Revenues. For the nine months ended September 30, 2009, we had revenues of $22,844,099 as compared to revenues of $17,215,807 for the nine months ended September 30, 2008, an increase of approximately 32.7%. Our revenues tend to be seasonal whereby the third quarter, fourth quarter, second quarter and first quarter have historically trended to represent our largest to smallest revenue quarters, respectively.
Revenues — Veterinary Medications. Revenues from sales of our veterinary medications product line increased from $11,389,155 for the nine months ended September 30, 2008 to $14,999,173 for the nine months ended September 30, 2009, for an increase of $3,610,018 or 31.7%. The increase in veterinary medication sales was primarily due to our increased utilization of our 2007 veterinary medicine facility expansion of 200% and increased sales efforts. We were able to utilize this capacity expansion as our customers increased the use of products for the treatment of livestock and poultry diseases during the nine months ended September 30, 2009. $1,232,307 of this increase was a result of the sales of new products during the nine months ended September 30, 2009. Approximately $4,600,000 or 20% and $1,900,000 or 8.3% of total revenue resulted from the sale of Praziquantel tablets which treats schistosomiasis during the nine months ended September 30, 2009 and 2008, respectively.
Revenues — Micro-Organism. Revenues from sales of our micro-organism product line increased from $4,352,781 for the nine months ended September 30, 2008 to $5,815,280 during the nine months ended September 30, 2009, for an increase of $1,462,499 or 33.6%. The increase of $1,462,499 was the result of increased sales efforts of our probiotics micro-organism products during the nine months ended September 30, 2009.
Revenues — Feed Additives. Revenues from sales of our feed additives product line increased from $784,161 for the nine months ended September 30, 2008 to $1,003,628 for the nine months ended September 30, 2009, for an increase of $219,467 or 28.0%. The increase of $219,467 was the result of increased sales efforts of our multi-enzyme feed additive products during the earlier half of 2009.
Revenues — Vaccines. Revenues from sales of our vaccines product line increased from $689,710 for the nine months ended September 30, 2008 to $1,026,018 for the nine months ended September 30, 2009, for an increase of $336,308 or 48.8%. This increase was a result of an increase in customer demand of our vaccine products during the nine months ended September 30, 2009. We are presently operating at full production capacity for our vaccine product line and therefore cannot significantly increase sales until we expand our production capabilities which we presently have underway and anticipate completion at the end of this year.
Cost of Sales
Cost of Sales. For the nine months ended September 30, 2009, we had cost of sales, which consists of raw materials, direct labor, and manufacturing overhead, of $11,012,672 as compared to cost of sales of $8,329,025 the nine months ended September 30, 2008, an increase of approximately 32.2% as a result of our overall sales increase of 32.7%.
Cost of Sales — Veterinary Medications. Cost of sales of our veterinary medications product line increased from $6,607,869 for the nine months ended September 30, 2008 to $8,938,770 for the nine months ended September 30, 2009, for an increase of $2,330,901 or approximately 35.3%. This increase was mainly due to the corresponding increase in veterinary medication sales.
Cost of Sales — Micro-Organism. Cost of sales of our micro-organism product line increased from $1,305,793 for the nine months ended September 30, 2008 to $1,560,588 for the nine months ended September 30, 2009, for an increase of $254,795 or approximately 19.5%. This increase was mainly due to a corresponding increase in micro-organism sales.
Cost of Sales — Feed Additives. Cost of sales of our feed additives product line increased from $339,578 for the nine months ended September 30, 2008 to $404,349 for the nine months ended September 30, 2009, for an increase of $64,771 or 19.1%. The increase was primarily due to an increase in feed additive sales during the nine months ended September 30, 2009.
Cost of Sales — Vaccines. Cost of sales of our vaccines product line increased from $75,785 for the nine months ended September 30, 2008 to $108,965 for the nine months ended September 30, 2009, for an increase of $33,180 or 43.8%. This increase was the result of an increase of vaccine product sales during the nine months ended September 30, 2009. We are presently operating at full production capacity for our vaccine product line and therefore cannot significantly increase sales until we expand our production capabilities which we presently have underway and anticipate completion at the end of this year.
Operating Expenses
| | | Nine Months Ended September 30, | |
| | | 2009 | | | 2008 | |
| | | Amount | | | Percentage of total revenue | | | Amount | | | Percentage of total revenue | |
| Gross Profit | | $ | 11,831,427 | | | | 51.8 | % | | $ | 8,886,782 | | | | 51.6 | % |
| Operating Expenses | | $ | 3,906,305 | | | | 17.1 | % | | $ | 2,633,003 | | | | 15.3 | % |
| Selling Expenses | | $ | 1,204,653 | | | | 5.3 | % | | $ | 1,042,267 | | | | 6.1 | % |
| General and Administrative Expenses | | $, | 1,818,920 | | | | 8.0 | % | | $ | 1,220,796 | | | | 7.1 | % |
| Research and Development Costs | | $ | 882,732 | | | | 3.9 | % | | $ | 369,940 | | | | 2.1 | % |
| Income from Operations | | $ | 7,925,122 | | | | 34.7 | % | | $ | 6,253,779 | | | | 36.3 | % |
Selling Expenses. Selling expenses, which consist of commissions, advertising and promotion expenses, freight charges, and salaries, totaled $1,042,267 for the nine months ended September 30, 2008 as compared to $1,204,653 for the nine months ended September 30, 2009, an increase of approximately 15.6%. This increase is the result of our increased sales during the nine months ended September 30, 2009.
General and Administrative Expenses. General and administrative expenses totaled $1,818,920 for the nine months ended September 30, 2009, as compared to $1,220,796 for the nine months ended September 30, 2008, an increase of approximately 49.0%. General and administrative expenses are primarily legal, accounting and other professional fees that we incurred as a U.S. public company. Our increase in general and administrative expenses was a result of costs incurred during the third quarter of 2009 relating to costs surrounding our financing as well as increased investor relations costs. We anticipate that our general and administrative expenses will increase due to the increasing costs of being a U.S. public company, including, but not limited to, our annual NASDAQ Capital Market fees, fees related to investor relations and costs of complying with Sarbanes-Oxley.
Research and Development Costs. Research and development costs, which consist of salaries, professional fees, and technical support fees, totaled $882,732 for the nine months ended September 30, 2009, as compared to $369,940 for the nine months ended September 30, 2008, an increase of approximately 138.6%. This increase is primarily attributable to increased research and development activities from developing veterinary vaccines. We anticipate that our research and development costs will continue to increase as we continue improve existing products and develop new products.
Liquidity
For the nine months ended September 30, 2009, cash used in operating activities was $7,198 compared to cash used of $296,134 for the same period in 2008. For the nine months ended September 30, 2009, net cash used in operating activities other than net income was primarily due to an increase of $1,481,662 in accounts receivable, $1,029,920 in inventory, a decrease of accrued expenses of $473,576, a decrease in taxes payable of $482,933, and a decrease in accounts payable of $378,263. However, this decrease was offset by a decrease of $2,669,020 in inventory deposits. Collectively this decreased cash used in operating activities by $1,177,334 for the nine months ended September 30, 2009 as compared to the nine months ended September 30, 2008. For the nine months ended September 30, 2009, inventories increased by $4,534,194 as a result of the company carrying additional raw materials inventory to produce finished goods in the fourth quarter. For the nine months ended September 30, 2008, the decrease in cash used in operating activities was a result of (a) bulk purchases of certain raw materials for anticipated production of both existing and new products in the fourth quarter of fiscal 2008, (b) increased prepayments to certain suppliers to ensure low purchase price of certain raw materials, and (c) an increase in accounts receivable offset by an increase in taxes payable.
We used $3,565,681 in cash flows for investing activities for the nine months ended September 30, 2009, as compared to using $915,534 for investing activities for the nine months ended September 30, 2008. The net cash used in investing activities for the nine months ended September 30, 2009 was a result of payments made towards ongoing construction projects and plant and equipment of $2,980,086, purchase of an intangible asset of 1,172,720, and net loans made to third parties and raw material suppliers of $2,124,057 offset by refunds of long term prepayments of $2,711,182 previously made by the Company. The cash used in investing activities for the nine months ended September 30, 2008 was primarily the result of purchases of plant and equipment of $1,622,813 offset by a repayment of a loan of $688,176.
Cash generated by financing activities was $17,864,129 for the nine months ended September 30, 2009 as compared to $1,078,455 for the nine months ended September 30, 2008. Cash generated by financing activities for the nine months ended September 30, 2009 was the result of the financing that the Company completed on June 30, 2009. Cash provided by financing activities for the nine months ended September 30, 2008 was the result of advances from shareholders and shareholder loans.
