010 | | | March 31, 2010 | |
| | | | | | | |
| Net income | | $ | 1,889,680 | | | $ | 1,739,680 | |
| Accounts payable and accrued liabilities | | $ | (38,281 | ) | | $ | 111,719 | |
The net cash provided by the operating activities, the net cash used in investing activities, and the net cash provided by financing activities are not affected by the restatements.
| ITEM 2. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. |
Special Note Regarding Forward-Looking Statements
This Quarterly Reportreport contains some forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. Forward-looking statements give our current expectations or forecasts of future events. Forward-looking statements involve risks and uncertainties. You can identify these statements by the fact that they do not relate strictly to historical or current facts. In some cases they are identifiable by use of the words “may,” “will,” “should,” “anticipate,” “estimate,” “plan,” “potential,” “projects,” “continuing,” “ongoing,” “expects,” “management believes,” “we believe,” “we intend” or the negative of these words or other variations on Form 10-Q, including the followingthese words or comparable terminology. These statements may be found under “Management’s Discussion and Analysis of Financial Condition and Results of Operations,Operations.” containsIn particular, these include statements relating to future actions, future performance, sales efforts, expenses, the outcome of contingencies such as legal proceedings, and financial results.
Any or all of our forward-looking statements that are basedin this report may turn out to be inaccurate. They can be affected by inaccurate assumptions we might make or by known or unknown risks or uncertainties. Consequently, no forward-looking statement can be guaranteed. Actual future results may vary materially as a result of various factors, including, without limitation, the risks outlined under "Risk Factors" in our registration statement of Form S-1 (File No. 333-168028), originally filed on the beliefsJuly 8, 2010, as amended on September 7, 2010 and October 15, 2010 (the “S-1”). In light of our management, and involvethese risks and uncertainties, as well as assumptions,there can be no assurance that if they ever materialize or prove incorrect, could cause actual results to differ materially from those expressed or implied by such 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 deemedthe forward-looking statements including statements regarding new and existing products, technologies and opportunities; statements regarding market and industry segment growth and demand and acceptance of new and existing products; any projections of sales, earnings, revenue, margins or other financial items; any statements of the plans, strategies and objectives of management for future operations; any statements regarding future economic conditions or performance; uncertainties related to conducting business in China; any statements of belief or intention; any of the factors and risks mentioned in the “Risk Factors” sections of our Current Report on Form 8-K filed with the Securities and Exchange Commission on February 12, 2010, and any statements of assumptions underlying any of the foregoing. All forward-looking statements includedcontained in this report are basedfiling will in fact occur and you should not place undue reliance on information available to us on the date of this report. We assume no obligation and do not intend to update these forward-looking statements, except as required by law.statements.
Introduction
This section discusses and analyzes the results of operations and financial condition of China SLP Filtration Technology, Inc., formerly known as Perpetual Technologies, Inc., (“we,” “us,” or the “Company”) which is the ultimate parent company of Foshan S.L.P. Special Materials Co., Ltd. (“Foshan”), a China-based operating company located in Foshan, Guangdong Province in the People’s Republic of China.
On February 12, 2010, we acquired control of Foshan in a share exchange transaction which closed on that date.
In the share exchange or “reverse merger” we acquired control of Hong Hui Holdings Limited (“Hong Hui”), a British Virgin Islands company and the owner of all of the stock of Technic International Limited (“Technic”), a Hong Kong holding company which in turn is the owner of all of the equity of Foshan, by issuing to the Hong Hui stockholders an aggregate of 14,510,204 shares of our common stock in exchange for all of the outstanding capital stock of Hong Hui.
The transaction is accounted for as a reverse acquisition, except that no goodwill or other intangible has been recorded. The recapitalization is considered to be a capital transaction in substance, rather than a business combination. Beginning from February 12, 2010 the operating results of Foshan are consolidated in the Company’s financial results for that period.
Foshan is engaged in the manufacture, sale, and research and development of advanced spun-bond PET, or polyester, non-wovens.
Non-woven fabrics are broadly defined as sheet or web structures bonded together by entangling fiber or filaments (and by perforating films) mechanically, thermally or chemically. They are flat, porous sheets that are made directly from separate fibers or from molten plastic or plastic film. They are not made by weaving or knitting and do not require converting the fibers to yarn.
Our major market is the Chinese market. We sell products to industrial customers in China. In recent years, our products have been successfully launched in the European, North American and South East Asian markets.
Currently, our major products are spun-bond, thermal calendaring and needle-punched industrial non-woven PET (polyester) and PP (polypropylene) fabrics. These products are used as filtration media and infrastructure engineering material, among other uses.
We currently operate three spun-bond production lines. Two lines are spun-bond, thermal calendaring production lines with a total annual capacity of 4,000 tons of spun-bond polyester filament thermal calendaring non-woven. In February 2009, we added the third line, spun-bond needle-punching production line with an annual capacity of 4,000 tons of spun-bond polyester filament, needle-punched non-woven fabric.
We recently developed a continuous filament, spun-bond, needle-punched manufacturing process to manufacture polyphenylene sulfide fiber, or PPS, a specialized type of high temperature resistant non-woven fabric and intend to begin commercial production of PPS using our proprietary manufacturing process in 2010. We have applied for a process patent in the PRC for this process (Patent No. PRC: 201010102660.2) and we intend to apply for a process patent in North America and Europe. In comparison to other filtering materials currently available, we believe that our non-woven fabric will be stronger, have lower production and operating costs, and will have higher filtration efficiency. We have tested our PPS material non-woven fabric internally and, although a prototype using our material has not yet been deployed by any industrial end user, we believe that our material has the potential to replace the filtration materials and products currently available and become the most popular filtration material in high temperature environments such as coal-fired power plants, garbage incinerators and cement factories.
On March 24, 2010 the Company effected a 1 for 5 reverse stock split of its outstanding common stock. The effect of the reverse split is retrospectively showed in all periods presented.
On February 12, 2010, immediately followingOverview
This section discusses and analyses our results of operations and financial condition, including the reverse merger,results and condition of our operating company, Foshan, which have been consolidated with our own results for all periods presented. This discussion is intended to help you understand our financial results and the Company entered into a note purchase agreement with certain accredited investors for the sale of convertible notescurrent facts and trends that may cause them to change, so that you may make informed judgments about our likely financial results in the aggregate principal amount of $4,140,000future and, warrants (which are exercisable only in certain circumstances), with net proceeds of $3.4 million after finance costs. The notes require quarterly interest payments at a rate of 10% per annum.insofar as those results may affect our stock price and informed investment decisions.
General
We are a PRC based manufacturer of nonwoven fabrics. We currently manufacture two types of PET nonwoven fabrics which are used in a wide range of products, including filtration products, road construction materials, home furnishings, automobile interior insulation and industrial packaging.
Our current PET products are sold primarily to PRC-based manufacturers which use our products as raw material components for end-products they sell to their customers. We recently developed a manufacturing process to manufacture polyphenylene-sulfide fiber, or PPS nonwoven fabric, which is the key product line around which our long-term growth strategy is centered.
Based on lab tests which we conducted internally we believe that our PPS nonwoven fabric is superior to other currently available high temperature filtration material because it is lighter, thicker, stronger, has higher air permeability and filtration efficiency and significantly cheaper to produce. Due to the superior characteristics of our PPS product coupled with the demand created by these new regulations, we believe that our PPS material will become a market leader for high temperature filtration applications. We expect to sell our PPS nonwoven products to operators of coal fired power plants, garbage incinerators and other heavy industrial plants.
We intend to continue to manufacture PET nonwovens but we expect that the sales of our PPS nonwoven fabrics will ultimately eclipse the sales of our existing PET nonwoven products and become our main product offering.
Our manufacturing facility, which is located in Foshan City, Guangdong Province, PRC, currently has three production lines for this discussionPET nonwovens with annual product capacity of 8,000 tons. We plan to providebegin commercial production of our PPS nonwoven fabric in the readerlatter part of 2010 with information thatthe addition of three high tech production lines with annual production capacity of 3,600 tons, which will assist in understandingbring our financial statements, the changes in certain key items in those financial statements from yeartotal overall production capacity to year, and the primary factors that accounted for those changes, as well as how certain accounting principles affect our financial statements. This discussion should be read in conjunction with our audited financial statements and accompanying notes as of September 30, 2009, and for the year then ended and the unaudited condensed consolidated interim financial statements for the nine months ended June 30, 2010.11,600 tons per year.
Three MonthsMonth Period Ended June 30,March 31, 2010 Comparedcompared to Three MonthsMonth Period Ended June 30,March 31, 2009
The following table shows, for the periods indicated, information derived from our consolidated statements of income in US dollars and as a percentage of net sales (percentages may not add due to rounding). See the financial statements of the Company and the related notes thereto and other financial information included elsewhere in this report.