As of September 30, 2009, we had cash of $14,796,990. Our total current assets were $36,183,942, and our total current liabilities were $3,780,370, which resulted in a net working capital of $32,403,572. Management believes that we have the ability to meet cash requirements for our operations in order to continue as a going concern, including sufficient cash flows to meet our obligations on a timely basis in the foreseeable future, provided that we can continue to maintain profitable operations and our net working capital remains liquid.
Capital Resources
During the nine months ended September 30, 2009 we completed a public offering of 3,220,000 shares of our common stock at a price of $6.49 per share resulting in net proceeds of 18,411,496. However, if we are to acquire another business or further expand our operations, we may need additional capital.
Plan of Operations
Over the next 12 months, we plan to continue to market and sell our current products and to develop new products. In 2003, we received approval from the State Council of China to expand our production facilities and construct a new GMP standard plant. We have invested $10,500,000 (RMB 82,000,000) into this project, which is our Huxian plant, including approximately $9,700,000 for the facilities and $800,000 for working capital. The construction work commenced in 2005, and we completed the veterinary medicine facility and the building that houses quality control, research and development and administration during 2007, both of which are fully operational. The remaining facilities of the Huxian plant are expected to be completed by the latter part of 2009. We anticipate that the new plant will generate sufficient cash flows; thus, management has concluded that there is no impairment loss on the construction-in-progress.
We believe that Xian Tianxing will be developing new products including animal immunization products, non-pathogenic micro-organisms for the cure and prevention of livestock disease, complex enzyme preparations as animal feed additives, and several new veterinary medicine products within the next 12 months.
Contractual Obligations and Off-Balance Sheet Arrangements
Contractual Obligations
| | | Payments Due by Period | |
| Contractual Obligations | | Total | | | Less than 1 year | | | 1 – 3 years | | 3 – 5 years | | | More than 5 years | |
| R&D Project Obligation | | $ | 676,778 | | | $ | | | | $ | | | | $ | | | | $ | | |
| Operating Lease Obligations | | | 292,997 | | | | 59,296 | | | | 94,299 | | | | 70,006 | | | | 69,396 | |
| Total | | $ | 969,775 | | | $ | 736,074 | | | $ | 94,299 | | | $ | 70,006 | | | $ | 69,396 | |
During the first quarter of 2008, Xian Tianxing entered into an agreement with Northwestern Agricultural Technology University to jointly work on a research and development project regarding the application of nano-technology in the prevention of a major milk cow disease. The total projected budget for this project is approximately $574,000 (RMB 4 million), which we would pay in installments as the stages of the project are completed. We expect this project to be completed in one year. The research and development expense for this project was approximately $117,272 (RMB 800,000) as of September 30, 2009. We also made $366,750 (RMB 2,500,000) of prepayments for the purchase of specific raw materials for the project. We anticipate that the remaining $89,978 (RMB 620,000) will be spent during the remainder of 2009.
During 2008, Xian Tianxing contracted with Shanxi Shenzhou Bio-pharmaceuticals Technology Company to jointly work on a R&D project with a contracted amount of approximately $308,000. As of September 30, 2009, the Company incurred approximately $308,000 (RMB2,100,000) expenses relating to this project. This project is estimated to be completed in 2009.
During the third quarter of 2009, Xian Tianxing contracted with the Fourth Military Medical University to jointly work on a R&D project with a contracted amount of approximated $880,200(RMB 6,000,000). As of September 30, 2009, the Company incurred approximately $293,180 (RMB2,000,000) expenses relating to this project.
Exchange Rate
Xian Tianxing maintains its books and records in Renminbi (“RMB”), the lawful currency of China. In general, for consolidation purposes, we translate Xian Tianxing’s assets and liabilities into US Dollars using the applicable exchange rates prevailing at the balance sheet date, and the statement of income is translated at average exchange rates during the reporting period. Adjustments resulting from the translation of Xian Tianxing’s financial statements are recorded as accumulated other comprehensive income.
The exchange rates used to translate amounts in RMB into US Dollars for the purposes of preparing the consolidated financial statements or otherwise stated in this Quarterly Report were as follows:
| | | September 30, 2009 | | December 31, 2008 | | September 30, 2008 |
| | | | | | | |
| Assets and liabilities | | USD0.1467:RMB1 | | USD0.1467:RMB1 | | USD0.1463:RMB1 |
| | | | | | | |
| Statements of operations and cash flows for the period/year ended | | USD0.14659:RMB1 | | USD0.14415:RMB1 | | USD0.1434:RMB1 |
No representation is made that RMB amounts have been, or would be, converted into US$ at the above rates.
Off-Balance Sheet Arrangements
As of the date of this Quarterly Report, we do not have any outstanding financial guarantees or commitments to guarantee the payment obligations of any third parties. We have not entered into any derivative contracts that are indexed to our shares and classified as stockholder’s equity or that are not reflected in our consolidated financial statements. Furthermore, we do not have any retained or contingent interest in assets transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity. We do not have any variable interest in any unconsolidated entity that provides financing, liquidity, market risk or credit support to us or engages in leasing, hedging or research and development services with us.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Applicable
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
As of September 30, 2009, we carried out an evaluation, under the supervision and with the participation of our management, including our chief executive officer and our chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on the foregoing, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) were not effective.
Remediation of Material Weaknesses in Internal Control over Financial Reporting
In our annual report on Form 10-K for the year ended December 31, 2008, we reported certain material weaknesses involving control activities, specifically:
| 1. | Accounting and Finance Personnel Weaknesses - The current accounting staffs are relatively inexperienced, and require substantial training so as to meet with the higher demands necessary to fulfill the requirements of U.S. GAAP-based reporting and SEC rules and regulations. |
| 2. | Lack of Internal Audit Function - The Company lacks qualified resources to perform the internal audit functions properly. The Company lacked an internal audit department, which rendered the Company ineffective in preventing and detecting control lapses and errors in the accounting of certain key areas like revenue recognition, purchase approvals, inter-company transactions, cash receipt and cash disbursement authorizations, inventory safeguard and proper accumulation for cost of products, in accordance with the appropriate costing method used by the Company. |
The Company’s management has identified the steps necessary to address the material weaknesses described above, as follows:
We expect that we will satisfactorily address the control deficiencies and material weaknesses relating to these matters by the end of our fiscal year ending December 31, 2009, although there can be no assurance that compliance will be achieved in this time frame.
Management, including our chief executive officer and our chief financial officer, does not expect that our disclosure controls and internal controls will prevent errors and omissions, even as the same are improved to address any deficiencies and/or weaknesses. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and errors and omissions, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control.
Our financial reporting process includes extensive procedures we undertake in order to obtain assurance regarding the reliability of our published financial statements, notwithstanding the material weaknesses in internal control. We expanded our review of accounting for business combinations to help compensate for our material weaknesses in order to provide assurance that the financial statements are free of material inaccuracies or omissions of material fact. As a result, management, to the best of its knowledge, believes that (i) this report does not contain any untrue statements of a material fact or omits any material fact and (ii) the financial statements and other financial information included in this report have been prepared in conformity with U.S. GAAP and fairly present in all material aspects our financial condition, results of operations, and cash flows.
Changes in Internal Control over Financial Reporting
Except for the remedial actions taken as described above, there were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Securities Exchange Act of 1934) during the quarter ended September 30, 2009 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The following discussion discusses all known or anticipated material legal proceedings commenced by or against us. Occasionally we may be named as a party in claims and legal proceedings arising out of the normal course of our business. These claims and legal proceedings may relate to contractual rights and obligations, employment matters, or to other matters relating to our business and operations.
Other than the matter discussed below, we are not aware of any material pending legal proceedings involving us.
Andrew Chien v. Skystar Bio-Pharmaceutical Company, et. al. (US District Court, District of Connecticut, Case No. 3:2007cv00781). Andrew Chien filed suit against the Company, R. Scott Cramer, Steve Lowe, David Wassung and Weibing Lu in United States District Court for the District of Connecticut, alleging causes of action for violation of Sections 10(b) and 20(a) of the Exchange Act. On July 17, 2008, in a decision that is now published, the Court granted defendants' motion to dismiss and subsequently dismissed the lawsuit, entering judgment on behalf of the defendants. Additionally, on February 5, 2009, the Court ruled in favor of defendants' motion for sanctions, finding the action filed by Mr. Chien to have been entirely frivolous, and to have constituted a "substantial" violation of Federal Rule of Civil Procedure Rule 11, and imposed significant monetary sanctions on both Mr. Chien and his former attorney. As part of the basis for imposing sanctions on Mr. Chien personally, the Court specifically found that Mr. Chien had knowledge of facts directly contradicting the allegations of his complaint, as evident in internet postings he made on online message boards. Mr. Chien subsequently filed motions seeking to "re-open" this case, and to recuse the judge in the case, but both motions were denied.