| | | Three Months Ended June 30 | | | Three months ended March 31 | |
| | | 2010 | | | 2009 | | | 2010 (unaudited) | | 2009 (unaudited) | |
| | | Amount | | | % | | | Amount | | | % | | | Amount | | % | | Amount | | % | |
| Sales | | $ | 5,072,791 | | | | 100 | % | | $ | 2,482,212 | | | | 100 | % | | $ | 4,628,671 | | | | 100 | % | | | 2,214,940 | | | | 100 | % |
| Cost of Sales | | | 3,537,571 | | | | 70 | % | | | 1,779,328 | | | | 72 | % | | | 3,237,311 | | | | 70 | % | | | 1,373,921 | | | | 62 | % |
| Gross Profit | | | 1,535,220 | | | | 30 | % | | | 702,884 | | | | 28 | % | | | 1,391,360 | | | | 30 | % | | | 841,019 | | | | 38 | % |
| Selling, General and Administrative Expense | | | 701,436 | | | | 14 | % | | | 266,101 | | | | 11 | % | |
| SG&A expense | | | | 557,461 | | | | 12 | % | | | 275,526 | | | | 12 | % |
| Operating Income | | | 833,784 | | | | 16 | % | | | 436,783 | | | | 18 | % | | | 833,899 | | | | 18 | % | | | 565,493 | | | | 26 | % |
| Interest Income | | | 10,106 | | | | 0.2 | % | | | 2,104 | | | | 0 | % | | | 292 | | | | 0 | % | | | - | | | | 0 | % |
| Interest Expense | | | (764,794 | ) | | | 15 | % | | | (65,162 | ) | | | 3 | % | |
| Loss on disposition of fixed assets | | | - | | | | | | | | (16,263 | ) | | | 1 | % | |
| Changes in Fair Value of Warrants | | | 362,000 | | | | 7 | % | | | - | | | | 0 | % | |
| Interest Expenses | | | | (390,355 | ) | | | 8 | % | | | (76,286 | ) | | | 3 | % |
| Gain on disposal of fixed assets | | | | 496 | | | | 0 | % | | | 0 | | | | 0 | % |
| Net Income before taxes | | | 441,096 | | | | 9 | % | | | 357,462 | | | | 14 | % | | | 444,332 | | | | 10 | % | | | 489,207 | | | | 22 | % |
| Income tax provision | | | 6,328 | | | | | | | | - | | | | | | |
| Net Income | | $ | 434,768 | | | | 9 | % | | $ | 357,462 | | | | 14 | % | | | 444,332 | | | | 10 | % | | | 489,207 | | | | 22 | % |
Net Sales
Net sales revenue consisted of revenue from sales of needle punched non-wovennon woven fabric and thermal calendared products. Our net sales for three month period ended June 30,March 31, 2010 were $5,072,791,$4,628,671, an increase of $2,590,579,$2,413,731, or 104%109%, from $2,482,212$2,214,940 for the same period of the prior year. In February 2010, we installedThe increase in net sales was largely attributable to higher sales volume after a new production line used to manufacture needle punched non-wovenneedle-punched nonwoven fabric and start sales of the new products.was installed in February 2009. Sales of needle-punched products for the three month period ended June 30,March31, 2010 were $2,054,318$1,942,811 compared to $518,752$220,718 for the same period of the prior year. In addition, sales of thermal calendared materials for the three month period ended June 30,March 31, 2010 were $3,018,473, an$2,308,801, as increase of $1,062,855$569,189 compared to $1,955,618$1,739,612 for the same period of the prior year.
Cost of sales principally consists of the cost of raw materials, labor, and manufacturing overhead expenses.
CostOur cost of salesgoods sold for the three month period ended June 30,March 31, 2010 was $3,537,571,$3,237,311, an increase of $1,758,243,$1,863,390, or 99%136%, from $1,779,328$1,373,921 for the same period in 2009. The primary reason for the increase in cost of sales was an increase in our raw materials costs, which we believe was in line with our increased sales volume. 98.7% of our raw material costs consist of polyester, the cost of which increased with the price of oil.
RawOur raw material cost as a percentage of net sales increased to 56%52% of the sales for the three month period ended June 30,March 31, 2010, compared to 51%41% of sales for the same period of the prior year, reflecting a mix of more expensive raw materials associated with 2010 sales. 98.7% of our raw materials consists of polyester the price of which fluctuates with the price of oil
Labor cost accounted for 1% of net sales for the three month period ended June 30,March 31, 2010 the same levelcompared to 2% for the same period of year 2009. Beginning in February 2009, we hired 17 additional employees to work the new production line. Labor costs also increased due to increased demand for labor.
Overhead expenses were 13%11% of net sales for the three month period ended June 30,March 31, 2010, compared to 18%19% of net sales for 2009. As a percentage of net sales, overhead expenses decreased2009 due to the increase of manufacturing capacity of the Company with the addition of the new production capacity expansion and volume increase.line in February 2009.
Gross Profit
Gross profit represents net sales less cost of sales. GrossOur gross profit for the three month period ended June 30,March 31, 2010 was $1,535,220,$1,391,360, an increase of $832,336,$550,341, or 118%65%, from $702,884$841,019 for the same period in 2009.the prior year. As a percentage of net sales, gross profit was 30% for the three month period ended June 30,March 31, 2010, compared to 28%38% for the same period last year. The improved gross profitThis was primarily attributeddue to lowered overhead cost as a percentageincrease of purchase price of the net sales.raw materials associated with 2010 sales, which price increase was caused by fluctuations in the price of oil.
Selling, GeneralMarketing and Administrative Expenses
Selling expenses include salaries, advertising expenses, cost of manufacturing, rent, and all expenses directly related to producing and selling product. General expenses include general operating expenses that are directly related to the general operation of the company.company but excluding selling and administrative expenses. Administrative expenses includeexpense includes executive salaries and other expenses related to the overall administration of the company.
Selling, general and administrative expenses for the three month period ended June 30,March 31, 2010 were $701,436,$557,461, an increase of $435,335$281,935 compared to $266,101$275,526 for the same period in 2009. The increase was primarily due to increase of $47,219$25,524 in export delivery chargesexpenses, $150,000 fees incurred in connection with the Company’s convertible note financing closed in February, and $ 83,286 additional professional expenses related to overseas sales and $309,040 in the Company’s IPO related legal fees and other expenses.proposed equity financing.
Other expenses primarily consistedsolely consist of interest expense while other income was primarily interest income and change in fair value of warrants.expense.
Interest expense for the three month period ended June 30,March 31, 2010 was $764,791$390,355 compared to $65,162$76,286 for the same period in 2009. Interest expense as a percentage of sales increased to 15%8% for the three month period ended June 30,March 31, 2010 from 3% for the same period of last year. The increase in interest expense was mainly attributedprincipally due to adoptioninterest on the convertible notes in the aggregate principal amount of derivative accounting rules under ASC 815-40 to record $4,140,000 of convertible loan notes. These accounting rules require us to accrete$4,140,000. We accreted non-cash related interest expense in the amount of $609,900, based on the term of the notes and note discount.$304,950. Excluding the derivative-accounting-drivenaccretion of interest, expense, our interest expense for this three monththree-month period remainedwas the same level as for the same period of last year. The accreted interest expense was partially offset by the fair value change of the warrants after re-measurement at this reporting period.
Income Tax
USA
The Company and its subsidiary and branch divisions are subject to income taxes on an entity basis on income arising in, or derived from, the tax jurisdiction in which they operate. AsSince the Company had no income generated in the United States, there was no tax expense or tax liability due to the Internal Revenue Service of the United States as of June 30,March 31, 2010 and September 30, 2009.
BVI
Hong Hui is incorporated under the International Business Companies Act of the British Virgin Islands and accordingly, is exempted from payment of British Virgin Island’s income taxes.
PRC
Pursuant to the PRC Income Tax Laws, the prevailing statutory rate of enterprise income tax is 25% for Foshan SLP. For 2008 and 2009 Foshan SLP enjoys tax free holiday for two years.holidays. From January 2010 onwards, Foshan SLP is taxed at 25% of net income except for the 2010, 2011 and 2011 years where there are2012 in which we receive a 50% discount on income tax.
The current year tax provision was $6,328 and $6,328$[6,328] for the three and ninesix months ended June 30,March 31, 2010, respectively. The Companycompany has recorded zero deferred tax assets or liabilities as of June 30,March 31, 2010 and September 30, 2009, net of tax allowance, because all other significant difference in tax basis and financial statement amounts are permanent differences.
Net Income
Net income for the three months ended June 30,March 31, 2010 increaseddecreased by $77,306$44,875, from net income of $357,462$489,207 for the samethree month period ended June 30,March 31, 2009 to net income of $434,768. Excluding accretion of interest expense discussed above and$444,332. The decrease was largely due to $150,000 fees incurred for the gains on changeconvertible note financing closed in warrant value, net income rose to $682,668,February 12, 2010 offset by an increase of $325,206 over the same period of last year.in net sales generated from new needle-punch products.
Six Month Period Ended June 30,March 31, 2010 compared to NineSix Month Period Ended June 30,March 31, 2009
The following table shows, for the periods indicated, information derived from our consolidated statements of income in US dollars and as a percentage of net sales (percentages may not add due to rounding). See the financial statements of the Company and the related notes thereto and other financial information included elsewhere in this report.