Andrew Chien v. Skystar Bio-Pharmaceutical Company, et. al. (formerly Superior Court, State of Connecticut, Case No. NNH-CV-09-5025938-S, now U.S. District Court, District of Connecticut, Case No. 3:09-CV-00149 (MRK)). Andrew Chien, proceeding pro se, filed another lawsuit against the Company, Scott Cramer, Steve Lowe, David Wassung and Weibing Lu in Connecticut Superior Court, alleging causes of action similar to those alleged in his federal complaint described above as well as state law causes of action. The case was removed to the U.S. District Court, District of Connecticut, and assigned to the same judge in the related federal case already dismissed. On June 8, 2009, the Court granted defendants’ motion to dismiss this action in its entirety, and denied Mr. Chien’s motion to further amend his complaint.
ITEM 1A. RISK FACTORS
You should carefully consider the risks described below together with all of the other information included in this report before making an investment decision with regard to our securities. The statements contained in or incorporated into this offering that are not historic facts are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those set forth in or implied by forward-looking statements. If any of the following risks actually occurs, our business, financial condition or results of operations could be harmed. In that case, the trading price of our common stock could decline, and you may lose all or part of your investment.
Risks Relating to Our Business
Our relatively limited operating history makes it difficult to evaluate our future prospects and results of operations.
We have a relatively limited operating history. Xian Tianxing, the variable interest entity through which we operate our business, commenced operations in 1997 and first achieved profitability in the quarter ended September 30, 1999. Accordingly, you should consider our future prospects in light of the risks and uncertainties typically experienced by companies such as ours in evolving industries such as the bio-pharmaceutical industry in China. Some of these risks and uncertainties relate to our ability to:
| · | offer new and innovative products to attract and retain a larger customer base; |
| · | attract additional customers and increase spending per customer; |
| · | increase awareness of our brand and continue to develop user and customer loyalty; |
| · | raise sufficient capital to sustain and expand our business; |
| · | maintain effective control of our costs and expenses; |
| · | respond to changes in our regulatory environment; |
| · | respond to competitive market conditions; |
| · | manage risks associated with intellectual property rights; |
| · | attract, retain and motivate qualified personnel; |
| · | upgrade our technology to support additional research and development of new products; and |
| · | maintain or improve our position as one of the market leaders in China. |
If we are unsuccessful in addressing any of these risks and uncertainties, our business may be materially and adversely affected.
If we fail to obtain additional financing we will be unable to execute our business plan.
Despite our recent financing, we may need additional funds to build new production facilities; pursue further research and development; obtain regulatory approvals; file, prosecute, defend and enforce our intellectual property rights; and market our products. Should such needs arise, we intend to seek additional funds through public or private equity or debt financing, strategic transactions and/or from other sources.
There are no assurances that future funding will be available on favorable terms or at all. If additional funding is not obtained, we will need to reduce, defer or cancel development programs, planned initiatives or overhead expenditures, to the extent necessary. The failure to fund our capital requirements would have a material adverse effect on our business, financial condition and results of operations.
Our business will be materially and adversely affected if our collaborative partners, licensees and other third parties over whom we are very dependent fail to perform as expected.
Due to the complexity of the process of developing bio-pharmaceuticals, our core business depends on arrangements with bio-pharmaceutical institutes, corporate and academic collaborators, licensors, licensees and others for the research, development, clinical testing, technology rights, manufacturing, marketing and commercialization of our products. We have various research collaborations and outsource other business functions. Our license agreements could obligate us to diligently bring potential products to market, make substantial milestone payments and royalties and incur the costs of filing and prosecuting patent applications. There are no assurances that we will be able to establish or maintain collaborations that are important to our business on favorable terms, or at all. We could enter into collaborative arrangements for the development of particular products that may lead to our relinquishing some or all rights to the related technology or products. A number of risks arise from our dependence on collaborative agreements with third parties. Product development and commercialization efforts could be adversely affected if any collaborative partner:
| · | terminates or suspends its agreement with us; |
| · | fails to timely develop or manufacture in adequate quantities a substance needed in order to conduct clinical trials; |
| · | fails to adequately perform clinical trials; |
| · | determines not to develop, manufacture or commercialize a product to which it has rights; or |
| · | otherwise fails to meet its contractual obligations. |
Our collaborative partners could pursue other technologies or develop alternative products that could compete with the products we are developing.
Our products will be adversely affected if we are unable to protect proprietary rights or operate without infringing the proprietary rights of others.
The profitability of our products will depend in part on our ability to obtain and maintain patents and licenses and preserve trade secrets, and the period our intellectual property remains exclusive. We must also operate without infringing the proprietary rights of third parties and without third parties circumventing our rights. The patent positions of bio-pharmaceutical and biotechnology enterprises, including ours, are uncertain and involve complex legal and factual questions for which important legal principles are largely unresolved. For example, no consistent policy has emerged regarding the breadth of biotechnology patent claims that are granted by the U.S. Patent and Trademark Office or enforced by the U.S. federal courts. In addition, the scope of the originally claimed subject matter in a patent application can be significantly reduced before a patent is issued. The biotechnology patent situation outside the U.S. is even more uncertain, is currently undergoing review and revision in many countries, and may not protect our intellectual property rights to the same extent as the laws of the U.S. Because patent applications are maintained in secrecy in some cases, we cannot be certain that we or our licensors are the first creators of inventions described in our pending patent applications or patents or the first to file patent applications for such inventions.
Other companies may independently develop similar products and design around any patented products we develop. We cannot assure you that:
| · | any of our patent applications will result in the issuance of patents; |
| · | we will develop additional patentable products; |
| · | the patents we have been issued will provide us with any competitive advantages; |
| · | the patents of others will not impede our ability to do business; or |
| · | third parties will not be able to circumvent our patents. |
A number of pharmaceutical, biotechnology, research and academic companies and institutions have developed technologies, filed patent applications or received patents on technologies that may relate to our business. If these technologies, applications or patents conflict with ours, the scope of our current or future patents could be limited or our patent applications could be denied. Our business may be adversely affected if competitors independently develop competing technologies, especially if we do not obtain, or obtain only narrow, patent protection. If patents that cover our activities are issued to other companies, we may not be able to obtain licenses at a reasonable cost, or at all; develop our technology; or introduce, manufacture or sell the products we have planned.
Patent litigation is becoming widespread in the biotechnology industry. Such litigation may affect our efforts to form collaborations, to conduct research or development, to conduct clinical testing or to manufacture or market any products under development. There are no assurances that our patents would be held valid or enforceable by a court or that a competitor’s technology or product would be found to infringe our patents in the event of patent litigation. Our business could be materially affected by an adverse outcome to such litigation. Similarly, we may need to participate in interference proceedings declared by the U.S. Patent and Trademark Office or equivalent international authorities to determine priority of invention. We could incur substantial costs and devote significant management resources to defend our patent position or to seek a declaration that another company’s patents are invalid.
Much of our know-how and technology may not be patentable, though it may constitute trade secrets. There are no assurances that we will be able to meaningfully protect our trade secrets. We cannot assure you that any of our existing confidentiality agreements with employees, consultants, advisors or collaborators will provide meaningful protection for our trade secrets, know-how or other proprietary information in the event of any unauthorized use or disclosure. Collaborators, advisors or consultants may dispute the ownership of proprietary rights to our technology, for example by asserting that they developed the technology independently.
Difficulties in manufacturing our products could have a material adverse effect on our profitability.
Before our products can be profitable, they must be produced in commercial quantities in a cost-effective manufacturing process that complies with regulatory requirements, including China’s Good Manufacturing Practice (GMP), production and quality control regulations. If we cannot arrange for or maintain commercial-scale manufacturing on acceptable terms, or if there are delays or difficulties in the manufacturing process, we may not be able to conduct clinical trials, obtain regulatory approval or meet demand for our products.
Failure or delays in obtaining an adequate amount of raw material or other supplies would materially and adversely affect our revenue
Production of our products could require raw materials which are scarce or which can be obtained only from a limited number of sources. If we are unable to obtain adequate supplies of such raw materials, the development, regulatory approval and marketing of our products could be delayed.
Our ability to generate more revenue would be adversely affected if we need more clinical trials or take more time to complete our clinical trials than we have planned.
Clinical trials vary in design by factors including dosage, end points, length, and controls. We may need to conduct a series of trials to demonstrate the safety and efficacy of our products. The results of these trials may not demonstrate safety or efficacy sufficiently for regulatory authorities to approve our products. Further, the actual schedules for our clinical trials could vary dramatically from the forecasted schedules due to factors including changes in trial design, conflicts with the schedules of participating clinicians and clinical institutions, and changes affecting product supplies for clinical trials.
We rely on collaborators, including academic institutions, governmental agencies and clinical research organizations, to conduct, supervise, monitor and design some or all aspects of clinical trials involving our products. Since these trials depend on governmental participation and funding, we have less control over their timing and design than trials we sponsor. Delays in or failure to commence or complete any planned clinical trials could delay the ultimate timelines for our product releases. Such delays could reduce investors’ confidence in our ability to develop products, likely causing the price of our common stock to decrease.
If we are unable to obtain the regulatory approvals or clearances that are necessary to commercialize our products, we will have less revenue than expected.
China and other countries impose significant statutory and regulatory obligations upon the manufacture and sale of bio-pharmaceutical products. Each regulatory authority typically has a lengthy approval process in which it examines pre-clinical and clinical data and the facilities in which the product is manufactured. Regulatory submissions must meet complex criteria to demonstrate the safety and efficacy of the ultimate products. Addressing these criteria requires considerable data collection, verification and analysis. We may spend time and money preparing regulatory submissions or applications without assurances as to whether they will be approved on a timely basis or at all.
Our product candidates, some of which are currently in the early stages of development, will require significant additional development and pre-clinical and clinical testing prior to their commercialization. These steps and the process of obtaining required approvals and clearances can be costly and time-consuming. If our potential products are not successfully developed, cannot be proven to be safe and effective through clinical trials, or do not receive applicable regulatory approvals and clearances, or if there are delays in the process:
| | the commercialization of our products could be adversely affected; |
| | any competitive advantages of the products could be diminished; and |
| | revenues or collaborative milestones from the products could be reduced or delayed. |
Governmental and regulatory authorities may approve a product candidate for fewer indications or narrower circumstances than requested or may condition approval on the performance of post-marketing studies for a product candidate. Even if a product receives regulatory approval and clearance, it may later exhibit adverse side effects that limit or prevent its widespread use or that force us to withdraw the product from the market.
Any marketed product and its manufacturer, including us, will continue to be subject to strict regulation after approval. Results of post-marketing programs may limit or expand the further marketing of products. Unforeseen problems with an approved product or any violation of regulations could result in restrictions on the product, including its withdrawal from the market and possible civil actions.
In manufacturing our products we will be required to comply with applicable good manufacturing practices regulations, which include requirements relating to quality control and quality assurance, as well as the maintenance of records and documentation. We cannot comply with regulatory requirements, including applicable good manufacturing practice requirements, we may not be allowed to develop or market the product candidates. If we or our manufacturers fail to comply with applicable regulatory requirements at any stage during the regulatory process, we may be subject to sanctions, including fines, product recalls or seizures, injunctions, refusal of regulatory agencies to review pending market approval applications or supplements to approve applications, total or partial suspension of production, civil penalties, withdrawals of previously approved marketing applications and criminal prosecution.
Competitors may develop and market bio-pharmaceutical products that are less expensive, more effective or safer, making our products obsolete or uncompetitive.
Some of our competitors and potential competitors have greater product development capabilities and financial, scientific, marketing and human resources than we do. Technological competition from biopharmaceutical companies and biotechnology companies is intense and is expected to increase. Other companies have developed technologies that could be the basis for competitive products. Some of these products have an entirely different approach or means of accomplishing the desired curative effect than products we are developing. Alternative products may be developed that are more effective, work faster and are less costly than our products. Competitors may succeed in developing products earlier than us, obtaining approvals and clearances for such products more rapidly than us, or developing products that are more effective than ours. In addition, other forms of treatment may be competitive with our products. Over time, our technology or products may become obsolete or uncompetitive.
Our revenue will be materially and adversely affected if our products are unable to gain market acceptance.
Our products may not gain market acceptance in the agricultural community. The degree of market acceptance of any product depends on a number of factors, including establishment and demonstration of clinical efficacy and safety, cost-effectiveness, clinical advantages over alternative products, and marketing and distribution support for the products. Limited information regarding these factors is available in connection with our products or products that may compete with ours.
To directly market and distribute our bio-pharmaceutical products, we or our collaborators require a marketing and sales force with appropriate technical expertise and supporting distribution capabilities. We may not be able to further establish sales, marketing and distribution capabilities or enter into arrangements with third parties on acceptable terms. If we or our partners cannot successfully market and sell our products, our ability to generate revenue will be limited.
Our operations and the use of our products could subject us to damages relating to injuries or accidental contamination and thus reduce our earnings or increase our losses.
Our research and development processes involve the controlled use of hazardous materials. We are subject to federal, provincial and local laws and regulations governing the use, manufacture, storage, handling and disposal of such materials and waste products. The risk of accidental contamination or injury from handling and disposing of such materials cannot be completely eliminated. In the event of an accident involving hazardous materials, we could be held liable for resulting damages. We are not insured with respect to this liability. Such liability could exceed our resources. In the future we could incur significant costs to comply with environmental laws and regulations.
If we were sued for product liability, we could face substantial liabilities that may exceed our resources.
We may be held liable if any product we develop, or any product which is made using our technologies, causes injury or is found unsuitable during product testing, manufacturing, marketing, sale or use. These risks are inherent in the development of agricultural and bio-pharmaceutical products. We currently do not have product liability insurance. If we cannot obtain sufficient insurance coverage at an acceptable cost or otherwise protect against potential product liability claims, the commercialization of products that we develop may be prevented or inhibited. If we are sued for any injury caused by our products, our liability could exceed our total assets, whether or not we are successful.
We have no business liability or disruption insurance coverage and therefore we are susceptible to catastrophic or other events that may disrupt our business.
The insurance industry in China is still at an early stage of development. Insurance companies in China offer limited business insurance products. We do not have any business liability or disruption insurance coverage for our operations in China. Any business disruption, litigation or natural disaster may result in our incurring substantial costs and the diversion of our resources.
We will be unsuccessful if we fail to attract and retain qualified personnel.
We depend on a core management and scientific team. The loss of any of these individuals could prevent us from achieving our business objective of commercializing our product candidates. Our future success will depend in large part on our continued ability to attract and retain other highly qualified scientific, technical and management personnel, as well as personnel with expertise in clinical testing and government regulation. We face competition for personnel from other companies, universities, public and private research institutions, government entities and other organizations. If our recruitment and retention efforts are unsuccessful, our business operations could suffer.
Downturn in the global economy may slow domestic growth in China, which in turn may affect our business.
Due to the global downturn in the financial markets, China may not be able to maintain its recent growth rates mainly due to the lack of demand of exports to countries that are in recessions. Although we do not presently export any of our products, our earnings may become unstable if China’s domestic growth slows significantly and the demand for meats and poultry declines.
Risks Related to Our Corporate Structure
Chinese laws and regulations governing our businesses and the validity of certain of our contractual arrangements are uncertain. If we are found to be in violation, we could be subject to sanctions. In addition, changes in such Chinese laws and regulations may materially and adversely affect our business.
There are substantial uncertainties regarding the interpretation and application of Chinese laws and regulations, including, but not limited to, the laws and regulations governing our business, or the enforcement and performance of our contractual arrangements with our affiliated Chinese entity, Xian Tianxing, and its stockholders. We are considered a foreign person or foreign invested enterprise under Chinese law. As a result, we are subject to Chinese law limitations on foreign ownership of Chinese companies. These laws and regulations are relatively new and may be subject to change, and their official interpretation and enforcement may involve substantial uncertainty. The effectiveness of newly enacted laws, regulations or amendments may be delayed, resulting in detrimental reliance by foreign investors. New laws and regulations that affect existing and proposed future businesses may also be applied retroactively.
The Chinese government has broad discretion in dealing with violations of laws and regulations, including levying fines, revoking business and other licenses and requiring actions necessary for compliance. In particular, licenses and permits issued or granted to us by relevant governmental bodies may be revoked at a later time by higher regulatory bodies. We cannot predict the effect of the interpretation of existing or new Chinese laws or regulations on our businesses. We cannot assure you that our current ownership and operating structure would not be found in violation of any current or future Chinese laws or regulations. As a result, we may be subject to sanctions, including fines, and could be required to restructure our operations or cease to provide certain services. Any of these or similar actions could significantly disrupt our business operations or restrict us from conducting a substantial portion of our business operations, which could materially and adversely affect our business, financial condition and results of operations.
We may be adversely affected by complexity, uncertainties and changes in Chinese regulation of bio-pharmaceutical business and companies, including limitations on our ability to own key assets.
The Chinese government regulates the bio-pharmaceutical industry including foreign ownership of, and the licensing and permit requirements pertaining to, companies in the bio-pharmaceutical industry. These laws and regulations are relatively new and evolving, and their interpretation and enforcement involve significant uncertainty. As a result, in certain circumstances it may be difficult to determine what actions or omissions may be deemed to be a violation of applicable laws and regulations. Issues, risks and uncertainties relating to Chinese government regulation of the bio-pharmaceutical industry include the following:
| | we only have contractual control over Xian Tianxing. We do not own it due to the restriction of foreign investment in Chinese businesses; and |
| | uncertainties relating to the regulation of the bio-pharmaceutical business in China, including evolving licensing practices, means that permits, licenses or operations at our company may be subject to challenge. This may disrupt our business, or subject us to sanctions, requirements to increase capital or other conditions or enforcement, or compromise enforceability of related contractual arrangements, or have other harmful effects on us. |
The interpretation and application of existing Chinese laws, regulations and policies and possible new laws, regulations or policies have created substantial uncertainties regarding the legality of existing and future foreign investments in, and the businesses and activities of, bio-pharmaceutical businesses in China, including our business.