| | | Nine Months Ended June 30 | |
| | | 2010 | | | 2009 | |
| | | Amount | | | % | | | Amount | | | % | |
| Sales | | $ | 14,919,816 | | | | 100 | % | | $ | 7,023,045 | | | | 100 | % |
| Cost of Sales | | | 10,381,404 | | | | 70 | % | | | 4,685,730 | | | | 67 | % |
| Gross Profit | | | 4,538,412 | | | | 30 | % | | | 2,337,315 | | | | 33 | % |
| Selling, General and Administrative Expense | | | 1,363,574 | | | | 9 | % | | | 1,024,543 | | | | 15 | % |
| Operating Income | | | 3,174,838 | | | | 21 | % | | | 1,312,772 | | | | 19 | % |
| | | | | | | | | | | | | | | | | |
| Interest Income | | | 10,623 | | | | 0 | % | | | 2,104 | | | | 0 | % |
| | | | | | | | | | | | | | | | | |
| Interest Expense | | | (1,216,685 | ) | | | 8 | % | | | (225,668 | ) | | | 3 | % |
| Changes in Fair Value of Warrants | | | 362,000 | | | | 2 | % | | | - | | | | 0 | % |
| Net Income before taxes | | | 2,330,776 | | | | 16 | % | | | 1,089,208 | | | | 16 | % |
| Income tax provision | | | 6,328 | | | | | | | | - | | | | | |
| Net Income | | $ | 2,324,448 | | | | 16 | % | | $ | 1,089,208 | | | | 16 | % |
| | | Six Months ended March 31 | |
| | | 2010 (unaudited) | | | 2009 (unaudited) | |
| | | Amount | | | % | | | Amount | | | % | |
| Sales | | $ | 9,847,025 | | | | 100 | % | | | 4,540,833 | | | | 100 | % |
| Cost of Sales | | | 6,843,833 | | | | 70 | % | | | 2,906,402 | | | | 64 | % |
| Gross Profit | | | 3,003,192 | | | | 30 | % | | | 1,634,431 | | | | 36 | % |
| SG&A expense | | | 812,138 | | | | 8 | % | | | 758,442 | | | | 17 | % |
| Operating Income | | | 2,191,054 | | | | 22 | % | | | 875,989 | | | | 19 | % |
| Interest income | | | 517 | | | | 0 | % | | | - | | | | 0 | % |
| Interest Expenses | | | (452,387 | ) | | | 5 | % | | | (160,506 | ) | | | 4 | % |
| Gain on disposal of fixed assets | | | 496 | | | | 0 | % | | | 16,263 | | | | 0 | % |
| Net Income before taxes | | | 1,739,680 | | | | 18 | % | | | 731,746 | | | | 16 | % |
| Net Income | | | 1,739,680 | | | | 18 | % | | | 731,746 | | | | 16 | % |
Net Sales
Net sales revenue consisted of revenue from sales of needle punched non-woven fabric and thermal calendared products. Net sales for the ninesix month period ended June 30,March 31, 2010 were $14,919,816,$9.85 million, an increase of $7,896,771$5.30 million or 112116 %, from $7,023,045$4.55 million for the same period of the prior year. The increase is mainly attributableIn February 2009, we installed a new production line to sales of themanufacture needle punched non-woven fabric products we launched during the second quarter of 2010.non woven fabric. Sales of needle-punched products for the ninesix month period ended June 30,March 31, 2010 were $6,342,001$4,300,022 compared to $739,097$220,718 for the same period of the prior year. In addition, sales of thermal calendared materials for the ninesix month period ended June 30,March 31, 2010 were $8,577,815, an$ 5,559,365, as increase of $2,293,867$ 1,228,361 compared to $6,283,948$ 4,331,204 for the same period of the prior year.
Cost of Sales
Cost of sales principally consisted of the cost of raw materials, labor, and manufacturing overhead expenses.
Cost of sales for the ninesix month period ended June 30,March 31, 2010 was $10,381,404,$6,843,833, an increase of $5,695,674,$3,937,431, or 122%135%, from $4,685,730$2,906,402 for the same period of the prior year. As a percentage of net sales, cost of salesgoods sold was 70% for the ninesix month period ended June 30, 2010March 31, 2001 compared to 67%64 % for the same period in 2009.
Raw material costcosts increased to 55%56% of the sales for the ninesix month period ended June 30,March 31, 2010, compared to 44%40% of sales for the same period in 2009, reflecting a mix of more expensive raw materials associated with 2010 sales. Approximately 98%98.7% of our raw materials consistsconsist of polyester the price of which fluctuates with the price of oil.
Labor cost was 1%expenses were 6% of sales for the ninesix month period ended June 30,March 31, 2010 compared to 2% for the same period in 2009. Beginning in February 2009, we hired 17 additional employees to work the new production line. Labor costs also increased due to increased demand for labor.
Overhead expenses were 13%12% of net sales for the ninesix month period ended June 30,March 31, 2010, compared to 20%19% of net sales for the same period last year reflecting operation efficiency achieved by increased production volume.due to the increase of manufacturing capacity of the Company.
Gross Profit
Gross profit represents net sales less Cost of sales. Gross profit for the ninesix month period ended June 30,March 31, 2010 was $4,538,412,$3,003,192, an increase of $2,201,097$1,368,761, or 94%83%, from $2,337,315$1,634,431 for the same period lastof the prior year. As a percentage of net sales, gross profit was 30% for the ninesix month period ended June 30,March 31, 2010, compared to 33%36% for the same period last year. This decrease was primarily due to the increase in the purchase price of the raw materials associated with 2010 sales. This was primarily due to increase of purchase of price of the raw materials associated with 2010 sales, which price increase was caused by fluctuations in the price of oil.