In order to comply with Chinese laws limiting foreign ownership of Chinese companies, we conduct our bio-pharmaceutical business through Xian Tianxing by means of contractual arrangements. If the Chinese government determines that these contractual arrangements do not comply with applicable regulations, our business could be adversely affected.
The Chinese government restricts foreign investment in bio-pharmaceutical businesses in China. Accordingly, we operate our business in China through Xian Tianxing, a Chinese joint stock company. Xian Tianxing holds the licenses and approvals necessary to operate our bio-pharmaceutical business in China. We have contractual arrangements with Xian Tianxing and its stockholders that allow us to substantially control Xian Tianxing. We cannot assure you, however, that we will be able to enforce these contracts.
Although we believe we comply with current Chinese regulations, we cannot assure you that the Chinese government would agree that these operating arrangements comply with Chinese licensing, registration or other regulatory requirements, with existing policies or with requirements or policies that may be adopted in the future. If the Chinese government determines that we do not comply with applicable law, it could revoke our business and operating licenses, require us to discontinue or restrict our operations, restrict our right to collect revenues, require us to restructure our operations, impose additional conditions or requirements with which we may not be able to comply, impose restrictions on our business operations or on our customers, or take other regulatory or enforcement actions against us that could be harmful to our business.
Our contractual arrangements with Xian Tianxing and its stockholders may not be as effective in providing control over these entities as direct ownership.
Since Chinese law limits foreign equity ownership in bio-pharmaceutical companies in China, we operate our business through Xian Tianxing. We have no equity ownership interest in Xian Tianxing and rely on contractual arrangements to control and operate such businesses. These contractual arrangements may not be as effective in providing control over Xian Tianxing as direct ownership. For example, Xian Tianxing could fail to take actions required for our business despite its contractual obligation to do so. If Xian Tianxing fails to perform under their agreements with us, we may have to rely on legal remedies under Chinese law, which may not be effective. In addition, we cannot assure you that either of Xian Tianxing’s stockholders will act in our best interests.
Because we rely on the consulting services agreement with Xian Tianxing for our revenue, the termination of this agreement will severely and detrimentally affect our continuing business viability under our current corporate structure.
We are a holding company and do not have any assets or conduct any business operations other than the contractual arrangements between Sida and Xian Tianxing. As a result, we currently rely entirely for our revenues on dividends payments from Sida after it receives payments from Xian Tianxing pursuant to the consulting services agreement which forms a part of the contractual arrangements between Sida and Xian Tianxing. The consulting services agreement may be terminated by written notice of Sida or Xian Tianxing in the event that: (a) one party causes a material breach of the agreement, provided that if the breach does not relate to a financial obligation of the breaching party, that party may attempt to remedy the breach within 14 days following the receipt of the written notice; (b) one party becomes bankrupt, insolvent, is the subject of proceedings or arrangements for liquidation or dissolution, ceases to carry on business, or becomes unable to pay its debts as they become due; (c) Sida terminates its operations; (d) Xian Tianxing’s business license or any other license or approval for its business operations is terminated, cancelled or revoked; or (e) circumstances arise which would materially and adversely affect the performance or the objectives of the agreement. Additionally, Sida may terminate the consulting services agreement without cause.
Because neither we nor our direct and indirect subsidiaries own equity interests of Xian Tianxing, the termination of the consulting services agreement would sever our ability to continue receiving payments from Xian Tianxing under our current holding company structure. While we are currently not aware of any event or reason that may cause the consulting services agreement to terminate, we cannot assure you that such an event or reason will not occur in the future. In the event that the consulting services agreement is terminated, this may have a severe and detrimental effect on our continuing business viability under our current corporate structure, which in turn may affect the value of your investment.
Members of Xian Tianxing’s management have potential conflicts of interest with us, which may adversely affect our business and your ability for recourse.
Weibing Lu, our Chief Executive Officer, is also the Chief Financial Officer and Chairman of the Board of Directors of Xian Tianxing. Mr. Wei Wen, who is Xian Tianxing’s Vice-General Manager and Director, is a member of Skystar’s board of directors. Conflicts of interests between their respective duties to our company and Xian Tianxing may arise. As our directors and executive officer (in the case of Mr. Lu), they have a duty of loyalty and care to us under U.S. and Cayman Islands law when there are any potential conflicts of interests between our company and Xian Tianxing. We cannot assure you, however, that when conflicts of interest arise, every one of them will act completely in our interests or that conflicts of interests will be resolved in our favor. For example, they may determine that it is in Xian Tianxing’s interests to sever the contractual arrangements with Sida, irrespective of the effect such action may have on us. In addition, any one of them could violate his or her legal duties by diverting business opportunities from us to others, thereby affecting the amount of payment Xian Tianxing is obligated to remit to us under the consulting services agreement.
Our board of directors is comprised of a majority of independent directors (including two based in the United States). These independent directors may be in a position to deter and counteract the actions of our officers or non-independent directors that are against our interests, as the independent directors do not have any position with, or interests in, our affiliate entities, and should therefore not have any conflicts of interests such as those potentially of our officers and directors who are management members of Xian Tianxing. Additionally, the independent directors have fiduciary duties to act in our best interests, and failure on their part to do so may subject them to personal liabilities for breach of such duties. We cannot, however, give any assurance as to how the independent directors will act. Further, if we or the independent directors cannot resolve any conflicts of interest between us and those of our officers and directors who are management members of Xian Tianxing, we would have to rely on legal proceedings, which could result in the disruption of our business.
In the event that you believe that your rights have been infringed under the securities laws or otherwise as a result of any one of the circumstances described above, it may be difficult or impossible for you to bring an action against Xian Tianxing or our officers or directors who are members of its management, the majority of whom reside within China. Even if you are successful in bringing an action, the laws of China may render you unable to enforce a judgment against the assets of Xian Tianxing and its management, all of which are located in China.
Risks Related to Doing Business in China
Adverse changes in economic and political policies of the Chinese government could have a material adverse effect on the overall economic growth of China, which could adversely affect our business.
Substantially all of our business operations are conducted in China. Accordingly, our results of operations, financial condition and prospects are subject to a significant degree to economic, political and legal developments in China. China’s economy differs from the economies of most developed countries in many respects, including with respect to the amount of government involvement, level of development, growth rate, control of foreign exchange and allocation of resources. While the Chinese economy has experienced significant growth in the past 20 years, growth has been uneven across different regions and among various economic sectors of China. The Chinese government has implemented various measures to encourage economic development and guide the allocation of resources. Some of these measures benefit the overall Chinese economy, but may also have a negative effect on us. For example, our financial condition and results of operations may be adversely affected by government control over capital investments or changes in tax regulations that are applicable to us. Since early 2004, the Chinese government has implemented certain measures to control the pace of economic growth. Such measures may cause a decrease in the level of economic activity in China, which in turn could adversely affect our results of operations and financial condition.
If Chinese law were to phase out the preferential tax benefits currently being extended to foreign invested enterprises and “new or high-technology enterprises” located in a high-tech zone, we would have to pay more taxes, which could have a material and adverse effect on our financial condition and results of operations.
Under Chinese laws and regulations, a foreign invested enterprise may enjoy preferential tax benefits if it is registered in a high-tech zone and also qualifies as “new or high-technology enterprise”. As a foreign invested enterprise as well as a certified “new or high-technology enterprise” located in a high-tech zone in Xian, the Company has been approved as a new technology enterprise and under Chinese Income Tax Laws, it is entitled to a preferential tax rate of 15%. If the Chinese law were to phase out preferential tax benefits currently granted to “new or high-technology enterprises” and technology consulting services, we would be subject to the standard statutory tax rate, which currently is 25%, and we would be unable to obtain business tax refunds for our provision of technology consulting services. Loss of these preferential tax treatments could have a material and adverse effect on our financial condition and results of operations.
Xian Tianxing is subject to restrictions on making payments to us.
We are a holding company incorporated in Nevada and do not have any assets or conduct any business operations other than our indirect investments in our affiliated entity in China, Xian Tianxing. As a result of our holding company structure, we rely entirely on payments from Xian Tianxing under our contractual arrangements. The Chinese government also imposes controls on the conversion of the Chinese currency, Renminbi (RMB), into foreign currencies and the remittance of currencies out of China. We may experience difficulties in completing the administrative procedures necessary to obtain and remit foreign currency. See “Government control of currency conversion may affect the value of your investment.” Furthermore, if our affiliated entity in China incurs debt on their own in the future, the instruments governing the debt may restrict their ability to make payments. If we are unable to receive all of the revenues from our operations through these contractual or dividend arrangements, we may be unable to pay dividends on our ordinary shares.
Uncertainties with respect to the Chinese legal system could adversely affect us.
We conduct our business primarily through our affiliated Chinese entity, Xian Tianxing. Our operations in China are governed by Chinese laws and regulations. We are generally subject to laws and regulations applicable to foreign investments in China and, in particular, laws applicable to wholly foreign-owned enterprises. The Chinese legal system is based on written statutes. Prior court decisions may be cited for reference but have limited precedential value.
Since 1979, Chinese legislation and regulations have significantly enhanced the protections afforded to various forms of foreign investments in China. However, China has not developed a fully integrated legal system and recently enacted laws and regulations may not sufficiently cover all aspects of economic activities in China. In particular, because these laws and regulations are relatively new, and because of the limited volume of published decisions and their nonbinding nature, the interpretation and enforcement of these laws and regulations involve uncertainties. In addition, the Chinese legal system is based in part on government policies and internal rules (some of which are not published on a timely basis or at all) that may have a retroactive effect. As a result, we may not be aware of our violation of these policies and rules until some time after the violation. In addition, any litigation in China may be protracted and result in substantial costs and diversion of resources and management attention.
You may experience difficulties in effecting service of legal process, enforcing foreign judgments or bringing original actions in China based on United States or other foreign laws against us, our management or the experts named in the prospectus.
We conduct substantially all of our operations in China and substantially all of our assets are located in China. In addition, all of our senior executive officers reside within China. As a result, it may not be possible to effect service of process within the United States or elsewhere outside China upon our senior executive officers, including with respect to matters arising under U.S. federal securities laws or applicable state securities laws. Moreover, our Chinese counsel has advised us that China does not have treaties with the United States or many other countries providing for the reciprocal recognition and enforcement of judgment of courts.
Governmental control of currency conversion may affect the value of your investment.
The Chinese government imposes controls on the convertibility of RMB into foreign currencies and, in certain cases, the remittance of currency out of China. We receive substantially all of our revenues in RMB. Under our current structure, our income is primarily derived from payments from Xian Tianxing. Shortages in the availability of foreign currency may restrict the ability of our Chinese subsidiaries and our affiliated entity to remit sufficient foreign currency to pay dividends or other payments to us, or otherwise satisfy their foreign currency denominated obligations. Under existing Chinese foreign exchange regulations, payments of current account items, including profit distributions, interest payments and expenditures from trade-related transactions, can be made in foreign currencies without prior approval from China State Administration of Foreign Exchange by complying with certain procedural requirements. However, approval from appropriate government authorities is required where RMB is to be converted into foreign currency and remitted out of China to pay capital expenses such as the repayment of bank loans denominated in foreign currencies. The Chinese government may also at its discretion restrict access in the future to foreign currencies for current account transactions. If the foreign exchange control system prevents us from obtaining sufficient foreign currency to satisfy our currency demands, we may not be able to pay dividends in foreign currencies to our stockholders.
Fluctuation in the value of RMB may have a material adverse effect on your investment.
The value of RMB against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in political and economic conditions. Our revenues and costs are mostly denominated in RMB, while a significant portion of our financial assets are denominated in U.S. dollars. We rely entirely on fees paid to us by our affiliated entity in China. Any significant fluctuation in the value of RMB may materially and adversely affect our cash flows, revenues, earnings and financial position, and the value of, and any dividends payable on, our stock in U.S. dollars. For example, an appreciation of RMB against the U.S. dollar would make any new RMB denominated investments or expenditures more costly to us, to the extent that we need to convert U.S. dollars into RMB for such purposes. An appreciation of RMB against the U.S. dollar would also result in foreign currency translation losses for financial reporting purposes when we translate our U.S. dollar denominated financial assets into RMB, as RMB is our reporting currency.
We face risks related to health epidemics and other outbreaks.
Our business could be adversely affected by the effects of an epidemic outbreak, such as the SARS epidemic in April 2004. Any prolonged recurrence of such adverse public health developments in China may have a material adverse effect on our business operations. For instance, health or other government regulations adopted in response may require temporary closure of our production facilities or of our offices. Such closures would severely disrupt our business operations and adversely affect our results of operations. We have not adopted any written preventive measures or contingency plans to combat any future outbreak of SARS or any other epidemic.
Risks Related to an Investment in Our Securities
To date, we have not paid any cash dividends and no cash dividends are expected to be paid in the foreseeable future.
We do not anticipate paying cash dividends on our common stock in the foreseeable future and we may not have sufficient funds legally available to pay dividends. Even if the funds are legally available for distribution, we may nevertheless decide not to pay any dividends. We intend to retain all earnings for our operations.
The NASDAQ Capital Market may delist our common stock from trading on its exchange, which could limit investors’ ability to effect transactions in our common stock and subject us to additional trading restrictions.
Our common stock is listed on the NASDAQ Capital Market. We cannot assure you that our common stock will continue to be listed on the NASDAQ Capital Market in the future. If the NASDAQ Capital Market delists our common stock from trading on its exchange, we could face significant material adverse consequences including:
| a limited availability of market quotations for our common stock; |
| a limited amount of news and analyst coverage for our company; and |
| a decreased ability to issue additional securities or obtain additional financing in the future. |
Our common shares are thinly traded and, you may be unable to sell at or near ask prices or at all if you desire to liquidate your shares.
We cannot predict the extent to which an active public market for our common stock will develop or be sustained.
Although our common shares commenced trading on the NASDAQ Capital Market on June 26, 2009, our common shares have historically been sporadically or “thinly traded”, meaning that the number of persons interested in purchasing our common shares at or near bid prices at any given time may be relatively small or non-existent. This situation is attributable to a number of factors, including the fact that we are a small company which is relatively unknown to stock analysts, stock brokers, institutional investors and others in the investment community that generate or influence sales volume, and that even if we came to the attention of such persons, they tend to be risk-averse and would be reluctant to follow an unproven company such as ours or purchase or recommend the purchase of our shares until such time as we became more seasoned and viable. As a consequence, there may be periods of several days or more when trading activity in our shares is minimal or non-existent, as compared to a seasoned issuer which has a large and steady volume of trading activity that will generally support continuous sales without an adverse effect on share price. We cannot give you any assurance that a broader or more active public trading market for our common stock will develop or be sustained, or that current trading levels will be sustained.
The market price for our common stock is particularly volatile given our status as a relatively small company with a small and thinly traded “float” that could lead to wide fluctuations in our share price. The price at which you purchase our common stock may not be indicative of the price that will prevail in the trading market. You may be unable to sell your common stock at or above your purchase price if at all, which may result in substantial losses to you.
The market for our common shares is characterized by significant price volatility when compared to seasoned issuers, and we expect that our share price will continue to be more volatile than a seasoned issuer for the indefinite future. The volatility in our share price is attributable to a number of factors. First, as noted above, our common shares are sporadically and/or thinly traded. As a consequence of this lack of liquidity, the trading of relatively small quantities of shares by our stockholders may disproportionately influence the price of those shares in either direction. The price for our shares could, for example, decline precipitously in the event that a large number of our common shares are sold on the market without commensurate demand, as compared to a seasoned issuer which could better absorb those sales without adverse impact on its share price. Secondly, we are a speculative or “risky” investment due to our fluctuating level of revenues or profits to date and uncertainty of future market acceptance for our current and potential products. As a consequence of this enhanced risk, more risk-averse investors may, under the fear of losing all or most of their investment in the event of negative news or lack of progress, be more inclined to sell their shares on the market more quickly and at greater discounts than would be the case with the stock of a seasoned issuer. The following factors may add to the volatility in the price of our common shares: actual or anticipated variations in our quarterly or annual operating results; adverse outcomes; the termination of our contractual agreements with Xian Tianxing; and additions or departures of our key personnel, as well as other items discussed under this “Risk Factors” section, as well as elsewhere in this report. Many of these factors are beyond our control and may decrease the market price of our common shares, regardless of our operating performance. We cannot make any predictions or projections as to what the prevailing market price for our common shares will be at any time, including as to whether our common shares will sustain their current market prices, or as to what effect that the sale of shares or the availability of common shares for sale at any time will have on the prevailing market price.
Volatility in our common share price may subject us to securities litigation.
The market for our common stock is characterized by significant price volatility when compared to seasoned issuers, and we expect that our share price will continue to be more volatile than a seasoned issuer for the indefinite future. In the past, plaintiffs have often initiated securities class action litigation against a company following periods of volatility in the market price of its securities. We may, in the future, be the target of similar litigation. Securities litigation could result in substantial costs and liabilities and could divert management’s attention and resources.