Selling, General and AdministrativeSG&A Expenses
Selling, general and administrative expenses for the ninesix month period ended June 30,March 31, 2010 were $1,363,574,$812,138, an increase of $339,031,$53,696, or 7% compared to $1,024,543$758,442 for the same period lastof the prior year. This is primarilymainly due to increasea $150,000 liability incurred in IPO related legal and other expenses and shipping expense associatedconnection with overseas sales,our convertible note financing offset by a $77,327 decrease in other general expenses.office expenses compared to the same period 2009.
Other Income and Expenses
Other expenses consisted solely of interest expenses and change in fair value of warrants.
Interest expense for the ninesix month period ended June 30,March 31, 2010 was $1,216,685$452,387 compared to $225,668$160,506 for the same period of lastthe prior year. Interest expense as a percentage of net sales increased to 8%5% for the ninesix month period ended June 30,March 31, 2010 from 3%4% for the same period of lastthe prior year. The cause for the increase in interest expense for the ninesix month period was principally due to record $4,140,000 of convertible notes. We accreted non-cash related interest expense, in the same as for the three month period.amount of $304,950. Excluding the accretion ofon non-cash interest expense, interest expense for this ninesix month period increased by $76,000 overremained the same period ofas last year, and, as a percentage of net sales, decreased to 2%1% from 3%4%.
Net Income
Net income for the ninesix months ended June 30,March 31, 2010 increased by $1,235,240was $1,739,680, an increase of $1,007,934, or 138%, from net income of $1,089,208$731,746 for the same period in 2009 to net income of $2,324,448.the prior year. The increase was mainly attributeddue to the increased netincrease in sales generated from our new needle-punched products and the lower selling, general and administrative expenses relative to net sales. Excluding IPO related expenses and accretion of interest expense from convertible notes sold, net income increased by $2.1 million for the nine month period.
Liquidity and Capital Resources
The following table sets forth a summary of our net cash flow information for the periods indicated:
| | | Six Months Ended March 31, | |
| | | 2010 | | | 2009 | |
| | | (Consolidated, unaudited) | | | (Consolidated, unaudited) | |
| Net cash provided by operating activities | | $ | 1,553,423 | | | $ | 3,586,444 | |
| Net cash (used in) investing activities | | $ | (1,389,582 | ) | | $ | (4,927,447 | ) |
| Net cash provided by financing activities | | $ | 2,636,263 | | | $ | 194,967 | |
| Net cash inflow (outflow) | | $ | 2,794,686 | | | $ | (1,166,031 | ) |
We finance our business with cash generatedflows from operations and use short-term bank loans and we use shareholders’ equity investment and retained earnings to fund capital expenditures.
Working capital consists mainly of cash, accounts receivable, advances to suppliers and inventory. Cash, inventory and accounts receivable account for the majority of our working capital.
At June 30,March 31, 2010, we had several bank loans for the total amount of $3.8 million (RMB26 million) with Agriculture Bank of China, Foshan Branch and these loans are repayable in December 2010. We have the highest credit rating for that bank.
On February 12, 2010, we completed a financing transaction in which we raised gross proceeds of $4.14 million$4,140,000 through a private placement of convertible notes and warrants to certain accredited investors.
Cash Flow from Operating Activities
Nine monthNet cash provide by operating activities for the six months ended March 31, 2010 was approximately $1.55 million, compared to a cash flow of $3.59 million for the same period ended June 30, 2010 compared with nine month period ended June 30, 2009.of the prior year. The decrease was due primarily to increase in Non-cash interest charges, decrease in advance to suppliers.
Investing Activities
Net cash provided by operatinginvesting activities for the ninesix months ended June 30,March 31, 2010 was approximately $2.86negative cash flow $1.39 million, compared to a negative cash usedflow of $0.25 million for the same period of prior year. The increased operating cash inflow resulted primarily from increase in net income and favorable changes in advance to suppliers, accounts payable and accrued expenses offset by unfavorable changes in accounts receivable, inventory and prepaid expenses.
Cash Flow from Investing Activities
Nine month period ended June 30, 2010 compared with nine month period ended June 30, 2009
Net cash used by investing activities for nine months ended June 30, 2010 was $2.51 million, compared to cash used of $0.09$4.93 million for the same period of the prior year. The increased cash used from investing activities because there were no large capital expenditures during the ninefirst six months of the year. Only deposits were made a new product assembly line project. The net cash used in investing activities for the same period of last year was due to the deposits for purchases of equipment and expenses relating to outfitting our facilities.
We are satisfied this cash expenditure with cash reserves and cash generated from 2009 and 2010 operations.
Financing Activities
Net cash provided by financing activities for the six month period ended March 31, 2010 was approximately $2.64 million, compared to $0.19 million for the same period of the yearprior year. The increase was primarily attributedthe result of cash received from the sale of the convertible notes.