Our corporate actions are substantially controlled by our management stockholders and affiliated entities.
As of November 12, 2009, our management and their affiliated entities own approximately 17.0% of our outstanding common shares, representing approximately 17.0% of our voting power. These stockholders, acting individually or as a group, could exert substantial influence over matters such as electing directors and approving mergers or other business combination transactions. In addition, because of the percentage of ownership and voting concentration in these principal stockholders and their affiliated entities, elections of our board of directors will generally be within the control of these stockholders and their affiliated entities. While all of our stockholders are entitled to vote on matters submitted to our stockholders for approval, the concentration of shares and voting control presently lies with these principal stockholders and their affiliated entities. As such, it would be difficult for stockholders to propose and have approved proposals not supported by management. There can be no assurances that matters voted upon by our officers and directors in their capacity as stockholders will be viewed favorably by all stockholders of the company.
The elimination of monetary liability against our directors, officers and employees under Nevada law and the existence of indemnification rights to our directors, officers and employees may result in substantial expenditures by our company and may discourage lawsuits against our directors, officers and employees.
Our articles of incorporation do not contain any specific provisions that eliminate the liability of our directors for monetary damages to our company and stockholders, however we are prepared to give such indemnification to our directors and officers to the extent provided by Nevada law. We also have contractual indemnification obligations under our employment agreements with our chief executive officer, chief financial officer and certain of our directors. The foregoing indemnification obligations could result in our company incurring substantial expenditures to cover the cost of settlement or damage awards against directors and officers, which we may be unable to recoup. These provisions and resultant costs may also discourage our company from bringing a lawsuit against directors and officers for breaches of their fiduciary duties, and may similarly discourage the filing of derivative litigation by our stockholders against our directors and officers even though such actions, if successful, might otherwise benefit our company and stockholders.
Legislative actions, higher insurance costs and potential new accounting pronouncements may impact our future financial position and results of operations.
There have been regulatory changes, including the Sarbanes-Oxley Act of 2002, and there may potentially be new accounting pronouncements or additional regulatory rulings that will have an impact on our future financial position and results of operations. The Sarbanes-Oxley Act of 2002 and other similar rule changes are likely to increase general and administrative costs and expenses. Additionally, we currently maintain directors’ and officers insurance (“D&O Insurance”) as we are contractually obligated to do so. In light of the high claims rates in recent years, we expect that the premium for such insurance will increase. Further, there could be changes in certain accounting rules. These and other potential changes could materially increase the expenses we report under generally accepted accounting principles, and adversely affect our operating results.
Past company activities prior to the reverse merger may lead to future liability for the company.
Prior to our acquisition of Skystar Cayman in November 2005, we were engaged in businesses unrelated to our current operations. Although the prior business owners provided certain indemnifications against any loss, liability, claim, damage or expense arising out of or based on any breach of or inaccuracy in any of their representations and warranties made regarding such acquisition, any liabilities relating to such prior business against which Skystar is not completely indemnified may have a material adverse effect on Skystar.
The market price for our stock may be volatile.
The market price for our stock may be volatile and subject to wide fluctuations in response to factors including the following:
| | actual or anticipated fluctuations in our quarterly operating results; |
| | changes in financial estimates by securities research analysts; |
| | conditions in bio-pharmaceutical and agricultural markets; |
| | changes in the economic performance or market valuations of other bio-pharmaceutical companies; |
| | announcements by us or our competitors of new products, acquisitions, strategic partnerships, joint ventures or capital commitments; |
| | addition or departure of key personnel; |
| | fluctuations of exchange rates between RMB and the U.S. dollar; |
| | intellectual property litigation; and |
| | general economic or political conditions in China. |
In addition, the securities market has from time to time experienced significant price and volume fluctuations that are not related to the operating performance of particular companies. These market fluctuations may also materially and adversely affect the market price of our stock.
We may need additional capital, and the sale of additional shares or other equity securities could result in additional dilution to our stockholders.
We believe that our current cash and cash equivalents, anticipated cash flow from operations and the net proceeds from our recent financing will be sufficient to meet our anticipated cash needs for the foreseeable future. We may, however, require additional cash resources due to changed business conditions or other future developments, including any investments or acquisitions we may decide to pursue. If our resources are insufficient to satisfy our cash requirements, we may seek to sell additional equity or debt securities or obtain a credit facility. The sale of additional equity securities could result in additional dilution to our stockholders. The incurrence of indebtedness would result in increased debt service obligations and could result in operating and financing covenants that would restrict our operations. We cannot assure you that financing will be available in amounts or on terms acceptable to us, if at all.
If we fail to maintain an effective system of internal controls, we may not be able to accurately report our financial results or prevent fraud.
We are subject to reporting obligations under the U.S. securities laws. The SEC, as required by Section 404 of the Sarbanes-Oxley Act of 2002, adopted rules requiring every public company to include a management report on such company’s internal controls over financial reporting in its annual report, which contains management’s assessment of the effectiveness of our internal controls over financial reporting. In addition, an independent registered public accounting firm must attest to and report on management’s assessment of the effectiveness of our internal controls over financial reporting. Our management may conclude that our internal controls over our financial reporting are not effective. Moreover, even if our management concludes that our internal controls over financial reporting are effective, our independent registered public accounting firm may still decline to attest to our management’s assessment or may issue a report that is qualified if it is not satisfied with our controls or the level at which our controls are documented, designed, operated or reviewed, or if it interprets the relevant requirements differently from us. Our reporting obligations as a public company will place a significant strain on our management, operational and financial resources and systems for the foreseeable future. Effective internal controls, particularly those related to revenue recognition, are necessary for us to produce reliable financial reports and are important to help prevent fraud. As a result, our failure to achieve and maintain effective internal controls over financial reporting could result in the loss of investor confidence in the reliability of our financial statements, which in turn could harm our business and negatively impact the trading price of our stock. Furthermore, we anticipate that we will incur considerable costs and use significant management time and other resources in an effort to comply with Section 404 and other requirements of the Sarbanes-Oxley Act.
Shares eligible for future sale may adversely affect the market.
From time to time, certain of our stockholders may be eligible to sell all or some of their shares of common stock by means of ordinary brokerage transactions in the open market pursuant to Rule 144, promulgated under the Securities Act, subject to certain limitations. In general, pursuant to amended Rule 144, non-affiliate stockholders may sell freely after six months subject only to the current public information requirement (which disappears after one year). Affiliates may sell after six months subject to the Rule 144 volume, manner of sale (for equity securities), current public information and notice requirements. Of the approximately 6.97 million shares of our common stock outstanding as of November 12, 2009, approximately 4.91 million shares are, or will be, freely tradable without restriction, as of November 12, 2009. Any substantial sale of our common stock pursuant to Rule 144 may have a material adverse effect on the market price of our common stock.
The issuance of our series “A” preferred stock may subject us to certain claims by the holder of series “A” preferred shares as well as indemnification obligations to the directors who authorized the issuance.
In 2001, 2,000,000 shares of our series “A” preferred stock were issued to a corporation wholly owned by our then Chief Executive Officer and director for services purportedly rendered by him. The resolutions of the board of directors approving such issuance stated that the series “A” preferred shares carries a “super voting power of five.” No certificate of designation was ever filed with the Nevada Secretary of State for these shares and we do not believe any certificate evidencing such shares was issued by any transfer agent. As a result, the board of directors believes that the issuance was not valid under Nevada law and thus has adopted resolutions that resolve voiding all outstanding shares of the series “A” preferred stock and barring any re-issuance or authorization of our series “A” preferred stock unless such matter was submitted to a vote of our shareholders and approved by a disinterested vote of a majority of each class of our outstanding stock. We therefore intend to omit all reference to the status of having issued 2,000,000 series “A” preferred shares in future filings with the Securities and Exchange Commission as soon as the resolutions as adopted by the board of directors are implemented.
Notwithstanding our position on this matter, our former Chief Executive Officer may potentially assert claims against us or the directors who authorized the issuance, in law or equity, for the proper issuance or reissuance of those shares. In a lawsuit, he may assert any number of legal or equitable theories in a forum with proper jurisdiction over the matter, but the substance would likely rest on whether he is entitled to the shares or, alternatively, whether he should be entitled to some form of damage payment from the Company for the services that he purportedly rendered to our company. In the event of any legal action, adequate insurance coverage may not be available to us to cover the cost of litigation, indemnification of any of our officers or directors named in such action or of any award or other resolution. If a court were to order the issuance of any shares of series “A” preferred stock, such shares could increase the total number of our shares outstanding and thereby dilute the interests of our other shareholders in our company, could control a significant voting interest in our company and possess other rights determined by a court which we are unable to predict.
The eventual development, outcome and cost of legal proceedings are by their nature uncertain and subject to many factors, including but not limited to, the discovery of facts not presently known to us or determinations by judges, juries or other finders of fact which do not accord with our evaluation of the merits or facts of the case. As a result, we can provide no assurance that we will succeed against any such challenge or as to the results if it were ever made.
Should we fail to prevail in our defense of such a claim, we may be subject to restitution or other forms of monetary damages, the amount of which is difficult to determine but may take into consideration the then and current fair market value of the series “A” preferred shares. Additionally, although the directors who authorized the issuance of the series “A” preferred shares are no longer members of our board of directors, we may nevertheless be obligated in certain circumstances to indemnify and defend these directors.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS
EXHIBIT INDEX
Exhibit Number | | Description |
| 2.1 | | Share Purchase Agreement by and between The Cyber Group Network, Inc. and Howard L. Allen and Donald G. Jackson (stockholders of Hollywood Entertainment Network, Inc.) dated May 12, 2000(1) |
| 2.2 | | Plan of Merger Agreement between The Cyber Group Network Corp. and CGN Acquisitions Corporation dated December 7, 2000(2) |
| 2.3 | | Share Exchange Agreement between The Cyber Group Network Corporation, R. Scott Cramer, Steve Lowe, David Wassung and Skystar Bio-Pharmaceutical, and the Skystar Stockholders dated September 20, 2005(3) |
| 3.1 | | Charter of The Cyber Group Network Corporation as filed with the State of Nevada(4) |
| 3.2 | | Certificate of Amendment and Certificate of Change(5) |
| 3.3 | | Certificate of Amendment to Increase Number of Authorized Shares of Common Stock(13) |
| 3.4 | | Amended and Restated Bylaws of Skystar Bio-Pharmaceutical Company(14) |
| 3.5 | | Certificate of Designation of Series B Convertible Preferred Stock(4) |
| 3.6 | | Certificate of Change(16) |
| 4.1 | | Form of Common Stock Certificate(19) |
| 4.2 | | Form of Class A Convertible Debenture(6) |
| 4.3 | | Form of Class B Convertible Debenture(6) |
| 4.4 | | Form of Class A Warrant(6) |
| 4.5 | | Form of Class B Warrant(6) |
| 4.6 | | Form of Common Stock Purchase Option granted to the representative of the underwriters(19) |
| 10.1 | | Form of Securities Purchase Agreement, dated as of February 26, 2007 by and among the Company and the Purchasers(6) |
| 10.2 | | Form of Registration Rights Agreement, dated as of February 26, 2007 by and among the Company and the Purchasers(6) |
| 10.3 | | Form of Company Principal Lockup Agreement in connection with the Securities Purchase Agreement dated as of February 26, 2007(6) |
| 10.4 | | Form of the Amendment, Exchange and Waiver Agreement between Skystar Bio-Pharmaceutical Company and the Participating Purchasers dated November 9, 2007(7) |
| 10.5 | | Form of the Amendment and Waiver Agreement between Skystar Bio-Pharmaceutical Company and two institutional and accredited investors dated March 31, 2008(10) |
| 10.6 | | Form of 6-month Lock-up Agreement(15) |
| 10.7 | | Consulting Services Agreement between Skystar Bio-Pharmaceutical (Cayman) Holdings, Co., Ltd. (“Skystar Cayman”) and Xian Tianxing Bio-Pharmaceutical Co., Ltd. (“Xian Tianxing”) dated October 28, 2005(4) |
| 10.8 | | Equity Pledge Agreement among Skystar Cayman, Xian Tianxing and Xian Tianxing’s Majority Stockholders dated October 28, 2005(4) |
| 10.9 | | Operating Agreement among Skystar Cayman, Xian Tianxing, Xian Tianxing’s Majority Stockholders, and Weibing Lu dated October 28, 2005(4) |
| 10.10 | | Proxy Agreement among Skystar Cayman, Xian Tianxing, Xian Tianxing’s Majority Stockholders and Weibing Lu dated October 28, 2005(4) |
| 10.11 | | Option Agreement among Skystar Cayman, Xian Tianxing, Xian Tianxing Majority Stockholders and Weibing Lu dated October 28, 2005(4) |
| 10.12 | | Amendment to Consulting Services Agreement among Skystar Cayman, Xian Tianxing and Sida Biotechnology (Xian) Co., Ltd. (“Sida”) dated March 10, 2008(8) |
| 10.13 | | Amendment to Equity Pledge Agreement among Skystar Cayman, Xian Tianxing, Xian Tianxing’s Majority Stockholders, and Sida dated March 10, 2008(8) |
| 10.14 | | Agreement to Transfer of Operating Agreement among Skystar Cayman, Xian Tianxing, Xian Tianxing’s Majority Stockholders, Weibing Lu and Sida dated March 10, 2008(8) |
| 10.15 | | Designation Agreement among Skystar Cayman, Xian Tianxing, Xian Tianxing’s Majority Stockholders, Weibing Lu and Sida dated March 10, 2008(8) |
| 10.16 | | Agreement to Transfer of Option Agreement among Skystar Cayman, Xian Tianxing, Xian Tianxing Majority Stockholders, Weibing Lu and Sida dated March 10, 2008(8) |
| 10.17 | | Employment Agreement with Weibing Lu dated May 5, 2008(11) |
| 10.18 | | Loanout Agreement with Worldwide Officers, Inc. with respect to the services of Bennet Tchaikovsky, our Chief Financial Officer, dated May 5, 2008(18) |
| 10.19 | | Form of Director Offer Letter with Mr. Qiang Fan and Mr. Winston Yen(14) |
| 10.20 | | Form of Director Offer Letter with Mr. Chengtun Qu and Mr. Shouguo Zhao(14) |
| 10.21 | | Form of Amendment to Loanout Agreement with Wordwide Officers, Inc(17) |
| 10.22 | | Form of Director Offer Letter with Mr. Mark D. Chen(17) |
| 31.1 | | Section 302 Certification by the Corporation’s Chief Executive Officer* |
| 31.2 | | Section 302 Certification by the Corporation’s Chief Financial Officer* |
| 32.1 | | Section 906 Certification by the Corporation's Chief Executive Officer* |
| 32.2 | | Section 906 Certification by the Corporation's Chief Financial Officer* |
| 99.1 | | Legal Opinion from Allbright Law Offices regarding, among other things, the contractual arrangements Skystar Cayman entered into with Xian Tianxing and its stockholders, dated November 3, 2005(12) |
| 99.2 | | Legal Opinion from Allbright Law Offices regarding the transfer of the contractual arrangements from Skystar Cayman to Sida, dated April 29, 2008(12) |
| 99.3 | | Lease Agreement between Xian Tianxing and Weibing Lu dated June 1, 2007(9) |
| 99.4 | | Lease Agreement between Shanghai Siqiang Biotechnological Co., Ltd. and Weibing Lu dated June 17, 2007(12) |
| 99.5 | | Summary of Research Arrangement between Shanghai Poultry Verminosis Institute and Xian Tianxing(12) |
| 99.6 | | Cooperation Agreement between Shaanxi Microbial Institute and Xian Tianxing(12) |
* Filed herewith.
(1) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on June 1, 2000.
(2) Incorporated by reference from the Registrant’s Current Report on Form 8-K/A filed on January 12, 2001.
(3) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on September 26, 2005.
(4) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on November 14, 2005.
(5) Incorporated by reference from the Registrant’s Annual Report on Form 10-KSB filed on April 17, 2006.
(6) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on March 5, 2007.
(7) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on December 11, 2007.
(8) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on March 11, 2008.
(9) Incorporated by reference from the Registrant’s Annual Report on Form 10-K filed on April 2, 2008.
(10) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on April 23, 2008.
(11) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on May 7, 2008.
(12) Incorporated by reference from the Registrant’s Registration Statement on Form S-1/A filed on June 26, 2008.
(13) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on July 14, 2008.
(14) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on July 15, 2008.
(15) Incorporated by reference from the Registrant’s Registration Statement on Form S-1/A filed on November 28, 2008.
(16) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on May 18, 2009.
(17) Incorporated by reference from the Registrant’s Current Report on Form 8-K filed on May 27, 2009.
(18) Incorporated by reference from the Registrant’s Registration Statement on Form S-1/A filed on June 2, 2009.
(19) Incorporated by reference from the Registrant’s Registration Statement on Form S-1/A filed on June 26, 2009.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| November 16, 2009 | SKYSTAR BIO-PHARMACEUTICAL COMPANY |
| | |
| | By: | /s/ Weibing Lu |
| | | Weibing Lu Chief Executive Officer (Principal Executive Officer) |
| | |
| | By: | /s/ Bennet P. Tchaikovsky |
| | | Bennet P. Tchaikovsky Chief Financial Officer (Principal Financial and Accounting Officer) |