The balance of our outstanding short-term bank loans on March 31, 2010 was approximately $3.8 million, compared with $4.6 million on March 31, 2009
On February 12, 2010, immediately following the reverse merger, we entered into a note purchase agreement with certain accredited investors for the sale of convertible notes in the aggregate principal amount of $4,140,000 and warrants (which are exercisable only in certain circumstances), with net proceeds for $3.4 million after finance costs. The notes require quarterly interest payments at a rate of 10% per annum and interest for six month in amount of $204,464 to be held in an escrow account.
The warrants become void if the notes automatically convert into common stock.
The warrants are exercisable at any time during a five-year period commencing on the closing of a “financing,” which means the first sale (or series of related sales) by us of stock (or debt or equity securities convertible into stock), in a capital expenditures on building upraising transaction, occurring after the maturity date (or the date the notes become due pursuant to a default, if earlier) with aggregate gross proceeds of at least $20,000,000. The warrants cannot be exercised if no financing is consummated within the five-year period after the issue date.
Future Cash Commitments
We have ambitious capital investment plans for our PPS a new product, production line.projects in 2010 and which will require significant investment capital. This demand for investment capital will be met by the proceeds from the February private placement, and by outside financing (including the public offering) that we intend to raise as needed to continue our expansion.
Cash Flow from Financing Activities
Nine month period ended June 30, 2010 compared with nine month period ended June 30, 2009
Net cash provided by financing activities for the nine month period ended June 30, 2010 was approximately $2.64 million, compared to $0.20 million of net cash used in financing activities for the same period of the prior year. The increase was from the cash received from the sale of the convertible notes.
Future Cash Commitments
We have an ambitious business expansion plan for our PPS products. The PPS projects require significant capital expenditures. We plan to finance the capital expenditures with short term loans from banks and public equity offerings. We expect our working capital needs can be met by cash generated from operations.
Critical Accounting Policies and Estimates
Management's discussion and analysis of its financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with United States generally accepted accounting principles. Our financial statements reflect the selection and application of accounting policies which require management to make significant estimates and judgments. See Note 2 to our consolidated financial statements “Summary of Significant Accounting Policies.” We believe that the following paragraphs reflect the more critical accounting policies that currently affect our financial condition and results of operations:
Method of Accounting
We maintain our general ledger and journals with the accrual method of accounting for financial reporting purposes. Accounting policies adopted by us conform to generally accepted accounting principles in the United States and have been consistently applied in the presentation of financial statements, which are compiled on the accrual basis of accounting.
The preparation of the financial statements in conformity with generally accepted accounting principles in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting periods. Management makes these estimates using the best information available at the time the estimates are made; however actual results could differ materially from those estimates.
Economic and political risks
Our operations are conducted in the PRC. Accordingly, our business, financial condition and results of operations may be influenced by the political, economic and legal environment in the PRC, and by the general state of the PRC economy.
Our operations in the PRC are subject to special considerations and significant risks not typically associated with companies in North America and Western Europe. These include risks associated with, among others, the political, economic and legal environment and foreign currency exchange. Our results may be adversely affected by changes in political and social conditions in the PRC and by changes in governmental policies with respect to laws and regulations, anti-inflationary measures, currency conversion, remittances abroad, and rates and methods of taxation, among other things.
Revenue recognition
Revenue represents the invoiced value of goods sold recognized upon the delivery of goods to customers. Revenue is recognized when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, and the seller’s price to the buyer is fixed or determinable and collectible.
Land use rights
Land use rights are stated at cost less accumulated amortization. Amortization is provided over a lease term of 50 yearsthe respective useful lives, using the straight-line method.
Estimated useful lives range from 20 to 50 years.
Property, plant and equipment
Plant and equipment are carried at cost less accumulated depreciation. Depreciation is provided over their estimated useful lives, using the straight-line method. Estimated useful lives of plant and equipment are as follows:
| | | 2015-35 years | |
| Machinery and equipment | | | 10 years | |
| Office equipment | | | 56-10 years | |
| Motor vehicles | | | 106-8 years | |
| Other assets | | | 6-10 years | |
Accounting for the Impairment of Long-Lived Assets
The long-lived assets held and used by us are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of assets may not be recoverable. It is reasonably possible that these assets could become impaired as a result of technology or other industry changes. Determination of recoverability of assets to be held and used is by comparing the carrying amount of an asset to future net undiscounted cash flows to be generated by the assets.
If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell.
ITEM 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. |
Off-Balance Sheet Arrangements
Not Applicable.We do not have any off-balance sheet arrangements that have or are reasonable likely to have a current or future effect on our financial condition.
| ITEM 4. | CONTROLS AND PROCEDURES. |
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 beis 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 principal executive officer and principal 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. Jie Li, our Chief Executive Officerchief executive officer and Mr. Eric Gan, our Chief Financial Officer,chief financial officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures and internal controls as of June 30,March 31, 2010. Based on that evaluation, Mr. LiLie and Mr., Gan concluded that as of June 30,March 31, 2010, and as of the date that the evaluation of the effectiveness of our disclosure controls and procedures and internal controls was completed, our disclosure controls and procedures and internal controls were not effective in that certain “significant deficiencies”“material weaknesses” existed related to (i) the U.S. GAAP expertise of our internal accounting staff, and (ii) our internal audit function.
A material weakness is a control deficiency, or a combination of control deficiencies, that result in more than a remote likelihood that a material misstatement of the annual or interim consolidated financial statements will not be prevented or detected.
As more fully disclosed in a Current Report on Form 8-K filed on November 18, 2010, subsequent to the issuance of our consolidated financial statements for the three and six months ended March 31, 2010, included in our Quarterly Report on Form 10-Q for the period ended March 31, 2010, filed with the United States Securities and Exchange Commission on May 24, 2010, as amended on May 26, 2010, and in connection with the SEC’s review of our registration statement on Form S-1 (File No. 333-168028), originally filed on July 8, 2010, as amended on September 7, 2010 and October 15, 2010, it was identified that we failed to record a liability of $75,000 owed to each of United Best and Primary Capital (totaling $150,000) for advisory services rendered in connection with our private placement of convertible notes which closed on February 12, 2010.. This liability should have been reflected in (i) our unaudited interimfinancial statements for the three month and nine month periods ended June 30, 2010 and (ii) our unaudited interim financial statements for the three month and six month periods ended March 31, 2010.
Our chief executive officer and chief financial officer and our Audit Committee determined, after discussions with Child, Van Wagoner & Bradshaw, PLLC, our independent registered public accounting firm, that (i) our unaudited interim financial statements for the three month and nine month periods ended June 30, 2010 and 2009, as set forth in the Quarterly Report on Form 10-Q for the quarter ended June 30, 2010 filed on August 16, 2010, and (ii) our unaudited interim financial statements for the three month and six month periods ended March 31, 2010 and 2009, as set forth in the Quarterly Report on Form 10-Q filed on May 24, 2010, as amended on May 26, 2010 should be restated and should not be relied on.
Changes in Internal Control over Financial Reporting.
Under the supervision and with the participation of our management, including our chief executive officer and controller, identified a number of “significant deficiencies” in the process of preparing our financial statements for the quarter ended March 31, 2010 as described above.
During the quarter ended June 30, 2010, we began to take certain remedial measures as described below that have materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Because our current accounting department is relatively new to U.S. GAAP and the related internal control procedures required of U.S. public companies, our management has determined that they require additional training and assistance in U.S. GAAP matters. Management has determined that our internal audit function is also significantly deficient due to insufficient qualified resources to perform internal audit functions.
In order to correct the foregoing significant deficiencies, we are taking or have taken the following remediation measures:
| | · | We recentlyIn August 2010, we hired Eric Gan as our new Chief Financial Officer;chief financial officer; |
| | · | We are arranging necessary training for our accounting department staff; |
| | · | We plan to engage external professional accounting or consultancy firms to assist us in the preparation of the USU.S. GAAP accounts; and |
| | · | We remain committed to the establishment of effective internal audit functions and have recently hired a new Chief Financial Officer; |
| · | In addition, we have allocated significant financial and human resources to strengthen the internal control structure and we have been actively working with external consultants to assess our data collection, financial reporting, and control procedures and to strengthen our internal controls over financial reporting. |
We believe that the foregoing steps will remediate the significant deficiencies identified above, and we will continue to monitor the effectiveness of these steps and make any changes that our management deems appropriate. However, there is no guarantee that these improvements will be adequate or successful or that such improvements will be carried out on a timely basis.
Other than described above, there was no change in our internal control over financial reporting during the fiscal quarter covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II
OTHER INFORMATION
ITEM 1. | LEGAL PROCEEDINGS. |
We are not aware of any legal proceedings or claims that we expect will have a material adverse affect on our business, financial condition or operating results.
The following exhibits are filed as part of this report or incorporated by reference:
| Exhibit No. | | Description |
| | | |
| 31.1 | | Certification of Principal Executive Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | | |
| 31.2 | | Certification of Principal Financial Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | | |
| 32 | | Certification of Principal Executive Officer and 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. |
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Dated: August 15,November 24, 2010
| | CHINA SLP FILTRATION TECHNOLOGY, INC. |
| | |
| | By: | /s/ Jie Li |
| | | Jie Li |
| | | Chief Executive Officer |
| | | (Principal Executive Officer) |
| | | |
| | By: | /s/ Eric Gan |
| | | Eric Gan |
| | | Chief Financial Officer |
| | | (Principal Financial and Accounting Officer) |
EXHIBIT INDEX
| Exhibit No. | | Description |
| | | |
| 31.1 | | Certification of Principal Executive Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | | |
| 31.2 | | Certification of Principal Financial Officer filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | | |
| 32 | | Certifications of Principal Executive Officer and Principal Accounting Officer furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |